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Monday, April 30, 2012

How to Scare Businesses Away 101

While reading The Wall Street Journal this weekend, I came across an article by Mr. Malanga titled “How Retirement Benefits May Sink the States.” The premise is that many firms are taking a close look at the long term implication of present fiscal policies adopted by the States when deciding where to locate their businesses. He cites the example of Illinois, where the cost of mounting pension will, over time, force taxes so high that no companies nor families will want to relocate there. 
Primarily, it is important to notice that, from an efficiency standpoint, the government has no reason to intervene with the provision of pension programs, albeit it has done it for decades. A retirement fund works very much like an insurance against the possibility of running out of money before one dies. None of the classical reasons for a market failure––externalities, public goods, or monopolies––are involved in this case, since insurances deal with unexpected events. Some economists believe such markets to be subject to asymmetric information, and hence, possibly affected by either Moral Hazard or Adverse Selection. Moral hazard is when the individual that is insured chooses to engage in more risky behaviors due to the coverage. Adverse selection is a situation where only the risk takers are seeking to be insured. The fact is that in any given society, there will always be a difference in the level of information between two parties, and this does not characterize a market failure. Although these problems appear when analyzing an economy in a static model, they become merely a part of the market process when taking the passage of time as a factor. Therefore, no market failures are involved, and government intervention will cause inefficiencies and wasteful allocation of resources in the market.
Regarding the main premise of the article, firms choose to locate their businesses where they believe will be the most profitable location for them. When weighting the pros and cons of each location, it is obvious that tax matters will change incentives and have an impact on the final decision. Through interventionism, the government is distorting the real costs and benefits of relocating to certain places, making it harder for entrepreneurs to foresee which locations would in fact be more lucrative. Such uncertainty could ultimately lead to the failure of some businesses that would have otherwise thrived had the market signals been unaltered. This also means that customers in many different places could be missing out on opportunities of having firms that would truly satisfy their needs due to the distortion caused by the government.

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