What matters more for competitiveness: Rankings or results?

Nan Madden
Oct 05, 2016

It’s a good time to visit public finance expert Peter Fisher’s comprehensive work over at Grading the States, which digs deep into the details of business climate rankings and what does – and doesn’t – matter for building prosperity in the states.

That’s because the Tax Foundation has released the latest edition of its State Business Tax Climate Index, which it argues measures elements of a state tax system that impact its business competitiveness. As Dr. Fisher reminds us, there are serious flaws with this index that make it a poor guide for policymakers – and can even cause them to take their eyes off the ball in terms of what really matters for economic prosperity.

The State Business Tax Climate Index is not a measure of the level of taxes paid by businesses. If it were, it would likely put Minnesota in the middle of the pack. That’s where Ernst & Young ranked Minnesota in a report it prepared for the Council on State Taxation that measured what share of each state’s private sector gross state product went to state and local business taxes.

This index also doesn’t measure “competitiveness” by looking at economic performance. There are a myriad of data points that can be used to measure a state’s economic performance, but here are just a few:

  • Minnesota ranks 2nd for the number of Fortune 500 companies per capita.
  • Minnesota ranks 2nd for our labor force participation rate and our 4.0 percent unemployment rate is better than the national figure.
  • Minnesota ranks 10th for median wages and 13th for median household incomes.

Those rankings paint a picture of Minnesota as having a relatively strong economy with room to improve further. That picture doesn’t square with Minnesota being ranked 46th by the Tax Foundation’s index, which only measures to what degree a state has the tax policies that the Tax Foundation prefers and has incorporated into its index.

We shouldn’t be concerned that Minnesota doesn’t do well measured against this particular set of tax policies; Dr. Fisher finds the index and its component parts are a “poor measure of growth potential.” There are a number of concerns about how the index is constructed that raise questions about its utility; Grading the States, and former Federal Reserve Bank of Boston economist Robert Tannenwald are two good resources for readers wanting to dig into those details.

It seems to me that the ultimate result of being “more competitive” should be having a strong economy that translates into economic opportunity and high living standards for the state’s residents. And while Minnesota has some serious work to do to become a state where economic opportunity is truly available to everyone, we’re doing relatively well on broad measures of economic performance.

Policymakers are right to think about what we as a state should be doing to support economic growth and broader prosperity. That means taking a broader view than just taxes. Dr. Fisher notes the important role of public sector research and development, investments in education, and technical assistance for entrepreneurs in promoting economic growth. He also notes that “public policies that reduce risk increase the opportunities for entrepreneurial activity” – that when families have health insurance and affordable health care, and they aren’t saddled with too much college debt, that provides the baseline of economic security that can enable individuals to take the risk of starting a new business. These are the kinds of public investments that too much fixation on “tax competitiveness” can put at risk.

-Nan Madden