In recent months, many states have adjusted their tax codes in response to the Tax Cuts and Jobs Act (TCJA), the sweeping package of federal tax-rate reductions and other changes enacted last December. The biggest issue states have had to reconcile has been whether and to what degree to conform to the federal tax changes – that is, whether to incorporate the TCJA’s provisions in part or fully into their own state codes.
More is at stake than state tax revenues. One provision in particular -- whether or not states incorporate it into their own tax frameworks -- could have far-reaching implications for communities and their strategies for attracting, creating and retaining jobs: The TCJA allows for “full expensing,” permitting businesses to immediately deduct the full cost of their capital investments versus spreading those deductions over a number of years.
The justification for this provision hinges on the age-old supply-side versus demand-side argument in tax-policy circles. Supply-siders argue that lowering corporate income taxes, whether through reduced rates or provisions such as full expensing, will boost overall economic growth because it will incentivize increased business investment. Demand-siders argue that the bulk of tax cuts should go to workers, whose own increased spending will spark growth.
But a new reality is emerging that will hopefully elevate the debate beyond this stale and simplistic ideological argument. Our economy has been moving for quite some time toward a new normal whereby capital investment, job growth and wage growth are increasingly disconnected from one another.
This is reflected in a number of underlying trends. One of those is the evolving structure of our economy, which now features more knowledge-based firms that exhibit huge productivity numbers while relying on relatively few workers. Another trend is industries adopting automation and machine-learning technologies that replace human inputs. This is where full expensing becomes important. As the Wall Street Journal reported earlier this year, nearly half of manufacturers added automation in 2017 – before the new tax law’s full-expensing provision took effect.
And there are other industry level automation trends underway that we should be paying attention to. MIT economist David Autor’s research shows, for example, that workers are contributing less added value to the final products they produce, a decline due to increased automation.
What does all of this mean for local governments? That will depend on the structure of the local economy. As Autor notes, the adoption rate of labor-saving technologies differs by industry, and by extension it differs across geography. So, it’s time for state and local government leaders to start analyzing automation trends in each of their major industries and sub-sectors, paying particular attention to those with the highest level of automation or robot penetration, including transportation, plastics and chemicals, metals, food, and electronics.
If firms in an area are investing in new technologies that augment labor, the community should be the beneficiary of increased job growth. After all, regardless of the ratio of jobs to capital investment, jobs are jobs.
On the other hand, if firms in a community are investing in technologies that replace labor, that could mean leaders should start looking at the structure of their workforce-investment programs. Particularly, they should be paying attention to retraining programs that serve those who are displaced. The late 1990s and early 2000s should have taught us a sobering lesson about displacement. Many communities, particularly in the American heartland and South, are still reeling from those globalization-induced job losses.
The federal full-expensing provision is scheduled to begin phasing out in 2022 and end in 2026, a relatively short window of time. It’s a safe bet that firms will be motivated toward accelerating their investment in these technologies to reap the full advantage of the tax break. So now is the time for state and local leaders to be having real conversations with industry heads and asking probing questions about their short- and long-term investment plans. With communities’ long-term economic viability at stake, waiting placidly to see how things shake out is no option at all.
This article was originally published in the Sept. 19th issue of Governing Magazine.
