Topic: Tax and Budget Policy

Bulgaria’s October 5th Elections: A Flashback at the Economic Records

Bulgarians will go to the polls on October 5th to elect new members of its parliament and thus a new government. Before casting their votes, voters should reflect on the economic records of Bulgaria’s governments since 1995.

Every country aims to lower inflation, unemployment, and lending rates, while increasing gross domestic product (GDP) per capita. Through a simple sum of the former three rates, minus year-on-year per capita GDP growth, I constructed a misery index for each of Bulgaria’s six governments since 1995 (see the accompanying table).

The Pension Burden on State Budgets

Cato’s “Fiscal Policy Report Card on America’s Governors” focuses on short-term tax and spending decisions made by governors. But governors and legislatures also make important decisions that will affect state budgets over the longer term.

As Chris Edwards and I discuss in the Report Card, one area of particular concern is compensation for state workers, particularly retirement benefits.

Total wages and benefits for state and local workers was $1.3 trillion in 2013, which accounted for 53 percent of all state and local spending. That is a huge cost that could rise substantially in coming years, particularly in those states that have large funding gaps in their retirement plans. Governments have promised their workers generous pension and retirement health benefits, but most states have not put enough money aside to fund them.

In recent years, many states have modestly trimmed benefits and increased worker contributions for retirement plans. However, more reforms are needed, as recent studies have shown. A study by the Center for Retirement Research (CRR) at Boston College found that the average funding level—the ratio of assets to liabilities—for public employee pensions was just 72 percent in 2013 after declining substantially over the past decade. Based on the usual accounting for these plans, the unfunded liabilities in state and local pensions total $1.1 trillion, according to CRR.

Those numbers understate the size of the problem. Most financial economists think that the discount rate used in official valuations of government pension liabilities is too high, or too optimistic. When CRR used a lower discount rate of 4 percent instead of the average official rate of 7.7 percent, the value of unfunded state and local pension liabilities skyrocketed to $3.8 trillion. Our Cato colleague, Jagadeesh Gokhale, argues even that is too conservative as it only includes currently accrued pension costs. He estimates that the funding gap for accrued benefits plus future accruals under today’s generous pension rules is about $10 trillion.

Many states have made modest reforms to pensions in recent years, but larger reforms are needed. Without reforms, state budgets will be put under increasing stress and part of the burden of pension benefits will land on future taxpayers.

Grading America’s Governors

This morning, Cato released the 12th edition of the “Fiscal Policy Report Card on America’s Governors.” The report card uses statistical data to grade the governors on their tax and spending performance from a limited-government perspective. The governors who cut taxes and spending the most receive an “A,” while the governors who increase taxes and spending the most receive an “F.”

Four governors were awarded an “A” on this report card: Pat McCrory of North Carolina, Sam Brownback of Kansas, Paul LePage of Maine, and Mike Pence of Indiana.

The common theme among these Republican governors is fiscal restraint. All four proposed or signed into law large tax cut packages in their state while also holding the down the growth of state spending.

At the other end of the fiscal spectrum, eight Democrat governors were awarded an “F.” These governors substantially increased taxes and spending within their states. They were: Mark Dayton of Minnesota, John Kitzhaber of Oregon, Jack Markell of Delaware, Jay Inslee of Washington, Pat Quinn of Illinois, Deval Patrick of Massachusetts, John Hickenlooper of Colorado, and Jerry Brown of California.

Over the years, the data-driven Cato report cards have shown that Republican governors are more fiscally conservative, on average, than Democrats. However, there are some Democratic centrists who have recently made important tax reforms, including Andrew Cuomo of New York and Lincoln Chafee of Rhode Island, who both earned a “B.”

Fiscal decisions made by governors matter to state economies. Much attention is paid to the uncompetitive federal corporate income tax, which collected $274 billion in 2013. But state and local taxes cost businesses $671 billion in 2013. The largest state taxes on businesses are property taxes of $242 billion and sales taxes on business inputs of $140 billion. The good news is that some governors are working hard to reduce these job-killing burdens.

The airwaves are full with pundits making observations about the political situation of various governors. The Cato report card allows you to sidestep the noise and see what the data shows about whether a governor is growing or restraining government.

Curious how your governor scored? Check out the full rankings.

Government Crowding Out, USPS Style

This is a really bad policy idea: the U.S. Postal Service wants to get into the grocery delivery business. Economists will sometimes support government interventions in industries where there are serious market failures. But with grocery delivery, private businesses are already performing the service, and no market failure is evident.

The USPS grocery idea is a desperate attempt to save the agency’s hide, rather than to solve any problems in the marketplace. The Washington Post frames it correctly: “After nearly six years of multibillion-dollar losses, the U.S. Postal Service has developed a new plan to help turn its finances around: Daily grocery deliveries.”

The problem is that government expansion into an activity squeezes out private providers and deters entrepreneurs from getting in. As the government expands, the private sector shrinks. Such “crowding out” occurs in many areas. An op-ed in the Wall Street Journal [$] today on retirement savings in different countries notes, “OECD data show a strong negative relationship between the generosity of public pensions and the income that retirees collect from work and private saving.”

The decline in mail volumes is prompting the USPS to extend its tentacles. GovExec reports, “from banking to passport photos, nearly all postal reform stakeholders agree any legislation must unchain the Postal Service to leverage its unique, in-every-community network to create new sources of revenue.” By “stakeholders,” GovExec appears to mean groups—such as the labor unions—that benefit from the subsidized status quo.

The Wall Street Journal reports [$] that the grocery gambit “is the latest in a string of aggressive moves by the Postal Service to compete in the package-delivery market.” But why would we want the government “aggressively” undermining private businesses, especially in an industry like package delivery that is already efficient and competitive?

If the USPS expands into new areas such banking and groceries, we will end up with a mess of cross-subsidies between the agency’s different activities. Banks, for example, would complain that subsidized USPS banking was undercutting them, which would be inefficient and unfair. Such disputes would be chronic, and each dispute would descend into a battle over accounting between lobby groups in front of Congress.

For more efficiency and less lobbying, Congress should be encouraging the USPS to shrink, not expand. Does it make sense for a letter carrier to deliver groceries? The best way to find out is to privatize the letter carrier, repeal its legal monopoly, and then let it have a go. Postal privatization works. Britain, Germany, and the Netherlands have shown the way. 

The Real Costs of HealthCare.gov

In May, Department of Health and Human Services (HHS) Secretary Sylvia Burwell testified to Congress that costs for building HealthCare.gov were $834 million. New research from Bloomberg Government suggests that Burwell’s estimate represents a low-end estimate.

According to the new report, spending for HealthCare.gov has been an estimated $2.14 billion. Burwell’s estimates did not include numerous costs related to the project. For instance, she did not include the contract costs for processing paper applications, which are used as a backup. That contract cost $300 million.

Burwell’s figure also does not include spending at the IRS and other agencies related to ACA requirements. For instance, the IRS is required to provide real-time interfacing with HealthCare.gov to verify income and family size for insurance subsidy calculations. Those requirements cost $387 million.

Bloomberg also includes $400 million in costs that were excluded by HHS using creative accounting. When it wrote the ACA, Congress did not appropriate money to HHS for the construction of a federal exchange. Instead, it provided unlimited grants to states to construct their portals. When many states refused to construct their exchanges, HHS was forced to develop HealthCare.gov, but without a dedicated source of funding. HHS said it would need to “get creative” about funding options, leaving many wondering where HHS would eventually get the money. According to Bloomberg, HHS shifted money around to finance the construction of HealthCare.gov, using a number of existing contracts to finance the website’s construction.

Finally, Bloomberg included $255 million more in costs than Burwell due to time period differences. Burwell’s costs were as of February 2014. Bloomberg included costs until August 20, 2014, and then projected the current level of spending forward to the end of the fiscal year, September 30th. But this means that their figures are likely conservative too because federal agencies often ramp up spending— particularly contract spending—as it closes out its fiscal year.

Implementing the ACA is a costly exercise; Bloomberg says the $2.14 billion for HealthCare.gov administration is only a small part of the full $73 billion costs of Obamacare since its passage in 2010. But the administration nonetheless owes taxpayers an accurate accounting for the costs of the system.

Travel Card Abuse in the Department of Transportation

Department of Transportation (DOT) employees are abusing their government travel cards, according to a new report from the agency’s Inspector General. The report suggests that DOT officials missed $183,000 in unallowable cash advances and $2.1 million in unauthorized purchases on government travel cards.

The report details numerous examples of abuse such as:

  • A Federal Aviation Administration (FAA) cardholder traveled to Houston, Texas, for 3 days and withdrew a $301 cash advance on the last day of the trip at an automated teller machine located 40 miles from his residence.
  • Between October 2011 and June 2012, an FAA cardholder collected seven cash advances totaling $719 while not on Government travel. On one occasion, this employee obtained a $104 cash advance on a race day at an Alabama Superspeedway…
  • Between February and August 2012, another FAA cardholder collected five cash advances totaling over $1,400 while not on Government travel…
  • An FAA employee who was not on Government travel visited a casino in Shawnee, OK, and collected three cash advances totaling $492 from his Government-issued travel card.
  • A former OIG employee collected two cash advances totaling $488, more than 2 years after separating from the Agency. DOT’s Financial Management Travel Card Management Policy requires that travel card accounts be closed when an employee leaves the department.

DOT is not the only agency with this issue. Last year, the Treasury Department announced misuse of cards within the Internal Revenue Service. Treasury found “more than 1,000” employees who abused their travel cards in fiscal year 2010 and 2011.

These types of employee ripoffs are not limited to travel cards. A 2008 report from the Government Accountability Office (GAO) found 41 percent of transactions on government purchasing cards violated “basic internal control standards.” Agencies were unable to provide appropriate documentation for 48 percent of large purchases that GAO studied. GAO found: “the Department of the Army could not adequately account for 256 items … each of which cost nearly $100,000.” One employee was able to withdraw $642,000 from her purchasing card over six years before being caught and sent to prison.

Purchasing and travel cards can be efficient in reducing overhead and streamlining processes, but agencies should ensure that proper audit controls are met so that more taxpayer funding is not wasted. Our bloated federal government purchases about $570 billion worth of supplies and equipment each year, so reform in this area is essential.

SBA’s Risky Franchise Lending

The Small Business Administration’s (SBA) stated mission is to aid small businesses and strengthen the economy. Under its popular 7(a) program, SBA provides private lenders with loan guarantees. In the case of default, SBA steps in to cover up to 85percent of the lender’s losses.

This structure encourages lenders to provide more loans, but also encourages the approval of riskier loans. The lenders are insulated from most of the risks of default.  

A new analysis conducted by the Wall Street Journal confirms that this arrangement induces SBA to provide loans that result in a large number of defaults. Default rates for some franchise companies can be as high as 40 percent. According to the Wall Street Journal:

Quiznos, Cold Stone Creamery, Planet Beach Franchising and Huntington Learning Centers Inc. ranked among the 10 worst franchise brands in terms of Small Business Administration loan defaults.

Franchisees of the 10 brands in the ranking defaulted at more than double the rate for SBA borrowers who invested in all other chains, according to a Wall Street Journal analysis of charge-offs of all SBA-backed franchise loans in the past decade.

Put another way, franchisees of those 10 brands have left taxpayers on the hook for 21% of all franchise-loan charge-offs in the past decade, collectively failing to pay back $121 million in SBA-guaranteed loans from 2004 through 2013.

Thirty percent of the loans provided to Quiznos and Cold Stone Creamery franchises ended in default. The losses from loans to Quiznos franchises totaled $38.4 million during the 2004 to 2013 period, while losses to Cold Stone Creamery amounted to $34.1 million.

This is not the first time that SBA’s franchise lending has been criticized. In a report focused on franchises, SBA’s Inspector General noted in 2013 that SBA “had not implemented a program or process to monitor risk in its portfolio.” The report continues: “SBA did not monitor portfolio segments to identify risk based on default statistics…SBA continued to guarantee loans to high-risk franchises and industries without monitoring risks, and where necessary, implementing controls to mitigate the risks.”

Franchise businesses are an important component of SBA’s activities. In its new analysis, the Wall Street Journal points out that “SBA guaranteed nearly $18 billion in 7(a) loans [in 2013], including $2 billion for franchisees.”

Taxpayers are picking up the costs of these government loan guarantees. SBA charges lenders fees to mitigate the costs of default, but the fee amount seem to be too low. Most recent years, SBA has received a net outlay, or subsidy, from Congress.

What should be done? At the very least, SBA should take its inspector general’s recommendations and review its practices regarding franchise loans to reduce the number of defaults. Ideally as argued on www.downsizingovernment.org, SBA should be closed down.