Nov 24, 2018
Leave it to Amazon CEO Jeff Bezos. In his zeal to be disruptor-in-chief, he has pulled back the green curtain on America's corrupted economic development system. More publicly than ever, taxpayers have been shown how our nation's tax break-industrial complex works -- and quite rightly, they want to end it.
This state-eat-state and city-versus-city madness has many names: "race to the bottom," "zero-sum game," even "second war among the states." That last phrase was coined by Business Week magazine -- 42 years ago. It costs at least $70 billion per year, but can only be estimated due to poor disclosure.
There ought to be a law, many say. Why isn't there?
"Amazon tried to convert a public auction into an Old Economy back-room deal, but that only fueled more public outrage."Some point to the federalist structure of our U.S. Constitution, arguing that Uncle Sam's passivity in industrial policy is an inevitable result of states' rights. Others argue, and I agree, that the Founding Fathers would be aghast to see the states of America acting like hostile nations, with a far less rational -- and far more expensive -- incentive system than the countries of the European Union.
How did such a flawed, wasteful system come to be? How can we be rid of it?
America's corporate-dominated site location system was born in, where else, New York in 1936, when a disgruntled Chicago real estate salesman named Leonard Yaseen moved east and created the Fantus Factory Locating Service. It would long dominate perhaps the most obscure yet powerful consulting niche in U.S. history.
For the next four decades, Fantus helped companies relocate thousands of workplaces, most of them factories moving out of the Northeast and Midwest to the South, but also overseas.
Today, Fantus survives within Deloitte. Defectors and the internet have spawned many competitors, but site locators still use the system Yaseen perfected. Searches are conducted secretly, with code names and non-disclosure agreements. The identity of the corporate client is held confidential, often until late in the process.
The true reasons a company chooses a place are never revealed, and the decision may have been pre-determined. Sometimes at two stages -- states versus states and then cities within a state -- governments are "whipsawed" to maximize tax breaks.
In game theory, public officials are in the "prisoners' dilemma." They aren't told who they are competing against, and if they find out, they know they must not communicate with their peers. Their job is to supply data -- and the biggest possible subsidy package -- and hope for the best.
They may intensely dislike this game's rules, but know they must conform, lest they be blacklisted by site consultants shopping the next deal.
When a press release is issued, giving a politician a powerful re-election gift, the spin emphasizes the incentives. No one points out that state and local taxes -- and therefore incentives that reduce them -- are microscopic cost factors that rarely determine where a company expands or relocates. The bipartisan dogma that tax breaks "work" is cemented in the public narrative.
The system has other moving parts: By the 1970s, the "business climate" propaganda industry was born: purveyors of politicized grab-bags of data sauteed to support corporate attacks on state taxes and safety-net programs.
Fantus walked away from the work when it realized the true agenda, so the Conference of State Manufacturers' Associations hired the accounting firm now named Grant Thornton. These exercises in pseudo-social science were dissected and demolished in 1986, yet they live on today, for example, in the American Legislative Exchange Council's (ALEC) "Rich States, Poor States" studies by Dr. Arthur Laffer and others. And they are discredited each year by Dr. Peter Fisher at gradingstates.org.
Amazon's HQ2 search began disruptively as a rare public auction, only the sixth in U.S. history. After an initial rush of enthusiasm, many grew skeptical as they learned about Amazon's big role in Seattle's soaring home prices and homelessness.
Scorched by public blowback, Amazon veered to secrecy four months later, announcing that a second-round RFP and bids from 20 "finalist" cities would be closely held, as would site visits.
That is, Amazon tried to convert a public auction into an Old Economy back-room deal, but that only fueled more public outrage.
Now that Bezos has chosen New York and Arlington, Va., skeptics feel vindicated. Amazon almost certainly knew its short list before launching the auction, they say. (After all, it's been siting facilities for two decades and created its own tax-break office in 2012.)
Encouraging those 238 bids, mostly from places without a prayer, was apparently to gin up tax-break pressure on the true finalists. It "worked," at least for Bezos: The $4-plus billion in subsidies makes HQ2 the fourth-costliest subsidy deal in U.S. history (in fact, likely the third-costliest, as a Foxconn project in Wisconsin melts down). Yet subsidies must not have been decisive, or else Pittsburgh's $9.7 billion bid would have "won."
Corporate control of the tax-break system is also nakedly evident in what we call "interstate job fraud." In metro areas that straddle state lines (think New York, Kansas City or Memphis), companies can relocate existing workplaces across a border, be legally greeted as "new job creators" and showered with eight-figure subsidy packages -- for merely changing their employees' commuting routes.
No city has suffered this fraud more often, or at greater cost, than New York.
Especially during the Giuliani years, a CEO could visit Jersey City or Greenwich, make no secret of it, and collect a "job blackmail" payoff. It happened dozens of times with banking, media, publishing, insurance and stock exchange firms. Some do relocate, like financial firms dispersing back-office operations after 9/11. Goldman Sachs' deal in Jersey City even allows it to keep much of its employees' state personal income taxes.
In 2014, outraged by such abuses, 17 business leaders in the Kansas City metro area prevailed upon Missouri's Republican-led legislature and its then-Democratic governor to enact a legally binding offer to Kansas Gov. Sam Brownback.
If, within two years, he would reciprocate, Missouri would agree to carve out the K.C. area and stop paying companies to jump the state line. Brownback had the administrative power to agree to the cease-fire, but instead let the offer lapse.
The last time the National Governors Association debated this issue was 1993, prompted by Alabama's $238 million deal for Mercedes-Benz. (High-profile then, that deal looks quaint today; almost 100 have since exceeded its cost.)
Led by Govs. Jim Edgar, a centrist Illinois Republican, and Buddy Roemer, a centrist Louisiana Democrat, the NGA issued a non-binding statement full of fine platitudes. Like several such voluntary efforts in the Northeast and Midwest, it accomplished nothing.
A lawsuit, the brainchild of public-interest lawyers, found its way to the Supreme Court in 2005. In DaimlerChrysler Corp. vs. Cuno, a group of Toledo, Ohio, residents alleged that Ohio had violated the Constitution's Commerce Clause by paying off the auto manufacturer to build a new factory with massive tax breaks. The plaintiffs lost at trial but won on appeal before the U.S. Sixth Circuit, and the Supreme Court accepted the case.
Two K Street coalitions were born to amass amicus briefs. Former Ohio Gov. and then-Sen. George Voinovich readied legislation, lest the Court make the right decision. Former Solicitor General Theodore Olson argued for Ohio. The plaintiffs were represented pro bono by Northeastern University law Prof. Peter Enrich, who had to repeatedly correct the justices' questions before answering them.
The Court punted, ruling that the plaintiffs -- some of whom had lost their homes and businesses to the plant's footprint -- lacked standing to bring the case because they had not been sufficiently harmed.
"This is the history so methodically exploited by Amazon. Besides HQ2, it has already won the company $1.6 billion in other unnecessary subsidies, for warehouses and data centers."
Presidents have historically been MIA here, and most major federal development programs may not be used in interstate job relocations.
But President Trump has shattered that norm. In a December 2016 speech at Carrier Corp. in Indianapolis, he, despite having spoken out loudly and frequently against a rigged economy as a candidate, endorsed interstate job wars. Soon after taking office, he helped Foxconn chairman Terry Gao stage a multi-state bidding war for what has become a deeply troubled factory deal in Wisconsin -- with $4.8 billion in state and local subsidies.
This is the history so methodically exploited by Amazon. Besides HQ2, it has already won the company $1.6 billion in other unnecessary subsidies, for warehouses and data centers.
I recommend several solutions and discount another. Some have suggested a confiscatory, 100% federal tax on state and local subsidies; I consider that politically untenable.
Inspired by how the feds persuaded the states to raise the drinking age to 21 and reduce auto fatalities (by holding back 10% of highway trust funds), a President could hold back 10% of Community Development Block Grant funds until a state signs a no-piracy pledge, agrees to defund interstate job fraud and pledges robust online disclosure of every deal's costs and benefits.
We need another pair of states to seize the Missouri-Kansas model and create a powerful precedent. We need more business groups to learn how the Kansas City 17 so effectively framed their grievance.
Every public official should learn about powerful anti-piracy/high-cooperation pacts that have served the Denver and Dayton metro areas for more than 20 years, disrupting part of the prisoners' dilemma.
Site location consultants should be registered and regulated as lobbyists, to make their activities more transparent and prevent some from working on commission.
We must all school up on the European Union system that caps subsidies, restricts them to truly needy areas, and encourages companies to report each other for seeking ineligible subsidies.
Finally, states and localities must embrace Governmental Accounting Standards Board Statement 77 on Tax Abatement Disclosures, a brand-new accounting rule that requires most governments to report how much revenue they lose to such tax break programs.
Let's compost the HQ2 mess and fix America's economic development system.
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