Month: February 2012

Published in the Sacramento Bee, February 17, 2012

With jobs front and center in most voters’ minds, politicians seeking to cut or repeal personal income taxes are marketing their proposals as tools for boosting the economy. Recently, some have sought to bolster this claim by asserting that states without income taxes are experiencing a real economic boom, and by promising that the boom can be recreated in any state smart enough to join the no-tax club.

My organization was skeptical of these claims, so we decided to take a closer look at one of the most prominent studies, cited by the governors of Kansas and Oklahoma, among others. It turns out that the study was done by a consulting firm headed by economist Arthur Laffer, perhaps best known as a longtime spokesman of a supply-side economic theory that George H.W. Bush once called “voodoo economics” because of its bizarre insistence that tax cuts often lead to higher revenues.

In kicking the tires on the study’s findings, we paid particular attention to the same 18 states it includes: the nine without income taxes, and the nine with the highest top income tax rates.laf But while Laffer chose to focus on clumsy aggregate data (more on that later), we took a look at three of the most important and widely recognized measures of economic success: growth in economic output per person, growth in median income levels, and the unemployment rate. The results we found were very different than Laffer’s.

In terms of the first two measures – economic output per person and median income levels – the nine states without income taxes are actually lagging behind the nine states with the highest top income tax rates, and most no-tax states are actually doing worse than the national average. On the third measure, the unemployment rate, it turns out that no-tax states and “high tax rate” states are essentially neck and neck, which will no doubt shock lawmakers promising that an improved job climate will come hot on the heels of income tax repeal.

We also found that on all three measures, some of the states most frequently disparaged by the tax cut true believers – including Maryland, Hawaii and Vermont – managed to best not only no-tax idol Texas but also most of the other eight states “unburdened” by a personal income tax.

So how was Laffer able to reach the opposite conclusion, and in the process generate a wave of assertions that states without income taxes are booming? It turns out that the aggregate numbers he picked – designed to measure the total size of an economy and its workforce – are heavily influenced by shifts in population. These shifts, in turn, are driven by a slew of factors Laffer fails to control for, like the housing market, population density, birth rates, immigration and even climate. And since most no-tax states happen to be located in the growing south and western regions of the country, they tend to have a lot of these factors working in their favor.

Laffer also makes no effort to account for the tremendous natural resource advantages enjoyed by many no-tax states. The two best performing states, according to Laffer, also happen to be the two states most dependent on mining: Alaska and Wyoming. But one would be hard pressed to find a serious analyst in either state willing to attribute their recent growth to the lack of an income tax.

The bottom line is this: no-tax states aren’t booming, and lawmakers should not expect their states’ economies to improve if they join the no-tax or low-tax club. In fact, in terms of the economic factors that matter most to families – income levels, and whether or not they can find a job – the states with the highest top income tax rates are, in most cases, doing better than the no-tax states. If the economy is really the concern of lawmakers railing against the income tax, it’s time for them to put away Arthur Laffer’s tax cut snake oil.

ABOUT THE WRITER

Carl Davis is a senior analyst at the Institute on Taxation and Economic Policy, 1616 P Street NW, Suite 200, Washington, D.C. 20036; website: www.itepnet.org.

This essay is available to McClatchy-Tribune News Service subscribers. McClatchy-Tribune did not subsidize the writing of this column; the opinions are those of the writer and do not necessarily represent the views of McClatchy-Tribune or its editors.

Photo of Art Laffer via  Republican Conference Creative Commons Attribution License 2.0

Here’s a huge tax fairness victory in Iowa. The state Senate voted unanimously to increase the Earned Income Tax Credit from 7 to 13 percent of the federal credit to help working families make ends meet.

Matt Gardner, Executive Director of the Institute on Taxation and Economic Policy (ITEP), blogs about lessons for Georgia from a new ITEP report on the economies of states with and without income taxes.  Gardner writes that Georgia lawmakers “wanting to join the non-income tax club are simply idolizing the wrong states.  Most states without income taxes are doing worse than average … and the states with the highest top tax rates are actually outperforming them.”

Also in Georgia, anti-tax guru Grover Norquist is weighing in on collecting taxes on internet sales, warning that it is a violation of his group’s “no new tax” pledge to vote for legislation requiring online retailers to collect sales taxes on purchases.  But the fact is, Georgians who shop online do, by law, have to pay the sales tax on those purchases if the e-retailer does not collect the tax, but the requirement is basically unenforceable.  Collecting taxes legally due is not a tax increase.

Missouri lawmakers are falling all over themselves to come up with revenues without “raising taxes” because the trust fund that pays for veterans’ services in the state is insolvent.  Silly “non tax” ideas being floated by legislators include casino entrance fees and a special lottery, which have already proven to be unsustainable revenue sources for veterans’ and other programs.  Missouri is notorious for its failure to tackle serious tax reform; will a backlog of military veterans in need of care give lawmakers incentive to do the right thing?

Bills in both the Iowa House and Senate are advancing that would finally raise the state’s long stagnant gas tax rate.  ITEP recently found that Iowa hasn’t raised its gas tax rate in 22 years, and that since that time the tax has lost $337 million in yearly value relative to rising transportation construction costs.

On February 17, the President plans to visit a Boeing plant in Washington state to tout his proposed new tax breaks for American manufacturers. This is an odd setting to discuss new tax cuts, because over the past 10 years (2002-11), Boeing has paid nothing in net federal income taxes, despite $32 billion in pretax U.S. profits. A new fact sheet from CTJ explains.

Read the fact sheet.

Photo of Boeing Plant via Jeff McNiell Creative Commons Attribution License 2.0

In an attempt to bolster income tax repeal efforts in states like Oklahoma, Kansas, and Missouri, supply-side economist Arthur Laffer recently teamed up with an Oklahoma-based group to perform an analysis that predicts huge economic gains as a result of cutting state personal income taxes.  A new report from the Institute on Taxation and Economic Policy (ITEP) shows, however, that the analysis is fundamentally flawed.

Bear with us as we guide you through a few methodological weeds.

At issue here is what’s called a regression analysis – a statistical tool used to explain the relationship between one set of variables and another.  In this case, Laffer has attempted to explain how state income tax rates affect economic growth, and, according to Laffer’s regression, the effect is enormous. He shows an inverse relationship between taxes and growth. That is, the lower the tax rates, the greater the economic growth.  Repealing Oklahoma’s income tax, he therefore predicts, will more than double the rate of personal income growth and state GDP growth, and create 312,000 jobs in the process.

If this sounds too good to be true, that’s because it is.

As ITEP’s new report explains, Laffer performs a data sleight of hand to produce his result.  He includes federal tax rates in an analysis supposedly aimed at explaining a state tax system. And as it turns out, this decision hugely distorts the results.  It allows him to include in his overall “tax rate” figures the Bush tax cuts – which caused a 4.1 percent drop in the top federal tax rate.  At the same time, his measure of economic growth just happens to be taken from the early 2000’s, when the country was climbing out of the post 9/11 recession. That is, the economic growth indicators were improving just as the Bush tax cuts were going into effect.

Laffer essentially creates a bogus measure (federal and state tax rates combined) and maps it onto an exceptional moment in economic history.  This allows him to create the illusion that cuts in state tax rates between 2001 and 2003 fueled economic growth later in the decade.  If the analysis is refocused on just state tax rates, the findings fall apart entirely, as the regression no longer shows any relationship between state tax rates and economic growth.

But Laffer’s analysis is plagued by more problems than these.  Also notable, as covered in an earlier report from ITEP, is its complete failure to measure the impact of other factors, from sunshine to oil production, that contribute to state economic growth.  The flaws in Laffer’s analysis are so fundamental that its findings cannot be taken seriously. 

ITEP’s two companion critiques of why Arthur Laffer’s analysis should not be trusted can be found here.

Photo of Art Laffer via Republican Conference Creative Commons Attribution License 2.0

President Obama’s fiscal year 2013 budget plan would cut taxes by $4.1 trillion over ten years. A brief report from CTJ explains that most of this cost results from his proposal to make permanent 78 percent of the Bush tax cuts, which would reduce revenues by $3.5 trillion over a decade. The budget plan does include some good proposals that, together, would raise $1.1 trillion over a decade. Of course, these revenue-raising proposals don’t come close to offsetting the costs of the tax cuts.

Read the report.

• In this upside down world where closing a corrupt tax loophole is called a tax hike (like that’s a bad thing), some states are moving towards amending their constitutions to require a two thirds supermajority to raise taxes or borrow money. This is a shame. New Hampshire Senators, for example, are expected to vote on a supermajority proposal later this week. Here’s an excellent editorial from the Idaho Statesman and a new report from the Center on Budget and Policy Priorities about the perils of supermajorities.

• It’s been just over a month since Kansas Governor Brownback unveiled his tax plan and the criticism continues. His plan, which would raises taxes on the bottom 80 percent of the income distribution, was recently called “radical and troubling.” Attention is shifting to the House, where leaders are now introducing their own tax proposal which includes the most costly and regressive elements of the Governor’s proposal.

• Kudos to Kentucky Governor Steve Beshear for appointing his 23 member blue ribbon commission to study the  state’s tax system and propose ways to reform it.  Let’s hope they heed the governor’s call for “a tax system that produces adequate revenue that meets the needs of our people,” and his admonition that there comes a time “when slashing programs and services starts a downward spiral from which recovery is too difficult and too steep.”

• Good news from Nebraska, where it looks like support is weak for the Governor’s proposal to eliminate the inheritance tax.  Legislators know that revenue from this tax goes directly to counties, which would have to cut services or make up the revenues with regressive tax increases.

• Finally, in planning your Valentine’s dinner, you might think twice about eating at a Yum Brands restaurant (KFC, Taco Bell, and Pizza Hut) or serving Campbell Soup, H.J. Heinz or ConAgra Foods products.  Our Corporate Tax Dodging in the Fifty States, 2008-2010 found that, despite being profitable, these companies didn’t pay any federal corporate income taxes in at least one year between 2008-2010.

We are still analyzing the President’s latest budget plan, which was released today, but there are a few things we can say right now.

Unfortunately, President Obama has once again proposed to make permanent the vast majority of the Bush tax cuts. The administration manipulates baselines to pretend that allowing the expiration of a portion of the Bush tax cuts (which are already scheduled to expire under current law) raises revenue. The budget plan would actually make permanent 78 percent of the Bush tax cuts at a cost of $3.4 trillion over the next decade.

The budget plan includes other tax provisions, including about $1 trillion in tax increases and half a trillion in tax cuts. Of course, this means that the budget plan would not come close to raising enough revenue to pay for the parts of the Bush tax cuts that would be extended.

In some ways this budget plan is an improvement over President Obama’s previous budget plans. For example, while the President would still extend the Bush income tax cuts for the first $250,000 of income for married couples and the first $200,000 of income for unmarried taxpayers, his previous budget plans had partially extended the tax cut for stock dividends even for incomes in excess of those amounts. His decision this time around to allow stock dividends received by the rich to be taxed just like any other income is a step in the right direction.

Certain questions remain to be answered. For example, the Buffett Rule is sensible in concept but it’s unclear how the administration would implement it. The budget document says that the President “is proposing that the Buffett rule should replace the Alternative Minimum Tax.”

It’s unclear that the Buffett Rule could raise enough revenue to offset the cost of repealing the AMT. Even if it did, that would seem to mean that no new revenue would be produced because repeal of the AMT would cancel out the revenue effect of enacting the Buffett Rule.

Another area where more detail is needed is corporate tax reform. The administration is said to be planning a more detailed approach to overhauling the corporate income tax in a way that is revenue-neutral.

The administration should not bother attempting the overhaul the corporate income tax unless this would help resolve one of the biggest challenges we have — which is raising revenue to pay for public investments.

One of the most frequently repeated talking points used by lawmakers seeking to reduce or eliminate state personal income taxes is that doing so will usher in an economic boom.  Recently a number of observers, led by supply-side economist Arthur Laffer, have sought to bolster this argument by claiming that states lacking an income tax have economies that far outperform those in the states with the highest top tax rates.  But a new report from the Institute on Taxation and Economic Policy (ITEP) shows that the truth is exactly the opposite.

Over the last decade, economic output per person has grown significantly faster in the nine states levying a “high rate” income tax than in the nine states without an income tax at all.  And while “real” (inflation adjusted) median income levels have declined in most states, the drop has been much smaller in “high rate” states than in no-tax states.  To top things off, unemployment rates have been virtually identical across both types of states, which would undoubtedly come as a shock to anti-tax lawmakers promising that an improved job climate will come hot on the heels of income tax repeal. 

So where is the myth about booming no-tax states coming from?  The most recent claims are all based on a misleading analysis generated by Arthur Laffer, long-time spokesman of a supply-side economic theory that President George H. W. Bush once called “voodoo economic” because of its bizarre insistence that tax cuts very often lead to higher revenues.

This time around, Laffer ignores important economic measures like median income and unemployment rates in order to focus on aggregate numbers, like total growth in economic output and employment.  But the aggregate numbers are heavily skewed by changes in population, which just so happens to be growing fastest in the south and western regions of the country where most no-tax states are located.  Of course, huge population shifts like the long-running south and westward migration of the U.S. population aren’t determined by tax rates (population density, the housing market, birth rates, immigration, and climate are just a few of many factors that come into play), but this coincidence allows Laffer to suggest that such a relationship exists, even though he provides no evidence for it.

For more detail on what Laffer’s analysis misses, and how “high rate” states truly stack up relative to no-tax states, be sure to read ITEP’s recent report.