Why Government Should Not Be in the Business of Subsidizing Businesses

The New York Times article says it all. "Thousands of jobs" have been lost in the recent recession. To emerge from its economic malaise, Michigan is moving beyond its "smokestack image."

The article goes on to quote a Michigan official who says that continuing to rely on an automobile-based economy would absolve the state from having to "fight for its share of research and development in things like electronics."

Instead, the official told the newspaper, Michigan would now try to create an environment similar to that of Silicon Valley.

One might guess this article refers to the state’s recent ballyhooed landing of a Google facility for Ann Arbor — the start of the transformation of Michigan into an Information Age superstar.

No, not at all.

The article was published 20 years ago. It ran in the N.Y. Times on June 23, 1986, under the heading, "States Back Risky Ventures In Effort to Create New Jobs." The article described how Midwestern states, including Michigan, were using public funds to finance enterprises that could not secure backing from private capital markets.

State legislation created the Michigan Venture Capital Fund in 1983, authorizing the use of as much as 5 percent of public employee pension funds as venture capital for private projects.

By mid-1986, noted the Michigan official, $48 million had been invested in 23 companies and more than 3,100 jobs.

But if Michigan transformed itself away from dependence on the auto industry 20 years ago, why do we need the current transformation away from dependence on the auto industry? Was the bust of the first transformation based on a flawed strategy? If today’s news is so similar to that of 20 years ago, are we repeating the same mistakes?

Although most of the people quoted in the N.Y. Times article were upbeat about potential benefits, an observer from a research firm that monitored investments of venture capital was more cautious. "It’s too early to tell" if the government-financed businesses would survive, he said. He expressed reservations about government intrusion into risky ventures that professional capital managers avoided.

The article devoted seven paragraphs to a particular source of optimism, what the Michigan development official described as "one of Michigan’s likeliest winners."

It was Vixen Motors of Pontiac, which received $5.7 million from state coffers. Soaring fuel prices of the 1970s were still vivid memories, so Vixen established a niche of "fuel-efficient" motor homes to compete against "gas-guzzling recreational vehicles." Despite the market promise, the entrepreneurs could not secure private financing. The state, however, came to their rescue.

A Web search to determine the company’s present state of health disclosed this information: Vixen Motors went out of business in 1989.

Why is government such a frequent failure as a bankroller of businesses? As the observer quoted in the N.Y. Times put it: "States don’t understand the job."

The psychology of the public and private sectors is entirely different. Managers who work with private funds are only as good as their last triumph. Putting private investment into a failure destroys confidence and reputations.

Playing with public money lacks rigorous discipline, because public money is not seen as coming from a real source, other than a legislative appropriation; failure is not held accountable, but rather mitigated by politics. Bureaucrats who bungle get transferred, rarely terminated.

The deal-making in dispensing government favors is without a doubt intoxicating — the power to grant a big tax break or arrange a lavish subsidy. Success is counted in the number of favorable headlines and photo ops. But the system becomes addictive in the other direction as well. Firms that receive public dollars tend to spend an inordinate amount of effort chasing more and more special privileges when they should be tending to business, which consists of chasing after customers, private investors and shareholders, and then satisfying them.

This second transformation may fizzle just as the first one did 20 years ago, except this time government spending is far greater. Recently, $100 million was disbursed to businesses through the state’s 21st Century Jobs Fund.

When the focus is on more jobs, business is reduced to being merely a vehicle toward that end. A more enlightened policy would recognize that a congenial economic and regulatory climate retains businesses and attracts more of the same. A business exists to prosper. When businesses prosper, more jobs are the natural result, and governmental micromanipulation becomes unnecessary.

Daniel Hager is an adjunct scholar with the Mackinac Center for Public Policy, a research and educational institute headquartered in Midland, Mich. Permission to reprint in whole or in part is hereby granted, provided that the author and the Center are properly cited.