Another Day, Another Bad Incentive Deal

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Yves here. This post continues Kenneth Thomas’s discussion of an important but oft-neglected topic: that of the stealth subsidies to the rich and connected that take place via economic development projects. For instance, while the left-leaning media will comment with some frequency on corporate welfare queens like Wal-Mart, who get large hidden subsidies for their rock-bottom wages via having workers rely on social safety nets, they often ignore local development project subsidies and incentives at the state and local level.

Thomas presented a checklist of how to assess local incentive proposals, since some can represent bona fide productive initiatives but many are simply exercises in pilfering of the public purse. Here he reviews a particularly noxious incentive deal. This case study is useful and of itself, and can also serve as a guide as to how to review specific plans.

By Kenneth Thomas, political scientist at the University of Missouri-St. Louis. Originally published at Angry Bear

No sooner had I finished my mini-series on evaluating proposed location subsidies then @varnergreg sends me this story about a new copper tubing manufacturing facility opening in one of the nation’s poorest counties, Wilcox County, Alabama. This is clearly the sort of place where I think we should consider using investment incentives, but the sheer size of the subsidy relative to the investment (known as “aid intensity”) makes this just another bad deal. Indeed, the subsidy to Golden Dragon Copper is potentially worse than Electrolux in Memphis, where state and local governments essentially gave the company a free plant.

The package includes:

$20 million in state economic development discretionary incentives; $8.5 million in property tax abatements; $5.1 million in sales and use tax abatements; $5.7 million for an industrial road and bridge to support the plant; $1.8 million in worker training services; and site purchase, prep and water and sewer improvements worth about $1 million.

But those are just the small bits. Do you have your calculator out? That comes to $42.1 million so far, a little less on a present value basis because the property tax abatement will be paid over time (unspecified how long in the article).

The biggest part of the subsidy is comprised of “capital income credits worth up to $160 million over 20 years.”
But, as reporter Dawn Kent Azok goes on to note, “Generally, companies don’t realize the full amount because they are tied to income tax liability.” Fair enough, but that leaves us with a lot of uncertainty in analyzing the subsidy. If we start at the midpoint and call it $80 million, here is what we come up with.

Obviously it’s not a retail project, we know who the investor is, and it is a new facility. However, as countrycat points out, there is an existing copper tubing manufacturer in Alabama, Wolverine. Therefore, the subsidized increase in supply is a definite threat to create unemployment elsewhere in the same state.

For creating our main cost metrics, we’ll note that the plant will have 300 workers at full capacity, and the investment is $100 million. You can see where this is a problem: using the $80 million midpoint, we are talking about $122.1 million in subsidies, which comes to $407,000 per job and 122.1% of the investment. Are these large figures? As we can see by consulting the Megadeals database, and as I have discussed more concretely regarding Electrolux (link above), these are extremely large figures. An automobile assembly plant will cost about $150,000 per job with an aid intensity of about 33%. So Golden Dragon will get more than 2 1/2 times as much per job, and 4 times the aid intensity of an auto assembly plant, without requiring the extensive supplier network you’d see with the auto plant.

Moreover, it doesn’t pay as well as an auto plant, starting at $15 per hour. No information was given on benefits, so we can’t evaluate the project on that basis. There was also no information given on whether the project will benefit from eminent domain.

As noted above, Wilcox County is one of the poorest in the country. This is clearly the biggest positive aspect of the project. It is more than an hour away from Montgomery, according to Google Maps, so we are not contributing to sprawl and there is no public transportation system to link the plant to. I have no information on the company’s track record or whether it would have invested without the subsidy (have I mentioned information asymmetries lately?) I don’t know enough about Alabama to know how well it enforces subsidy agreements or what the government’s opportunity cost might be, but in any event I don’t consider them necessary to know to see that this is a bad deal.

The two factors I think are most important here are that it is located in a very poor area, but more decisive is the huge cost, whether measured per job ($407,000 vs. $158,500 for Airbus in Alabama) or relative to the investment. The poorest regions of Europe (think Bulgaria, with 2012 GDP per capita of $6977, vs. $10,903 for Wilcox County) cannot give more than 50% of the cost of the investment (2014 regional aid guidelines, point 172), and for an investment this large that maximum would be reduced by 50% for the amount over about $67.5 million (50 million euros; see point 20 (c) of the guidelines), so 122% (and potentially more) is simply off the charts.

What the Golden Dragon case highlights is that companies know how to extract rents from their location decisions, and that desperation is not conducive to getting a good bargain.

Note: This is one of the situations where conversion of other currencies should not use purchasing power parity adjustment, so Bulgaria’s per capita income is expressed in current U.S. dollars. The reason for this is that if a company were choosing between investing in the United States or Bulgaria, it would have to pay the actual wage rates prevailing in the two countries, not wages adjusted for purchasing power.

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  1. DakotabornKansan

    In the middle of the Alabama’s Black Belt lies Wilcox County, Alabama:

    • Poverty rate: 49%
    • Poverty rate of children under 18: 53%
    • Median household income: $22,000
    • African-American population: 72%
    • highest unemployment in the state: greater than 20 percent

    China is second only to India in terms of the largest population of the poor.

    Earlier this year, Chinese Premier Li Keqiang promised that “China will wage a war against poverty.”

    So this Chinese enterprise, state-owned Golden Dragon Precise Copper Tube Group, abandons Chinese in poverty to provide jobs for 300 people with wages that average $15/hour in poverty stricken Wilcox County?

    $193 million (more than one million per job) from Alabama taxpayers to a Chinese company for 300 jobs at $643k!

    •Capital income credits worth up to $160 million over 20 years
    •$20 million in state economic development discretionary incentives
    •$8.5 million in property tax abatements
    •$5.1 million in sales and use tax abatements
    •$5.7 million for an industrial road and bridge to support the plant
    •$1.8 million in worker training services
    •Site purchase, prep and water and sewer improvements worth about $1 million.

    “Easy to run downhill, much puffing to run up.” – Chinese proverb

    1. mellon

      Why don’t they just give the money to the people, and automate the work? It would be cheaper and do more good.

  2. John

    We do the same here in Belgium. We starve our public schools for funds so we can give tax rebates to large multinationals .

  3. John Zelnicker

    A couple of notes: Here in Alabama the property tax abatement is usually given over ten years. And the government does little or no follow-up to see if the required hiring is achieved and maintained. Several companies have failed to keep their agreements and have faced little or no consequence.

  4. papicek

    When the public incentives are that big, taking an equity stake is called for. Yes, it opens another can of worms (or a couple cans), but what would any other investor do?

    1. John Glover

      Seriously, it would be cheaper for the state to buy the entire facility and run it themselves than to pay a corporation to do so. This is just madness.

      1. Katniss Everdeen

        Or just replace any public assistance with $15 per hour for 40 hours a week and call it good.

      1. H. Alexander Ivey

        Gentlemen and lady, as a former Alabamian I can assure you there is no madness, ideology, or incompetency here. It is simply racism, a way for the local tea party big shots to continue to enrich themselves and keep their foot on the lower classes, primarily Afro Americans.

  5. Eureka Springs

    These deals are spirit killers. The Big River Steel project mentioned in the report deserves much attention as any. I’m sure each and every one in the report could serve as a standalone post.

    The Koch Brothers with a fellow who has experience driving mills into the ground first rounded up some AR teachers pension money (supposedly a big bunch of democrats – AR teachers)… and ran to the state for this grift. Both parties in the state approved it with almost no debate. As soon as someone asserted sales taxes from the yet to be built diner and fast food joints down the yet to be built free road road from the mill would return the 140 million grift… it was a done deal.

    If Democrats and teachers pensions will partner with the Koch brothers then they deserve every John Boozman and Tom Cotton or Asa Hutchinson (as well as every AR Dem legislator and Governor who voted for this…not one said no) they get. The teachers deserve the almost certain privatization of their jobs in the very near future. For this and much worse is what the Kochs are buying with their free millions in AR and elsewhere. Discussions of this issue as it happened in state, in person and on blogs… nobody was bothered by it at all. The jobs mantra was all it took to kill scrutiny. I’ll bet nary a peep of protest was heard in Alabama as well.

  6. Milton

    According to the 2013 US census update data Wilcox county is the fourth poorest county in the US. In 2012 it was number two in the nation. look at this interactive map to the the bottom ten counties in the US.

    1. Kenneth Thomas

      Yes, this is exactly the sort of places where a subsidy can make sense. But because much richer parts of Alabama give subsidies, too, it costs a fortune to put something in a poor area. That’s why I have put so much effort over the years into analyzing the European Union’s state aid (subsidy) rules.

    2. ambrit

      The map of county median household incomes is interesting. We live right next to one of the only national average income counties in Mississippi: Lamar County. The fun bit is that northern Lamar is home to several “upscale” suburbs, and the destination of the White Flight from previously industrial Hattiesburg. Oh, and it’s also where Bret Farve, multi millionaire football player lives. (But we’re talking median here, not mean. Otherwise things would look even better for Lamar.) Zoom in on your favourite location. This map gives granular detail. Play, spot the gated community. Hours of fun!

  7. Danny

    Thanks for the info and participating in the comments Kenneth. This is one reason California got rid of redevelopment agencies who were subsidizing companies well beyond the value being provided. Issues still exist though and we’ll eventually get rid of those, too, once Texas has lured all our jobs away with Texas sized subsidies. ;-)

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