Jobs Don’t Grow On Trees ...
But Luring Businesses From Other States May Not Be Best Answer
By Nathan Johnson
nathan.johnson@yankton.net
Published: Saturday, March 12, 2011 1:09 AM CST
With some states raising taxes to cope with budgetary shortfalls, the Daugaard administration has made no secret of its ambition to recruit frustrated businesses away from those locales.
In February, Gov. Dennis Daugaard promoted his plan to pay tax refunds to industrial construction projects costing more than $5 million as a way to target businesses in high-tax states, especially those that have just raised taxes for businesses. He signed the economic development bill into law Friday.
“That’s the kind of thing that irritates the business owners,” Daugaard told local residents in a Capitol meeting room during February’s Yankton Day in Pierre. “It’s the final straw. It makes business people decide to change.”
Most of the referrals of businesses looking to relocate to South Dakota last year came from Minnesota and California, Daugaard explained, which have higher taxes.
“Those states that have the high taxes, we can target them,” he said.
But when it comes to South Dakota’s prospects for economic growth, research indicates the state may be better off looking within its borders.
In a study released last year, Jed Kolko of the Public Policy Institute of California examined business relocation and homegrown jobs in the United States between 1992-2006.
Although his primary focus was California, he found that, throughout the nation, business relocation across state borders accounts for a very small portion of job loss or creation for individual states.
“Even the places where relocation accounts for the highest share of job gains or losses, it’s still well under 10 percent. Aside from Washington, D.C., it’s under 5 percent,” Kolko told the Press & Dakotan in a telephone interview. “The vast majority of jobs that are gained come from new businesses being born and existing businesses expanding. On the other hand, the vast majority of jobs lost are because of businesses closing or contracting. It’s not because businesses are moving in or out of the state.”
South Dakota is consistently cited by the Tax Foundation, a nonpartisan tax research group, as one of the most business-friendly in the country because it has no individual or corporate income tax, no business inventory tax and no inheritance tax. However, it ranks fifth among states in terms of losing the highest percentage of jobs to out-of-state relocation between 1992-2006. Inversely, it ranked sixth among states in the share of job gains that come from businesses moving in. In both cases, the percentage is 3.6 percent.
“On net, South Dakota gained jobs due to migration,” Kolko said. “More jobs moved in from other states than moved out to other states, but the difference between in-migration and out-migration was very small.
“Relocation, overall, is not on balance a good or bad thing for South Dakota. It’s just a higher share both of job gains and losses than it is for your typical state.”
When it came to job loss due to relocation to another state between 1992-2006, Washington, D.C., is first with 6.9 percent; Delaware is second with 4.5 percent; New Jersey is third with 3.9 percent; and New Hampshire is fourth with 3.6 percent. The closest neighbor to South Dakota is Kansas, which comes in 10th with 2.6 percent.
Meanwhile, neighbors like North Dakota and Montana have among the lowest percentage of job losses due to out-of-state relocation with 1.3 percent and 1.2 percent, respectively.
Alaska has the least job loss due to relocation with .9 percent.
“What is typically the case is ... states where relocation accounted for a lot of job losses, those tend to be the same states where relocation accounts for a larger share of job gains,” Kolko explained.
Thus, Delaware; New Jersey; New Hampshire; Washington, D.C.; and Connecticut make up the top five states for job gains due to business relocation from outside their state borders.
How does Kolko explain these figures? He theorizes that states with the highest percentage of losses and gains have large amounts of economic activity that occur near their borders.
“It makes it easier for businesses to move out but also makes it easier for businesses to move in,” Kolko said.
South Dakota is a large state geographically, but its biggest city, Sioux Falls, is close to Minnesota and Iowa, meaning businesses can move to a neighboring state and still manage to retain most of their workforce, which reduces the cost of relocation.
“In contrast, (relocation out of) California tends to be quite low. The same is true for Texas,” Kolko said. “When you think about where the big cities in those states are, they’re all really far from a state border. All the economic activity in California is on the coast, for the most part. You’ve got to move your business hundreds of miles if you were to relocate it to another state. That means getting a new workforce. It’s very expensive. You can’t just move across the state border like you could between Washington, D.C., and suburban Maryland, or between New York City and New Jersey and keep most of your workforce.”
Kolko found when looking at California that most economic activity results from the efforts of local entrepreneurs. Seventy-four percent of job gains in the state and 68 percent of job losses can be attributed to “homegrown” businesses.
“Most job gains are due to the births and expansions of locally-owned businesses; most job losses are due to the contractions and deaths of locally-owned businesses,” Kolko wrote in his 2010 report. “Businesses headquartered outside a county contribute much less to local employment fluctuations.”
That was even more true for non-metropolitan counties in California, he found, where 79 percent of job gains and 74 percent of job losses are homegrown.
“Thus, although luring businesses from elsewhere or convincing them to open or expand locally is a common economic development strategy, and preventing businesses from leaving the state is a political refrain, most job gains and losses are homegrown,” Given the current economic climate in other states and South Dakota’s business-friendly tax environment, Pat Costello, secretary of the South Dakota Governor’s Office of Economic Development (GOED), said his office would be remiss if it didn’t try to use that to the state’s advantage.
“South Dakota is certainly well positioned to invite out-of-state companies here, and we do intend to take a strategic look at the opportunities the fluctuating business climates in other states are creating,” he said. “Many states are increasing tax burdens on businesses to compensate for government budget woes. South Dakota isn’t immune to the financial concerns but is certainly in better financial health than many states. Our legislative and state leaders are committed to keeping South Dakota’s solid business environment. Our tax structure makes South Dakota an especially appealing option for companies looking to escape poor regulatory climates.”
Ed Morrison, staff member at the Center for Regional Development at Purdue University, recently wrote on his blog, “Ed Morrison’s Garage,” about how taxes affect businesses because he was receiving many inquiries from reporters about tax increases in Illinois and the prospect that they would eliminate jobs.
In the case of Illinois, he said the tax burden in the state, including corporate tax rates, was not out of line with other states before the increases passed earlier this year. The Legislature agreed to raise the personal income tax rate from 3 percent to 5 percent and the corporate tax rate from 4.8 percent to 7 percent.
“It is hard to imagine that many companies would seriously consider the complexities of moving a business over such a small potential gain,” Morrison wrote. “The reason is simple. State taxes represent a very small percentage of the total cost structure of the company. Shifting locations in search of lower state taxes will not meaningfully improve a company’s competitiveness. (My guess: The companies that could be persuaded to move on the basis of state tax rates are probably already weak competitively.)”
The idea that high state taxes or relatively high state tax rates have a negative impact on economic growth dates back to the 1960s, according to Morrison.
“As the Southern states were successfully recruiting manufacturing companies from the Great Lakes and the Northeast, they championed the relatively low tax rates available in the South,” he wrote.
He states that commodity manufacturers that depend upon low costs began leaving the United States in the 1980s and are now mostly gone.
“So, recruiting appeals based on low cost are, well, largely obsolete,” he wrote. “States playing that game are touting vinyl records in an age of MP3s.”
During a recent visit to the area as the keynote speaker at Yankton Area Progressive Growth’s annual meeting, Don Schjeldahl echoed those thoughts. He works as the vice president of renewable energy strategies with the Austin Group, which is based in Cleveland and locates businesses in various industries around the world. Schjeldahl has personally been involved with hundreds of site selection processes during his more than 20 years with the firm and has evaluated the attributes of thousands of communities along the way.
“Unless you’re in financial services or something where taxes really are a big deal, for most companies taxes are not that big of a deal,” he told the Press & Dakotan. “Low-wage? What’s happened as I look across the years I’ve been doing this, is in the 1970s and 1980s there was this mass movement of manufacturing around low wages. There was a big shift to the South. That’s all gone away. Wages have essentially equalized. (South Dakota’s) low wages, compared to the rest of the country, are only a little bit lower. Wages are pretty flat across the whole country, and the real wage-earning power of those lower middle-class workers is less today than it was 10 years ago. People don’t make as much.”
In the case of Illinois, Morrison said he found it “disheartening” that governors from states like Wisconsin, Indiana and New Jersey announced their intentions to pluck firms away from the “Land of Lincoln.”
“This is a fool’s game,” Morrison wrote. “Since when is kicking your neighbor, who is trying to pick themselves off the floor, smart policy? Illinois is the largest state economy in the Midwest. Neighboring states need Illinois to be stable and growing, not hobbled and senseless.”
Schjeldahl pointed out that a lot of companies that are moving to get away from something like taxes are tied to old technology.
“If you’re thinking about building a new economy, do you really want those guys that are just trying to stretch out what they’re already doing?” he asked. “They’re weak to begin with and haven’t modernized. A lot of companies get driven out of California, for example, because of the environmental laws. They want to just replicate what they’re already doing, which is old environmental technology.”
Morrison and Schjeldahl agree that too much focus is still put on what they consider outdated economic development tactics.
While South Dakota has challenges like its geography and low available workforce, Schjeldahl said it also has advantages. People here generally have a good work ethic, and there is a good quality of life. The low-tax system provides some benefit, he stated.
“(If you want to encourage economic growth) I think you have to make it easy for people to bring ideas to the table and commercialize them,” Schjeldahl said. “Programs that are oriented toward listening to entrepreneurs and helping them develop a business plan — it doesn’t take a lot of community investment to provide that service, but it does in the long term provide a great way to grow business. You’ll get most of your jobs from companies that are already in town.”
Ultimately, he stated that development in this region is going to be based on getting good people, producing a good product and being innovative.
Rather than competing amongst themselves, Morrison believes states need to work together on economic development issues.
“We need to find new ways of accelerating innovation,” Morrison wrote. “That requires sophisticated, serious collaboration across organizational and political boundaries. We will not ‘cost cut’ our way to prosperity. We must find new ways of generating topline growth in our companies with new products and new markets. We need new governmental arrangements that link and leverage our current investments and deliver better government services for less. In both public and private sectors, we need step changes in productivity. That means finding new ways to collaborate.”
Costello said he sees limits to the benefits of collaboration for South Dakota.
“As the economy becomes increasingly global and resources remain limited, collaboration at a local, state, regional and national level is certainly a consideration. In fact, we already offer co-op opportunities with our local communities,” he said. “However, many of the states in the Midwest have less favorable business climates than South Dakota. At this stage in the game, it makes sense for South Dakota to continue to leverage our pro-business climate across all regions of the nation.”
By the same token, Costello said the GOED will not ignore businesses within South Dakota. None of its programs are exclusive to out-of-state companies and so they are available to home-grown businesses.
“It is important to note that, in the past five years, 65 percent of our business expansions came from in-state companies,” he stated. “And in FY 2010, 54 percent of the financial support provided by GOED programs was used to foster expansions of companies already existing in South Dakota. The remaining 46 percent supported start-up companies in South Dakota or out-of-state companies expanding in South Dakota.”
Furthermore, Costello said 30 percent of South Dakota’s business leads in 2010 came from within the state’s borders. Minnesota and California were second, each contributing about 9 percent of the state’s leads.
Among the ways the state assists businesses is by providing financial packages, training grants and training seminars to in-state companies, according to Costello. Additionally, the GOED has an ongoing retention and expansion effort to help connect homegrown businesses with the resources they need.
“We are ramping up our community development role with the addition of a small-town specialist position,” Costello said. “This role will work specifically with South Dakota’s small-town economic development efforts.”
Ultimately, he said South Dakota is in a position to experience growth.
“In South Dakota, we have no corporate income tax, we have extremely reasonable state regulations, and small intangible benefits like short commute times and a high-quality workforce,” Costello stated. “This combination of assets makes South Dakota a great place to grow, expand or relocate a business.”
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