Some city of Los Angeles officials recently proposed an ordinance that would give preference to local companies when the city buys some good or service. It’s a well-intentioned, feel-good measure that’s a bad idea.
The ordinance would give local businesses an 8 percent advantage when they bid for city work. So in a low-bid contract scenario, a local firm’s bid of $1 million for a city contract would be considered a bid of $920,000. And in a request-for-proposal scenario, in which bidders are assigned points, a local business that got 100 points would be considered to have 108 points. Obviously, that would give local companies a leg up when they’re bidding against nonlocal companies.
“For too long, the city of Los Angeles has awarded contracts to private companies without considering if any of those funds will filter back into the local economy,” City Council member Bernard Parks was quoted as saying in a city press release.
The press release went on to explain that the city spends 84 percent of its procurement dollars with businesses that are outside of Los Angeles. Therefore, of the $1.1 billion allocated for government contracts, only about $180 million goes to local businesses. If more of that money goes to local companies, it will boost L.A.’s economy, it said.
Of course, L.A. businesses and business groups have every reason to like this ordinance. Who could blame them? But let’s stop a minute and think about why this is a bad idea.
The main reason: This will increase city costs.
Let’s do the math. The city’s numbers, above, imply there’s something like $920 million in city contracts that don’t go to local businesses. If local businesses capture all of that business by barely undercutting the nonlocals, that means they’d be able to charge 7 percent more. That comes out to $984 million in procurement costs.
In simpler terms: The city would have to pay $64 million more to get the same stuff. That’s not a good deal.
Granted, that $64 million figure is the largest possible amount. The real world total would probably be much less. But even if it’s, say, one-fourth as much, that still would be an increase of $16 million in costs for the city. Not good for a city facing huge budget deficits.
Another problem: Under this ordinance, local companies have an incentive to raise their bids, knowing they’ve got an 8 percent fudge factor.
The best rationale for the ordinance? It will boost the local economy and create jobs. For the city, that increased activity may even offset the costs of the ordinance because of new taxes from the additional employees and sales. That would make the ordinance “free.”
Maybe, but the problem is that the city’s income from any increased economic activity is divorced from the cost side of the ledger. I hate to be cynical, but you know what city elected types will do. In a year or two, they could ignore any revenue from increased economic activity. Instead, they would point to the increased costs.
“See right there?” they could say. “Look at how our costs of procurement have shot up because we’re trying to help local businesses. We need to raise taxes.”
Look, the fundamental problem with the ordinance is that it would raise costs in Los Angeles. It would force the city to spend more money to buy the same amount of stuff. In a macro sense, those higher costs must be paid somehow.
A better alternative for the city would be to focus on ways to lower costs for businesses and residents, not raise them.