US state governments frequently provide firms with targeted subsidies to retain or create jobs within state borders. These subsidies take the form of either direct cash grants or, more commonly, firm-specific tax abatements or tax credits. In our recent study, we examine three questions related to these subsidies: (i) whether firm recipients of state economic incentive programs retain or create ex-post jobs in line with ex-ante promised job-creation or retention targets; (ii) what firm- and state-level factors determine which subsidies result in job creation targets being met; and (iii) what are the consequences, if any, for firms that fail to meet ex-ante job-creation targets.
It has historically been difficult to ex-post assess whether a specific subsidy has succeeded or failed. Proponents of subsidies frequently argue that it is not sufficient to analyze a subsidy based on the absolute number of jobs created by that particular subsidy’s recipient. The reason is that such analyses may not (i) properly compare the increase in payroll taxes resulting from a subsidy against the cost of the subsidy or (ii) fully account for spillover or “fiscal multiplier” effects (e.g., a subsidy to one company may spur additional demand for the goods and services of other companies in the local area, leading to an additional increase in local economic activity and tax revenues). A key innovation of our work that allows us to side-step this concern is our focus on firms’ performance with respect to subsidy-specific job creation targets because subsidy-related increases in the tax base and potential spillovers should be accounted for in negotiating such targets.
Our study answers the following three questions:
(i) Do firm recipients of state economic incentive programs retain or create ex-post jobs in line with ex-ante promised job-creation or retention targets?
We find that 63% of subsidies meet the job targets associated with the subsidies they receive. Given the role of disclosure in facilitating more efficient subsidies, the 63% in our sample is likely to be an upper bound with respect to the broader set of subsidy recipients for which we cannot observe information. Thus, more than one-third of companies do not meet their job creation promises to the government.
(ii) What firm- and state-level factors determine which subsidies result in job creation targets being met?
We begin with firms’ financial performance. For the subsidies to succeed in meeting job targets, complementary private investment by firms is required; we argue that such investment is more likely to occur in financially stronger firms. Consistent with this argument, we find that job target creation is higher in more profitable and higher-growth firms but lower in more highly-leveraged firms.
We turn next to firms’ labor-related track records, because subsidies frequently arise from politicians’ calls to create “high-quality” jobs (defined informally as jobs that pay a fair wage and provide good working conditions). Criticism of subsidy recipients that do not create such jobs has increased recently, leading to explicit job quality provisions in many subsidies. For example, Florida’s Quick Action Closing Fund requires subsidy recipients to pay employees an average annual wage of at least 125% of the state average private sector wage. We argue that a firm with a history of mistreating employees has revealed itself as an employer that provides lower-quality jobs. An employer that relies upon low-quality jobs must make a greater investment than an employer whose default practice is to provide high-quality jobs to satisfy job quality criteria. In turn, the low-quality employer may be less likely to fulfill its job obligations. Consistent with this argument, we find that firms with more violations of federal labor laws in the years preceding a subsidy at facilities located within the subsidizing state are less likely to meet subsidy-related job targets. Our findings suggest that even politicians primarily concerned with the financial returns to subsidies might want to consider concerns about potential recipients’ labor practices.
We next consider politically motivated subsidies. Prior work suggests that politicians may award subsidies for personal political reasons and that politically motivated subsidies arise more frequently in election years. Such subsidies, which are less likely to arise for bona fide economic reasons, may be less effective in creating jobs. We show that subsidies awarded to politically connected firms (those making contributions to campaigns for state office) during re-election years are 13.7-15.8 percentage points less likely to result in job-creation targets being met. Our results highlight a potential cost borne by taxpayers when subsidies are awarded for political rather than purely economic reasons.
(iii) What are the reputational consequences for firms that do not meet job-creation targets?
We consider reputation in two contexts: (i) the government and (ii) the private sector. With respect to (i), the effect of a firm’s reputation in the subsidy setting is most salient in the context of future subsidy awards, in that a state government may not award further subsidies to a firm that previously failed to meet commitments. Consistent with this notion, we find that firms that successfully meet job targets in one state are more likely to receive subsequent subsidies in both that state and others. This effect is stronger in-state and in later years when the subsidy outcome is more likely to be known. Our results suggest that awarding governments account for firms’ prior performance in choosing whom to award subsidies to, and that this reputational effect is strongest locally.
We turn next to potential private-sector reputational benefits. Given the recent interest in viewing subsidies through the lens of corporate social responsibility, we focus on a potential link between subsidies and commercial ESG scores. Recent literature highlights the primacy of such scores in developing firms’ nonfinancial reputations. A firm that successfully meets a job target can be thought of as having responsibly handled taxpayer funds; if there are reputational benefits to demonstrating such responsibility to the community, these should be reflected in higher ESG scores. However, we find no relation between commercial ESG scores and successful job target completion. These results raise two possibilities: (i) meeting job targets may not result in reputational gains with socially minded investors, or (ii) ESG scores may not accurately capture evidence of firms acting responsibly in their communities.
Qingkai Dong is a Ph.D. Candidate in Accounting at Columbia Business School.
Aneesh Raghunandan is an Assistant Professor of Accounting at the London School of Economics.
Shivaram Rajgopal is the Kester and Byrnes Professor of Accounting and Auditing at Columbia Business School.
This post is adapted from their paper, “When Do Firms Deliver on the Jobs They Promise in Return for State Aid?” available on SSRN.