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March 22, 2013

Managing Economic Development in Uncertain Fiscal Times

Rick Mattoon

Illinois continues to face a bleak fiscal outlook. Despite the sharp increases in Illinois’s personal and corporate income tax rates, the state still faces $10 billion in unpaid bills and an unfunded pension liability approaching $100 billion. To get back to a sustainable fiscal path, Illinois will require significant revenue increases or spending cuts or, most likely, some combination of both.

A critical point in the discussion on restoring fiscal balance is the impact that policy changes will have on Illinois’s economic development. Despite the recent tax rate increases, Illinois still ranks 27th in the nation when measuring state tax burden as a share of personal income, according to COGFA. However, given that these rate hikes were not sufficient to solve the problem, further revenue enhancements will most likely be needed—at least on a temporary basis. Accordingly, the real question is what will be the cost of future fiscal measures on economic development. In other words, can a state reach a tipping point where uncertainty over future tax rates and spending choices chills economic growth, and if so, is Illinois on the verge of tipping over?

On April 4, 2013, the Civic Federation and the Federal Reserve Bank of Chicago will hold a program examining these issues. Bill Testa, of the Chicago Fed, and Therese McGuire, of Northwestern University’s Kellogg School of Management, will discuss what economists have to say about the relationship between fiscal policy and economic growth. Testa will provide insights on Illinois’s tax structure and the gap between revenues and projected expenditures; and he will also assess the economic competition occurring among Midwestern states, putting it into context of tax rates and incentives . McGuire will summarize the literature on the effect of state tax rates on economic growth and describe what economic development strategies might best serve states. McGuire will also discuss what the cost of fiscal uncertainty is on economic growth. With regard to the tax structure, most academic literature on state tax rates suggests that rates tend to matter only when the other costs of doing business are equal at a competing location (e.g., a neighboring state). However, it is not clear yet if this will hold true for Illinois. On the spending side, much of the literature suggests that it is the composition of state spending that most matters for growth. States that spend more on infrastructure and education tend to do better in terms of economic development. In the case of Illinois, a potential solution might have taxpayers paying more taxes and receiving fewer state services. Accordingly, in regions where economic competition is fierce, such as the Midwest, tax rate imbalances may be reaching that tipping point where future tax increases in certain states can make development in adjacent states more attractive to businesses.

Of course, such fiscal problems are not unique to Illinois. Other states and localities have also had fiscal shocks, and much can be learned from how they have restored fiscal balance and tried to promote economic growth. The recent fiscal problems of California have been particularly challenging, forcing the state to make significant budget cuts and income tax increases. Several prominent California municipalities have been forced into bankruptcy; and only recently has the state been able to report a balanced budget. However, evidence suggests that the California economy is beginning to pick up steam. Recent job gains have been running above the national average, with unemployment in the state falling by 1.24 percentage points in 2012 while key housing markets in the state are showing strength. How has California managed its fiscal situation and what has been the impact of its fiscal measures on its economic development strategy? To discuss this, Tom Tait, the mayor of Anaheim, will describe fiscal changes and economic developments at the state and local levels in California.

At the state level, Michigan is another interesting example. Arguably the state has not yet recovered from the 2001 recession and has faced more than a decade of fiscal stress. Throughout this period, Michigan has made many tax and spending adjustments, such as changing the structure of its primary business tax three times. Recently the state has started to show growth again. Mitch Bean, who is with Great Lakes Economic Consulting (and who previously served as director of the Michigan House Fiscal Agency), will discuss Michigan’s roadmap for reaching fiscal balance while encouraging economic growth.

Fiscal measures at the level of localities can have an immense impact on economic growth. What are the terms and conditions that are being attached to current deals to draw business investment, according to local developers and researchers? Are unresolved fiscal issues becoming an obstacle? A panel—comprising Ivan Baker, director of economic development for the Village of Tinley Park in Illinois; Jon DeVries, director of the Marshall Bennett Institute of Real Estate at Roosevelt University; and Stephen Friedman, president of SB Friedman Development Advisors—will provide perspectives on the local development landscape and how fiscal issues affect business location and expansion decisions.

The program concludes with a keynote address by Steve Koch, the deputy mayor of Chicago. Koch has been in this position since September 2012, and his portfolio of responsibilities includes economic development strategy. Prior to his current position, he spent most of his career in investment banking. Koch will discuss how Chicago is stabilizing its fiscal position while pursuing a new economic development strategy. He also will discuss how state fiscal problems affect local governments.

To register for this April 4 program, please visit the Civic Federation’s website.

Posted by Testa at March 22, 2013 2:59 PM

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