Taxes and competitiveness

By: Emily Makings
1:23 pm
January 8, 2021

On Dec. 31, the preliminary report of the Tax Structure Work Group (TSWG) was published (the technical notes are here). (I wrote about some of the findings after they were presented by the Department of Revenue to the TSWG last month.)

As part of the report, the Department of Revenue contracted with Western Washington University (WWU) “to address taxation and economic competitiveness.” WWU finds,

In the end, the results suggest that there is no clear, strong relationship between tax burden, nor tax structure or tax type and competitiveness, or at least not a robust relationship that might serve as a foundation for policy decisions. Variables other than tax structure or tax burden play vital roles and potentially stronger or more consistent roles in explaining competitiveness.

Certainly taxes are only one part of a state’s competitiveness, and there are many reasons for locating in one area over another. But it is also certain that taxes are a part of these decisions. For example, in a 1996 interview, Fast Company asked Jeff Bezos why he started Amazon in Washington. Bezos said,

We could have started anywhere. We chose Seattle because it met a rigorous set of criteria. It had to be a place with lots of technical talent. It had to be near a place with large numbers of books. It had to be a nice place to live — great people won’t work in places they don’t want to live. Finally, it had to be in a small state. In the mail-order business, you have to charge sales tax to customers who live in any state where you have a business presence. It made no sense for us to be in California or New York.

Obviously Seattle has a great programming culture. And it’s close to Roseburg, Oregon, which has one of the biggest book warehouses in the world. We thought about the Bay Area, which is the single best source for technical talent. But it didn’t pass the small-state test. I even investigated whether we could set up on an Indian reservation near San Francisco. This way we could have access to talent without all the tax consequences. Unfortunately, the government thought of that first.

The technology sector is now very important for our state economy. Taxes aren’t the only reason it (or other sectors) took root here, but it has grown up under our current tax structure; upsetting the apple cart would be risky.

As the WWU report notes, “By most metrics, Washington has a relatively competitive economy. GDP and income are relatively high, as is labor productivity and net business openings.” And with our current tax structure, that competitive economy has delivered substantial increases in state revenues in recent years. According to Pew, Washington’s tax revenue grew 35.6 percent from its pre-Great Recession peak to the fourth quarter of 2019. That’s the fourth highest revenue growth in the country.

Additionally, according to WWU, “States with low tax burdens do not rank routinely as the more competitive states, inviting questions about the relationship between tax burden or tax structure and competitiveness.”

Jared Walczak of the Tax Foundation addresses a similar point by suggesting that the Tax Foundation’s State Business Tax Climate Index should be considered as akin to the baseball statistic Wins Above Replacement.

The term comes from baseball, where it is intended as a sabermetric statistic to measure how many more wins a team can claim due to a specific player above the amount that would be generated by a replacement-level player. It’s much the same way in public finance: a well-structured tax code won’t make the Wyoming Basin a metropolis, nor will poor tax structure make Manhattan a ghost town. But tax structure does play a role in a state’s economic successes or failures, and often a substantial one.

Walczak continues, “there’s clearly a lot more that goes into location decisions than just taxes—rates or structure. But taxes are something within the control of policymakers, and even within a given revenue target, there are better and worse ways to raise that revenue.”

The Legislature is right to consider how changes to our tax structure would impact Washington’s competitiveness. Measures of competitiveness are subjective, and better tax structures aren’t the only important factor. (Indeed, a couple of local measures of competitiveness are the Washington Roundtable’s Benchmarks for a Better Washington and Opportunity Washington’s Scorecard. Both include tax burden as one of many metrics.)

But our current tax structure has enabled a strong economy and substantial state revenues—that should not be cast aside lightly.

Categories: Economy & Competitiveness , Tax Policy.