Topic: Tax and Budget Policy

Martin O’Malley’s Tax Increases

As scandals continue to swirl around Hillary Clinton, former Maryland Governor Martin O’Malley is positioning himself for a run for the Democratic nomination. He is relatively young, telegenic, and well-spoken. However, O’Malley has a record that includes tax hikes so large that they turned off even Democratic-dominated Maryland.  

As I discuss in the Daily Caller today, O’Malley:

  • Raised the top personal income tax rate from 4.75 to 5.75 percent. With local taxes on top, Maryland’s top rate is 8.95 percent.
  • Raised the corporate tax rate from 7.0 to 8.25 percent.
  • Raised the sales tax rate from 5 to 6 percent and expanded the sales tax base.
  • Raised the sales tax rate on beer, wine, and spirits by 50 percent.
  • Raised the gas tax by 20 cents over four years, almost doubling the rate from 23.5 cents.
  • Doubled the cigarette tax from $1 to $2 per pack.
  • Imposed higher taxes on vehicle registration.
  • Imposed a stormwater mitigation fee on property owners, or a “rain tax.”

O’Malley raised taxes on everybody, and by 2014 Marylanders had finally had enough. In the gubernatorial election, Republican Larry Hogan pulled off a stunning upset over Democrat Anthony Brown based on his promise to roll back some of O’Malley’s tax increases.

The choice then for Democrats is whether unpopular tax increases are the type of “hope and change” they want to run on in 2016.

Government Spending: Accounting and Economics

A Wall Street Journal story today looks at government spending through the lens of the national income and product accounts (NIPA). The article says that as government spending rises, it is “no longer dragging on growth.” Unlike recent years when spending was supposedly cut, the government today “has ceased to be a drag on growth.” But that is an unwarranted conclusion from the NIPA data, which are produced by the Bureau of Economic Analysis (BEA).

The BEA includes government output within overall gross domestic product (GDP). The first thing to note is that measuring government output is guesswork because most of it is not sold in the marketplace. The BEA solution “is to value government output in terms of the input costs incurred in production.” So if the government hires a worker for $80,000 to administer food stamps or impose new regulations, government “output” would rise by $80,000. That seems rather optimistic.

More importantly, NIPA data does not tell us the overall effect of government spending on growth. Let’s say defense spending rises $10 billion from added weapons purchases. NIPA would show government output rising $10 billion. The Wall Street Journal would have you believe that overall GDP would rise as well, but that ignores the effect of the spending on private output. Higher defense spending ultimately requires higher taxes, which are resources sucked out of the private sector. Also, Pentagon contractors would hire engineers and other skilled workers to produce the new weapons, drawing those people away from private goods production. As government output rose, the output of private goods would fall.

In the long run, private GDP would probably shrink more than $10 billion, and thus overall GDP would also shrink. One reason is that extracting taxes to fund federal spending generates “deadweight losses” as people reduced their working, investing, and other productive efforts. Another reason is that added government output is likely to be worth less than the private output replaced. That’s because government spending decisions are based on guesswork, whereas private spending decisions are guided by the price system, which helps direct resources to the highest-value uses.

So in the Wall Street Journal chart reproduced here, the reporter implies that when the blue line (government output) rises, the red line (overall output) is pushed upwards. But that ignores the negative relationship between the blue line and the yellow line (private output). The reality is that as the blue line rises, the yellow line would be dragged down, and that in turn would tend to drag down the red line over time.

For more on measuring the government in GDP, see here.

More Duplication in Government

The Government Accountability Office (GAO) releases an annual report on government duplication, fragmentation, and overlap. Since 2011 GAO has highlighted 440 different actions that Congress and the president could take to reduce this wasteful spending. This week, GAO released its updated report and included an additional 66 actions.

Here is a sample of items from this year’s report:

  • Consumer Product Safety Overlap. GAO found that more than 20 federal agencies are involved with the oversight of consumer products. For example, the Consumer Product Safety Commission is responsible for overseeing the safety of children’s toys, but the National Institute of Standards and Technologies oversees toy guns. GAO noted that the current structure does not “leverage each agency’s expertise and therefore may not be the most efficient use of scarce federal resources.”
  • Nonemergency Medical Transportation. GAO found 42 programs within the federal government that provide nonemergency medical transportation. These programs focus on enrollees who are unable to provide their own transportation because of age, income, or disability. GAO noted that many of these programs target “similar beneficiaries … and engage in similar activities.” It noted that a coordination council was created to eliminate some of these issues, but the council hasn’t met since 2008. “Without proper controls, cost or ride sharing with other non-Medicaid programs could allow for improper payments for individuals who do not qualify for Medicaid,” GAO reported.
  • Serious Mental Illness. Eight federal agencies, overseeing more than 100 programs, support individuals with serious mental illness, with 30 of those programs “specifically targeting individuals with serious mental illness.” GAO estimated that the 30 programs spent $6 billion in fiscal year 2013. While rules are in place requiring the programs to coordinate their activities, GAO said that coordination was “largely absent.”

Kill the Whole Jellyfish, or the Tentacles Will Grow

There’s a lot of debate right now about whether conservatives (I don’t know if anyone thinks libertarians can be reached) should support current No Child Left Behind reauthorization efforts. The “support this” argument is that bills in the House and Senate are not ideal because they would keep a major federal role in education, but they would end many bad things in NCLB and conservatives should take what they can get politically. But we just got a terrific illustration of what happens when you cut off just a few jellyfish tentacles: they grow back.

Yesterday, an amendment was passed in the markup of the Senate bill that would restore the 21st Century Community Learning Centers program. What is the 21st CCLC? A Clinton Era program that furnishes funds – $1.2 billion in FY 2015 – for before- and after-school activities and summer programs. The problem: It appears to be a failure. As I discussed a few years ago, federal studies of the program found it not only largely ineffectual, but possibly even a negative influence. As a 2005 report summarized:

Conclusions: This study finds that elementary students who were randomly assigned to attend the 21st Century Community Learning Centers after-school program were more likely to feel safe after school, no more likely to have higher academic achievement, no less likely to be in self-care, more likely to engage in some negative behaviors, and experience mixed effects on developmental outcomes relative to students who were not randomly assigned to attend the centers.

It isn’t just Cato folk who’ve stumbled on the research. The Brookings Institutions’ Mark Dynarski just laid into the 21st CCLC last month, writing that evaluations “reported on how the program affected outcomes. In a series of reports released between 2003 and 2005…the answers emerged: the program didn’t affect student outcomes. Except for student behavior, which got worse.”

A Tax Day Review

Today is Tax Day. Federal tax returns are due to the Internal Revenue Service with a postmark before midnight. The Congressional Budget Office (CBO) projects that the federal government will collect $3.2 trillion in revenue this year.

Revenue comes from five main sources:

  • Individual Income Taxes ($1.5 trillion). The largest source of federal revenues, individual income taxes are imposed on labor and capital income, with statutory rates that vary from 10 to 39.6 percent.
  • Payroll Taxes ($1.1 trillion). These taxes finance Social Security and Medicare. Employees and employers split the 15.3 percent tax assessed on wages, but economists agree that the entire burden ultimately lands on workers in the form of lower wages.
  • Corporate Income Taxes ($328 billion). These taxes are assessed on the worldwide earnings of corporations.
  • Excise Taxes ($96 billion). Excise taxes are consumption taxes on specific goods. At the federal level, excise taxes are charged on such things as gasoline and tanning salons.
  • Other ($206 billion). This category includes the remaining sources of federal revenue like federal tariffs and the death tax.  

The amount of money collected by the federal government ebbs and flows depending on economic growth, but the overall trend is upwards. Federal revenue decreased in 2008 and 2009 due to the Great Recession, but has since rebounded strongly for two reasons. First, the return of economic growth increases revenue collection. Second, the federal government has passed several large tax increases since 2010. In 2015, the federal government will collect the largest amount of revenue in its history, even after adjusting for inflation.

Taxpayer Democracy, for Each Taxpayer

Today, the day American taxpayers wonder if the federal government is really worth all the money and hassle, I have an article at the Washington Post on how to give taxpayers more control.

Why shouldn’t taxpayers make direct decisions about how much money they want to spend on other government programs, like paying off the national debt, the war in Iraq or the National Endowment for the Arts? This would force the federal government to focus time and resources on projects citizens actually want, not just efforts that appeal to special interests.

To do this, we’d have to expand the concept of the campaign financing checkoff to all government programs. With this reform, the real expression of popular democracy would take place not every four years but every April 15. A new final page of the 1040 form would be created, called 1040-D (for democracy). At the top, the taxpayer would write in his total tax as determined by the 1040 form. Following would be a list of government programs, along with the percentage of the federal budget devoted to each (as proposed by Congress and the president). The taxpayer would then multiply that percentage by his total tax to determine the “amount requested” in order to meet the government’s total spending request. (Computerization of tax returns has made this step simple.) The taxpayer would then consider that request and enter the amount he was willing to pay for that program in the final column–the amount requested by the government, or more, or less, down to zero.

A taxpayer who thinks that $600 billion is too much to spend on military in the post-Cold War era could choose to allocate less to that function than the government requested. A taxpayer who thinks that Congress has been underfunding Head Start and the arts could allocate double the requested amount for those programs….

Real budget democracy, of course, means not just that the taxpayers can decide where their money will go but also that they can decide how much of their money the government is entitled to. Thus the last line on the 1040-D form must be “Tax refund.”  The form would indicate that none of the taxpayer’s duly calculated tax should be refunded to him; but under budget democracy the taxpayer would have the right to allocate less than the amount requested for some or all programs in order to claim a refund (beyond whatever excess withholding is already due him).

I regret that space considerations required the loss of my historical context:

Ever since Magna Carta, signed 800 years ago this spring, the Anglo-American tradition of fiscal policy has been that the people would decide how much of their money they would give to government. Parliament arose as a representative body to which the Crown would appeal for funds. The monarch had to explain why he or she was seeking more funds–and Parliament frequently rejected the request as frivolous, wasteful, or actually injurious to the commonweal.

Today, of course, we can’t count on the legislative branch to guard our tax dollars, and technology makes it easier for us to direct them ourselves.

More on taxes – and Magna Carta – in The Libertarian Mind. Find ideas for government programs that are unnecessary or too big at Downsizing the Federal Government.

Can Inequality Get Worse If Poverty Gets Better?

Jim Tankersley of the Washington Post believes he has discovered “The Big Issue With Hillary Clinton Running Against Inequality”:

“Inequality got worse under Bill Clinton, not better. That’s true if you look at the share of American incomes going to the 1 percent, per economists Emmanuel Saez and Thomas Piketty. It’s also true when you look at the share of American wealth going to the super-super-rich, the top 0.1%, per research by Saez and Gabriel Zucman.”

What this actually reveals is the absurdity of (1) defining inequality solely by top 1% shares of pretax income less government benefits, and (2) judging any strong economic expansion as a failure because top 1% income shares always rise during strong economic expansions.

The graph uses the Congressional Budget Office estimates of top 1% shares, because (unlike Piketty and Saez) they include government benefits as income and subtract federal taxes.  What it shows is that both affluence and poverty are normally highly cyclical. When the top 1 percent’s share of after-tax income jumped from 11.2% in 1996 to 15.2% in 2000, the poverty rate simultaneously dropped from 11% to 8.7%.  Meanwhile, median income, after taxes and benefits, rose from $50,900 in 1993 to $61,400 by 2001, measured in 2011 dollars. 


Conversely, when the top 1% share fell from 16.7% in 2007 to about 12% in 2013 (my estimate), the poverty rate rose from 9.8% to 15%.  If we adopt the egalitarians’ top 1% mantra, must we conclude that inequality “got better” lately as poverty got worse?Top 1% and Poverty

The income peak of 2000 is a tough act to beat, and few of us are ahead of it today – least of all the top 1%. The brief surge in top incomes of 2006-2007, like the related speculative surge in housing prices, proved unhealthy and unsustainable. But weak economic performance and high poverty in the past four years is no reason to dismiss the 3.7% average economic growth of 1983-2000 simply because such prolonged prosperity made more people rich.

Tankersley also asks us to “look at the share of American wealth going to the super-super-rich, the top 0.1%, per research by Saez and Gabriel Zucman.”  As I’ve explained in The Wall Street Journal, however, the Saez-Zucman estimates misinterpret shrinking shares of capital gains and investment income still reported on individual tax returns, or shifted from the corporate tax to a pass-through firm, rather than (like most middle-class savings) sheltered in IRA, 529 and 401(k) plans.

It is easy to envision Republican partisans welcoming and adopting the Tankersley theme that Hillary Clinton should now be ashamed of the strong economy of 1996-2000 because “inequality got worse” as many new firms were created and stock prices soared. Yet whenever stocks crashed and the top 1% share fell (making inequality “better”?) the poverty rate rose and median incomes were flat or down.

Some Republican candidates have already alluded to the same pretax, pre-transfer “top 1%” figures to claim inequality worsened under Obama – meaning since 2009.  According to Piketty and Saez, real average incomes of the top 1% were indeed higher in 2013 ($1,119,315) than in the crash of 2009 ($975,884).  Before crashing below $1 million in 2009, though, top 1% incomes had been much higher in 2007 (the equivalent of $1,533, 064 in 2013 dollars) and in 2000 ($1,369,780). The rising tide has not lifted many small boats or big yachts since 2009, because the tide hasn’t risen much; higher tax rates in 2013 certainly didn’t help.

The trouble with Republicans using highly cyclical top 1% statistics as a political weapon against Democrats is that doing so requires capitulating to the divisive and dishonest leftist fallacy that poor people and middle-income people do best when the top 1% is doing badly.

The truth is that the poverty rate fell sharply and middle-incomes rose briskly in President Clinton’s second term, and the top 1% gladly reported more taxable income and paid more taxes as the tax on capital gains was cut from 28% to 20%.  There is a lesson to be learned here, but it is not to denigrate the so-called rising inequality of the late 1990s.