Letter to Peter Phipps, Providence Journal Columnist

Tom Sgouros

7 May 1996

Dear Mr. Phipps:

You recently published a column (April 28, 1996) where you blamed the RI General Assembly for driving business from the state. Among the examples, you cited the Cranston Print Works, a company that has just moved another part of its operation to North Carolina. You reported that in RI, unemployment insurance cost Cranston $500 per employee, while in North Carolina, the figure would be between $20 and free. Similarly, Workers' Comp costs would go from $3,300 to $900 per employee. This, of course, triggered the Sunday morning chat shows, and so on, and now that's what we're talking about.

Trying hard to believe it, I found myself unable to understand how North Carolina could be so much better than us. I am willing to believe that states can vary a lot, but a factor of 25 seems excessive. Is it the water? Is it the product of pure hearts working together for a harmonious business climate? How could this be true? So I called the department of the North Carolina state government that deals with unemploment taxes, and found myself talking to a charming woman named Dell Hilliard, and this is what she told me.

The unemployment tax on businesses in NC is currently 1.2% of payroll for new businesses, and businesses that move into the state. This is quite low, and what's more, many businesses in NC are paying even less this year, and some are paying nothing at all, as you reported. The comparable figure here in RI is 4.05%, and everybody assumes that this is because we are too generous, or because people who don't deserve unemployment get it.

Well, perhaps there are people who take advantage of the system, but that's not what has caused the differences between NC and here. The difference is the unemployment rate. Five years ago, NC's base tax rate was substantially higher than it is here (3.24% vs. 2.1%), but a rapid decline in the unemployment rate has produced a surplus in the unemployment tax account, allowing the state legislature this year to lower many rates to zero, in an act of generosity to their best employers. Our employment tax rate has continued to rise in the face of a declining unemployment rate, but the unemployment rate is a funny number, that doesn't tell a lot of stories about who is unemployed, and for how long. Either way, the unemployment rate in NC is significantly lower than here (4.2% vs. 6.3%).

Dell speculated that the Cranston Print Works unemployment tax rate differential cited in your column last Sunday ($500 per head in RI vs $20 per head in NC) was due not only to the difference in tax rates, but also to the fact that, over the past decade or so, as prodution has moved from here to there, Cranston has been laying people off here in RI and hiring them in NC. Since a company's unemployment tas rate is largely dependent on how many people they've laid off, this would obviously make their rate much lower in NC than here. The whole thing becomes something of a self-fulfilling prophecy for businesses: they move to NC to lower costs, but by moving (hiring in NC, laying off in RI), they make the costs higher for their remaining divisions, and for those companies who stay. When a company closes up production, all the employees left are on unemployment, but there is no longer a payroll to tax for their support, so support must come from the other members of the pool. (I suspect a similar dynamic has been working in Workers' Comp costs, with companies abandoning shrinking high-risk pools in favor of growing risk pools without the experience to rate their risks high or low. If only from the accounting rules, as long as an insurance pool is growing, it is easy to keep premiums down.)

Trying to maintain that RI businesses are not feeling pressure to move, or ought to be resisting it better is a hard line to defend. (There is an important place in any sensible overall plan for economic development to encourage the formation of businesses more resistant to moving -- employee-owned concerns as well as those dependent on local suppliers or conditions -- but that's another story.) Only a fool would try to deny these pressures. However, though you are right--we are driving businesses away--your prescription to solve the problem is worse than the disease.

The problem of high business costs is the biggest problem for companies who compete on cost alone. If you've got nothing to offer your customers besides lower prices than your competition, than your business plan requires you to move to low-cost places. Most of these companies are long since operating happily in Singapore and Thailand (who are, of course, now feeling the heat from Bangladesh), so we don't have to worry about them. However, a few remain, and we do have to worry about them, because they talk about moving and say that our state is corrupt, and that costs are too high and the partial truth of these claims is enough to mislead influential business columnists. The problem here is that we will never be able to satisfy them. If we lower our costs to match North Carolina, they will complain about the Maquiladora opportunities in Mexico. If we match Mexico, they will start moaning about Korea. If we match Korea, you can bet we'll start hearing about Myanmar, or Rwanda, or Botswana.

Economic development cannot be about business costs. We can't win that fight without impoverishing our populace, and we are idiots to try.

The real problem with the cost of doing business in RI is not the high cost. It is that when a business owner tots up the sums on one side of the ledger, there isn't enough on the other side to outweigh those costs. In our headlong rush to be first to the bottom, we are slowly but surely abandoning our commitment to good schools, good libraries, clean air, good roads, clean beaches, and all the other things that make Rhode Island a nice place to live. No one even talks about 60/40 school funding any more. They are proud even to maintain level funding from one year to the next. As the "business cost" debate continues to chip away at our tax base, this will just get worse and worse.

If you don't buy the argument that schools and infrastructure are as important to businesses as tax rates, there is more. (That argument, incidentally, was recently outlined in yet another report -- this one from the Federal Reserve Bank of Boston. The author of "State Business Tax Climate: How Important Is It?" concluded that tax rates could make a difference, but that the quality of public services and infrastructure does make a difference in business location decisions.) The state could be helping keep the cost of borrowing down, it could be helping businesses form alliances to lower costs, it could be making facilities available to startups, it could be providing companies with research services in manufacturing processes, it could be helping businesses adopt energy efficiency measures, it could be doing any number of things to help businesses stay in business, and to help them stay here. There are lots of ways to do these things, and several states are successfully engaged in several of these activities.

We don't do any of this, however. We just talk about developing the Quonset Point industrial park, building malls, and lowering taxes. The Governor's best idea so far, the "Centers of Excellence" is only funded at half of a skimpy level. (And when they don't work, in future years we'll hear about it when anyone proposes anything similar.) One of the things that keeps going wrong with policies here is the half-hearted commitment that ideas receive. Here's an example. In the early '80's, there was a tax amnesty in Massachusetts that was wildly successful. A lot of people took advantage of it. However, part of the reason it was so successful was that Ira Jackson, the tax commissioner at the time, made a number of highly creative and well publicized improvements in the enforcement division. I recall that he had agents go out early one morning to every airport, and impound all the unregistered private airplanes in the state. He had other agents comparing town tax assessments with income tax returns, and so on. In this environment, the tax amnesty worked like a charm. Here, we are having an amnesty, but without the environment to make it work.

Similarly, the RI Partnership for Science and Technology, a project that sounds depressingly like the Centers for Excellence, existed under DiPrete for a couple of years. They made nine grants, and have faded nearly completely to oblivion. A similar program in Pennsylvania made 226 grants between 1983 and 1990. PA is a much bigger state, of course, but not that much bigger.

There are dozens of creative and exciting economic development ideas that are proven to work by virtue of the fact they exist in other states, and are working there. (Granted, not many states are creative, but some are.) The only special thing about the conditions here in Rhode Island is the lack of leadership and vision and commitment--from the Assembly, from the EDC, from the Governor--that are necessary to make them work. This means money, but not necessarily extravagance. Yes, the budget is tight, but as long as we simply complain that the pie is shrinking and there's nothing we can do about these great ideas, there will continue to be less and less money with which to do anything. This is the great death spiral we're in, and the tragedy is that no one seems to feel it important to resist.


Tom Sgouros