For more than a century, state and local governments in the United States have battled to attract new firms with tax subsidies and firm-specific grants. By bringing a new employer to the area, governments can promise job creation and tout spillovers of knowledge and productivity to existing local firms. These deals are politically popular in the short run, but, over the longer term, they can be costly. Two papers presented at the 2020 Municipal Finance Conference weigh the costs and benefits of subsidizing corporate investment.
Cailin Slattery of Columbia University and Owen Zidar of Princeton University compare economic outcomes in locations that won corporate subsidy bids to attract firms to counties that finished second in the bidding. Using a sample of 543 firms that received discretionary subsidies between 2002 and 2017, Slattery and Zidar find that the average subsidy deal costs $178 million and promises 1,500 jobs. The authors find that, compared to the runner-up location, the winning location experiences an increase in employment in the relevant industry of 1,500 jobs. Overall, Slattery and Zidar estimate that corporate subsidy deals cost the average state 40 percent of its total corporate tax revenue in 2014. The authors do not find significant spillovers to productivity and economic growth from subsidies despite the concentration of deals in high-spillover industries. The cost of attracting firms also differs by location. Counties with accepted bids are larger, more urban, and richer than average, with poorer counties offering larger subsidies to attract firms and paying more for each promised job.
Using a similar approach of comparing winning counties to runners-up, Sudheer Chava, Baridhi Malakar, and Manpreet Singh of the Georgia Institute of Technology track municipal bond yields and find that attracting a new firm with subsidies leads to increased borrowing costs. Singh and coauthors analyze $38 billion of corporate subsidies given out in 127 corporate investment deals between 2005 and 2018. Following the announcement of a subsidy deal, the municipal bond yields for the winning county increase by 5.4 basis points (0.054 percentage points) in the first six months after the announcement and 8.4 basis points within three years of the announcement. This increase in yields led to additional spending of 7.5 percent of the total subsidy amount due to increased borrowing costs. This increase in costs is concentrated in counties with lower bargaining power relative to the firms they are recruiting and counties with high debt burden as measured by interest expenditures. For counties with a low debt burden, municipal bond yields decrease, reducing borrowing costs and making the subsidy deals more beneficial. The authors also find that subsidies to more innovative firms drive decreases in yields.
Corporate relocation subsidies have made headlines in recent years and eaten significantly into state and local budgets. Winning government bids lead directly to job creation in the firm’s industry, but the evidence presented in these two papers suggests that broader economic impacts may be muted by a lack of measurable spillover effects and increases in municipal borrowing costs.
These papers were prepared for the 2020 Municipal Finance Conference on July 13 & 14, 2020. The conference is a collaboration of the Brookings Institution’s Hutchins Center on Fiscal and Monetary Policy, the Brandeis International Business School’s Rosenberg Institute of Public Finance, Washington University in St. Louis’s Olin Business School, and the University of Chicago’s Harris Institute of Public Policy. It aims to bring together academics, practitioners, issuers, and regulators to discuss recent research on municipal capital markets and state and local fiscal issues.