You Don't Always Get What You Want: The Effect of Financial Incentives on State Fiscal Health

• Published date: 01 May 2021
• Author: Bruce D. McDonald,J. W. Decker,Brad A. M. Johnson
• Date: 01 May 2021
• DOI: http://doi.org/10.1111/puar.13163

Research Article

The Effect of Financial Incentives on State Fiscal Health 365

Abstract: Governments frequently use financial incentives to encourage the creation, expansion, or relocation

of businesses within their borders. Research on financial incentives gives little clarity as to what impact these

incentives may have on governments. While incentives may draw in more economic growth, they also pull resources

from government coffers, and they may commit governments to future funding for public services that benefit the

incentivized businesses. The authors use a panel of 32 states and data from 1990 to 2015 to understand how

incentives affect states’ fiscal health. They find that after controlling for the governmental, political, economic, and

demographic characteristics of states, incentives draw resources away from states. Ultimately, the results show that

financial incentives negatively affect the overall fiscal health of states.

Evidence of Practice

• Governments frequently use financial incentives to encourage new business or the expansion of business

within the district.

• The use of incentives has become increasingly common over the past few decades, leading governments to

compete with each other to provide larger and larger incentives to entice businesses.

• Despite the widespread use of incentives, there is little evidence to suggest that they provide the intended

economic returns to governments.

• Financing incentives leads governments to fiscally unhealthy positions by reducing the revenue available to

them while increasing their expenditures.

A

key feature of most economic development

strategies is that they recruit businesses

that will create substantial benefits for

local communities (Jensen and Malesky 2018).

To attract new businesses, governments frequently

offer financial and tax incentives to persuade

businesses to relocate or expand or to encourage

entrepreneurs to establish new businesses within a

given region (Fox and Murray 2004; Leiser 2017).

Although the incentives that governments offer

may be costly, the potential benefit to the local

economy leads to increased competition among

governments, which may result in bidding wars

(Buss 2001). This behavior was visible in the

recent efforts of governments to entice Amazon to

locate its “HQ2” within their communities. More

than 200 municipalities submitted bids to host

the new headquarters (Griswold 2017), with each

providing a different set of incentives to encourage

its selection (Jansen, Malesky, and Walsh 2015).

In some cases, such as Maryland and New Jersey,

states worked with their municipalities to incentivize

their selection by Amazon further (McCartney and

Wiggins 2018).

Governors tend to take on roles that place

themselves as chiefly responsible for economic

development within their states (Grady 1989;

Taylor 2012). With the support of other politicians

and economic developers, governors can tout

the incentives as good economic policy (Buss

1999; Jensen and Malesky 2018; Noto 1991).

With new business comes an expectation of new

employment opportunities and improved quality of

life for residents within the community; however,

the incentives that bring the new business also

place limitations on the offering governments.

Tax incentives, for example, limit the revenue

that is available to governments while also

requiring additional expenditures to meet the

increased demand for public services that comes

with economic expansion (Buss 2001). When

governments offer incentives, they become bound

by the liabilities they have created. This opens the

possibility of a dueling effect. That is, financial

incentives may produce an economic boom for an

area by inducing businesses to locate or expand, but

they may also hinder the ability of governments to

address financial hardships.

Bruce D. McDonald III

J. W. Decker

Brad A. M. Johnson

North Carolina State University

You Don’t Always Get What You Want: The Effect of

Financial Incentives on State Fiscal Health

Brad A. M. Johnson is a doctoral

student at North Carolina State University,

where he also serves as a doctoral fellow in

the university’s Municipal Research Lab. His

research focuses on the interface between

organizations and the public, organizational

change, public budgeting, and government

technology.

Email: bajohn22@ncsu.edu

J. W. Decker is a doctoral student at

North Carolina State University, where

he also serves as a doctoral fellow in the

Municipal Research Lab and as assistant

editor for the

Journal of Public Affairs

Education

. His areas of interests include

public budgeting, state governance, and

education policy.

Email: jwdecker@ncsu.edu

Bruce D. McDonald III is associate

professor of public budgeting and finance

and director of the Municipal Research Lab

at North Carolina State University. Currently,

he serves as co-editor-in-chief of the

Journal

of Public Affairs Education

, general editor

for the Routledge Public Affairs Education

book series, and cohost of the

Academics

ofPA

podcast. His research focuses on

issues of fiscal health and local governance.

Email: bmcdona@ncsu.edu

Public Administration Review,

Vol. 81, Iss. 3, pp. 365–374. © 2020 by

The American Society for Public Administration.

DOI: 10.1111/puar.13163.