July 25, 1989

July 25, 1989 | Backgrounder on Federal Budget

"Taxes, Economic Growth, and Budget Deficits: What Washington CanLearn from the States"

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722 July25,1989 TAXES, IKONOMIC GROWI AND BUDGEX DETKITS WHAT WMHINGTON CAN LEARN FROM THE STATES INTRODUCTION For more than two decades, America's state governments regularly have been achieving the goal that continues to elude the fede ral government balancing their budgets. In fact, while the federal government has run a budget deficit in each of the last twenty years, the states always have finished the fiscal year with a cumulative net surplus.

Despite this impressive record at the state level, federal policy makers continue to ignore the lessons to be drawn from state budgeting practices.

For instance, most states have adopted powerful tools to check spending.

These include balanced budget requirements (49 states), line-item veto p ower for the governor (43 states and tax and expenditure limitations 26 states Explains a study by the Advisory Commission on Intergovernmental Relations the states have long had a good record of fiscal discipline, in large part because of [these] constit u tionally and statutorily imposed limits on legislative and executive behavior."2 Yet Congress refuses to enact similar restraints, despite their proved effectiveness Powerful Arguments. Of all the lessons to be learned by looking beyond the Capital Beltwa y , perhaps the most important is that raising taxes to balance the budget is rarely successful, and it undermines the economy. In Washington, the chorus for higher federal taxes simply presumes that hiking taxes somehow will improve the economy by reducing the deficit, so 1 The Book ofthe States (Lexington, Kentucky: Council of State Governments, 1988 2 Advisory Commission on Intergovernmental Relations Fiscal Discipline in the States: 1988 I 1.

I I I lawmakers today are determined to force George Bush to a bandon his no new taxes pledge. Yet the experience of the states over the last tiventy years argues powerfully against raising taxes.Those states that have kept taxes down have achieved more rapid rates of income growth, job creation, and business investm e nt than their high-tax neighbors. The economies of Arizona California, and until recently, Massachusetts surged during the 1980s; each cut, taxes sharply in the late 1970s or early 1980s. Conversely, three of the slowest growing states Iowa,- West Virgini a, and Wyoming substantially raised the tax burden on residents during the same period.

This should be sobering economic news for the Washington pro-tax lobby.

Just as high-tax states have lost jobs, businesses, and skilled labor to low-tax states so the U.S. runs the risk of surrendering economic competitiveness to foreign rivals if Congress increases the tax burden. This danger is heightened by recent developments in Europe and the Pacific Rim, where many of Americas competitors have cut tax rates to sh arpen their competitive edge?

Encouraging More Government Spending. Lawmakers have sought to defuse public criticism of tax increase proposals by pledging to use any new revenues to reduce the federal deficit. But once again, the track recordof the states demonstrates that such pledges mean little. Over the past two decades actions by states to raise taxes have resulted in higher spending, not lower levels of debt. States raising taxes have not improved their overall fiscal condition in the long run; rathe r , higher revenues simply have encouraged state legislators to vote for more government spending. The highly publicized fiscal crisis now confronting the Northeastern states is a dramatic case in point: Connecticut, Massachusetts, New Hampshire, New Jersey , and New York are struggling to avoid sinking deeper into debt. Yet the rise in tax collections in the region has outpaced the rest of the states by almost 25 percent during the last four years states. If they do, they will learn two things. First, the fe d eral budget deficit crisis is unlikely to be resolved by further increases in taxes. And second even more important they will recognize that raising taxes could sound the death knell to Americas seven-year economic expansion 4 Federal lawmakers thus shoul d pay close attention to the experience of the I 3 Stephen Moore, Why America Does Not Need NewTaxes, Heritage Foundation Backgrounder No. 680 November 22,1988 4 US. Bureau of the Census, Bureau of Economic Analysis, August 1988 2 HOW TAX HIKES IGNITE NEW S PENDING AND DEBT Ever since the early 1980s, when the nationwide tax revolt movement began to lose steam, federal legislators increasingly have argued that the U.S is undertaxed. A common public perception encouraged by lawmakers in Washington is that Ame r icans pay lower taxes today than they did in the 1970s and early 1980s, and that the federal deficit is rising because tax revenues have declined.The truth is that taxes have been edging upward at all levels of government, and by 1988, virtually all of th e tax relief granted in the 1978-1982 period had been taken back by government the American paycheck that is diverted to the coffers of government is back to the peak level ofJ981.Thirteen separate federal tax hikes have been One-Third of GNP in Taxes. The figure below shows that the percentage of enacted since 1982 while tax revenues at the state level have been growing for the last three years at roughly twice the rate of idation AS a result, tax receipts at all levels of government this year will exceed 1 .5 trillion or about one-third of gross national product GNF According to the nonpartisanTax Foundation, a moderate income 45,000 a year two-worker family this year will pay an estimated SliOOO in federal taxes. When Taxes as a Percentage of Gross Nationa l Product 1960-1988 371 I t 35 fj I X 31 e 28 i C i 27 t 1980 1984 1988 1972 1978 1980 1984 1988 Horllago InfoCharl National Income and Product Account basis; excludes nontax receipts.

Source: Department of Commerce, Bureau of Economic Analysis; and Tax Foundation computations 5 The National Conference of State Legislatures reports: In 1987 the overall [State/Local] tax burden in relation to personal income was close to what it had been 17 years earlier. National Conference of State Legislatures The Fiscal Letter, NovemberDecember 1988, p. 1 6 1989 Tax Increases Have Arrived!n Tax Foundation, Tau Features, March 1989, p. 4 7 U.S. Bureau of The Census, Data on State Government Balances, 1 9 88 8 Moderate Income Family Will Pay Total Federal Taxes of $14,068 in Fiscal 1989, Tax Foundation, Tau Feahrres, March 1989, p. 2 3 state and local taxes are included, this family's total 1989 tax bill rises to about 20,000 a year As these data indicate, the tax revolt movement had only temporary success.The tax cuts of the late 1970s and early 1980s were only a brief interruption in the upward trend in taxation and the size of government.

Legislators in Washington and the states have built support for th e recent wave of tax increases by insisting that the revenues would reduce government red ink. Several studies indicate, however, that a jump in federal revenues tends to be associated with higher, not lower, subsequent budget deficits. This is because Co n gress tends to regard higher revenues as an open invitation to spend more A 1986 study in Public Finance Quarterly examined the relationship between taxes and deficits over more than a half century 1929-1982 Its chief finding the causality tests leave no d oubt that revenue increases lead to spending increases and not to smaller deficit 9 Public Finance Quarterly, April 1986, pp. 139-156 10 Although states with tax and expenditure limitations are generally more effective in controlling spending than states without them, state policy makers have discovered methods of evading statutory spending restraints.

These include increased reliance on "off-budget spending" and providing benefits through credit programs rather than direct spending. See JamesT. Bennett an d Thomas J. DiLorenzo, "Off-Budget Activities of Local Government: The Bane of theTax Revolt Public Choice, 1982, pp. 333-342 11 Michael Marlow and Neela Manage Expenditures and Receipts: Testing for Causality in State and Local Government Balances Aiblic Choice, 1987, pp. 243-255 Paul R. Blackley Causality between Revenues and Expenditures and the Size of the Federal Budget The Evidence from the States At the state level, it could be assumed that tax hikes would be more likely to achieve deficit reduction , since many states have constitutional expenditure limitations and almost all have balanced budget requirements.

These constitutional constraints limit the ability of legislators to spend away increased revenue flows resulting from economic growth or legi slated tax increases higher taxes lead to lower levels of government debt (or higher year-end reserves Examining state budget data between the 1952 and 1982, former U.S. Treasury Department economists Michael L. Marlow and Neela Manage conclude: "The resu l ts of our tests indicate similarities between the expenditure-tax receipt relations of state governments to those previously reported for the federal government Tax receipts cause expenditures at the state level of government 10 Nonetheless, on balance, t h e experience of the states refutes the claim that Tax Hikes and the Fiscal Crisis in the Northeast The states have learned just how damaging a tax hike can be.The national economic expansion since 1983 has yielded unprecedented revenue windfalls 4 I for t h e treasuries of most state governments. The decline in the unemployment rate from its peak of 9.7 percent in 1982 to the current rate of just over 5 percent alone has pumped between $15 billion and $20 billion each year into state coffers in boosted incom e tax receipts.The states benefiting most from the burgeoning national economy have been those in the Northeast. Personal income in the region grew about four times faster than in the nation as a whole between 1978 and 1987, and unemployment at the end of 1 988 stood at just 2.5 percent. With such healthy economic growth the Northeastern states should be among the most fiscally sound in the nation crisis. Next year several may be wallowing in red ink. Table 1 shows the expected deterioration for the eight No r theastern states between 1987 and 1990, based on forecasts by the National Association of State Budget Officers. Contrary to the widely held assumption that higher taxes bring fiscal balance the experience in the region is that tax hikes are associated wi t h budgets plunging into the red. By 1990, revenues in these states will have grown roughly between 20 percent and 25 percent faster than those in the rest of the country. But while year-end balances in other states are rising reserves in each of the reven ue-rich states are shrinking.

State policy makers in the Northeast region blame the crisis on a variety of factors beyond their control. Among them: the loss of federal aid; the impact of the 1986 Tax Reform Act on state revenue projections; and a cooling in the regional economy. These are lame excuses As The Washington Post reports, the real culprit is easy to pinpoint: The main reason for budget shortfalls from Concord to Trenton has been mushrooming spending prograins that doubled and tripled many outla ys in these prosperous states.12 Indeed, in the last two years alone, outlays escalated 37.3 percent in New Hampshire, 30.5 percent in Connecticut, 20 percent in New Jersey, 18 percent in NewYork, and 12.5 percent in Massachusetts.

Boom Wont Last Forever. The plight of the Northeast is a classic case of the ratcheting effect of government. Higher revenues trigger new spending which quickly becomes a politically indispensable fixture of the government. As the budget balance deteriorates, pressures mount for higher taxes. Explains New Hampshire State Representative Donna P. Sytek, the Republican chairman of the states Ways and Means Committee, We did a lot of good things in the years we had the money But] theres a constituency that now perceives these program s as essential, and we cant take them away.

We should have known [the boom] wouldnt last forever.13 spending that higher taxes cannot be counted on to provide long-term deficit Shrinking Reserves. Yet the Northeastern states are facing a severe fiscal It i s precisely because of this universal ratcheting effect of government I I I i I I I I I I I I I 12 Northeast 13 Bid I crambling to Pay the Bills, The Washington Post, April 16,1989, p. A-30 5 reduction solutions -either by members of state legislatures or by lawmakers in the U.S. Congress Table 1 Taxes and Reserves of Eight Northeastern States Compared with all Other States, 1987-1990 33 34 27 11 25 19 24 22 23 Budget Stabilization and General Fund Balance.

Source: National Association of State Budget Offi cers, Fiscal Survey of the States, 1988 and 1989 issues I I 6 TAXES AND ECONOMIC GROWTH RATES IN THE STATES Many proponents of large tax increases to balance the budget also assume that such measures have little adverse impact on the condition of the econ o my. Others, while acknowledging that progressive income taxes have negative economic effects, contend that taxes on consumption restrain consumer spending, promote national savings, and provide a convenient and relatively painless method by which the fede ral government can raise revenues. This reasoning has helped boost support for a wide range of consumption taxes, such as versions of a value-added tax, new gasoline taxes and higher sin taxes on beer, liquor, and cigarettes.

Because of the diversity in th eir tax policies, the fifty states offer a fertile testing ground for examining the impact of taxes on economic growth. Much of the early research on state tax policy concluded that taxes were not a significant determinant of economic progress. Concluded o ne prominent study, for instance empirical evidence that taxes affect interregional business location decisions is almost nonexistent.yy14 Yet more than a dozen studies conducted during the past ten years have produced very different results. The overwhel ming consensus of these more recent studies is that the high-tax states have performed less well than low-tax states during the last three decades. This research has yielded a number of important conclusions.

Among them 1 1) Incomes have grown fastest in low-tax states.

In a 1982 study, economist Robert Genetski of the Harris Bank in Chicago compared taxes as a ercentage of personal income in each state with income growth in the state?Genetski examined this relationship for the period 1963 to 19

80. Altho ugh he did not find a systematic relationship between average tax burden and income growth, he did uncover an inverse relationship between changes in state relative tax burdens and state relative economic growth. According toGenetski, Those states with de c reasing relative tax burdens tend to experience subsequent above average income growth. Those states with increasing relative tax burdens tend to experience subsequent below average growth study, the JEC compared tax policies in the sixteen fastest growin g states from 1970 to 1979 with those states experiencing the slowest economic The Joint Economic Committee (JEC) confirmed this finding.16 In a 1981 14 Michael Wasylenko, The Location of Firms: The Role of Taxes and Fiscal Incentives, In R. Bahl, ed Urban Government Finance: Emerging Trends (Beverly Hills, California: Sage, 1981 pp. 155-19

60. See also Joseph E. Pluta, Taxes and Industrial Location, Teras Business Review, Januarymebruary 1980, pp. 1-6 15 Robert J. Genetski, The Impact of State and.local Ta xes on Economic Growth: 1963-1980, Harris Bank Chicago, Illinois, December 17,1982 16 State and Local Economic Development Strategy: A Supply Side Perspective, staff study, Joint Economic Committee, October 26,1981 7 I 1 growth. The results, shown inTable 2, indicate that income growth in a state is inversely related to The ZeveZ of state and local tax burdens (including all taxes The changes in state and local tax burdens The amount of income tuxes levied in the state Thepmgm,sivity of the.income tax rate s in the state Table 2 more progressive a states tax code.

Source: Richard K. Vedder, State and Local Economic Development Strategy: A Supply Side Perspective, Joint Economic Committee; October 1981 These relationships were found to be statistically significant. Concluded the study The evidence is strong that tax and expenditure policies of state and local governments are important in explaining variations in economic growth between states -far more important than other factors frequently cited such as climate, energy costs, the impact of federal fiscal policies, e tc. It is clear that high rates of taxation lower the rate of economic growth, and that states that lower their tax burdens are rewarded with an enhancement in their economic growth. Income taxes levied on individuals and corporations are particularly det r imental to growth, more so than consumption based taxes or user charges that do not reduce incentives to work or form capital. Progressive I I i 8 taxation not only lowers the rate of economic growth compared with proportional or regressive taxation but i n the process hurts the very persons that progressive taxes are designed to help: the p00r.l A 1988 study by A.B. Laffer Associates shows similar results for the 1980s during the 1980-1986 period the Laffer study concludes, a negative and significant relat i on [emerged] between changes in states relative tax burdens and their rates of economic growth. Mer Associates notes that as much as one-third of a states economic performance is associated with changes in the average tax rates relative to the national av erage.lg 2) Employment has grown fastest in low-tax states.

States with low and declining tax burdens have created most jobs particularly jobs in manufacturing and high technology industries. In a 1985 study, economists Michael Wasylenko of Pennsylvania St ate University and Therese McGuire of the State University of New York at Stony Brook concluded that between 1973 and 1980 the overall tax effort (taxes as a percentage of income) in a state had a negative and statistically significant effect on overall e m ployment growth and on employment growth in manufacturing, retail trade and services.u) In addition, the study found that sales taxes, which are widely assumed to have no effect on employment opportunities, in fact had a ne ative and statistically signifi c ant effect on wholesale trade employment. The single exception to this general finding was where increased taxes were used to fund education; then the effect of taxes on economic growth was positive as well as states. Princeton economist Robert Grieson in v estigated employment growth during the 1960s and early 1970s in NewYork and i This negative relationship between taxes and employment applies to cities 17 Bid p. 340 18 Victor A. Canto, The State Competitive Environment: 1987-88 Update, A.B. Laffer Associ a tes, February 1988 19 Victor A. Canto, et al The State Competitive Environment, A.B. Laffer Associates, August 1984 u) Michael Wasylenko and Therese McGuire, Jobs and Taxes: The Effect of Business Climate on States Employment Growth Rates, National Tar Jo urnal, Vol. 38,19q, pp. 497-511 21 77ie Wall Street Journal has provided anecdotal evidence to support the claim that sales taxes affect employment. It reports that Seattle has an 8.1 percent sales tax, while Portland, Oregon, has no sales tax.

General mer chandise sales are 69 percent higher in Portland than in Seattle even though income is 18 percent higher in Seattle. Forty percent of all new jobs in Portland are in the retail trade sector. See Gary Eider Portland, Oregon: Washingtons Bargain Basement, 7 7 ie Wall Street Jountal, January 25,1989 9 Philadelphia.22 He found that every 30 percent increase in city income taxes during the period resulted in a drop in manufacturing employment of 11 percent in Philadelphia and 10 percent in New York City. Similarl y , a New York City commission study estimated that, in the 1970s, every one percentage point rise in the city income tax led to a loss of 44,500 manufacturing jobs 23 3) Rising state taxes deter business investment Businesses tend to avoid states with rela t ively high tax burdens. In a 1985 study examining the period 1972-1978, Timothy Bartik of Vanderbilt University found that the plant location decisions of Fortune 500 companies were significantly influenced by state tax policies. According to Bartik A 10 p ercent increase in a states corporate income tax rate (for example, from 4.0 percent to 4.4 percent) is estimated to cause a 2-3 percent decline in the number of new plants. A 10 percent increase in a states average business property tax rate (for example , from 2.0 percent o 2.2 percent) is estimated to cause a 1-2 percent decline in the number of new plants These changes in business location patterns put some limitations on the ability of states to redistribute income away from corporate stockholders, bot h in state and out of state, and toward other state residents 25 Important to Businessmen. A 1982 survey of corporate executives of high technology firms, conducted for the Joint Economic Committee, similarly found that businesses are attracted to low-tax a reas Table 3 shows that more than two out of three executives considered the level of taxes in a region and the taxes imposed in states within a region to be very important or important determinants in choosing plant location. The study also revealed that the issue of whether taxes fall directly on workers or on businesses is less important than the overall level of taxes in the state.

Explained the report 22 Robert Grieson, et al The Effects of BusinessTaxation on the Location of Industry, Jountal of Urba n Economics, April 1977, pp. 170-185; Robert Grieson, Theoretical Analysis and Empirical Measurement of the Effects of the Philadelphia IncomeTax, Jountal of Udan Economics, July 1980, pp. 123-137 23 Temporary Commission on New York City Finances, The Eff e cts of Taxation on Manufacturing in New York, 9th Interim Report, December 1976 24 Timothy Bart Business Location Decisions in the United States: Estimates of the Effects of Unionization Taxes, and Other Characteristics of States, Journal of Business and E conomic Statistics, January 1985, pp. 14-22 25 lbid., pp. 19-20 26 Robert Premus, Location of HighTechnology Firms and Regional Economic Development, Joint Economic Committee, 1982 10 State and local taxes influence the willingness of high technology comp a nies to invest in a region for two interrelated reasons. First, the portion of the tax bill that falls directly on business will result in a reduction in the rate of return on investment in new technologies. Second, the portion of the tax that falls on wo r kers will result in a reduction in real after-tax income and make it more difficult for high technology companies to attract and hold skilled labor. As a result, in a tight labor market, state and local taxes are likely to be forced onto the businesses in the form of tax-compensated wage increases, reducing further the rate of return on investment in the region. 27 Table 3 Taxes and StatelRegional Business Investment Top Five Factors that Influence I Regional Plant Locations Labor Skills/Availability Top F i ve Factors that Influence Plant Locations I within Region Local Attitudes Toward Business Property and Construction Costs Source: Robert Premus, Location of High Technology Firms and Regional Economic I Development, Joint Economic Committee, 1982 27 hid p . 370 11 HOW TAX HIKES ENDED THE MASSACHUSETTS MIRACLE The relationship between taxes and economic growth is underlined by comparing the economic performance of states that raise taxes with that of states that cut the tax burden.Table 4 compares the real p e r capita income in the five states that raised taxes most rapidly between 1978 and 1987 to the five states that made the deepest tax cuts.The tax-cut states saw per capita income rise by an average of 83 percent over the period, while in the five tax-incr ease states it fell by 1.1 percent.The average unemployment rate in the tax-cut states fell by 0.5 percentage points, while joblessness rose by 2.6 percentage points in the tax-increase states Table 4.

Taxes and State Economic Development in the 1980s I 14.1 13.4 4.9 4.2 3.8 20.1 -17.5 12.5 1 1.7 11.6 3.6 19.6 3.5 15.4 1.3 1.1 8.8 30.1 2.9 5.1 11.7 8.5 lent rate in 1978 1.6 5.3 2.6 0.2 1.5 2.6 1.3 -2.9 0.4 1.2 0.1 0.5 Excluding Alaska.

Source: National Conference of State Legislatures, Interstate Tax Compa risons and How They Have Changed Over Time, Legislative Finance Paper No. 66,1989; U.S. Department of Commerce, Bureau of Economic Analysis, unpublished data on state income growth; and U.S. Department of Labor, Bureau of Labor Statistics unpublished data , 1989 12 Miracle Running Out of Gas. Massachusetts is a microcosm of how changes in tax burdens can have a dramatic effect on the economic fortunes of a state. Between 1970 and 1978, the states tax burden as a percentage of personal income rose by one-fif th the third largest tax rise in the nation.

Per capita income plummeted. The state earned the derisive nickname Taxachusetts and was quickly on its way to becoming a banana re ublic recalls University of Massachusetts Professor Ralph Whitehead, Jr!Then in 1980 the state passed Proposition 2 1/2, modeled after Californias 1978 Proposition 13 tax cut, and shortly thereafter it cut capital gains taxes substantially. The passage of these two tax cuts slashed the states relative tax burden by almost 20 percent . The economy surged, and with it, state tax revenues. By 1986, per capita income had risen by almost 30 percent -five times faster than the national average. This economic success was quickly touted as the Massachusetts Miracle.

Beginning in 1986, however , the tax-cut strategy was put into reverse in an attempt to pay for surging state government spending that had followed the growth in revenues. The result: growth has stalled. The states budget reserves have evaporated, it had to issue $2 billion in shor t -term debt just to meet its payroll obligations this year, and its financial bond rating has been lowered twice in the past twelve months by Standard and Poors. With the state now battling declining employment the Massachusetts Miracle has run out of gas 2 9 THE IMPLICATIONS FOR FEDERAL POLICY MAKERS These studies of state taxes and economic growth show clearly that raising taxes threatens a states finances and undermines its economy. Still, many economists question the relevance of these studies to federal tax policy decisions. A common assertion is that federal taxes have a relatively minor effect on the national economy, compared with the adverse economic impact within a given state of higher state and local taxes. According to this thesis workers and bus i nesses will flee burdensome state taxes easily by moving across state borders, but they find that relocating abroad to escape federal taxes is much less practicable. Some analysts have even used this line of reasoning to argue that the federal government should take the lead in raising taxes, because the lower levels of government are constrained by the propensity of taxpayers to migrate to cities and states with lower taxes.

This thesis is plausible, but it is seriously flawed. There is mounting evidence that on the international level, as on the state level, taxes influence 28 Quoted in: Warren Brookes, Top Growth States HaveTax Sense, Znsight, October 27,1986, p. 51 29 Foundation for Economic Research, New Massachusetts Reserves A History and Analysis 1 9 83-1988 Needham, Massachusetts, October 1988 13 I economic growth. In an increasingly integrated economy, multinational corporations frequently do move their plants abroad to capture the benefit from lower taxes. Indeed, the U.S. has been a notable and re c ent beneficiary of this phenomenon. By slashing top marginal tax rates from 70 percent to 28 percent, the U.S. became one of the worlds most attractive investment opportunities luring tens of billions of dollars of capital investment from abroad.30 Accord i ng to a recent report by Fortune magazine, this has prompted many of U.S. foreign competitors, including Japan, West Germany Britain and France, to begin chopping tax rates to keep their best brains at home.S1 Extraordinary Success. Several studies show t h at the relationship between taxes and growth at the state level can also be seen at the international level Low-tax countries are growing faster than high-tax countries?2 For example a 1987 study by Stanford economist Alvin Rabushka examined economic grow th in four of the worlds most rapidly growing nations Hong Kong South Korea, Malaysia, and Singapore. Rabushka found that tax policy has been critically important to the extraordinary success of these economies.

The governments in these four countries adop ted either the model of a neutral, broad-based, low tax rate system (Hong Kong or that of selective incentives coupled with light taxation of capital (Korea, Malaysia, Singapore to propel their nations to upper middle-income advanced status in the short s pan of one generation.

State and international experience also suggests that federal consumer taxes would imperil national economic growth. While it is true that progressive income taxes have by far the most destructive impact on growth the overall tax bur den (measured as the percentage of income paid in taxes of all kinds) imposed by a country or state has enormous consequences for the rate of economic growth.This suggests that the most dangerous taxes are the so-called money machines. These are the widel y based consumption taxes that raise substantial amounts of revenue with only small changes in the tax rate. They include value-added taxes and gasoline taxes 33 30 Christopher Whalen, Should Americans Be Worried About Foreign Investment in the U.S Heritag e Foundation Backgrounder No. 720, July 20,1989 31 Quoted in AndrewTobias, New YorksTax Burdens May Drive People Out 77ze New Yonk Zinzes, January 30,1987, op ed page 32 Michael Marlow, Private Sector Shrinkage and the Growth of Industrialist Economies, Pu b lic Choice, Vol 44,1986, pp. 143-154; Alan Reynolds, The Urgency of International Tax Relief, In Supply Si& Analysis, 1985 33 Alvin Rabushka, Tar Policy and Economic Growth in Advanced Developing Countries, study prepared for the U.S. Agency for Internati o nal Development, 1987 14 CONCLUSION A 1985 report of the Advisory Commission on Intergovernmental Relations concludes that similarities between the states and the national government argue for the eneral relevance of state experiences to the national defi c it problem. Regrettably, Congress continues to bury its head in the sand by insisting that higher taxes are necessary to reduce the deficit and spur economic growth. Yet more than two decades of analysis of state fiscal policies shows that raising taxes s lows long-term economic growth encourages higher levels of government spending, and leaves the overall fiscal condition unchanged or worse.

Critical Point. It now appears that the availability of tax revenues is the only budget constraint limiting the size of government.f5 With government now consuming more than one-third of gross national product, and taxes back up to their pre-tax revolt levels, the U.S. is at a critical point.The state experience shows not only that raising federal taxes further is like ly to make the budget deficit picture worse, but also that it could derail nearly seven years of economic expansion.

Stephen Moore Grover M. Hermann Fellow B in Federal Budgetary Affairs 34 Advisory Commission on Intergovernmental Relations, 1985 35 This v iew is expressed in: Geoffrey Brennan and James M. Buchanan, The Power lo Tar: Anulyticul Foundations ofa Fiscal Constitution (New York: Cambridge University Press, 1980 and Michael L. Marlow and William Orzechisky, Controlling Leviathan Through Tax Reduc tion, Public Choice, forthcoming 15

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