NY: the Best Economic Climate or the Worst?
- Paul Van Ness
New York has the 45th worst business climate out of 50 states, according to the Small Business Survival Index. Should businesses panic? Should businesses flee to South Dakota, which this index rates as having the best Climate?
Not so fast! New York has the 4th best business climate, according to Cato’s Fiscal Policy Report Card. Businesses can do well here.
How can two different groups, supposedly rating the same thing, come to diametrically opposite rankings? Here’s how.
Some business groups use rankings of the “business climate” to argue for tax cuts and regulatory relaxation. Unshackle Upstate is a coalition consisting mostly of Chambers of Commerce and businesses located west and north of Albany, which aims “to bring sensible government reforms to an area that desperately needs economic relief to spur business growth.” It says “ New York is at the bottom of most state rankings on business climate and economic competitiveness. . . New York was 40th in the Beacon Hill Institute’s State Competitiveness Report in 2005, brought down by . . . unionization,” among other things.
A “business climate” rank is not a reliable figure and is not an argument for Unshackle’s program. Many of the think tanks which calculate such rankings have in common a free market ideology which is anti-tax, anti regulation, and anti-union, and their ranking systems reflect that ideology. So it is with Beacon Hill, which uses 42 variables to construct its index. It considers unionization to be detrimental to business, as are unemployment compensation, a minimum wage, and government employees, for example. To be fair, Beacon Hill considers high tech payrolls to be advantageous and toxic emissions to be detrimental; still, the ideological bias is unmistakable. Beacon Hill also seems to ignore the research on the economic and social factors which are favorable to business.
The term “business climate” lacks a generally accepted definition in the economics profession; it means whatever the ranking organization wants it to mean. Different groups use different combinations of a state’s tax rates, its tax policies concerning what is subject to tax or exempt, its labor policies concerning a minimum wage, unionization, its environmental protection laws, etc. to derive their rankings. A good business climate is one in which these factors are adjusted to make it easy and profitable for businesses to operate in the state. Any ranking agency or group is free to select whatever factors it deems important to businesses. The factors that it picks are likely to be dictated by ideology and not by statistical evidence. Hence the wide divergences among the rankings.
The Small Business Survival Index is a good example of methodological faults in calculating business climate rankings. It is published by the Small Business and Entrepreneurship Council and is based on 23 variables including such things as the top personal income tax rate, the top corporate income tax rate, the right-to-work status, electricity cost per kilowatt-hour, the crime rate, etc. Taxes enter the index as rates; electricity cost as dollars; right-to-work as an either-or status, crime as a rate per 100 residents. Low values are considered to be favorable for business. Constructing an index requires that these variables be combined into a single figure for a particular state, and yet there is no valid arithmetic or statistical technique for doing it. One cannot add apples and oranges and one cannot add rates and dollars.
Nevertheless, in defiance of arithmetic and common sense, SBEC “simply uses the raw numbers and adds them together.” Thus, the income tax rate, which is a percent, is added to the cost of electricity, which is a dollar amount, and these are added to the right-to-work status, which is 0 or 1, but not the way you would expect. “0” means a right-to-work state. In 2004, the values of these totals ranged from 24.6, which was assigned a rank of 1 (best climate) to 59.9, which was assigned a rank of 50.
Statistical analysis, however, reveals which of SBSI’s factors vary the most and cause the most variation in the different totals. Most of the variability in the totals is caused by progressive income tax rates. That is, states with no or low taxes have low rankings (favorable for business) and states with higher tax rates have high rankings.
This narrow focus on taxes ignores the many important factors which may attract a business to a site when it is searching for a place where it can operate profitably. A business must consider such things as the availability of employees, the quality and availability of transportation, communication networks, police and fire departments, and much more. The SBSI’s emphasis on taxes and its favorable view of right-to-work states reveal that the index is constructed on the basis of the pro free market ideology of the SBEC. It is anti-tax, anti-regulation, and anti-union. Its rankings are not a guide to public policy.
New York State ’s poor ranking on the SBEC scale comes from its relatively high personal and corporate marginal tax rates, compared to other states.
How did Cato’s Fiscal Policy Report Card come to rank New York as so highly favorable to business? The Report Card is published by the Cato Institute and is based upon 15 variables in three categories: state spending, state revenue, and tax rates. This is a different set of variables from that used by the SBEC, and they are combined in a different way. Both the SBEC and Cato say that they are ranking a state’s “business climate,” but they are really ranking two quite different things.
Cato’s Report Card focuses on state revenues and spending to the exclusion of all other factors impacting business operations. Cato says, “States that reduce taxes improve their prospects for economic growth.” Cato ignores the fact that businesses need employees, transportation networks, utilities, communication networks, police protection, fire departments, and much more. Cato believes that all taxes are bad and all spending cuts are good. It ignores the possibility that cutting taxes may adversely affect essential infrastructure and amenities.
The Cato Institute is an unabashedly libertarian, free market think tank. Its Report Card reflects its ideology, which is pro free market, anti-tax, anti-regulation, even anti-government. It ignores extensive scholarship about which economic and social factors are conducive to establishing businesses and promoting their growth.
New York State ’s favorable ranking is based on the fact that the state has recently been cutting the top marginal tax rates. For example, the top New York State corporate franchise tax rate (the tax on corporate income) on small businesses has been reduced from 9.0% in fiscal year 1999 to 6.5% in fiscal year 2007.
If New York State is one think tank’s purgatory, it is another think tank’s paradise. “Business climate” rankings are best treated as light reading in the morning paper