What Local Government Should Do in the Wake of Amazon's HQ2
As a Minnesota Twins fan, there have been many times I’ve lamented the lack of a salary cap in Major League Baseball. Unlike the NBA or NFL, which have salary caps, MLB has responded to its powerful player’s unions by having no salary cap but only a modest penalty to discourage the most prolifically-spending teams from buying all the best players. In year’s past, as the best players on the Twins have become free agents and left, this has been a sore subject. I have a burning hatred for the New York Yankees for this very reason; no apologies offered.
Yet, in recent seasons, players have been arguing that MLB teams are colluding to keep the value of free agent contracts down. Many players last season who expected large contracts based on historical precedent signed for far less than anticipated. This year, as we head into Spring Training, the two premiere free agents—Bryce Harper and Manny Machado—remain unsigned, reportedly frustrated by the lack of precedent-setting offers.
Instead of collusion, there is another theory to explain the slow free-agent market that I think has more validity: teams have figured out that most free-agent signings are bad deals, especially the long-term contracts. Even though they are elite athletes, most players experience their peak performance at age 27. This is around the time most are becoming free agents for the first time, so signing them to large contracts based on past performance almost always disappoints.
Teams have shifted their budgets to player development, focusing more of their resources on improving their own farm systems and developing their own talent. By MLB rules, home-grown talent is both cheaper and more controllable than free agents. Developing your own is a better deal, so even in the absence of a salary cap, savvy teams are spending less and performing better.
How Baseball Resembles Economic Development
Last week Amazon announced that they were pulling out of the deal they had made with a handful of power-brokers in New York to build a new headquarters there. The traditional practice of negotiating these bad deals in private and then forcing them through the various approval processes based on sheer momentum is undermined by today’s populist mood. For those aspiring to political power, there is less to be gained by going along and being a good soldier. We live in interesting times.
I also don’t think it is lost on Amazon executives—or those of other major tech companies—that prior populist movements in the United States coincided with massive levels of wealth inequality and eventually led to the breakup of anti-competitive monopolies. Our grandchildren may study Amazon’s HQ2 shakedown as a turning point in the Gilded Tech Age.
I admit that I was confused about New York offering so much subsidy to Amazon. By my sense of how economic development works, if there was any city in North America that did not have to bribe a business to love them, it would be New York City, a highly-skilled workforce replete with tech workers with all the cosmopolitan amenities to attract the best workers in the world. New York has done all the up-front work; why not just sit back and let the deals come to them? It’s what they did with Google, which just announced a $1 billion expansion and 7,000 new jobs (without any subsidy).
Local subsidies have always created conflict for me. On the one hand, cities need to have a very large toolbox to be successful at their work. States that try to micromanage cities—their tax rates, their spending policies, their staffing approach—weaken themselves in the process. Local governments are where nearly all public sector innovation is happening. I’m loath to advocate that states act like the municipal version of the needy helicopter parent.
1/2: Despite the impassioned arguments, Amazon’s potential positive or negative impact in nyc was oversold on both sides. Per Slate, the 25,000 jobs promised is the equivalent of adding 59 more seats at MSG, or 36 more taxis to the fleet of 13,000.
— Mike Lydon (@MikeLydon) February 16, 2019
On the other hand, if New York City feels that it needs to do subsidies, who doesn’t? The aspiration of every economic development deal should be to bring the city closer to a level of prosperity where deals are no longer needed. If we have a country where every city—regardless of its current level of success—can be induced into giving subsidies, then this subsidy game is truly a devil’s bargain.
My hope is that cities would ultimately evolve to be like MLB teams: they would start to see that their resources would be better committed to growing their own talent within, to incrementally improving their own economic ecosystem instead of paying for free agents to pretend you’re their favorite team. It’s not happening, and I’m doubtful that it will, for reasons that MLB teams sometimes struggle with.
And while I signed on to Richard Florida’s call for unilateral disarmament among major cities, I (and Florida) both know that pursuing these mega-deals is more about raising awareness than actual policy. Desperate places with desperate leadership have every incentive to act desperately.
When a team has struggled for a while and the general manager (GM)—the person in charge of managing the team’s roster, including free agents—finds their job threatened by the team’s lack of success, there is always the possibility that the GM will go for broke. In desperation, they will make expensive signings and trade away young talent, sacrificing the future in order to win now. If they win, they can keep their job. If they don’t, well… they were going to lose the job anyway.
No owner wants to see that happen. To insure against it, baseball teams will often sign their GM to longer term contracts, an enticement to always keep the long view. Ownership will also require multiple people—sometimes independent people outside of the GM’s influence—to sign off on certain kinds of deals. Our cities need something similar.
Establishing Ground Rules for Business Incentives
For state governments looking to strengthen their cities, I’m on record already as saying I would dramatically expand the municipal toolbox, but I’d limit the city’s annual debt service to 10% of locally-generated revenue. It’s a mechanism to prevent short-term thinking from blowing them up. I’d add to that some provisions on tax subsidies that allowed cities to be competitive, but limited how deep they could go. Something like:
Set the maximum length of any deal to something less than seven years to keep current leadership from imperiling future leadership,
Set the maximum annual dollar amount of any deal to something less than 2% of the city’s locally-generated revenue to keep any mistakes from damaging the system, and
Set the maximum amount of a rebate to 50% of the amount of revenue generated from the deal, so that the new business has skin in the game.
If every city had to live by these rules—which would function, essentially, like a salary cap—it would limit the capacity of businesses to play local governments off against each other, at least within a state. I’m aware it would also limit how much smaller cities could give away to compete with larger cities—something many would call unfair. But I’ve worked and lived in small cities all my life; what they need most of all is enterprises scaled to them, not something vastly disproportionate that is only preying on their weakness.
Ultimately, what we all want is for the right business to be matched with the right city for the right reasons. Tightening the parameters whereby cities can give out subsidies is a way to nudge us closer to that reality.
And for populist advocates on the left and right who dislike these kind of deals, here’s how to be more effective. First, I recommend you educate yourselves on how these tax subsidies actually work. I’ve heard many advocates out there undermine their own credibility by suggesting things like, “We can use this money saved on schools and solar panels.” In fact, you didn’t save anything, you just didn’t collect any of the money you would have given away in subsidy. These kinds of corporate incentives come out of future taxes the company would otherwise owe, not from money that’s available up front.)
Then, I think you should advocate for two things in your community:
First, your city should have a set of values for when giving out tax subsidy is a good fit and what kinds of things would disqualify an applicant. Having such a document in advance, something that can be discussed community-wide, will counter the blindness that passion can create during decision-making.
Second, I’d recommend a broadly representative advisory group to study tax subsidy deals and make an independent recommendation before the deal gets to the city council. Some prominent business people that aren’t in the get-rich-quick game—more like an established banker than a real estate agent—along with someone from the school system, neighborhood groups, maybe a member of the clergy…. Just not the regulars. This group should be trained on how tax subsidy deals work. When a package is put together, they should be empowered to review it and report, not to the city council, but to the community at large, prior to any vote. The staff supporting them should not be the same staff that put together the deal.
Subsidies aren’t going away, but the failure of this Amazon deal—on multiple levels—should prompt us all to re-examine ways to improve our own local approach.
In exchange for a $3 billion dollar subsidy, the company Foxconn promised to build a $10 billion factory that would create 13,000 jobs in Wisconsin. That promise still hasn’t come to pass, and there’s no evidence that it ever will.