Passage of the new GOP tax overhaul poses important questions. Will Goldman Sachs soon close its Wall Street offices to reopen in Biloxi, Miss., or Bogalusa, La.? Will Ecolab desert St. Paul for some Fayetteville, whether that be in North Carolina, Tennessee, or Alabama? How about Boeing repudiating its corporate move to Chicago and heading for Birmingham or Huntsville, Ala., instead?
I think not. And economic history and some underlying facts support me. Yes, some ideologues have generated scenarios in which limits on deducting high state and local taxes from federal tax obligations trigger an immediate exodus of people and corporations from high tax areas to lower taxed ones. This supposedly will drop population, economic activity and tax revenues in the losing states. In the grip of public employees unions, these high tax states will be unable to cut spending and so will raise taxes further, exacerbating incentives to leave. The vicious circle will end with New York, New Jersey and the like as economic deserts.
It’s all a creative application of magical realism to commentary, but don’t hold your breath waiting for it to happen. Here are some reasons why.
First, differences between tax burdens in higher rate states and lower-rate ones are less than some would have you believe. State and local taxes come to 10.8 percent of average incomes in Minnesota. For Arkansas that is 10.1. Any reason to move?
Yes, Alabama at 8.7 and Mississippi at 8.6 are lower. And yes, Tennessee gets by with 7.3 while New York, New Jersey and Connecticut all are in the mid-12 –percent range. But Georgia is 9.1 and North Carolina 9.8.
These differences of one to three or even five percentage points have existed for decades, but never triggered a stampede. The center of gravity of the U.S. population is slowly moving south to warmer states. Part of this is driven by our aging population. Part is people fleeing congested Southern California for less-densely populated Arizona and greater Las Vegas. Some Sun Belt growth is immigrants, legal and illegal alike, from south of the Rio Grande.
There certainly are people who flee high-tax states for lower-tax ones. But the phenomenon of bright and motivated young college graduates from the Deep South and border states striking out for the New York City for careers in finance, commerce, law and the arts is as strong as it was decades ago.
Another reason for the limited incentive effects of differing tax bites as a percent of income is that people look at the number of after-tax dollars they get and what these will buy. This outweighs any percentage.
Yes, Minnesotans pay two percentage points more of their income in state and local taxes than Alabamans. But median household incomes, as of 2015, exceeded $63,000 in Minnesota but were under $45,000 in Alabama. Median households in Minnesota pay more in taxes but still have substantially more after-tax buying power.
Predictions of vast population shifts depend on assumptions that incomes will remain the same as people move from Minnesota or New Jersey to Tennessee and Louisiana. They won’t. The process will be dynamic. If employers really do move south, wages will rise at their destination’s labor markets and fall in the markets they left. But the jobs people would have after moving wouldn’t pay what they did before.
Yes, the cost of living is somewhat lower in Alabama or Tennessee, but the consumption gap remains wide. And residents in the lower tax states get fewer public services, especially in terms of education and health and recreational facilities.
Then there are differences in what one can buy. Yes, Northerners are quick to sneer at the South, but Southern culture is rich. And beautiful mountains, beaches, hunting and fishing are just as available in low tax states. However, the broad panoply of arts, culture, sports, diverse dining, and retail choices that one can find in New York, Chicago, Philadelphia, Boston or San Francisco are rare across most of the low tax states. And the importance of these tends to rise with income.
The problem for those expecting a dramatic exodus motivated by recent tax tax-changes is that the amenities great cities offer are of particular value to the CEOs, investment bankers, corporate lawyers, scientists and engineers who would be most critical in deciding to move corporate headquarters and high income jobs to purportedly greener fiscal pastures.
Moreover, such key decision-makers often are in marriages of two high-skilled high-earners. Established cities with large financial, commercial, scientific and education sectors have much larger and more liquid labor markets for these people. Hattiesburg Miss., and Aniston. Ala., may be fine places to live, but it is much harder for specialized high-skilled couples to both find good jobs there than in Boston, Philadelphia or even the Twin Cities.
Liquid labor markets are important for new enterprises also. When South Korea-based Kia moved some manufacturing to North America, it played the subsidy extortion game and built an assembly plant on the Georgia-Alabama border. Wages were low, workers plentiful, land cheap, unionization legally difficult and government “incentives” ample. But its $130 million corporate headquarters and design center went to congested, high-tax, high-cost Southern California. Types of workers needed in such facilities are much easier to find and retain in a major metro area.
The “diminishing marginal utility” of money plays in. Connecticut hedge fund managers, Delaware chemists and Chicago engineers will see their tax liabilities increase more than the average American from limits on state and local tax deductions. But their incomes are high enough that the satisfaction from amenities available in cosmopolitan areas also carries greater importance relative to money than households in general.
There also is a strong chicken-and-egg problem deterring large moves in economic activity. Investment banks, corporate law firms and advertising agencies are not going to move south as long as their clients remain in the north. But corporate headquarters are not likely to move to, say, Little Rock as long as the availability of investment banking, legal and advertising services in that city is limited. High income workers are not inclined to move it if means giving up high-end retail, world class music and theater and hundreds of restaurants. But high-end retail establishments, theater, music and diverse dining don’t spring up without a broad base of consumers.
Yes, some industries do move. Textiles and footwear manufacturing that arose in New England early on were largely in the south 125 years later. Obsolete Great Lakes auto plants have been shuttered as new ones were opened in Tennessee, Alabama and Mississippi. Minneapolis doesn’t mill a lot of flour anymore.
Yet there are regions that maintain their economic edge over long periods. And this effect is huge in determining who and what might move where in response to short-term tax changes.
Amsterdam out-produced and out-earned Lisbon five centuries ago and still does. Ditto for Geneva over Athens and Milan over Naples. Sao Paulo, Brazil, and Medellin, Colombia, similarly have edged their countries’ other cities for a century.
Here we approach the knotty and touchy economic issue of why some cities, regions and national economies outperform others and why these differences can persist so long. Most economists dance around this issue. But it is the most important economic question of all. And it figures keenly in whether recent tax changes could motivate watershed relocations of U.S. economic activity.
I’ll venture that when this century ends, New York, Chicago, Seattle-Tacoma and Minneapolis-St. Paul will still be doing well and will still maintain edges in education, productivity and income over most of the territory east of the Texas borders and south of the Mason-Dixon line. And the combined bite of local, state and federal taxes probably will remain higher in these cities than in currently-lower-tax regions, but so will levels of living.