The Lure Of Low Business Costs

Will the pricey regions suffer?

Judging from recent data, business costs have little influence on local economic performance. Indeed, as Francis X. Markey and Michael Burt of Economy.com Inc., an economics research firm, observe in a new analysis, the high-cost regional economies in the Northeast and California have been thriving lately, while the lower-cost Midwest and South have lost some steam.

The analysts note, however, that low business costs have tended to bolster growth over the long run, accounting for a third of states' relative employment gains over the past decade. And with the economy slowing, that impact may well rise in a competitive climate where pricing power is low and advances in information and distribution technologies enhance corporate mobility.

According to Economy.com's business cost index, which is based on unit labor costs, taxes, and energy costs, the priciest state overall in 1999 was New Jersey, followed closely by Massachusetts, Hawaii, and Connecticut. New Jersey had the fourth-highest labor and energy costs. Massachusetts led in labor costs, Hawaii in energy costs, and New York in state and local taxes, which came in 28% above the national average.

As in the past, the Northeast remains by far the most expensive part of the nation, containing more than half of the 16 states with above-average costs. Among costly urban areas, the broad New York City metro area ranks No. 1, with Boston not far behind. Costs are also high in California, particularly in the San Francisco Bay Area, but other Western states--Wyoming, New Mexico, and (perhaps surprisingly) Oregon--boast quite low costs.

The lowest costs of doing business are in the rural Midwest and the South. Midwestern cities such as Chicago, Cleveland, Detroit, and Minneapolis do have above-average costs. But the agricultural regions have low cost structures, with South Dakota at the bottom end of the index (25% below the national average). And the entire South enjoys very low costs.

Who has gained in the past decade? The authors point to falling costs in Utah, Arizona, and New Mexico. In all three states, fast growth in output per worker offsets wage gains, resulting in declining unit labor costs.

Two factors help explain the current economic strength in the Northeast and California. One is that their recoveries trailed the overall cyclical upturn. The other is that urban areas in both regions are strong in human capital, boasting research centers and highly educated workforces--resources that have counted heavily in the nation's recent high-tech and financial services booms.

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