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August 14, 2014

Yes, Low-Tax States Are Out-Competing High Tax States

By

First, an apology. In a July 2 article in this newspaper [Investors Business Daily] I erred in citing Bureau of Labor Statistics numbers comparing the superior job creation performance of no-income-tax Texas and Florida with the two states with the highest income-tax rates, California and New York. This set off a brouhaha in the media — although the errors in no way change the conclusion that low-tax states have grown much faster than high-tax states.

I wrote that Texas had gained one million jobs in the last five years while California lost jobs. Regrettably, the correct period was a slightly longer period from January 2008- December 2013. Recall, the Great Recession started in December of 2007. The BLS household survey on employment finds that over this period Texas gained 1.08 million jobs and California lost 5,000 jobs.

The New York Times and others have criticized me for not including the numbers through the first half of 2014, which show that California has made a rapid turnaround and has gained jobs.

As for Florida, I wrote that it had gained hundreds of thousands of jobs while New York lost jobs. Well, New York did indeed lose 221,000 jobs over this same period. But Florida created only 29,000 jobs. (See table.)

Employment in the Four Biggest States

New York Times columnist Paul Krugman seized upon these revised numbers to argue, aha: taxes don’t matter when it comes to economic growth. Krugman examined the BLS job growth figures from December 2007 through June 2014 and found:

“Texas is, not surprisingly, the best performer. New York comes in second, followed by California, with Florida in last place. Not much of a clear ideological message.”

Yet even over the timeline that Krugman chose, Texas and Florida combined had net job growth (as measured by the BLS Payroll Survey) of 4.8% which exceeded by a good margin that of California and New York’s performance of 1.3% — hardly a persuasive counterargument that tax rates don’t matter.

Mr. Krugman concluded: “Real empirical work on state growth shows multiple factors — mildness of climate, cheap housing, high wages, and yes, some impact from tax rates. The idea that you would find an overwhelming one-factor correlation with taxes alone is something only a, well, Heritage foundation analyst could believe.”

This is like arguing that cancer doesn’t kill you because many people die from heart disease and stroke.

My real mistake was in citing short-term trend data in the first place. Such trends can be very misleading because, as this debate highlights, it matters a lot when you start and stop measuring. Short term discrepancies between the household and payroll surveys indicate that measurement error can be substantial over a few years.   The payroll survey figures are the more reliable data set.

It’s always best to examine trends over a long period of time. This helps smooth out statistical noise and extraneous short-term factors such as real estate bubbles, oil booms, and stock market bull and bear markets, which can distort the picture and cause some states to accelerate and others to swoon.

So I went back to 1990 to examine the long-term picture of these four states through June 2014, using payroll survey data. Remember, Texas and Florida have no income tax, and New York (counting New York City’s income tax) and California have over this period had nearly the highest rates (maxing out at about 13 percent).

Here are the results: Texas, up 65%; Florida, 46%; entire U.S., 27%; California, 24%; New York, 9%. The Texas jobs growth rate exceeded California’s by more than 2.7 to 1. (Weather doesn’t explain that, nor does the oil-price spike, because California is also one of the largest oil-producing states.) The Florida growth rate exceeded New York’s by about 5 to 1. Florida had almost double California’s job growth rate.

Arthur Laffer and I have examined the data back to 1970 in our book, “An Inquiry into the Nature and Causes of the Wealth of States.” No matter what 10 year period we reviewed from 1970 to 2012, we found that collectively the states with no income tax outperformed the highest income-tax states in terms of population growth rates and real personal income growth.

Yes, there are always outliers. There are always a few states with high income taxes that perform well. California’s Silicon Valley is surging now, while some low-tax states (Alaska of late) are doing poorly. There are clearly many other factors at play.

But taxes are indisputably a major factor in determining where businesses and capital and families locate. Consider the evidence from states that have adopted an income tax in the last 50 years. As we detail in the book, since 1960, there have been 11 such states, including Illinois, New Jersey and Connecticut. Every one of them has experienced slower growth than the rest of the country after adopting the income tax. Each one experienced diminished economic output and population relative to the national average. Does anyone really believe that happened by chance?

So why are income taxes so harmful? Because they are direct taxes on work, saving, investing and business creation. They are taxes on virtue, rather than vice. We tax cigarettes because we want people to stop smoking. So why do we tax work?

It’s curious that the left continues to deny this clear linkage between income taxes and job creation. After all, we’ve had a painful firsthand lesson on the impact of taxes on business location at the national level. Businesses are leaving the United States to lower their tax burden. The U.S. charges on average about 39 percent (including state taxes) while the rest of the industrial world averages closer to 25 percent. That, combined with our worldwide tax system, put companies headquartered here at a disadvantage. President Obama and congressional Democrats are so panicked by this exodus they are looking at ways to keep companies here by making the transactions more difficult instead of addressing the underlying problem of high taxes.

If we can all agree that corporations are moving across international borders to lower their taxes, why is it so hard to believe that families and businesses will move from one state to another to lower theirs?

 

A version of this commentary first appeared in Investor’s Business Daily. 

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