Metro Connection

With Washington paralyzed by gridlock, states—and the metropolitan areas that power them—need to take the lead in rebuilding the economy.

Yet states have invested little in expanding exports. Instead, they have spent tens, even hundreds, of millions of dollars a year in tax abatements and subsidies to lure businesses into their states. In fiscal year 2009-2010, Tennessee spent more than $55 million on recruitment; in 2009, Michigan gave the movie industry $117 million in motion picture tax credits. But according to research by economist Jed Kolko, more than 95 percent of new jobs in states come from expansion of existing businesses or the growth of new ones. Thus the best way to create new jobs is to grow them at home rather than poaching them from elsewhere.

States should take some of their business incentive funds and shift them to supporting exporting companies through simple steps like funding trade missions and competitive grants for groups (trade associations, university centers, local governments) that want to provide training, marketing, and other services to bolster firms’ export capacity. At the very least, states can leverage the resources of other organizations, from nonprofits to the federal government, involved in export promotion. Our colleague Emilia Istrate has found that for a state investment of $5 million in 2009, Pennsylvania’s Center for Trade Development has been able to help generate (and verify) more than $450 million in export sales, supporting 6,500 Pennsylvania jobs, and producing approximately $25 million in local and state tax receipts.

Supporting manufacturing is another way to bolster exports, job growth, and metro-led innovation. True, manufacturing as a share of U.S. employment and the U.S. economy has dropped dramatically from where it once was, but even so, most of our exports are manufactured goods, and metropolitan areas with a big share of manufacturing jobs tend to have higher patent rates than other metros. Manufacturing industries also have higher rates of product and process innovations than non-patenting companies and conduct some 70 percent of all of the nation’s industrial R&D.

Susan Helper, an economics professor at Case Western Reserve, and Howard Wial, an economist at Brookings, have proposed that states create manufacturing centers in key metros that will conduct research into new manufacturing technologies and educate businesses about technology-driven management and organizational changes. Small and mid-sized businesses that make up so much of the manufacturing supply chain are in desperate need of this kind of help because they don’t generally conduct their own R&D. If U.S. manufacturing is to be more innovative and more competitive, it has to start with these businesses. These centers can get started with a state investment of $9 million a year, or less than 10 percent of what Michigan spent last year to cajole the film industry into the state.

Governors and state leaders can boost exports and near-term job creation by overhauling their state infrastructure banks or establishing new ones. State infrastructure banks are revolving funds for transportation projects, capitalized with state and federal funds. They offer loans and other forms of credit assistance to public and private entities developing highway and transit capital projects. Infrastructure banks could be critical for putting together the complicated financing for modern ports and gateways, but many of the 33 states that have these institutions use them as piggy banks for regular transportation projects. Instead, states should use their banks for the kinds of projects that will speed the flow of their goods abroad, connect workers to jobs, and create the infrastructure for new, green vehicles. These projects should be chosen on the basis of return on investment, not political log-rolling.

California offers a good model for an infrastructure bank. With an initial state investment of $181 million in 1999, California’s Infrastructure and Economic Development Bank has relied on interest earnings, loan repayments, and other fees—not the state treasury—and has supported more than $400 million in loans.

New Money for New Ideas

It sounds like heresy in the current environment, but state leaders should also consider going to voters in 2012 (when the economy has lifted a bit and the costs of budget cuts have been made clear) to ask for bond issues or dedicated tax sources to support big, bold initiatives. Voters understand the need for smart, targeted investments to promote their future prosperity.

In Ohio, for example, voters last spring approved, 62 percent to 38 percent, a $700 million bond issue to preserve the Third Frontier, the state’s premier technology-based economic development initiative. The Third Frontier program makes small investments in start-up companies at critical points in their development. Third Frontier and similar initiatives in other states were designed to address a basic failing of venture-capital (VC) markets, which is that VCs rely on shortcuts and familiarity and other efficiencies to maximize returns while minimizing their expenditures of time and effort. Compounding this problem of limited horizons, VCs are less and less venturesome these days, which leads them to invest in companies that have solved many of the problems that bedevil very early stage endeavors and have established a bit of a track record. Third Frontier and sister programs correct for these flaws in the venture-capital market by providing capital to local start-ups in their formative stages. An independent analysis found that the state’s $681 million expenditure so far has yielded $6.6 billion in economic activity, including 41,300 jobs, since 2002.

At a time when 42 percent of Ohio voters expressed sympathy for the Tea Party’s goals, the state’s Democratic-led House and Republican-controlled Senate voted in favor of putting the measure on the ballot. The Ohio Business Roundtable was a critical force in backing the initiative. There are opportunities at the state level to subvert the partisanship that has practically immobilized Washington.

Every state should offer its voters an opportunity to support market-shaping investments tailored to its metro strengths: perhaps clean energy in Colorado, transformative infrastructure in California, advanced manufacturing in Michigan. There are projects and ideas everywhere that private capital can’t identify because of inadequate information. This is where states can step in.

The Next Federalism

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