Finding the flaw in the Carrier deal

Published 11:10 pm Wednesday, December 7, 2016

President-elect Donald Trump recently announced a deal to preserve 800 jobs at one Carrier heating and cooling plant in Indiana.  Last February United Technologies, which owns Carrier, announced that it would move operations at two Indiana plants to Mexico.  Mr. Trump promised that this wouldn’t happen if he were elected.  Beyond allowing Mr. Trump to at least partially deliver on a campaign promise, what does the deal mean for our economy?

As a consequence of the deal, United Technologies will give up a reported $65 million in annual savings.  Someone will be negatively impacted by these savings which never materialize.  Perhaps the workers’ wages and benefits will be cut, or Carrier’s customers will pay more, or the stockholders will have lower earnings, or the government will pay a subsidy.  The lost savings could be as much as $80,000 per job annually, a high price to protect $50,000 a year jobs.

How Mr. Trump secured the deal is also relevant, because the cost of the deal must be added to the unrealized cost savings.  Carrier will reportedly receive $7 million in incentives from Indiana, where Vice President-Elect Mike Pence is still the governor.  Whether tax breaks and subsidies for business create prosperity is a question for another day.  But the deal may encourage other manufacturers to threaten to move jobs overseas to secure tax incentives, as Vermont Senator Bernie Sanders noted.

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The other reported component of the deal was threatening United’s $6 billion in annual Federal contracts, on which the company presumably earns handsome profits.  Would tying Federal contracts to plant relocations make sense?

As taxpayers, our primary stake in contracting is selecting the company offering the best combination of cost and quality.  For instance, we want the best equipment for our military at the best price possible from defense contractors.  We can and do, however, place other conditions on contracting to advance societal goals.  For example, President Obama established a $10.10 per hour minimum wage for Federal contractors in 2014.

The added cost of using Federal contracts as leverage may be small relative to other means of preventing job relocations.  To be clear, I do not favor aggressive efforts to keep production here, because of the higher costs.  If we take away contracts when a company moves jobs overseas, one potential cost is not getting the best contractor for the job.  But when we have two or more equally qualified contractors, the cost awarding contracts based on not moving jobs may be small.

Furthermore, Federal contracts may be awarded as favors or in exchange for campaign contributions.  If so, the best contractor is already often not getting the job, so the added cost of using contracts as a lever may be negligible.

Other options available to Mr. Trump would likely produce greater added costs.  Tax breaks and subsidies by the federal government will lead to some combination of higher tax rates, increased borrowing, or reduced quality of public services.  During the campaign Mr. Trump threatened Carrier with a tax.  Giving presidents the power to impose a tax on businesses they don’t like is a bad idea; if you think that President Trump should be able to do so, would you have wanted President Obama to do so as well?  Ripping up NAFTA or otherwise disrupting international trade to impose targeted tariffs could set off a trade war.

Importantly, using contracts as a lever would not prevent companies from moving some operations out of the country to capture huge cost savings.  Companies would only have to give up Federal contracts as a consequence, and so contracts as a lever limit the potential cost of Mr. Trump’s efforts.

The Carrier deal used the carrot of tax breaks and the stick of government contracts.  Trying to keep manufacturing jobs here will cost our economy, and consequently is a dubious proposition.  But threatening to take away Federal contracts, I think, will prove less costly than bribing companies with tax breaks and subsidies.

Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision.  The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.

About Dan Sutter

I am the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University.

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