Tax and Budget Policy

July 31, 2020 1:07PM

No More State Aid

In response to the crisis, federal policymakers have passed a series of aid packages providing hundreds of billions of dollars to state and local governments. Legislation, here and here, has provided $150 billion in flexible aid to the states plus more than $280 billion in other state and local aid for health care, education, housing, transit, food stamps, and other programs.

Congress and the administration are working on yet another bailout package. The House plan includes $1.1 trillion further aid to the states, while the Senate plan includes $105 billion for schools and colleges.

Federal aid to the states is harmful for many reasons. When tax revenues fall during recessions, state governments should tap their rainy day funds, cut low‐​value programs, freeze salaries, furlough workers, postpone new initiatives, and sell assets. The federal government can help by repealing rules that block the states from cutting spending on activities that receive federal money. Millions of American businesses are tightening their belts, so why not governments? Today’s lean budget climate is an opportunity to improve efficiencies in state and local agencies.

Even if some crisis aid to the states made sense, further aid would be too much. The aid already passed would mainly cover budget gaps if states were allowed maximum flexibility with the funds.

During the last recession, state tax revenues fell 10 percent from the 2008 peak and then began bouncing back. Recent projections suggest a decline this recession of no more than that. Tax Foundation surveyed current forecasts for a dozen states, and found that tax revenues are expected to fall about 4 percent in fiscal 2020 and 7 percent in fiscal 2021 from the fiscal 2019 peak. Tax Policy Center recently surveyed 27 states and found similar estimated declines, as did a recent study by economists Christos Makridris and Robert McNab. The budget gaps were larger when compared to a no‐​recession baseline of rising revenues.

In the chart, the red line is Census data showing state tax revenues rising for a decade and peaking at $1.09 trillion in calendar 2019. Then the red dashed line assumes a 10 percent drop in 2020 and recovery in 2021 and 2022. Tax revenues would be down $109 billion in 2020 and $55 billion in 2021 compared to the 2019 level, for a two‐​year loss of $164 billion. The losses would be somewhat larger measured against a no‐​recession growth baseline. But either way, the aid handed out already would mainly fill state budget gaps if states were allowed to use the money flexibly.

The blue line in the chart shows total federal aid to state governments. The projection, 2020 to 2022, is based on regular aid growing per the pre‐​virus federal budget, plus the $150 billion in flexible crisis aid already provided. The media has focused on how much state tax revenues might fall, but even if the federal government provided no crisis aid, the large part of state budgets funded by federal dollars would chug along with steady increases.

Lastly, note that while state‐​level tax revenues may fall 10 percent this year, local government tax revenues may not fall much, if at all. During the last recession, overall local tax revenues were flat for a while and then began rising again.

July 29, 2020 1:21PM

How Many Americans Get Subsidies?

This year is an extraordinary one for government subsidies. More than 150 million people received $1,200 stimulus checks. More than 25 million people have been receiving the $600 a week boost in unemployment benefits. Almost five million businesses and nonprofits have received aid through the PPP program. All this and other recession‐​related spending is imposing trillions of dollars of debt—and ultimately taxes—on younger working Americans.

Even during normal times, many Americans are hooked on federal payments of one type or another. The chart below shows the number of recipients of some major subsidy and benefit programs. As a point of reference, there are about 129 million households in the nation.

The data comes from Table 21–3 in the federal budget here. Some of the items are contractual obligations (such as employee pensions and payments to veterans), but most of the items are subsidies that can be, and should be, cut or repealed to fix our massive federal debt problem.

Aside from these programs, there are 2,000 or more other federal subsidy programs for state and local governments, businesses, nonprofits, and individuals. (These are described in a 3,709-page pdf available here). Over the decades, both the size and scope of federal subsidies has expanded, attaching ever more individuals and organizations to the government’s teats. Each program undermines the private economy, generates a bureaucracy, and spawns a web of regulations that micromanage society and reduce freedom.

There is concern about declining free speech in America, and government handouts add to the problem. Individuals and organizations that get hooked on subsidies essentially become tools of the state. They lose their independence and may shy away from criticizing the government and its many failures.

When the economy recovers from the current crisis, policymakers should turn their attention to cutting subsidies and freeing the nation from top‐​down cash and controls from Washington.


The figure for Medicare is for HI benefits.

Cato intern Camila Goris assisted with this post.

July 22, 2020 3:48PM

You Should Be Able to Challenge the IRS in Court

Although the Internal Revenue Service is responsible for collecting taxes, the power to write tax law is a legislative one, held by Congress. In certain cases, however, Congress has delegated to the IRS limited authority to fill in the gaps of tax laws through regulation. The Administrative Procedure Act (APA) lays out the processes that agencies like the IRS must follow when promulgating regulations, such as allowing for a period of public comment on proposed regulations. Unfortunately, the IRS has habitually refused to comply with the APA absent the intervention of the courts. The APA provides a remedy for such situations: pre‐​enforcement judicial review. This process allows an individual or entity to challenge the validity of a regulation that could affect it in court without having to first violate the regulation and risk the often severe consequences that would follow.

CIC Services, which advises taxpayers on certain types of complex transactions, is using pre‐​enforcement judicial review to challenge the validity of an IRS reporting requirement that it claims is invalid because the IRS evaded the regulatory procedures required by the APA. In response, the IRS invoked the Tax Anti‐​Injunction Act (AIA) to block the challenge and prevent CIC’s legal arguments from even being heard.

The AIA prohibits challenges to a tax before the tax has been collected. In most instances, a person challenging a tax assessment must first pay the tax and then file a claim for a refund. But CIC’s challenge is not to any tax but to the validity of the regulatory rule (and burden) passed by the IRS.

The IRS narrowly prevailed before the U.S. Court of Appeals for the Sixth Circuit when two of the three judges on the panel held that the penalty triggered by failing to follow the new reporting requirement was itself a tax, thus subjecting the lawsuit to the AIA. In doing so, the court widened an existing circuit split. (Cato had filed an earlier brief in support of a petition seeking review of a similar D.C. Circuit case, but the Supreme Court declined to take it up). Under the Sixth Circuit’s reasoning, the only recourse against defective Treasury regulations is to purposely violate the regulation and incur penalties and interest while waiting for a subsequent enforcement proceeding in which the regulation’s validity can be challenged.

CIC petitioned the Supreme Court to review that ruling, supported by a Cato brief, and the Supreme Court agreed to hear the case. Cato has now joined the National Federation of Independent Business and five other organizations in filing an amicus brief supporting CIC on the merits. We argue that an examination of existing exceptions to the AIA support the conclusion that the statute focuses on lawsuits that restrain assessment or collection, not pre‐​enforcement challenges. With the context provided by these built‐​in exceptions, the AIA looks less like one intended to pre‐​empt all suits affecting taxation and more like one that can exist comfortably alongside the APA and challenges to the validity of agency rulemaking.

Moreover, the Sixth Circuit’s interpretation creates an unnecessary conflict between the AIA and the APA. The APA contains a “strong presumption” of judicial review prior to enforcement of substantive regulations like the one at issue here. Congress intended that all agencies’ substantive regulations would be subject to such review under the APA, and it certainly didn’t intend for the IRS to be almost immune from accountability before federal courts. People have a right to be sure of a regulation’s meaning before engaging in costly compliance efforts, and that’s exactly what pre‐​enforcement judicial review provides.

The APA contains stringent procedural requirements for how regulations are to be promulgated. The IRS frequently ignores these requirements and must be reined in. The Supreme Court should hold that the AIA doesn’t deny CIC the right to its day in court.

July 8, 2020 3:17PM

Complexity in State Government

One of the factors undermining efficiency and performance in American government is the rising complexity of laws, regulations, programs, and bureaucratic procedures. Complexity raises costs, reduces transparency, and undermines sound management.

The problem is partly caused by the flood of money pouring from the federal government to state governments and from state governments to local governments. These flows come with extensive reporting requirements and with countless rules that micromanage how money is to be used and not used.

Other sources of complexity include court‐​ordered requirements, collective bargaining agreements, and activism by every incoming federal, state, and local politician wanting to add new programs as well as carve‐​outs and additions to existing ones. Governors don’t just want to increase spending on public schools in general, they want signature achievements they can brag about, such as raising teacher pay X percent, reducing class sizes Y percent, or creating programs with buzzy and aspirational titles to signal their issue leadership.

The administration of Utah Governor Gary Herbert discusses the complexity problem in its proposed budget for 2021. Utah is a conservative state that spends only a fraction of what liberal states do on a per capita basis, so the problems identified in these Utah excerpts are presumably worse in states such as New York.

The number of bills, resolutions, funds, line items, programs, and performance measures continue to grow over time.

… While no single measure can precisely capture the increase in complexity, some data provides a point of reference. The Legislature passed 574 bills and resolutions during the 2019 General Session, which represents a 47% increase over the 391 bills and resolutions passed in the 2000 General Session.

Not only is the overall number of bills increasing, but the complexity of appropriation bills is also continuing to grow. Each appropriation identifies a funding source and funding use, typically referred to as a line item. Additionally, separate allocations for specific programs may be identified within a line item. In FY 2020, 1,472 active programs are identified in the state’s accounting chart of accounts. This is 205 (or 16%) more active programs than in FY 2011.

This trend of increasing complexity is particularly concerning in the area of public education. In FY 2010, the public education budget split funding into 44 different programs outside of the Weighted Pupil Unit (WPU)-based Basic School Program. This increased to 62 different non‐​WPU programs in FY 2020, including 31 under the Related‐​to‐​Basic line item and another 26 under line items for the State Board of Education’s Initiatives, Science Outreach, and Fine Art Outreach.

Another recent trend is the creation of new funds or accounts to fence off funding for specific programs. In FY 2020, $688 million (or nearly 9%) of all Education Fund and General Fund appropriations passed through another fund or account before being allocated for their actual use.

… Excessive budget line items and programs also separates budget buffers. Agencies are permitted to move funding between programs within the same line item, but excluding a few statutory exceptions, may not move funding between line items. As a result, agencies may over budget for an individual line item because no other mechanism can reallocate funds to address emerging priorities or unexpected costs.

… There were over 800 performance measures in 2019 General Session appropriations bills.

… In the recent Performance Audit of Public Education Reporting Requirements, the Office of the Legislative Auditor General was unable to identify exactly how many different reports local education agencies (LEAs) are expected to submit each year. Based on reporting calendars from various entities, the auditors estimated the number of reports to exceed 300. The auditors said, “The difficulty lies in the large number of individual reporting requirements found in federal law, state statute, administrative rule, and department policy, let alone additional requests for data from various entities.”

This audit finding illustrates the needless overhead and complexity that occurs when people in positions of authority try to gain insight by breaking systems down into smaller and smaller measurable parts, often yielding more complexity and cost without improving performance.

… In summary, increasing complexity will make government more difficult to understand and lead to squandered opportunities. By contrast, replacing complexity with simplicity will help citizens better understand the services they are purchasing with taxpayer dollars and ensure that every tax dollar invested creates more value.

July 8, 2020 1:11PM

Collective Bargaining in State and Local Government

Congress is debating bills to address police misconduct as well as to provide further aid to state and local governments struggling with budget deficits. But the states can address both issues themselves with one reform: repealing collective bargaining for public workers.

State and local workforces are heavily unionized with 39 percent of workers covered by collective bargaining compared to just 7 percent in the private sector. Large majorities of public school teachers and police in big‐​city departments are covered by collective bargaining.

Public sector union shares vary widely across the states based on state collective bargaining rules. Many states, such as New York, mandate collective bargaining for most workers. At the other end of the spectrum, North Carolina and Virginia completely ban collective bargaining in government, which is the best policy approach.

I discuss government unions further in my new Examiner op‐​ed and in studies here and here.

This study by the Economic Policy Institute presents data on union membership, some of which I’ve posted below. The first chart reveals the revolution in public‐​sector unionism during the 1960s and 70s. The second chart reflects the large differences in union policies between the states.

figure 1
July 8, 2020 10:22AM

Taxpayer Funding for Stadiums: A New Documentary

“Throw a Billion Dollars from the Helicopter.” That’s the title of a new documentary on taxpayer funding of professional sports stadiums, and also the advice of a University of Chicago economist on a better way to help local economies.

We’ve written a lot about the economics of stadiums here, so it’s great to see the topic getting more attention. The documentary is available on Vimeo and—starting todayon Amazon Prime.

In 1989 an investment group headed by George W. Bush acquired the Texas Rangers. They promptly asked the city of Arlington, Texas, to build them a new stadium. In January 1991 voters approved raising sales taxes to pay 71 percent of the cost of the stadium. The “public” agency overseeing the project also seized surrounding land by eminent domain to allow the team owners more room for development. All told, the taxpayers chipped in about $200 million for the wealthy team owners, and the new stadium opened in 1994. Bush and his partners made big money when they sold the team in 1998.

But sports teams always want to keep up with the Joneses. Within 20 years or so the new owners wanted a newer, fancier stadium complete with a retractable roof. So they teamed up again with the mayor and city council and arranged for — this time — a $500 million bond deal. Civic leaders were all on board. A scrappy group of Tea Party‐​type residents calling themselves Citizens for a Better Arlington tried to stop the deal, but they were outspent 50–1 and often thrown out of public events and bullied by the mayor. In the end about 60 percent of the voters once again approved being taxed to help megawealthy investors build a stadium along with bars, restaurants, a hotel and other associated money‐​making enterprises. The proponents spent about $2 million on their campaign. Even in oil‐​rich Texas, you couldn’t find an investment with a better payoff.

The documentary has footage of the mayor and the council meetings and interviews with Arlington residents on both sides of the dispute. It also interviews leading sports economists such as Roger Noll of Stanford, Rod Fort of the University of Michigan, and Allan Sanderson of the University of Chicago—the one who said that if you want to generate economic development in a city you’d do better to just take the money, convert it into $20 bills, get a helicopter, and then throw “a billion dollars from the helicopter” down on the city. About 35 minutes in is a useful chart showing how much more expensive stadiums have gotten over the years (adjusted for inflation).

Special treat for Cato at Liberty readers: Near the end of the documentary a young man campaigning for the corporate welfare describes himself as really mostly a libertarian.

More on the economics of taxpayer‐​funded stadiums here and here.

June 29, 2020 1:41PM

Can Federal Assets Cover the National Debt?

The federal debt is $26.3 trillion and growing, having increased by a trillion dollars in just 40 days prior to last Friday. There’s too much complacency about the size of that debt, and much of this complacency can be traced to a 2013 study by the Institute for Energy Research estimating the value of federal land and energy resources to be around $200 trillion.

Since then, that study has been cited in Forbes, Time, MarketWatch, and by various bloggers, as well as President Trump’s staff, all of whom argue that don’t need to worry about the size of the debt because we can pay it off by selling federal assets. Unfortunately, this is based on a serious misreading of the IER study, mainly that the study used gross resource values, not the prices the federal government could get for its resources.

For example, the study assumed that oil is worth $100 a barrel, which is the price at a refinery. From this must be deducted the costs of finding, extracting, and transporting the oil to the refinery. The federal government’s share of the oil it sells was about $12 a barrel in 2013 and, with declining oil prices, about $9 a barrel in 2019.

The Institute for Energy Research may have understood the difference between gross and net values, but none of the people quoting them did. Moreover, I haven’t seen any indications that the institute bothered to correct these misinterpretations.

Worse, federal resources include so much oil, natural gas, and coal that it will take hundreds of years to extract it all. Federal coal reserves in the contiguous 48 states alone represent 1,300 years of American coal consumption. This means we can’t simply multiply the price of coal per ton by the number of tons owned by the federal government; we have to discount future coal mining by an appropriate interest rate.

Using a 3 percent discount rate, and assuming federal oil, gas, and coal is produced at a rate equal to half of all U.S. production (which is far faster than it is being produced today), all energy resources owned by the federal government are worth around $2 trillion, not $200 trillion. At a 4 percent discount rate, the value is reduced to $1.5 trillion. Even these numbers are questionable because more than 80 percent of the federal government’s oil is shale oil, which is the most expensive to extract, so royalties paid by oil producers for that oil will probably be lower than for other energy minerals.

Further, it is easily possible that energy substitutes for oil, gas, and coal will become available and economical long before the federal resources are exhausted. You can see my detailed calculations along with other caveats in this four‐​page paper.

To this can be added the value of federal lands. The federal government owns about 623 million acres of land. A 2015 paper from the Bureau of Economic Analysis estimated the 464 million acres of land in the contiguous 48 states was worth an average of $4,100 per acre, for a total of $1.8 trillion.

There are problems with this number as well. First, about a third of these lands are in national parks, wilderness areas, and wildlife refuges that Congress would never dare to sell. To collect total revenues of $1.8 trillion, the remainder would have to be worth $7,200 an acre.

Perhaps half of the remainder are forest lands, but such lands are generally not worth $7,200 or even $4,100 an acre. Weyerhaeuser recently sold 630,000 acres of forest lands in Montana for $230 an acre. Even in the Oregon Coast Range, which has some of the most productive timberland in the world, land typically sells for under $4,000 an acre. Timber and timberland values are low because, says the Forest Service, the United States is growing timber far faster than it is cutting it.

Some of the remaining land might be considered agricultural and is used for grazing cattle and other domestic livestock. But the United States has 1.1 billion acres of private agricultural lands and only uses about 350 million of them to grow all the crops we need to feed ourselves and our livestock plus export food and grow corn for ethanol. Most federal lands in Alaska, incidentally, are also in national parks and/​or are tundra that certainly can’t be sold for $4,100 an acre.

In short, the federal government is even less likely to get $1.8 trillion for its land than it is to get $2.0 trillion for its energy resources. Selling all of these resources will cover, at most, 14 percent of the national debt as it stood last week, and probably a lot less. This means no one should be complacent about the size of the national debt thinking that the federal government has the resources to cover it.