The Economic Costs of State and Local Business Incentives

While the apparent benefits of corporate subsidies are seen and tangible, often taking the form of a new office building or manufacturing plant, the economic costs are less obvious. Nevertheless, these costs are significant and widespread:

• Fiscal costs. Business incentives usually require taxpayer dollars, and thus entail both direct budgetary costs and indirect opportunity costs. Given that budgets are finite and especially limited at the state and local level, spending on corporate incentives will necessarily mean either less revenue available for policies benefiting the general public, such as tax cuts or infrastructure spending, or higher taxes to pay for the subsidies. Beyond simple concerns of fairness and good government, this can mean lower economic growth and with it lower tax revenue in the future.
  
  
• Competitor costs. Subsidies disadvantage local businesses that compete with subsidized firms for customers and resources. The firms might also face higher costs as the beneficiary firm acquires scarce local labor, materials, and other resources at taxpayers’ expense.²⁹ And because tax incentives are disproportionately awarded to larger, more profitable firms, these unseen effects on unsubsidized firms may be especially damaging for newer or smaller competitors.³⁰
  
  
• Deadweight costs. Subsidies cause companies to redirect resources from efficient and socially productive activities toward promoting less productive ventures or seeking economic rents arising from place-based subsidies. For example, New Jersey state and local governments have provided over $1 billion in incentives since 2017 to support the development of American Dream, a megamall in Secaucus.³¹ Since its opening, the mall has been losing money and has not generated sufficient cash flow to fully cover interest on municipal bonds issued to finance construction.³² At a time when shopping malls’ popularity is declining, the state took a major gamble on a business that is not panning out.
  
  Incentives also draw more money into the political system—and thus away from productive private enterprises. A 2022 study by economists Russell Sobel, Gary Wagner, and Peter Calcagno found that once a state has begun offering corporate incentive megadeals, annual contributions to candidates for state offices increase by $1 million.³³
  
  Finally, companies divert resources from their core business operations and toward site selection consultants. Although location consulting would likely exist in the absence of corporate incentives, today’s environment of cross-jurisdictional competition gives consulting firms the opportunity to provide additional services and greatly increase billing. One such firm, Global Location Strategies, tells company executives that it can “identify qualified incentive programs for your project … effectively negotiate financial and non-financial incentives that maximize your return on investment … [and] partner with you to set up procedures to ensure that you receive all the benefits you were promised.”³⁴ Money devoted to these rent-seeking activities is money that cannot be devoted to capital expenditures, workers, or R&D, or returned to shareholders.
  
  
• Costly failures. Incentives often do not achieve their desired outcomes or even go to companies that later fail entirely. In 2010, the State of Delaware provided Fisker Automotive with $21.5 million in incentives to take over a shuttered General Motors plant on Boxwood Road in Wilmington, creating at least 2,495 jobs in the process.³⁵ But Fisker Automotive went bankrupt before taking over the plant, which never reopened (Fisker’s founder started a second EV maker, which also filed for bankruptcy in June 2024).³⁶ Eventually, the plant was demolished and replaced with an Amazon fulfillment center with the help of an additional $4.5 million in state incentives.³⁷ In 2017, the State of Wisconsin offered Foxconn Technology Group $3 billion in incentives to build an LCD-screen manufacturing facility employing 13,000 residents, but, after a high-profile groundbreaking with then president Donald Trump and then governor Scott Walker, the plant was never built.³⁸ Since 2015, New York State spent almost $1 billion on a Tesla solar panel facility in Buffalo that was expected to produce enough solar panels to cover the roofs of 1,000 homes, but by 2023, the facility was making only about 2 percent of that projected volume.³⁹ Numerous other subsidy failures dot the American landscape.
  
  
• Eminent domain abuse. Business incentives are also often linked to the misuse of eminent domain authority. An especially notorious case occurred in New London, Connecticut, in 2001, when the state lured Pfizer to the struggling city with property tax abatements and other inducements. New London tried to remove homes near the new Pfizer facility through eminent domain. Homeowners sued to protect their homes, taking their case all the way to the Supreme Court, which ruled against the homeowners in 2005 in Kelo v. City of New London. Ultimately, Pfizer decided to leave New London altogether, and the neighborhood that had been cleared of residences was never redeveloped. A national backlash against the use of eminent domain for private purposes in the wake of the Kelo decision caused 43 states to adopt legislation curbing the practice.⁴⁰
  
  One state that did not reform eminent domain, North Carolina, invoked it in 2022 to clear land for the VinFast EV plant. The state’s plan was to provide free infrastructure to the factory by removing 27 homes, five small businesses, and a church built in 1888—despite several current landowners’ opposition. As discussed in the “Recent Increase in State Subsidies for EVs and Semiconductors” section, plans to build the facility and complete the eminent domain process have recently stalled, perhaps due to weak EV demand.⁴¹
  
  

Beyond these notable examples, incentive programs routinely suffer from other unseen costs associated with national industrial policy, such as moral hazard, adverse selection, and policy uncertainty—phenomena that can not only strain budgets but also breed failures and discourage private investment, even in industries that subsidizing governments are trying to support.⁴²

Citation

Lincicome, Scott, Marc Joffe, and Krit Chanwong. “Reforming State and Local Economic Development Subsidies,” Policy Analysis no. 980, Cato Institute, Washington, DC, September 19, 2024.