Cronyism

No Snake Oil, Life is About Incentives

By Jonathan Small, CPA

Many have heard the saying, “You reap what you sow.” This is an undeniable fact of life, reality. Essentially, this saying means that productive efforts eventually yield constructive results and destructive efforts eventually yield damaging results.

Recently, two groups — the Iowa Policy Project and Good Jobs First — released a report that purported to debunk Rich States Poor States, a premier policy document compiled by the American Legislative Exchange Council and featuring the work of Dr. Art Laffer.

The Oklahoman covered the release of the IPP and Good Jobs First report and, in the process, repeated the IPP/GJF claim that Dr. Art Laffer is selling “snake oil to the states” — a cute, but unfortunately inaccurate phrase. Both the criticisms embedded in the IPP/GJF report and the use of a cute term are utterly predictable: One needs cute titles to try to sell disproven myths. The critique is identical to the tenor of the usual opponents of pro-growth policies.

IPP, GJF and their local and national affiliates want us to believe incentives –personal reward for one’s own hard work, don’t matter. This liberal report is a regurgitation of the idea that job creators and people are not relocating from high-tax and high-burdensome environments because of these obstacles, but for other reasons like weather and urban city density challenges. To try to “control” for the movement of free people and capital between states, those who oppose pro-growth policies insist that the most relevant measure for growth is looking at select per-capita measures. Literature refuting such a myth abounds. In the OCPA report “Economics 101” for example, Dr. Laffer and I explain the flaws with such thinking.

The IPP and GJF study heavily relies on faulty metrics. The study also primarily looks at a four-year period — the “Great Recession.” A 10-year period is more appropriate and comprehensive. The study supports a high-tax model for states on the basis that high-tax states outpaced low-tax states in growth in per-capita income over a narrow time frame – but per-capita income is a misleading metric, especially in the short term. As unemployed or low-income individuals leave high-tax states to seek enhanced economic opportunities elsewhere, the unemployment rate of that high-tax state decreases and per-capita income rises. That looks good on paper – but, in reality, the state has lost a worker and the potential revenue they would have generated. The overall economy of the state shrinks.

As explained in a recent by Sen. Jim Buck and Ben Wilterdink:“…The strongest claims to support the high tax model are supported by measuring a state’s growth in per-capita income over the narrow time frame. This is a deceiving metric because it penalizes states that have a high rate of population growth and rewards states for losing citizens (and their incomes). Low tax states are booming with people and businesses flocking into them, mainly coming as refugees from their high tax counterparts. Recent census data is clear on this point. For example, California gained no congressional seats in 2010 for the first time in its history; Texas, by contrast, picked up four more seats this census. As people flee high tax states for opportunity and jobs, the population decreases, which can substantially spike the per-capita income of the state. This point is especially relevant when unemployed people leave a state with high taxes to find a job in another (commonly low tax) state. Their $0 of income is no longer calculated into the per-capita measures and neither is their unemployment status. Voila! The state they left now has higher per-capita income growth and even a lower unemployment rate, but the state has lost a citizen, a worker, and potential future revenue they would have received, shrinking the overall economy.

Serious observers will normally consider 10 years, at minimum, when measuring economic trends and will examine total Gross State Product (GSP) growth. As the facts actually demonstrate, over the past 10 years, states without a personal income tax outperformed the highest tax states by a wide margin in total GSP growth, absolute domestic migration, growth in tax revenue, and non-farm payroll employment (job) growth. When discussing these measurements, the authors of the report simply dismiss them as “crude measures.” The thousands of state legislators who read Rich States, Poor States would disagree…”

The left’s fixation on “controlling” for the movement of population is also succinctly debunked by Todd Davidson and the Kansas Policy Institute

One needs only a simple drawing to see why these variables [Per Capita Real Gross State Product (GSP) Growth, Real Median Household Income Growth and Average Annual Unemployment] are inappropriate measures.

Description: Stick Figure 1

In the first scenario our state has nine individuals; seven earning an income and two unemployed. GSP per capita is $3, Real Median Household Income is also $3, the Unemployment Rate is 22 percent and our overall wealth is $28.

Now suppose the four low-income individuals decide to seek opportunities in another state. Now our state looks like this:

Description: Stick Figure 2

Our GSP per capita and Real Household Median Income rose to $5, the Unemployment Rate decreased to 0 and our overall wealth declined to $25. The outmigration of low-income earners caused our GSP per capita and Real Household Median Income to grow 66 percent and our Unemployment rate to drop 100 percent — but not one person’s wealth increased and, in fact, our state is worse off. We have fewer jobs and less wealth.

This is precisely what the IRS’ Adjusted Gross Income (AGI) data suggests is happening. From 2000 to 2009 the average AGI for each tax return leaving the nine states with the highest-income taxes was $59,502 (2010 dollars), which is $5,000 lower than the average AGI for all tax returns in those nine states, over the same period. Now we see why [opponents of pro-growth policies] carefully [choose] [these] measures.

Thanks to this map, put together by the Tax Foundation, we can see that the nine states without-an-income tax gained $117.6 billion from interstate migration [while] the nine high-income tax states lost $105.8 billion between 1999 and 2009. Data from the Census Bureau shows that during this time nearly 4 million fled the high-income tax states, while nearly 3 million found a new home in the states without an income tax. Just as the pictures above illustrate, [pro-growth policy opponents’] chosen measures can go up, even as wealth leaves.

Description: Tax Foundation Map

Let’s apply the left’s logic to the Oklahoma City Thunder. According to the Thunder (as of 12/5/2012), the team averages 105.7 points a game or 7.55 points a game per player. The Thunder starting five average 74.6 points a game or 14.92 points per player. Using the left’s logic, the Thunder would be far better off to cut those who don’t start to maintain the starting five’s higher per player average. As you can imagine, this would be disastrous, making the team incomplete. No team with just five players could complete an 82-game regular season, the playoffs and compete for an NBA World Championship. Many players on the team contribute. In fact, currently the bench’s combined points per game average exceeds Kevin Durant’s per game average.

Incentives and reward for constructive action aren’t just applicable to economic behavior. From the moment students enter school, the vast majority of their work is assessed and graded on an individual basis. Students earning “A” or excellent grades aren’t required to redistribute their grades to lesser performing students. In almost all areas of life, the expectation is individual achievement is recognized based on performance of the performer, and success or accomplishment is not redistributed to those not making such achievement. Across the world, people respond accordingly.

A review of the comprehensive ALEC report Rich States Poor States reveals that rewarding constructive performance and pro-growth policies works.

Consider the case in Oklahoma. Thanks to bipartisan efforts, Oklahoma has, in the past 10 years, decreased its personal income taxes by 25 percent, eliminated death and estate taxes, freed citizens to move freely throughout the marketplace as they choose, enacted lawsuit reform and avoided harmful regulations – all reforms that are recommended by Rich States Poor States.

During that time, Oklahoma has become one of the top performers in employment and other economic indicators.  Jobs are up. The state sales tax growth rate is more than 40 percent faster, the state set an all-time high record for sales tax collections for the most recent fiscal year and personal income tax collections grew over the prior year in a year when the personal income tax rate was cut again. According to the state Comprehensive Annual Financial Report, the number of middle-class taxpayers is growing and the number of low-income taxpayers is decreasing.

Pro-growth policies work, no matter whether they’re espoused by ALEC, Republican lawmakers like former Gov. Frank Keating and current Gov. Mary Fallin, or Democrat lawmakers like former Gov. Brad Henry and former state treasurer Scott Meacham. Oklahoma and states across the country are proving the reality: Incentives matter and rewarding hard work benefits everyone. Kudos to Gov. Fallin, who embraces the policies outlined by ALEC and even wrote the forward to this year’s edition of Rich States Poor States. No snake oil here, Gov. Fallin and policymakers in Oklahoma possess correct perspective and continue to prefer pro-growth policies, a reality the left and progressives can’t seem to tolerate.

Author’s Note: The IPP/GJF study is not only flawed, but the groups behind it — not surprisingly — are firmly entrenched in a particular ideological camp and boast all the usual affiliations. Read more.

Jonathan Small is Fiscal Policy Director at the Oklahoma Council of Public Affairs.


In Depth: Cronyism

Cronyism in tax policy stifles innovation, hinders competition and introduces a deep temptation for corruption. The 2014 ALEC Center for State Fiscal Reform study, The Unseen Costs of Tax Cronyism: Favoritism and Foregone Growth, found that in the most recent year in which states published their respective tax expenditure …

+ Cronyism In Depth