Jacob Feldman is a research analyst at the Mercatus Center at George Mason University.
It's well known that economic uncertainty slows growth, decreases investment, and destroys jobs. But a new study identifies an additional cost of uncertainty: businesses are diverting money away from expanding and hiring to lobbying Washington for preferential tax treatment. And with good reason. As tax increases loom over the fiscal cliff and beyond, many businesses may get more bang-for-the-buck hiring well-connected lobbyists than innovative engineers.
In a recent study for the Mercatus Center, a colleague and I found that the complex and increasingly temporary nature of the federal tax code invites special interest groups to lobby for favor. To remain financially competitive, businesses must work constantly to secure the same (or better) tax benefits as their competitors. As the tax code is constantly changing, this cycle of chasing better tax treatment never ends as the have-nots pursue the benefits of indulged special interests. Otherwise, losing the Washington tax-benefit game may mean losing your business: the industry battle to attract investors increasingly depends on ensuring these special tax rates.
The focus on satisfying consumers with new products and services, the crux of entrepreneurship, has consequently taken second place to preserving political privileges in the tax code. In the race to keep up with industry Joneses, American businesses are spending an ever-increasing amount of resources on lobbying and acquiring political information. Consequently, this type of unproductive entrepreneurship is drowning out productive business activities, such as research and hiring. This political activism is reshaping the character of what it means to be an entrepreneur.
A recent Forbes article portrayed the entrepreneur as a relentless pacesetter meeting society's wants and desires—a money multiplier who converts a little initial capital into wealth and jobs for many. Few of today's “entrepreneurs” should be so romanticized. Unlike America's predominantly grandiose history of industry titans rising and falling by gratifying consumers, business leaders increasingly pursue profitability through the privilege of government policy. As politicking takes on a growing role among elites, the quintessential focus increasingly becomes the pursuit of profits through however Washington shapes the tax code.
With an increasing number of temporary tax provisions, businesses must assess which opportunities will yield the highest future returns. Collecting political information is often critical to break free from investment paralysis. For example, an energy firm may delay investing in ethanol or biodiesel based upon uncertain taxation; will one tax credit expand while the other is ended? Instead, money will be spent on understanding how Washington will affect relevant investment choices rather than simply investing with confidence—a previously unnecessary cost of doing business. Where there is high policy uncertainty, businesses are compelled to reallocate resources toward determining how profitable it is to invest.
To truly improve competitiveness and growth, businesses need to return to true entrepreneurship: ever-improving products and services to increase customer satisfaction. This will require an end to all of the special deductions, credits, and exemptions that compel businesses to lobby Washington.
At a minimum, fundamental tax reform should include the closing of tax loopholes and lowering of standard rates so that all businesses—not just the well-connected—can compete on an even playing field. Better yet, legislators should examine alternative forms of revenue collection that cannot be so easily distorted by lobbyists; possibly a progressive sales tax. The road back to productive entrepreneurship is paved with stable rules and few exceptions.