Domestic Manufacturing Deduction: Does State Conformity Increase Employment Growth?

Abstract

Using a two stage least squares regression with panel data on 46 U.S. states from 2006 to 2013, we examine the association between states’ adoption of the domestic manufacturing deduction (DMD) and employment growth. We also investigate whether the relative certainty provided by the state tax policy structure moderates this association. States can structure their income tax to automatically incorporate federal tax provisions (rolling conformity) or incorporate as of a specified date (fixed conformity). We find a positive association between state adoption of the DMD and manufacturing employment growth in rolling conformity state-years. These results highlight certainty in state tax policy-making as an important determinant of the efficacy of tax policies designed to boost economic outcomes. In a free enterprise system, it is important for policymakers to realize that economic consequences of state tax policies depend on the relative certainty that states will conform to federal tax laws.

Keywords: Domestic Manufacturing Deduction, IRC Section 199, Rolling Conformity, Fixed Conformity, Employment Growth