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Shaky Business: The private sector worries Illinois won't remain a good place to invest

State Sen. Michael Bond represents a district that has the foundation of a booming new industry, and he's trying to attract more leading-edge companies that are producing the next wave of medicines, energy supplies and aircraft. But Bond's strategy for attracting entrepreneurs to that northeastern region faces an uncertain future as Illinois officials wrestle this legislative session with two pressing state issues: potential tax reform and chronic debt.

Bond, a Grayslake Democrat, wants to develop more regions like his, which is home to two Fortune 500 companies, Abbott Laboratories in North Chicago and Baxter International in Deerfield, both medical and pharmaceutical giants.

"You have a synergy," he says. "We already have the beginnings of a workforce. Abbott alone employs 600 [medical doctors] in the Abbott Park North Chicago facility. It's the world headquarters. That's compelling for someone who's looking to open up a research lab."

He proposed legislation this spring to extend corporate income tax credits and create "advanced science zones" that would draw additional clusters of high-skilled workers throughout the state. But the idea is on hold while lawmakers focus on Gov. Rod Blagojevich's proposal to overhaul business taxes. Bond has had to scale back his measure, calling instead for a panel to develop a 10- to 15-year plan for attracting advanced technology industries to Illinois.

What makes his dilemma so interesting is that it highlights a potential shift in the long-running philosophical debate over economic development. In recent decades, tax breaks have been part and parcel of state and local government strategies for luring businesses to Illinois and keeping them here, along with the jobs they offer. But it's becoming increasingly clear that one person's tax break can be another person's tax loophole. And that brings us to the governor, who argues Illinois business is no longer paying its fair share of state taxes.

Under the governor's proposal, the state corporate income tax would be phased out, which would negate Bond's proposed tax incentives. The corporate income tax would be replaced with a tax on all revenues generated by companies with more than $2 million in sales — an idea the state's business community considers onerous.

On one point, everyone agrees: It's big. The governor says his so-called gross receipts tax would net $7.6 billion annually, constituting the "largest single-year state tax increase this decade," according to the Tax Foundation, a nonpartisan research group based in Washington, D.C.

Business groups argue that if the tax wouldn't be enough to make Illinois look like a bad investment bet, the state's deep budget deficit, high debt load and daunting long-term obligations, combined with the governor's expensive new education and health care spending proposals, surely will. Today, they argue, a state's fiscal, social and physical infrastructure weigh as heavily in private sector investment decisions as the so-called economic incentives of yesterday.

In fact, a December report by the Civic Committee of the Commercial Club of Chicago, a high-powered organization of corporate leaders, warned the state faces "financial implosion" if it continues to neglect the fundamentals, and asserted, to general amazement, that it likely will need to raise taxes. 

Now, Civic Committee President R. Eden Martin argues the governor's proposed budget for the fiscal year that starts July 1 doesn't face financial realities. During a March hearing of the House Revenue Committee, Martin said Illinois already is $20 billion in debt. That debt would increase to $36 billion if the General Assembly approves Blagojevich's new spending and borrowing plans.

By the Civic Committee's count, the state also faces $46 billion in unfunded liability for its public employee pension systems, as well as an estimated $48 billion in health care benefits due state retirees and another $1.7 billion in backlogged payments due medical providers who care for low-income Illinoisans.

"We ought to cover today's costs today," Martin said. "We either ought to reduce expenses or raise revenues or both to cover today's costs and obligations. The one thing we shouldn't do, our committee said, was to keep pushing the snowball of growing obligations down the hill onto future generations and taxpayers."

The Civic Committee's assessment, along with similar reports by other organizations, led to a rare accord among business and labor groups this spring as they joined in warning lawmakers that long-term debt and uncapped spending could cripple the state's ability to adequately fund schools, roads and the other basic services needed to cultivate and maintain a healthy economy.

That's not to say Illinois lacks an attractive business portfolio. Such major companies as State Farm Insurance Co., the Bloomington-based Fortune 500 company, ranks No. 1 in Illinois and No. 22 in the nation for revenues, according to the Illinois Department of Commerce and Economic Opportunity. The state's second-wealthiest corporation is Chicago-based Boeing, a manufacturer of commercial jetliners and military aircraft.

More than 30 Fortune 500 companies operate in this state. They all benefit from Illinois' diverse workforce and diverse economy that is unlikely to collapse if one industry fails. 

Manufacturing, real estate and finance contribute most to the state's gross domestic product, with such international operations as Archer Daniels Midland Co. in Decatur, Motorola in Schaumburg, Caterpillar in Peoria and Chicago's Mercantile Exchange and the Board of Trade. 

But the state has had its share of disappointments. In 2004, Galesburg lost its Maytag refrigerator plant, which employed about 1,600 people. When Whirlpool Corp. purchased Maytag last spring, Herrin in southern Illinois lost a near-1,000-employee Maytag washer plant, and Schaumburg lost its Maytag administrative building.

Last summer, Fithian in east central Illinois lost a bid for Honda's $550 million new auto plant, which is expected to employ 2,000 people in Indiana in 2008. The decision to locate in Indiana rather than east central Illinois was a matter of location, according to Andrew Ross, spokesman for the state's economic development agency. Honda, which has major auto manufacturing plants in Ohio, made a public announcement last summer that Indiana offers the transportation and infrastructure necessary to support industry, though it didn't say Illinois is lacking in those areas.

But the state still has some possible projects in the pipeline. Illinois could win a bid for FutureGen, a $1 billion project that promises to build the world's first zero-emissions coal-fired power plant, meaning a cleaner source of energy. Some of the largest coal producers are partnering with the U.S. Department of Energy to design the plant and research corridor that could end up in central Illinois' Tuscola or Mattoon, the finalists competing against two Texas cities.

But beyond offering specific tax credits and legal protections for the project, Illinois lawmakers might want to consider ways the state could generate the skilled workers, the basic infrastructure and the general tax climate to support such investments.

The good news is that Illinois has the basis of a highly skilled workforce, particularly with the rise of such advanced industries as biotechnology, telecommunications and "clean coal" power supplies.

The Illinois Department of Commerce and Economic Opportunity reports that, with research centers and medical schools at Northwestern University in Evanston and Chicago, the University of Chicago and the University of Illinois at Urbana-Champaign, Illinois ranks No. 5 for the number of science and engineering doctorates. That rating was issued by the National Science Foundation, which was created by Congress.

More Illinoisans are earning college degrees now than in the past decade, according to a series of workforce-related reports published last year by the Chicago-based Center for Tax and Budget Accountability and Northern Illinois University in DeKalb. In 2005, nearly 33 percent of the labor force had a bachelor's degree or higher. That's nearly 8 percentage points higher than the 1990 rate of about 25 percent.

"That's going to become crucial going forward, especially because two-thirds of all the high-growth, high-wage occupations in the future are going to require a bachelor's degree," says John Lewis, a senior researcher with the Regional Development Institute at Northern.

Funded by the Joyce Foundation, the series of State of Working Illinois reports concludes that, while the number of manufacturing jobs in Illinois dropped by more than 225,800 between 1990 and 2005, the service sector added 640,600 new jobs, with more than 64,000 in 2005 alone. 

Most service sector jobs pay less and offer fewer health benefits than other industries, but Illinois added 81,700 high-paying service jobs in three years, a growth rate exceeding the national rate and the growth in Indiana, Michigan, Ohio and Wisconsin.

The outlook up to 2012 looks even better, according to the Illinois Department of Employment Security. The agency projects that more than a third of the new jobs, or more than 213,300 of them, will pay $50,000 to more than $72,500. The projections signal that Illinois' new jobs won't be the low-wage, dead-end type, but the Illinois workforce report warns that the state would have to ensure that training would be available to fill those high-wage positions.

In the Blagojevich Administration's first four years, the state dedicated $63 million to workforce research and created a program to identify well-paying, critical jobs with good benefits that have a shortage of workers, says Ross.

In fact, Illinois stands as one of the leaders in linking economic development with workforce development and education, according to Gerri Fiala, director of workforce research for the National Center on Education and the Economy, a nonprofit based in Washington, D.C. 

She says the "targeted investments" identify an industry that's key to a specific region and then determine the root reasons those industries suffer from a shortage of workers. The tailored programs not only benefit the regions that receive funding, but also connect each region with the statewide economy.

Last January, for instance, the program provided $240,000 for job training in southern Illinois' integral industries of manufacturing, transportation and logistics.

Statewide, four of the five fastest-growing industries are in the service sector and include wholesale trade, finance and insurance, scientific and technical services and business management, according to the State of Working Illinois 2006 report.

But there's no guarantee Illinois' economy will be able to create enough high-wage jobs to keep up with the supply of qualified applicants.

A surplus of highly educated workers who don't have jobs could mean more demand for social services, public health and mass transit without increasing the ability of the state's economy to pay for them, the study says. If the highly educated workers left, their absence would further undermine the state's economy.

On the other hand, the workers who lack basic skills — reading comprehension, active listening and speaking abilities — wouldn't be fit for the high-skilled positions that become available.

That's why a good education system is fundamental to any economic plan.

This year, Blagojevich proposes putting $10 billion into education over the next four years, starting with the largest increase — $1.5 billion — in the upcoming fiscal year. Higher education's public universities would get $25 million, a 1.9 percent increase over last year's funding. About $7.6 million would target teacher preparation and nursing.

But some national researchers with the National Center on Education and the Economy say the way the money is spent is the key to change. The center supports an overhaul of the nation's expensive educational system and a new focus on creating more highly skilled workers.

"While I think that education is under-resourced in general, the way dollars get spent could be better allocated," says James Pellegrino, a contributor to the project and a psychology and education professor at the University of Illinois at Chicago. "I don't think Illinois has invested very well in an effective system of assessments."

He wrote a November 2006 report commissioned by the center and says the federal No Child Left Behind Act has led states away from effective ways to measure student achievement. Multiple choice tests, for instance, have replaced more open-ended, constructive response tests that he says would provide more information about how well students absorb the lessons.

He says without an effective way of measuring students' skills, the business community lacks a steady grasp on what the job pool has to offer.

Location and geography, meanwhile, give Illinois businesses a natural competitive advantage over other states, but transportation advocates doubt whether Illinois can maintain its exceptional ability to move people and goods to all corners of the country and around the globe. This is a particular concern to Illinois' agribusiness and manufacturing companies. 

"[The] entire history of this state's economy has been centered around its location and the fact of the ability to get goods and products in here," says James Nelson, spokesman for the Illinois Manufacturers' Association.

The region's two major ports in Chicago and St. Louis are supported by more than 1,000 miles of waterways, a central railroad network and the national hub of O'Hare International Airport. The ability to distribute goods has attracted about 40 percent of the nation's richest 500 companies to operate regional distribution centers in Illinois, according to the most recent data compiled by the state's economic development agency.

But transportation advocates argue that edge has been jeopardized. Going into this legislative session, there's a four-year stalemate over a major capital program for new road construction, and road funds have been diverted by several governors.

The Transportation for Illinois Coalition, an advocate for business and labor groups, warns that another year of declining transportation investment would impair businesses and jobs, "in other words, the tax base" that supports other state programs. The group says congestion on northeast Illinois roadways would continue to slow the flow of goods and services, as well as hinder the movement of rail freight. And railroad congestion could worsen as the amount of rail freight and the number of Amtrak passengers continue to rise as expected.

Congestion around Chicago causes a statewide problem, the group says, and the lack of investment in northern Illinois prevents downstate communities from linking to national and international markets. The group wants Illinois to invest $5 billion in the next fiscal year and another $5 billion over five more years to halt some of those trends.

The governor's budget office responded in an e-mail saying business groups use inflamed rhetoric without suggesting a way to pay for their $25 billion plan.

"Governor Blagojevich has proposed a balanced budget that prioritizes spending to help our kids learn and increase access to health care, and a capital bill is on the table for discussion only after these important needs have been met," wrote Justin DeJong, spokesman for the Office of Management and Budget.

The governor does propose $1.3 billion for ongoing maintenance of existing roads and another $3 billion bonding program, but the bonds are contingent on Blagojevich's tax overhaul plan winning legislative approval. Mass transit would get $425 million over three years through a capital program to secure $1.7 billion in federal matching funds. 

The Illinois Department of Transportation also is conducting major construction projects to ease congestion on two Cook County expressways. And Mike Claffey, department spokesman, says the state agency is working with Chicago and federal officials to improve rail traffic. So far, the project has received $100 million from the feds, but the total cost could reach $1.5 billion, Claffey says.

Without a capital program from the legislature, however, he says the agency has to "live within our means."

Business groups urge the state to live within its means, as well. And they've upped the ante by suggesting the need for general state tax increases.

"It's tough to get a business organization to say that, but I think it's part of facing facts," Martin, president of the Civic Committee, said during the House Revenue Committee meeting in March.

The Civic Committee, a group of about 80 chief executives of Chicago-area businesses and nonprofits, recommends raising money by increasing income taxes and expanding sales taxes while cutting costs and reforming the education funding system.

So far, legislative leaders aren't seeing eye-to-eye on ways to reform the state's tax policy. And the Civic Committee isn't encouraged by the governor's proposed spending plans.

"One of two things will be true, or maybe both will be true, and that is, one, that the taxes you had to pay in the state will go way up in the future to pay for the sins of the past," 

Martin says, "and the other is that you may see a deterioration in state services, including support for schools."

Blagojevich's team is more optimistic, naming his proposal the "Tax Fairness Plan." He says it will net $7.6 billion a year, using some of those dollars for a near-universal health care program. In addition to paying the new gross receipts tax, businesses would be subject to a 3 percent payroll tax if they don't offer comprehensive health benefits to employees. That tax would generate about $1 billion a year.

"This will ease the burden on the middle class and force big corporations to start paying their fair share," Blagojevich said to the General Assembly during his annual budget address in March. 

He has since toured the state lobbying for his plan, picking up support from education unions, health care organizations, small businesses and manufacturers, as well as the Illinois Hispanic Chamber of Commerce and the Illinois State Black Chamber of Commerce. But smaller businesses likely would be exempt from the gross receipts tax.

The Illinois Manufacturers' Association finds the proposal "terribly disconcerting" and insulting.

"This kind of idea that we have a class warfare going on, about business not paying its fair share, is really a kind of rhetoric this governor ought to tone down," says Nelson, the association's spokesman.

Manufacturers already pay a slightly higher cost of doing business in Illinois than they do in border states, which Nelson attributes to higher wages, higher rates for workers' compensation insurance and unemployment insurance and a 5 percent utility tax beyond the local utility tax.

State taxes, while rated as an issue by association members, isn't a top factor in deciding to locate or expand in Illinois, Nelson says, but they find the gross receipts tax particularly burdensome.

"The gross receipts tax is probably the most onerous and negative tax that could be proposed for most businesses and especially for manufacturers because it has a pyramiding and compounding impact," Nelson says. "If that were to pass, then I might move it to the top of the list."

The proposed tax overhaul has led the House Revenue Committee to hold a series of multiple-hour hearings to assess the effect on Illinois' economy. Committee chairman Rep. John Bradley, a Marion Democrat, says he's found consensus in some unexpected places. Some business, labor and tax experts support parts of the governor's budget plan, but all disagree with the administration's comments that Illinois doesn't have a structural deficit.

While statistics show Illinois is charging through another year of economic growth since the 2001 national recession, the state's budgetary condition could maim confidence in its ability to cultivate a healthy business climate.

Looming debt and proposed borrowing form a large cloud on the horizon, says Martin of the Civic Committee. "There are a lot of people who are very worried this spring. We could put a big stain on Illinois' reputation that would be hard to wash away." 

 

How do regulations affect investment decisions?

One example of a potential investment hinging on state policy pertains to AT&T, which is supporting legislation this spring to further deregulate Illinois' telecommunications sector. The telephone and cable giant wants to expand its video network around the state, which would allow video providers to market their services statewide. Currently, all companies must approach municipalities one by one to create local video franchises.

Paul La Schiazza, president of AT&T Illinois, says, "There's at least 10 other states that have passed bills that have made it very favorable for alternative video providers to invest, literally, hundreds of millions of dollars in infrastructure." 

Those investments would enhance the telecommunications network and make broadband more available, he says. "From that perspective, Illinois is lagging behind other states."

Without approval of the statewide video franchising legislation, La Schiazza says AT&T's $4.6 billion investment and expected job growth would go elsewhere.

"That's not a threat, but this company has to deploy the capital to stay competitive."

Opponents include municipalities and other video providers who say a statewide video franchise would strip local control, allow AT&T to "cherry pick" affluent customers and erode protections for all customers.

The legislation was pending in a House committee as of mid-April.

Bethany Carson

 

What is the gross receipts tax?

The governor's plan would tax business transactions rather than corporate income. Service industries would pay a tax on cash receipts at each step in the supply chain in Illinois regardless of whether the company makes a profit that year. 

Agriculture, manufacturing, mining, construction, wholesale and retail activities would be subject to lower rates than other businesses. Exports, insurance, retail food, pharmaceuticals and gaming would be exempt. So would Medicaid payments and not-for-profits.

Compared to seven other states that have a similar type of tax — New Jersey's expired last July — Illinois' would be unique. And being different from surrounding states could carry economic consequences if businesses find it's cheaper to move supply chains across state borders, according to J. Thomas Johnson, president of the Taxpayers' Federation of Illinois.

Ohio's receipts tax, for instance, started in 2005 but is being phased in over five years at a flat rate of 0.26 percent, compared to Blagojevich's most recently proposed 1.9 percent for businesses that have sales exceeding $2 million and 0.85 percent for agriculture, manufacturing, mining, construction, wholesale and retail companies.

Bethany Carson


Illinois Issues, May 2007

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