Cents and sensibility: three takeaways on investment incentives from Amazon HQ2

In a surprising turn of events, a few weeks ago, Amazon canceled its plans to build a corporate campus in New York City after facing backlash from lawmakers, activists and union leaders voicing concern on the incentives offered as well as the impact the investment would have on the cost of living and the city’s identity.

It was only a few months earlier that Amazon announced that it would build two new headquarter offices in New York City and Arlington, Virginia as well as an operations center in Nashville, Tennessee. The decision followed a year-long, highly publicized site selection search that pitted 238 cities across North America against each other to house the company’s second headquarters, dubbed “HQ2.” Responding to an open Request for Proposal,  cities hastily rolled out the red carpet and many dipped into their pockets—offering tax breaks and subsidies—to vie for Amazon’s attention.

The value of the incentives offered across the selected locations was estimated at over $2 billion. Direct incentives covered up to $1.525 billion for creating 25,000 jobs in New York City, $573 million for 25,000 jobs in Arlington and $102 million for 5,000 jobs in Nashville. Average wages were forecasted to be over $150,000 in each location.

Amazon is certainly not the first company to broker a large incentives package. While standardized statistics on this subject are hard to come by, Incentives Monitor recently recorded $10.8 billion offered to 2,925 projects in the United States in 2017.  A deal with Foxconn alone accounted for $3 billion in incentives to establish a new manufacturing facility in Wisconsin. At the global level, the role of incentives is only gaining more attention in the face of unrelenting competition for investment. Based on World Bank Group research, out of 107 developing countries, 46% introduced new tax incentives or increased their generosity between 2009 and 2015.

Countries around the world are watching the Amazon HQ2 story unfold, drawing learnings on what it means for the cities involved in this process and the broader discourse on investment incentives. In the meantime, here are three early takeaways:

1. Incentives are only one variable considered by investors. When Amazon announced the selected cities in November, the company explicitly noted that while incentives were one factor under consideration, attracting “strong local and regional talent” was the leading driver. Some states that were not selected were offering far more generous incentive packages. Maryland, for example put together an $8.5 billion tax incentives and infrastructure bid, and New Jersey received legislative approval to offer up to $7 billion worth of incentives.  Amazon picked well-established, dominant clusters. The selection choice drives home the message that incentives come into play as a second-order consideration for investors, after deeper competitive features are considered.
    
2. Incentives are risky. The costs and benefits should be carefully deliberated.  The opposition Amazon faced in New York magnified thorny questions around whether taxpayers should be subsidizing prosperous companies, and the implications of these offers on market and socioeconomic dynamics.  Incentives can be popular among policymakers, but empirical evidence suggests their effectiveness is limited—both in developed countries, and even more so in the developing world, where the fiscal stakes are more pronounced. This is not to say that incentives don’t have a place in attracting and anchoring investment to benefit local economies, especially if they are carefully targeted, linked to performance, administered transparently, and systematically evaluated. Policymakers need to weigh the importance of the potential investment—and the likelihood that it could happen without an incentive—with other costs and risks. Would the investment have taken place anyway? What are the direct and indirect benefits, including the impact on net tax revenue collection, jobs, and spillovers? Could government spending on other programs create a higher payoff for citizens? What about broader reforms to the tax system? How do incentives affect market dynamics and competition? 
    
3. More cooperation is needed to temper a race-to-the-bottom. The HQ2 bidding process presented a type of prisoner’s dilemma whereby states were offering more generous incentives than they otherwise would to undercut the competition. The case-by-case nature of such deals widens the space for escalating costs. Both in the United States and abroad, more discussion is needed on whether checks and balances are warranted to help level out the potential losses associated with such incentives’ competition.  The European Union, for example, has an elaborate state aid framework that requires approval for qualifying subsidies across member countries and their subnational regions to maintain an appropriate level of government spending and a fair playing field for investors.

At its core though, policymakers should consider flipping the conversation on incentives competition around. Rather than just mitigating a harmful race-to-the-bottom, they ought to be asking, “How can we instead motivate a race-to-the-top, with cities competing on skills, infrastructure, and the business ‘fundamentals’ that promote sustainable economic growth?” This could mean leveraging incentives to grow investments in public goods. Or approaching investors with a compelling value proposition that goes beyond incentives.