2. 5520_l_21_More_ED-2015 1 More on Taxes, Econ Dev’t © Allen C. Goodman 2015

3. 2 Elasticities Remember elasticity!  Responsiveness! Elasticity of y with respect to x means that a 1% increase in x may increase y by 0.1%, 1.0%, or 10%. How do we calculate it? E yx = (%  y)/(%  x) E yx = (  y/y)/(  x/x)

4. 3 Elasticities Remember elasticity! Suppose there is a local sales tax of 1%. Suppose that you raise it to 1.5%. What was the percentage increase? Ans>  t/t = (1.5 - 1)/1.25. Why 1.25? Ans>Mid-point! So,  t/t = (.5/1.25) = 0.4 or 40%.

5. 5520_l_22_More_ED-2014 4 Elasticities Elasticity of intermetropolitan business activity (A) with respect to local tax [(  A/A)/ (  t/t)] varies between -0.1, and -0.6. Elasticity of intrametropolitan business activity with respect to local tax varies between -1.0, and -3.0. Why are they so different? A Little! A Lot!!

6. 5520_l_22_More_ED-2014 5 Elasticities What about simultaneous increases in taxes and in public expenditures? A> It depends! How are they spending the money?

7. 6 Tim Bartik Lots of this research follows work of Tim Bartik. He’s at the Upjohn Institute in Kalamazoo. Website is http://www.upjohn.org/about-us/who- we-are/research-staff/timothy-j- bartik.html http://www.upjohn.org/about-us/who- we-are/research-staff/timothy-j- bartik.html

8. 5520_l_22_More_ED-2014 7 General Approach Suppose the “true relationship is Activity = a + b * taxes + c * services From this: ΔA = b * Δ taxes (ΔA/Δ taxes) = b This isn’t an elasticity THIS is an elasticity E At = (ΔA/Δ taxes) * (taxes/A) = b * (taxes/A) We usually use means. So we find mean taxes, and mean level of activity.

9. 5520_l_22_More_ED-2014 8

10. 9 Bartik’s findings States and Metro Areas with higher (lower) business tax rates will also tend, on average, to have somewhat higher (lower) levels of public services valued by business. Suppose the “true relationship is –Activity = a + b * taxes + c * services –If taxes and services move together, and we don’t measure services, then lower taxes may “look” ineffective when, in fact, it is the lower services that are making the difference.

11. 5520_l_22_More_ED-2014 10 Fixed Effects Third row looks at fixed effects. For example, if low wages, or nice climate, mean that firms locate in the South, rather than the fact that the South may have low tax rates, then it might make taxes look ineffective. When we control, taxes look more effective.

12. 5520_l_22_More_ED-2014 11 Intra- v. Inter-Metropolitan Studies that focus on variations in economic growth among small suburbs within a metropolitan area tend to find much more negative effects of taxes on growth than is found in looking at growth ACROSS metropolitan areas or states. Not surprising – different suburbs w/in a metro area are probably closer substitutes, from a business perspective, than different metro areas.

13. 5520_l_22_More_ED-2014 12 Manufacturing v. Non-Manufacturing Manufacturing seems more sensitive to tax differences than non-manufacturing. Two plausible reasons –Manufacturers are more oriented than non- manufacturers to the national mkt and hence local costs will have larger effects on their profits because it will be harder to pass them on to customers. –Manufacturers tend to be more capital-intensive, and many state and local business taxes are essentially taxes on capital.

14. 13 -0.15 to -0.85 Bartik takes away from this analysis that the elasticity of state or metro area business activity w.r.t. state and local taxes is in the range of -0.15 to -0.85. Means a 10%  in state and local business taxes   economic activity by 1.5 to 8.5%. Is this a little or a lot?

15. 14 A little or a lot? In early 1990s average ratio of state and business taxes to private employment was $1,620. It turns out that if you divide this number by the elasticity, you get the “cost of one job” in foregone tax revenues. So, $1,620/0.85 = $1,906. And, $1,620/0.15 = $10,800. For a jurisdiction to permanently increase its employment by one job compared to otherwise, these are the costs. 0.85 and 0.15 are from previous slide. 0.85  more effective!

16. 15 Turns out?

17. 16 Central Cities v. Suburbs Doesn’t seem to help central cities as much as suburbs. Plausible that CC locations may not be good substitutes for suburban locations. If so, you may not get much more redistribution. Most studies are not optimistic.

18. 17 Benefits and Costs Costs are somewhere between $1,906 and $10,800 (1990)  Increase them by 50% since then due to inflation. Business tax reductions financed by cutting education or infrastructure spending will probably destroy jobs. For suburbs they work, ONLY IF they are not matched by other suburbs. Must balance labor market effects against other items like traffic congestion.

19. 18 Some More Recent Work Wayslenko finds a range of elasticities between -0.02 (not very big at all) and -0.58. Most of them cluster around -0.1. WHY? If states are competing with each other, net effect may not be very large.

20. 19 Impacts of Spending Ron Fisher (1997) “Some spending may have positive effects in some cases.” Biggest impacts are transportation and public safety spending. Education has more mixed effects (probably because people can take education and go elsewhere).

21. 20 What about jobs? How good is this for local people. Answer (Bartik found): Not as good as you think. Why? People may move in from elsewhere if the jobs are good jobs. 770 jobs 160 jobs 70 jobs

22. 21 Development and Real Income? Most important factors in  in income are: –Wage increases from higher paying jobs –Increases in labor force participation These are larger for less educated, younger, African- American.

23. Most Recent Stuff JOURNAL OF REGIONAL SCIENCE, VOL. 53, NO. 4, 2013, pp. 557–582JOURNAL OF REGIONAL SCIENCE THE IMPACT OF MARGINAL BUSINESS TAXES ON STATE MANUFACTURING* Richard Funderburg The University of Iowa, School of Urban and Regional Planning, 338 Jessup Hall, Iowa City, IA 52242-1316. E-mail: richard-funderburg@uiowa.edu Timothy J. Bartik W.E. Upjohn Institute for Employment Research, 300 S Westnedge Avenue, Kalamazoo, MI 49007–4686. E-mail: bartik@upjohn.org Alan H. Peters University of New South Wales, Faculty of Built Environment, West Wing, Red Centre Building, Kensington Campus, Sydney, NSW 2052, Australia. E-mail: alan.peters@unsw.edu.au Peter S. Fisher Iowa Policy Project, 20 E Market Street, Iowa City, IA 52245. E-mail: pfisher@iowapolicyproject.org 5520_l_22_More_ED-2014 22

24. Thought Experiment Two ways to offer a 10%  in potential tax liability –7.9%  in basic system taxes –38.4%  in typical incentives LR growth from tax change  4.5% LR growth from incentives  1.2% Why? 5520_l_22_More_ED-2014 23

25. 24 Most Recent Stuff They feel that firms discount the value of incentives when compared to the basic tax system. Firms have better information about the basic tax system, less complexity, and less uncertainty about the future of general tax provisions when compared to incentives. Incentives are more likely to change with the progression of the business cycle. 5520_l_22_More_ED-2014

26. 25 Business Climate Studies Look at box on pages 666 – 668. Fisher notes that the professional economists have trouble determining what  development, investment. In a nutshell, most of the business climate indices are worthless. See Peter (not Ron) Fisher, Grading Places.Grading Places

27. 5520_l_22_More_ED-2014 26 Most Recent Work Bartik argues that we should concentrate on what has been shown to WORK. Link

28. 5520_l_22_More_ED-2014 27 What about Michigan? Source

29. 2015 Business Climate Look at linked spreadsheet i:\eco-5520-winter-2015\lectures\Mich-tax- climate-2015.xlsi:\eco-5520-winter-2015\lectures\Mich-tax- climate-2015.xls