Top 10 Reasons Business Climate Rankings Don’t Matter

Last updated: April 10, 2024

Instead of paying attention to the clickbait of business climate rankings, we should devote our time and energy to designing and implementing policies that help Rhode Island businesses – especially micro businesses – thrive, while also promoting greater racial, gender, and economic equity and narrowing income and wealth gaps. The repeated focus on the Tax Foundation’s Business Tax Climate Index and other rankings unfortunately generates a negative and possibly self-fulfilling image of Rhode Island as a poor place to do business - while most of us know Rhode Island is a wonderful place to live and to run a business.

1. The main purpose of business climate rankings are as clickbait tools to push for low tax policies to benefit the wealthy. Business climate rankings are catchy, easy, and make for a quick story. Given all the ways the rankings fail to measure or even try to measure actual business performance, it is clear that their main use is as tools to advocate for lower taxes, especially for the wealthy, regardless of the actual business effects. Lowering taxes might improve the state’s rankings, but there is no evidence this will also improve the state’s economy or help most business owners.

2. The Tax Foundation’s Business Tax Climate Index and other rankings offer virtually no evidence that the rankings predict actual business activity, such as business starts or employment growth. The footnoted sources claim that the measures used in the rankings correspond to business activity in the real world, but the evidence is thin and weak. If business climate rankings actually worked in a meaningful way, they would predict business activity, and the designers and promoters of these rankings would surely share evidence of more business creations, expansions, and relocations in high-ranking states. They have not.

3. Many tax policies highlighted in the rankings have little or no impact on small business owners. The Tax Foundation weights most heavily personal income tax, yet the overwhelming majority of Rhode Island’s more than 100,000 small business owners do not bring in enough taxable income, after deductions and expenses, to be among the approximately 2,100 filers in the state who would pay even one dollar more under a millionaires surtax.

4. There is no good evidence that business climate rankings are tied to out-of-state migration. Despite claims that the highest-income and wealthiest business owners can and will pick up and leave a state over changes in marginal tax rates, such as a millionaires tax, decades of evidence indicates otherwise. Such highly successful business owners tend to be more embedded in their communities and social and financial networks than the rest of us – and are less likely to pick up and leave.

5. Some measures are arbitrary or even involve a bait-and-switch. The Tax Foundation’s Business Tax Climate Index considers only taxes, and even so measures only tax rates, and not actual taxes paid. A state with lower tax rates on paper may receive a better ranking than a state with lower actual tax burdens for business owners. The Tax Foundation’s rankings heavily weight personal income taxes even though property taxes are a much greater concern for business owners. The rankings, including the selection and weighting of measures, do not mirror how real business owners judge the factors they must consider in making important business decisions.

6. Comparing Rhode Island to the entire states of Texas or California is not useful. One number and one ranking cannot capture the variety in a small state, let alone in a large one. There are some state-level tax policies, but there is little reason to think that these policies override the diversity across a state. That’s especially true with property taxes – the largest state/local tax expense for most businesses – where both property values and local property tax rates can vary tremendously within a state. Can a single number really represent San Diego and San Francisco, or all of California against all of Rhode Island?

7. Various business climate rankings do not agree with each other. Some states find themselves in the top ten in one ranking and the bottom ten in another. Sometimes the difference in scores is so small that a slight shift in one factor could vault a state a dozen or more levels in rank. Rankings are relative, meaning a state could improve its score and still drop in the rankings, or jump a number of spots over a statistically insignificant change in score.

8. Business needs vary by sector. Different businesses require different policies and other conditions to thrive. Some industries like tech are concentrated in specific areas, like Silicon Valley. This explains Rhode Island’s push to create centers for biotechnology, life sciences, and offshore wind technology. A single ranking cannot capture this diversity.

9. Business climate rankings mostly do not include many things that matter to businesses yet are beyond anyone’s control – including the actual climate. Business climate rankings tend to leave out factors that contribute significantly to what makes a place a more or less desirable location to set up a business. There is the actual climate, as in weather. There is also how close a location is to transportation like railways, seaports, airports, and highways. There is the physical location; people often start businesses where they live and where they have previously established social and family networks. The Tax Foundation’s rankings look at taxes and nothing else. Even looking at business costs alone, this leaves out the costs of products, payroll, and other items and services.

10. Business climate rankings provide a very narrow view of the economy, and there are better ways to measure this. The economy includes workers, consumers, businesses, and all of us. What makes a place hospitable for businesses includes so many things, some of which we have no control over, and some of which require long-term investments, including in education, job-training resources, access to capital, and neighborhoods. If business climate must be ranked, if we truly wish to determine what leads to business success, then all factors must be included, to model how business owners make decisions. Any such model should be run on past years to see if they predict or at least correspond to outcomes we know, such as the number of business starts or business growth.

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