RALEIGH — Still puzzled about how North Carolina can rank so highly on some national measures of business climate, and still have among the worst-performing economies in the country? Let me take another crack at explaining it with this sentence: It’s pretty much all about the incentives.
The propriety of giving big companies special tax breaks or cash grants to open or retain locations in North Carolina has been a controversial issue for two decades. Politicians have debated it. Lawyers and judges have adjudicated it. As a longtime incentives skeptic, I’ll have to admit that my “side” has not fared well in either venue. North Carolina has become one of the most aggressive players in the incentives business, and the state’s judiciary has been reluctant to intervene to enforce constitutional limitations on the resulting misuse of state government’s taxing power.
Before the 1990s, our state was not considered a high bidder on incentives. Past governors and lawmakers prided themselves on competing effectively for economic development by providing good-quality public services at relatively low cost. Maybe they were right. Maybe they were wrong. But during Gov. Jim Hunt’s third term in the early 1990s, the state’s strategy changed. As other Southern states landed big industrial prospects, particularly automobile manufacturers, North Carolina began to ramp up our incentives programs to remain “competitive.”
In one sense, the policy shift has clearly succeeded. If you look at most of the business rankings that praise North Carolina – those from Site Selection, Chief Executive, and CNBC, for example – the availability of tax incentives or cash grants is one of the dominant variables. Even in the case of Forbes magazine’s conclusion that North Carolina has the best regulatory climate in the country, if you look past the label “regulatory climate” to see what Forbes is actually measuring, economic incentives are a big part of the “regulatory climate” calculation. (So are governmental credit ratings and right-to-work laws, both factors for which North Carolina rates highly but that have little to do with health, safety, or environmental regulation.)
Another good example of the effect can be found by contrasting two different studies by the Washington-based Tax Foundation. One looks at the overall tax climate for business by state. Because of North Carolina’s high marginal rates and poorly designed income and sales taxes, our state ranks a dismal 44th by this measure. But early this year, the Tax Foundation did a very different study that looked at actual taxes paid divided by revenue for major, capital-intensive facilities such as manufacturing plants, distribution centers, and research-and-development firms. After factoring in our generous incentives and relatively low property taxes, North Carolina fared well in several categories.
So if the goal of moving the state aggressively into the incentives business was to score highly on national surveys and attract the interest of economic developers working for large companies, consider it a success.
However, if the goal was to make North Carolina’s economy healthier and more productive, it didn’t work. At the same time that we got more aggressive with incentives, our economic performance began to deteriorate. Since the late 1990s, the state has continued to gain population, but economic production, job creation, and incomes have not keep pace. From 2000 to 2010, real per-capita income growth declined in North Carolina for the first time since records have been kept, even as real per-capita income growth grew modestly in the rest of the South and in the nation as a whole.
The problem here is that while incentives may be of great interest to big, mature companies, they are largely irrelevant to the creation of new companies that generate most of the new jobs and income growth in a modern economy. Entrepreneurs demand low marginal tax rates, regulations that are sensible and predictable, and public services such as public safety, fair courts of law, adequate infrastructure, and effective education.
North Carolina’s rankings in these areas range from poor to middling. We may be able to bribe big companies to overall that fact, but this is not a recipe for long-term growth.
Hood is president of the John Locke Foundation and author of Our Best Foot Forward: An Investment Plan for North Carolina’s Economic Recovery.