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Good Jobs First today released a new study debunking so-called “business climate indexes” and showing them to be cover for an ideological agenda of cutting taxes and cutting wages.

“Grading Places: What Do Business Climate Indexes Really Tell Us?” is written by University of Iowa emeritus professor Peter Fisher, a well-known expert on investment incentives and fiscal policy, with a preface by Good Jobs First director Greg LeRoy.

This is an ambitious study that analyzes six different indexes published by five different groups. Four are simple combinations of a wide variety of policy variables, each with its own idiosyncratic weighting systems, all of which are published by conservative organizations such as the Tax Foundation or the American Legislative Exchange Council (ALEC).

Two use “representative firm” models to attempt to calculate the tax burden on different types of companies in each state. One is sponsored by the Tax Foundation, the other by the Council on State Taxation.

Since Good Jobs First just knocked out the ALEC study in December, and because the Tax Foundation index is far more widely cited (at least 3 times as much, according to searches of the premium Nexis news database; subscription required), I am going to focus primarily on the critique of the Tax Foundation’s State Business Tax Climate Index (SBTCI).

The SBTCI measures 118 features (p. 49) of state tax law grouped in five categories (p. 50): personal income tax (33.1% of the index), sales tax (21.5%), corporate income tax (20.1%), property tax (14.0%), and unemployment insurance tax (11.4%). As the study shows, these weightings are the source of the most mischief. They are based on the variability of each factor among the states; that is, personal income tax varies the most, and so on.

However, a study by Ernst & Young for the Council on State Taxation determined the actual percentages that businesses pay in state and local taxes, based on analyzing tax returns. Counting the five taxes listed above, the costs are: property tax, 45.9%; sales tax, 30.8%; corporate income tax, 8.7%; unemployment insurance tax, 7.7%; and personal income tax, 6.7% (p. 51).

It won’t surprise you that using the Tax Foundation data with the Ernst & Young weights gives you a very different ranking of the states, with “six states’ ranking changing 20 or more positions, and another 11 states by 10 to 19 positions” (p. 51). In fact, there is essentially no correlation between the Tax Foundation’s ranking and the one constructed by Fisher (-.05, to be exact). In other words, the Tax Foundation’s tax ranking tells you literally nothing about business taxes paid as a percentage of gross state product.

If that is so, what is the whole point of the Tax Foundation exercise? Fisher does not mince words (p.51):

But the TF sticks with its system because it enables the Foundation to heavily penalize states with more progressive tax systems above all, while concealing this objective in an arbitrary system of scaled and weighted numbers.
As if this were not enough, the four simple indexes produce widely varying scores: Massachusetts ranks from best on the Beacon Hill Institute’s State Competitiveness Index, 22nd on the Tax Foundation’s State Business Tax Climate Index, 26th on ALEC’s Economic Outlook Ranking, and 38th on the Small Business and Entrepreneurship Council’s U.S. Business Policy Index (p. 68).

In some ways, this could be considered a feature, and not a bug. As Peters explains (p. 68), “Conversely, those arguing for lower taxes could find, in 39 states, a measure that ranks them in the highest 15 states, and 27 could find a measure placing them in the highest 10.”

The bottom line is that, like the ALEC report analyzed in December, these indexes are designed to pressure state governments into  lowering taxes, even if that requires cutting spending that benefits business throughout the state (such as a university system); and putting downward pressure on wages, even though it is hard to see how you create a prosperous state based on low-wage jobs.

Originally posted to Kenneth Thomas on Wed May 01, 2013 at 05:13 PM PDT.

Also republished by Community Spotlight.

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