Citizens for a Sound Economy

August 14, 2003

by Max Pappas, CSE Policy Analyst

Shortsighted State Tax Hikes Raising taxes actually slows economic and tax revenue growth.

Here’s a little secret many governors and state legislator across the country don’t seem to be in on: raising taxes slows down the economy. A slower economy means less tax money for the state. It would seem, however, that in a time of budget shortfalls, politicians would want to stimulate the economy to bring in more money to spend—which we all know they love to do. Why, then, are states increasing taxes by a total of $17.5 billion this year—breaking the record set in 1992? Because those who don’t learn from history are doomed to repeat it.

Looking at the record of the past decade is all that should be needed to scare a politician away from a tax hike. In the early 1990s, when faced with a recession and budget deficits, fearless leaders in state capitals chose one of two roads: raising taxes or lowering taxes.

In States Can’t Tax Their Way Back To Prosperity: Lessons Learned from the 1990-91 Recession, a report for the American Legislative Council, Steve Moore finds that tax cuts are clearly the better choice. “States that attempt to balance their budgets with higher tax rates are likely to lose jobs and businesses and thus create even larger long term structural deficits,” says Moore. “In the early 1990s, roughly a dozen governors signed major income tax hikes into law in an attempt to close budget gaps…these tax-raising states had among the worst subsequent rates of economic and income growth.”

Moore goes on to look at the state of state economies during time of rising taxes and times of falling taxes.

In 1990 the only thing growing in Arizona’s economy was unemployment. Gov. Fife Symington took over, and from 1992-94 cut taxes $1.5 billion. Over this period, job creation, population, and new business creation grew at three times the national average.

In California, in 1990, Gov. Pete Wilson raised taxes by $7 billion, the most in the history of the fifty states. California’s economy got worse. From 1990-1993 350,000 jobs were lost. In 1995 the tax hike was repealed. Over the next four years, the state gained more than 200,000 jobs.

In 1991 Connecticut passed its largest tax hike in history, becoming the 41st state with a personal income tax. The tax hike devastated the insurance, defense, and banking industries and 125,000 jobs left the state. Gov. John Rowland reversed the trend in 1995-96 by cutting income taxes by $300 million, financed by a zero-growth budget that cut general assistance welfare, public housing aid, transportation funds, and imposed a hiring freeze. Between 1995 and 1999 all the lost jobs were replaced.

Georgia was at the front of the pack in 1990s, in terms of both tax cuts and economic growth. Then-Gov. Zell Miller enacted a series of tax cuts, including a $500 million cut exempting food from sales tax. Georgia experienced a boom, growing more than twice the regional average between 1990-96, and had the fastest growth rate east of the Mississippi.

In his last budget for Massachusetts, Gov. Michael Dukakis tried to close a $1 billion deficit with a series of tax hikes. But the deficit remained until Gov. William Weld took over, canceled several of Dukakis’ tax hikes, pushed eight tax cuts in his first term, reduced public payroll, restrained spending, and privatized several state services. All of the 150,000 jobs lost under tax-hiking Dukakis were replaced under tax-cutting Weld.

In Michigan, Gov. John Engler took over a state that had net no new jobs in two years. He passed 15 tax cuts and slashed spending, which lowered unemployment in this once- rust-belt state to below the national average. Under a more limited government, the Michigan economy was able to create 500,000 jobs during Engler’s first two terms.

During Jim Florio’s tenure as governor of New Jersey from 1990-94 a number of “soak-the-rich” tax hikes were passed. Jobs were lost and there was virtually no income growth. Christine Todd Whitman took over after running on a Reaganite 30 percent across-the-board income tax cut pledge. Personal income proceeded to grow by nearly 4 percent per year following the $1.2 billion savings for taxpayers.

New York lost 500,000 jobs between 1990 and 1995 under the tax-hiking stewardship of Mario Cuomo. George Pataki took office and enacted a tax cut ($2.5 billion) as large as those of the rest of the states combined. By the end of Pataki’s first term, all the lost jobs were back.

Pennsylvania in the early 1990s was led down the tax hike road to the tune of $2 billion by then-Gov. Robert Casey. Virtually no jobs were created between 1990 and 1995. Gov. Tom Ridge took over, pushed through pro-growth tax cuts and Pennsylvanians saw 200,000 jobs created from 1996-1998.

These results, as Moore points out, are consistent with the findings of earlier studies, like a 1993 Joint Economic Committee report that found businesses in tax-avoiding states created 653,000 new jobs from 1990-93, while tax-increasing states saw jut 3,000 new jobs—and the tax-increasing states had a much larger population.

The current budget shortfalls provide a golden opportunity for leaders to bring their states down the right path. The evidence is clear that lower taxes lead to more growth and more jobs. Legislators and governors can both weed out the wasteful spending added in the booming 1990s and leave their state more prosperous at the same time.

The history is there to be learned from—or repeated.