State faces economic, demographic headwinds

After 40 years of relatively smooth sailing, Minnesota's economy has faced some rough seas in this young century, due to a series of economic shocks combined with underlying economic changes.

Since the 1960s, the service and retail sector has grown faster than manufacturing, and investment capital has become increasingly mobile in search of favorable tax climates. More recently, remote sales by Internet and catalog merchants have made it more difficult for local retailers to compete on price while delivering a blow to state sales-tax collections.

These winds of change -- exacerbated by the economic fallout that followed the 9/11 terrorist attacks, recession and woes in the nation's housing and credit markets -- have reached gale force. Add in a demographic wave that is about to wash over us, and we face an economic storm of epic proportions.

To return Minnesota to a course of prosperity and avoid being swamped, we need to tweak our dated business-tax rules in ways that will help encourage job growth and business investments in today's fast-changing, highly competitive and increasingly global economy.

Education has long provided a sturdy keel for Minnesota's growth. For most of the late 20th century, the state outpaced the U.S. average. Nation-leading graduation and employment rates drove a growing economy and increasing incomes while powering Minnesota to high rankings across a range of social and economic factors.

From 1960 to 2005, average personal income grew 6.8 percent a year in Minnesota, faster than most states outside the southeast, according to State Economist Tom Stinson. In 2007, even after more than five years of economic turmoil, the state's gross domestic product remained 8.8 percent above the national per capita average.

But the tide has shifted in recent years.

From 2004 to 2007, Minnesota lagged behind the national economy. Personal income growth per capita was 13.5 percent, placing us 47th among all states. Our state GDP grew by 2.6 percent, less than half the U.S. average, placing us 42nd among all states.

Moreover, graduation rates and academic research and development spending -- key factors that drive economic growth and higher productivity -- both have been on the decline in Minnesota.

These declines could scarcely come at a worse time. As we face the prospect of slower workforce growth -- combined with increasing globalization, technology and ever-higher energy costs -- raising productivity has never been more important. Doing so, in fact, is the only sure way to keep our economy growing and avoid being caught in a demographic tidal wave that is about to wash over us.

The baby boom generation begins to hit retirement age this year, and as boomers grow older they will reshape Minnesota's economic landscape.

The number of Minnesota workers turning 62 will jump by 30 percent in the next year, and will keep growing as boomers age. Meanwhile, the number of 18- to-24-year-olds entering the workforce is going to decline over the next 12 years.

From now until 2020, people in their 50s and 60s will be the fastest-growing segment of the population, many of them childless couples or single-person households over the age of 55. They will require more health care and other services but -- once they retire -- will pay less in state taxes.

Stinson estimates that a married couple earning $65,000 in Minnesota will pay 58 percent less income and sales taxes after they retire, while a married couple earning $35,000 will see their tax bill cut by 72 percent once they retire.

As similar demographic changes unfold across the nation -- and around the globe -- Minnesota will increasingly have to compete for workers as well as dollars.

Recruiting, keeping and retraining workers --along with making them more productive -- will be necessary to keep Minnesota and its economy growing. Our willingness to receive people from other cultures and the strength of our educational system will be key to attracting the necessary talent to the state, says State Demographer Tom Gillaspy.

The Governor's 21st Century Tax Reform Commission is looking at ways to modernize Minnesota's tax code for businesses to encourage sustainable job growth and business investments in the state. Before formulating our final recommendations -- due to Gov. Tim Pawlenty by Dec. 1 -- it is vital that we hear from those who will be affected. You can provide input by e-mail at taxreform.feedback@state.mn.us, or in person at commission meetings. More information is available online at www.taxes.state.mn.us/mntaxreform/index.shtml.

Michael Vekich is chairman of the Governor's 21st Century Tax Reform Commission, chairman and CEO of Skyline Exhibits, and head of the business accounting and consulting firm Vekich Associates.