For State Policy Makers, the Simple (Anti) Tax Solution for Faster Growth
When people in other nations ask me for evidence in favor of low taxes, I often will ask them to compare the economic performance of a high-tax nation like France with the performance of a nation such as Switzerland with less onerous taxes.
If I’m asked by Americans, I generally suggest that they compare different states. For instance, I show them evidence that California has a much more punitive tax system than Texas. And when you look at all the available state rankings, it’s clear that there’s a big difference.
- Tax burdens as a share of state income.
- The State Tyranny Index.
- Mercatus State Fiscal Ranking.
- State Business Tax Climate Index.
- Tax Foundation’s Tax Freedom Day.
- State Freedom Index.
- Death Spiral states.
Heck, it’s almost as if California politicians want to drive successful people out of the Golden State (fortunately, the state’s politicians didn’t read Walter Williams’ satirical column about putting a barbed-wire fence at the border). And when upper-income taxpayers leave the state, that means taxable income and tax revenue also escape.
Though it’s worth pointing out that the case for low taxes isn’t based solely on comparisons of Texas and California. We know, for instance, that states with no income taxes generally outperform other states.
Moreover, we don’t need to rely on casual empiricism. Here are some of the results from a new study published by the Mercatus Center.
…this study uses the average tax rate as a practical approximation of the overall state tax burden. …The coefficient of average tax rate is negative and statistically significant in both models, suggesting that a higher tax burden as a share of income reduces state economic growth. …Elasticity of −2.6, for example, implies that a 1 percent increase in the tax rate decreases economic growth by 2.6 percent, not percentage points. …While the aforementioned income growth results are insightful, the impact of taxation on the level of income is also important. …income tax progressivity has a significant negative relationship with real GSP per capita. …An alternative way to measure economic activity is to look at the number of private firms that operate in each state. …The main conclusion from the two regression models is that only personal income tax progressivity seems to have a significant negative effect on the growth in the number of firms. … By voting with their feet, people send a clear signal about where they prefer to live and work. …an empirical analysis of migration may show, indirectly, how taxes affect the flow of economic activity across states. …state net immigration rate is negatively related to the personal income tax rate … The net immigration rate also seems to have a significantly negative correlation with the average tax rate and income tax progressivity.
These findings should not be a surprise.
It’s common sense that economic activity – and taxpayers – will flow to states that don’t punish people for creating wealth.
Let’s now circle back to the Texas-vs-California comparisons. Take a look at this remarkable chart put together by Mark Perry of the American Enterprise Institute.
As you can see, total employment in Texas has jumped almost 10 percent since 2008. In California, by contrast, total employment has increased by less than 2/10ths of 1 percent.
So you can see why this Lisa Benson cartoon is so appropriate.
Editor's Note: This article was originally posted on Individual Liberty and was republished here with permission.
More from Americans for Tax Reform
Three Upcoming Battles That Advocates Of Small Government Can Win
Our number one fiscal problem is an excessive burden of government spending. A big part of the solution is entitlement reform.
So what do you think happened when the clowns in Washington were forced to address these issues because of the fiscal cliff? To nobody’s surprise, they were missing-in-action on the first problem and they made the second problem worse. Obama got a class-warfare tax hike and nothing was done to control government spending.
This was a defeat, but it’s not the end of the world. Indeed, it could be the trigger for a renewed campaign for fiscal responsibility.
Here’s some of what I wrote for the Daily Caller, beginning with my assessment that Obama had all the advantages going into the fight over the fiscal cliff.
President Obama entered the battle in a very strong position. A big tax increase automatically was going to happen even if he did nothing, so he was holding all the cards. He could — and did — tell Republicans that they had an unpleasant choice of either accepting that big automatic tax increase or acquiescing to his class-warfare plan. No wonder Republicans have been acting so discombobulated. They had no winning strategy.
And because of this unpalatable situation, I wrote that “I’m not overly upset with Republicans.” There was no way of denying Obama some sort of tax hike.
But they do deserve some blame, at least if they were in office last decade.
I am upset with many of them, however, because they were in office during the Bush years and they voted for much of the wasteful spending that helped create the current fiscal mess. Many GOPers beat their chests about being against tax hikes, but that’s not a very credible or sustainable position when they’re also voting for the no-bureaucrat-left-behind education bill, the corrupt farm bills, the pork-filled transportation bills, the prescription drug entitlement, the TARP bailout, and the 2008 faux stimulus.
As I explained last month, we would be in much stronger fiscal shape if lawmakers had merely restrained spending over the past 10-plus years so that it “only” grew to keep pace with inflation and population growth.
But we can’t undo the past. The real issue is whether we can make progress in the future. Are there strategies that might restrain Leviathan?
Fortunately, the answer is yes.
In the article, I point out that Republicans “have several opportunities in the next few months to show whether they’re on the side of taxpayers.” The key is to pick battles that are winnable. Here are three fights that they can win for the simple reason that nothing can happen without approval of the House of Representatives.
1. In my dream world, I argue that they should “block any disaster funding for New York, New Jersey, and other states affected by Hurricane Sandy.” But I realize that’s an impossible demand because so many people now mistakenly assume the federal government should be in charge of this state and local responsibility. So, instead, they should draw a line in the sand and say the measure won’t be approved unless lawmakers “cut out the billions of extraneous pork that’s been added to the bill.”
This is not a trivial issue. Check out these reports from Townhall and the Weekly Standard to see how politicians have larded the legislation with handouts that have nothing to do with hurricane-related damage. Fiscally responsible lawmakers can make appropriate economic arguments against this pork, but they also can grab the moral high ground and denounce the way special interests and their Capitol Hill lackeys are trying to exploit a tragedy.
2. Another good opportunity is the debt limit. Proponents of smaller government should “insist on some long-overdue process reform as part of an increase” in the federal government’s borrowing authority. In the article, I specifically suggest they look at Congressman Brady’s MAP Act, which “imposes a spending cap modeled after the very successful Swiss Debt Brake.”
But even though I’m a huge fan of Switzerland’s spending cap, it’s important to recognize that the debt limit is a two-edged sword. Geithner, Bernanke, and other defenders of the status quo doubtlessly will engage in a lot of reckless demagoguery, falsely asserting that fiscal conservatives could provoke a default if they don’t give Obama a blank check.
3. This is why I think the ideal place to take a stand is the looming fight over the “continuing resolution.” Ignoring budgetary jargon, all you need to know is that Washington’s spending authority expires at the end of March. This means “that the government no longer will have authority to spend money for the non-entitlement portions of the federal government.”
In the article, I argue that “…lawmakers should insist on genuine spending cuts. And if Obama balks, let him be the one to shut down useless and counterproductive bureaucracies such as the Department of Education and the Department of Housing and Urban Development.” The potential risk of this strategy is that voters will blame fiscal conservatives if there’s a government shutdown, but I explained in an article for National Review that this was a very successful strategy in the mid-1990s.
The only problem with these three ideas is that they can only succeed if Republicans genuinely want to fight for smaller government. And as we saw from votes on housing handouts, pork-barrel spending, and corporate welfare, the GOP oftentimes is part of the problem.
Cross-posted from: International Liberty
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Three Simple Rules to Keep Republicans from Being Seduced by Dishonest and Orwellian Word Games
(This piece was originally posted on the International Liberty blog).
Those who had the misfortune of seeing President Obama go after “tax breaks for corporate jets” as part of his press conference may be wondering why he was attacking a provision that was in his so-called stimulus and enacted by a Democratic-controlled Congress in 2009.
But that’s just routine politics. The folks in the White House are probably laughing about screwing jet builders after collecting campaign money from them in exchange for that provision two years ago.
The more important thing to focus on is the way that the big spenders in the White House and elsewhere are trying to build support for a big tax increase by characterizing tax breaks as “spending in the tax code.” The left obviously hopes Republicans are so stupid that Orwellian word games are all that is needed to get them to acquiesce to legislation that would increase the amount of revenue going to Washington.
To be sure, Republicans are known as the “Stupid Party,” so anything is possible. But if GOPers can simply remember these three simple concepts, they will be in good shape.
1.Tax reform is when you get rid of special tax breaks and use the revenue to finance lower tax rates.
Under a flat tax, for instance, all the loopholes and distortions in the tax system are eliminated, and every single penny is used to finance lower tax rates. The politicians don’t get any additional revenue to waste.
But if the crowd in Washington gets rid of the tax preferences without lowering tax rates, that’s just a tax increase. It’s a less-destructive way of raising revenue, at least compared to higher tax rates, but it’s still a tax increase.
2. A tax increase is when politicians impose legislation that increases the overall burden on taxpayers and results in more revenue in Washington.
If legislation is enacted that results in more money coming into Washington, that is a tax increase. It doesn’t matter if the additional revenue is generated by eliminating a special tax break (such as for ethanol). If politicians wind up having more money to waste, that is a tax increase.
The only exception is if the additional revenue is from some sort of Laffer Curve effect – i.e., a lower tax rate that generates higher tax receipts.
3. Government spending is when politicians give you other people’s money, not when you’re allowed to keep your own money.
When politicians tax (or borrow) money from one person and give it to another, that’s government spending. But if politicians allow a person keep more of their own money, that’s a tax cut. The tax cut may be pro-growth, such as a lower tax rate. Or the tax cut may be inefficient and distorting, such as an expanded tax loophole for healthcare.
From a moral perspective (at least if one believes in the right of self-ownership), there’s a big difference between taking what someone else has produced or keeping what you have produced. Politicians want to blur that difference, but that doesn’t change reality.
I’ve already explained that left has one fiscal policy goal. They want to seduce Republicans into a tax hike. Orwellian dishonesty about tax reform is just another scheme to accomplish that goal.
More from Americans for Tax Reform
Norquist Is Right and Coburn Is Wrong: Tax Increases Will Lead to More Spending, Not Lower Deficits
This Blog is cross-posted from International Liberty
There’s a significant debate now taking place in Washington – largely behind closed doors, but sometimes covered by the media – on whether fiscal conservatives should maintain a rigid no-tax-increase position. One side of the debate features Grover Norquist of Americans for Tax Reform, which is the organization that maintains the no-tax increase pledge. The other side features Senator Coburn of Oklahoma, who is part of a small group of GOP Senators who might be willing to increase the tax burden as part of a deal that supposedly reduces deficits.
I’m a huge fan of Senator Coburn, who was in favor of cutting wasteful spending before it became fashionable. His office, for instance, releases a “Pork Report” every couple of days. But you shouldn’t read it if you have high blood pressure, because it will confirm (and reconfirm, and reconfirm, ad nauseum) your worst fears about tax dollars getting wasted.
Nonetheless, I’m on Grover’s side on this tax debate for two reasons.
First, we have a spending problem, not a revenue problem or a deficit/debt problem. Red ink is undesirable, to be sure, but it is a symptom of the underlying problem of a government that is too big and spending too much.
But don’t believe me. Here is a chart from the House Budget Committee showing long-run projections for spending and revenues over the next 70 years. As you can see, the long-run fiscal shortfall is completely caused by higher spending. In other words, 100 percent of red ink is due to government spending. So why put taxes on the table?
But this chart actually understates the case against tax increases. It uses revenue numbers from the Congressional Budget Office’s “alternative” forecast, which shows taxes steady at 19.3 percent of GDP. That’s more than the historical average of about 18 percent of GDP, which surely indicates that revenues are not the problem.
However, that 19.3 percent estimate is completely artificial. As CBO states in its long-run forecast, “the alternative fiscal scenario also incorporates unspecified changes in tax law that would keep revenues constant as a share of GDP after 2020.”
I’ll actually be delighted if we can permanently keep federal revenues below 20 percent of GDP, but I’m not overly optimistic because the tax burden is projected to automatically increase over time. And I’m not talking about the expiration of the Bush tax cuts or the alternative minimum tax. Yes, those factors would push up tax revenues (at least based on static revenue estimates), but the tax burden also is expected to climb because even modest economic growth slowly but surely pushes more and more people into higher tax brackets.
This second chart shows CBO’s estimate of personal income tax revenue based on current policy (as opposed to estimates based on current law, which includes already legislated tax hikes). To be more specific, it shows how much revenue the government will collect from the individual income tax even if the 2001 and 2003 tax cuts are made permanent and the AMT is indexed.
As you can see, the aggregate individual income tax burden will increase by roughly 5 percentage points of GDP when compared to the long-run average of about 8 percent of GDP (the CBO estimate only goes to 2035, so I extrapolated to show the same time period as the first chart). And remember, this is the forecast of what will happen to income tax revenues even if politicians don’t impose any new laws to coercively extract more revenue.
This might not be too bad if other taxes were falling, but that’s not what CBO is projecting. As such, this big increase in revenue from the individual income tax means that the overall tax burden will climb by approximately the same amount.
In other words, revenue likely will rise close to 25 percent of GDP as we approach the next century. So if we use this more realistic baseline, we can say that more than 100 percent of the long-run deficit problem is because spending is out of control.
The second reason for a firm no-tax increase position is that higher taxes are a very ineffective way of reducing budget deficits. Indeed, tax increases generally backfire and lead to more red ink. To understand why, it’s important to put away the calculator and instead consider the real world of politics and public policy. For instance:
o Tax increases rarely raise as much revenue as predicted by government forecasters. This is because of “Laffer Curve” effects, as taxpayers change their behavior to earn less income and/or report less income. Simply stated, people respond to incentives, and this means taxable income falls as tax rates increase.
o Tax increases erode pressure to control spending. Why would politicians want to make tough decisions and upset special interest groups, after all, when there is going to be more revenue (or at least the expectation of more revenue)? Using more colloquial language, trying to control spending with higher taxes is like trying to cure alcoholics by giving them keys to a liquor store.
o Milton Friedman was right when he said that, “In the long run government will spend whatever the tax system will raise, plus as much more as it can get away with.” In other words, if politicians think they can get away with deficits averaging, say, 5 percent of GDP in the long run, then the the only impact of higher taxes is an equal amount of additional spending – while still retaining deficits of 5 percent of GDP.
The real-world evidence certainly points in this direction. We’ve seen “bipartisan budget summits” several times in Washington, and the result is more spending rather than lower deficits. Americans for Tax Reform has a good analysis of what happened after the two big budget summits in 1982 and 1990, but I think the problem is best captured by my adaptation of a famous Peanuts cartoon strip.
Every year, if my aging memory is correct, Lucy would ask Charlie Brown if he wanted to kick the football. At first, Charlie was skeptical. But Lucy always managed to trick him into giving it a try. And the inevitable result was Charlie Brown lying on his back wondering why he had been so foolish.
In the Washington version of this cartoon, Democrats hypnotize gullible Republicans with ostensibly sincere promises of future spending restraint. Republicans eventually acquiesce, naively assuming that Democrats will be their new best-friends-forever in the fight against big government.
Needless to say, that’s not the way the story ends.
Ronald Reagan is reported to have said that the 1982 tax increase was the “biggest mistake” of his presidency. And since Congress never followed through on commitments to reduce spending by $3 for every $1 of higher taxes, he wryly remarked that, “I’m still waiting on those three dollars of spending cuts I was promised from Congress.”
Like Ronald Reagan, Tom Coburn wants to do the right thing. But good intentions are not the same as good policy. America’s fiscal challenge is too much spending. Government is too big and it is wasting too much money. Taking more money from the American people is not the way to solve that problem.