If North Carolina Were a Country | Eastern North Carolina Now

   Publisher's note: The article below appeared in John Hood's daily column in his publication, the Carolina Journal, which, because of Author / Publisher Hood, is inextricably linked to the John Locke Foundation.

    RALEIGH     If North Carolina were a separate country, we would not fare well in key international comparisons of economic competitiveness.

    While it is more common to compare North Carolina to other states, and such comparisons can be instructive, they are not a sufficient response to the modern world. Like it or not, economic decisions don't respect national borders. North Carolina competes not just with South Carolina but with South Korea and dozens of other developed and developing countries for investment, employment, and entrepreneurs.

    When it comes to the quality and cost of labor and capital, North Carolina doesn't have a very good pitch right now. Our marginal tax rates on investment, for example, are far out of line with those of our international competitors. As I describe in my forthcoming book Our Best Foot Forward: An Investment Plan for North Carolina's Economic Recovery:

    • If you combine national and local rates across the 34 countries that make up the Organization for Economic Cooperation and Development (OECD), North Carolina's 40 percent marginal tax rate on corporate income is at the very top. By comparison, the combined corporate tax rate is 30 percent in Germany, 28 percent in Canada, 26 percent in Britain, and 24 percent in Korea.

    • When it comes to the combined tax burden on dividends and capital gains, North Carolina's 23 percent rate ranks 10th. Most countries make greater use of differential rates or base exclusions to shield more investment income from double-taxation. Some have even taken their capital gains tax rates to zero, including Switzerland, Korea, Belgium, and the Netherlands.

    • Both tax policies come into play when considering the tax burden on income from corporate stock. About half of capital gains derive from the sales of corporate equities. Before investors receive and pay personal tax on dividends or capital gains, those earnings are first subject to the corporate tax. In a recent study, the accounting firm Ernst & Young computed an "integrated" tax rate on corporate investment, including both personal and corporate tax rates. Adapting their analysis for North Carolina, I found that our top integrated tax rate of 53 percent on investment in corporate businesses ranked 4th out of the 34 countries.

    By no means is tax policy the only factor that affects competitiveness and growth. Investors, managers, entrepreneurs, and high-value professionals look at a host of other factors such as legal and regulatory environment, infrastructure, and the education level of the workforce.

    In the first two categories, I don't have direct international comparisons for North Carolina, but national data suggest that we probably rank in the middle of OECD countries - above the likes of Slovenia, Hungary, and Turkey in infrastructure, for example, but below the likes of Germany, France, and Canada.

    I do have direct comparisons of North Carolina's educational performance, however. In math scores, we rank 22nd out of the 34 countries. In reading scores, we rank 20th. On the other hand, in educational attainment North Carolina ranks very high - 6th in the share of working-aged adults with high-school degrees and 3rd in university degrees.

    So, which education measure tells us more about workforce quality and economic competitiveness, achievement or attainment? Economists Eric Hanushek at Stanford and Robert Barro at Harvard have produced several important studies along these lines in recent years. In one study, Hanushek and three colleagues found that while average years of schooling demonstrated a modestly positive relationship with economic growth, average test scores demonstrated a far stronger effect. Indeed, once the researchers put test scores into the model, the effects of years of schooling disappeared.

    An earlier study by Harvard's Barro yielded a similar result. He wrote that while educational attainment sometimes correlated with growth, "the effect of school quality" as measured by test scores "is quantitatively much more important." Where it matters most, then - student achievement - we are below average. Yet North Carolina ranks 5th in the OECD in per-pupil spending.

    If state politicians truly want North Carolina's economy to be "world-class," they should pursue fundamental reforms of our tax code and our education system, for starters. No more distractions. No more pretense. No more delay.