The Bureau of Economic Analysis issued revised national income accounts today, and the figures shed light on whether more government stimulus makes sense. Many economists, pundits, and policymakers claim that Congress needs to pass another large spending bill to sustain growth. The idea is that the economy is a car and spending by the U.S. Treasury and the Fed is the gas pedal.
However, the new economic data suggest that there is more to growth than a government gas pedal.
The chart below shows the quarter‐to‐quarter change in nominal or current‐dollar GDP and total federal, state, and local government spending over recent quarters. GDP is from Table 1.1.5 and government spending is from Table 3.1.
In the second quarter, GDP fell 9.5 percent while government spending rose 45.7 percent. In the third quarter, GDP shot back up 8.4 percent even as government spending fell 11.3 percent. Unemployment benefits and other government transfers are falling, state and local government employment is down, but the economy is in robust recovery.
It is true that government spending in the third quarter was still at an elevated level. But the data does suggest that as we shrink government spending, the economy will continue to expand. The economy is not a car that needs government fuel, but an organism that adapts, improves, and grows automatically when the government leaves it alone.
Vermont voters have created a unique situation in the state. People often associate it with the land of Bernie Sanders. It has higher taxes, larger government, and less freedom. Yet Vermont is headed by a Republican governor who favors restrained budgets, low taxes, and leans moderate or libertarian on social policy.
Phil Scott was just re‐elected governor of Vermont by an impressive 69 to 28 percent margin, even though the state went for Biden over Trump 66 to 31.
Scott came to the governor’s office after serving as a state senator and Vermont’s lieutenant governor. His fiscal views probably formed during his days as a small business owner before that. He is also an active race car driver.
During his time in office, Scott has battled the state’s Democratic legislature over tax and spending restraint, and he does not hesitate to veto big‐government bills. For example, the governor vetoed property tax increases to fund schools, proposing instead to cut school bureaucracy as a money saving move. General fund spending rose at an annual average rate of just 2.4 percent between 2017 and 2020, and Scott has focused on trimming fat from state agencies.
Protecting his citizens from unnecessary tax increases in 2018, the governor signed a bill to conform to federal changes in the income tax base while cutting state income tax rates across the board. That same year he signed a bill to legalize recreational marijuana possession, and in 2020, he allowed a bill legalizing pot sales to become law without his signature.
As a fiscal conservative in Vermont, Phil Scott is outnumbered and does not win every battle. In 2020, the legislature vetoed his attempts to defend the economy against the legislature’s proposals for carbon regulations and carbon taxes. But he is used to strong g‐forces on the race track, and as he battles strong g‐forces in the state capital, voters seem to have his back.
The majority‐democrat state legislature has also overridden Scott’s veto of a bill that would create a damaging minimum wage hike in 2020. According to Scott, “Despite S.23’s good intentions, the reality is there are too many unintended consequences and we cannot grow the economy or make Vermont more affordable by arbitrarily forcing wage increases. I believe this legislation would end up hurting the very people it aims to help.”
Scott also vetoed bills that would impose a costly paid‐leave scheme funded by a new wage tax. In a 2020 veto message, he said, “Vermonters have made it clear they don’t want, nor can they afford, new broad‐based taxes. We cannot continue to make the state less affordable for working Vermonters and more difficult for employers to employ them—even for well‐intentioned programs like this one.”
After his impressive reelection this year, it will be interesting to watch this fiscally conservative governor continue to take on his state’s liberal legislature. And as other states like California similarly elect left‐leaning politicians to federal offices while rejecting their ideas about higher taxes and bigger government at the state level, it appears many electorates once thought of as purely Democrat may actually be libertarian.
As my Cato colleague Chris Edwards documented here a couple weeks ago, interstate migration data from the U.S. Census Bureau indicate that state tax policy affects where Americans, especially wealthy ones, are choosing to live and work. The following charts (roll over the dots to find your state) confirm Chris’ initial impressions: in 2018 there was a strong, statistically significant (p‐values < 0.01) relationship between (1) personal state tax burdens — as measured by either the Tax Policy Center or the Tax Foundation — and (2) net interstate migration (ratio of inflows to outflows):
The charts paint a pretty clear picture: as a state increases taxes on high earner residents, it tends to lose them to other, lower‐tax states. As Chris notes, moreover, high state tax levels don’t necessarily mean high quality government services. In other words, many Americans aren’t getting what they pay for.
The data above are from 2018, but there’s no reason to think that these trends have reversed since then. In fact, the seismic forces unleashed by COVID-19 this year will very likely amplify Americans’ ability to have “superstar city” jobs but live in lower‐tax jurisdictions, and many are choosing to do just that. In particular, two separate NBER papers from June found that the pandemic significantly increased the share of Americans working remotely; that remote work was concentrated in states like Maryland, Massachusetts, and New York with higher shares of high wage “information work” (tech, management, professional, etc.) jobs; and that many companies expect their remote work exceptions to remain in place long after the COVID-19 crisis ends. Anecdotal evidence backs this up, as large companies like Microsoft (and others) have decided to make formerly‐temporary “work‐from‐anywhere” policies permanent.
In turn, a new Upwork survey of more than 20,000 people finds that between 6.9% and 11.5% of U.S. households — totaling approximately 14 to 23 million Americans — are planning a move due to the growing availability of remote work caused by COVID-19, consistent with the news reports that Chris cited (and many, many others). As a result of these trends, Upwork economist Adam Ozimek estimates that near‐term migration rates (between counties or states) could be three to four times what they were in previous years.
The survey further finds that major cities will see the biggest out‐migration effects, with many movers planning to relocate far from their current location and motivated by reducing their cost of living (here, housing costs):
These trends could have dramatic implications for the future of work, U.S. real estate markets, and, perhaps, state and local policy. As Ozimek concludes, the results “should make us optimistic that remote work work has the capacity to help lean against housing and affordability issues across the U.S. by enabling businesses and professionals to access talent and opportunities beyond their local markets.”
Among those “affordability issues,” though unmentioned by Ozimek, is tax policy. For the last several decades, certain “superstar” cities and their surrounding states could increase wealthy residents’ tax (and regulatory) burdens with relative impunity because these places were home to jobs and even entire industries that were unavailable elsewhere in the country. As a result, high wage workers in, say, tech, finance, or law had little choice but to live in New York, Chicago, San Francisco or Washington, DC — and bear their high costs (and other headaches) — because that’s just where the jobs were.
In recent years, however, this dominance has been diluted, as remote‐work technology has improved or as dynamic but lower‐cost cities like Charlotte, Denver, Atlanta and Dallas, as well as smaller places like Boise or Durham, have chipped away at the traditional champions’ professional advantages. Prior to COVID-19, these factors produced small but significant interstate migration from costlier jurisdictions to cheaper ones, but the “superstars” still maintained their overall allure. As such, cities and states been able to continue imposing onerous and poorly‐thought‐out measures like San Francisco’s recently‐enacted “Overpaid Executive Tax.”
If COVID-19 and the remote‐work explosion turn the trickle of superstar city/state out‐migration into a river, those days may be numbered. As Ozimek put it, “[e]xpensive places used to have a monopoly on the access to their valuable labor markets, and as work goes remote, they no longer do.” Superstar cities and their states would be wise to recognize this changing balance of power and adapt their tax and regulatory policies accordingly.
The Wall Street Journal ran a news piece the other day on government workers entitled “Tighter Municipal Budgets Shrink Retiree Health Benefits.” The piece was sympathetic to the plight of state and local workers and opened with “America’s retired workers are getting squeezed on their health care.”
Apparently, some state and local governments are trimming retirement health benefits. The reforms are needed because many governments have not pre‐funded the benefits, which is an irresponsible practice I examined here.
What the Journal does not tell readers is that state and local government workers have some of the nation’s best retirement benefits. Most private‐sector workers do not receive any retirement health benefits, let alone the generous packages received by government workers. As taxpayers, private‐sector workers are the ones paying for generous government benefits.
Federal Medicare benefits kick in at age 65. But many government workers retire years earlier, and they continue receiving employer‐based benefits to fill the void. Journal readers may wonder why they are supposed to feel sorry for workers taking a benefit trim for a type of benefit that they may not receive at all.
The chart shows data from the Bureau of Labor Statistics (pp. 339, 523). In 2020, 68 percent of state and local government workers were covered by retirement health benefits when under age 65, compared to just 13 percent of private‐sector workers. Most government jobs are “management, profession, and related,” so the chart also shows the BLS data for this category.
Note: the BLS says, “Employee benefits in state and local government should not be directly compared to private industry.” The agency cautions that the types of jobs in the public and private sectors differ. I don’t agree with the BLS’s blanket statement, but their point should be kept in mind. For this reason, I included the figures for “management, professional, and related” to show that even in similar sorts of jobs, there is a large difference in benefit coverage. The BLS data show that 11.1 million of 19.4 million state/local jobs were “management, professional, and related.”
The health crisis and office shutdowns in New York, San Francisco, and other cities have prompted companies to liberalize their policies on remote working. That has led to some office workers rethinking where they live and moving to locations with nice weather, natural beauty, and lower taxes.
The Wall Street Journal examined the new moving trends the other day:
Drew Erra, a 52‐year‐old insurance broker and moving‐company co‐owner, and wife Melissa Erra, lived in Minneapolis for 24 years. But in July—when many Americans were realizing that working from home, remote learning and social distancing would be the new reality for a long time—they picked up and moved to Las Vegas. Their new home, a $3.2 million, arts‐and‐crafts home with a pool and golf‐course views, cost over $2 million more than the one they sold in Minneapolis. “I was paying 10.5% state income tax in Minnesota,” a rate which has now dropped to zero in tax‐free Nevada, Mr. Erra said. “Just the tax savings alone covered the cost of the house.”
This study showed that Americans are moving from high‐tax to low‐tax states in substantial numbers. This year’s crisis may have strengthened the trend, and it appears that the election results will not upset the pattern. Republicans have the edge to retain the U.S. Senate majority, which means that the cap on deducting state and local taxes on federal returns will likely stay in place for now. The cap increases the tax savings for middle‐ and higher‐income households when they move from high‐tax to low‐tax states.
The table summarizes IRS data on interstate migration for 2018. The column on the left shows the ratio of in‐migration to out‐migration for all households, while the column on the right shows the ratio for households earning more than $200,000 per year.
Florida, for example, has 1.23 households arriving for each one leaving but has 2.36 high‐earning households arriving for each one leaving. By contrast, New York has 0.67 households arriving for each one leaving, and it has just 0.48 high‐earning households arriving for each one leaving. In other words, low‐tax states such as Florida attract people overall but particularly high earners, whereas high‐tax states such as New York repel people overall but particularly high earners.
The Wall Street Journal article continued:
Searches by out‐of‐towners for homes over $1 million in the Las Vegas metro area surged by 155% from last year, according to Zillow’s analysis. Ten agents and brokers in the area said they have never seen more relocation interest. “More are driven to come here by high taxes in their states,” said Heidi Kasama, the listing agent at Berkshire Hathaway Home Services Nevada Properties for the home the Erras purchased. Weather is also a draw.
Last week, CNBC discussed the finance industry leaving New York City.
By forcing the mass adoption of remote work and crimping many of the advantages of urban life, the pandemic has turbocharged migration from high cost, high‐density places to lower‐cost states including Texas, Florida and Nevada.
… Data from the U.S. Postal Service, national moving companies and tech start‐ups tracking smartphones all show an elevated outflow from New York City this year. More than 246,000 New Yorkers filed a change‐of‐address request to zip codes outside the city since March, almost double the year‐earlier period, for instance.
… For those in finance, the simple math of lower tax regimes is hard to ignore. New York state levies 8.8% on wages for high earners, and New York City takes another 3.9%, or nearly 13% combined. Meanwhile, states including Florida, Texas and Nevada don’t tax wages. The more people make, the greater the incentive there is to leave, and the difference could easily mean hundreds of thousands more dollars in after‐tax pay.
That’s a trade that some Wall Street titans have already made. Hedge fund billionaire Paul Singer is moving the headquarters of Elliott Management to Florida from midtown Manhattan, Bloomberg reported this month. His move follows that of another billionaire, famed corporate raider Carl Icahn, who made the switch last year to avoid New York taxes.
“My concern isn’t that they’re leaving, it’s that they’re taking their businesses with them,” said Mark Klein, a New York‐based tax attorney and chairman of Hodgson Russ. The flight of business owners is worrying for those remaining in the city, he said … “I’ve never been as inundated with people leaving New York and Connecticut, any of these high‐tax states, in my 40 years of doing this,” he said. “Once Covid hit, with the recognition that people can work from any location, the floodgates opened.”
… When fintech CEO Paraag Sarva bought a weekend home in Bucks County, Pennsylvania last year, he figured he’d probably rent it out most of the time. But months into the pandemic, after it became clear that full‐time, in‐person schooling in New York was unlikely for his small children, he made it his permanent residence …. His taxes are 10% lower in Pennsylvania, he figures.
What should high‐tax states such as New York do?
New York’s government is twice as large as Florida’s for no good reason, and New Yorkers endure the least freedom in the nation. New York and other people‐losing states should downsize their governments by slashing taxes, spending, and regulations which reduce economic and personal freedoms. Policymakers in these states need to wake up to the new realities of mobile businesses and lifestyles.
The problem with democracy is that after the election, half the country is going to feel as unhappy as this tortured fellow.
Actually, the problem is not democracy. It is that the federal government has amassed such huge power over our lives that people get bitter when their side in the presidential race loses. Federal intervention in education, health care, housing, welfare, and many other economic and social areas has made people fear that the next president will impose policies they detest and view as harmful to their communities.
The rise in federal spending and regulatory power has deepened anger and partisan divisions by trying to force policy conformity on a very diverse country. The federal government tries to impose one‐size‐fits‐all policies on the nation when there is no national consensus.
Federalism expert John Kincaid noted regarding federal intervention into state and local affairs,
[It] is the root cause of polarization because it has nationalized so many issues, especially sensitive social and cultural issues such as abortion and education that were previously diffused across the fifty state political arenas. The cooperative federalism advanced by the nationalist school of federalism requires a national consensus on such issues, but there is no consensus. Requiring state electorates to implement sometimes hotly contested national policies appears to have considerably exacerbated national conflict in ways that threaten the institutional fiber of the republic.
As Washington has further encroached on properly state, local, and private activities over the decades, the share of people who trust the federal government has plunged from more than 60 percent in the 1960s to less than 20 percent today. Americans have grown less happy with the federal government even as the number of federal programs ostensibly created to serve them has increased.
As this study discusses, the solution is to decentralize power by ending federal programs in state and local policy areas. Polls show that large majorities of Americans prefer state rather than federal control over education, housing, transportation, welfare, healthcare, and other activities.
Growing federal power has undermined democracy, community, diversity, and political goodwill. It is a cancer on American governance, and in the years ahead there will be no suspension of partisan anger unless federal power is reduced. It may seem paradoxical, but the way to unite the nation and bring Americans together is to disunite power and disperse it out of Washington.
A Wall Street Journal news piece this week was titled “U.S. States Face Biggest Cash Crisis Since the Great Depression.” But new data from the U.S. Bureau of Economic Analysis suggest that the Journal headline and story were needless scaremongering. The BEA data (Table 3.3) for the third quarter of 2020 show that aggregate state and local sales, property, and individual income tax revenues are all rising.
Overall state and local tax revenues hit a peak in the first quarter of 2020, fell in the second quarter, and bounced back in the third. Here are the revenue changes from first to second quarter and second to third quarter. Sales and excise taxes fell 11.0 percent then rose 7.3 percent. Property taxes rose 1.1 percent then rose another 1.1 percent. Individual income taxes rose 0.7 percent then rose another 2.0 percent.
The BEA has corporate income tax revenues falling 13.6 percent in the second quarter but don’t provide an estimate for the third quarter. To calculate a figure for overall tax revenues, I’ve assumed that third quarter corporate tax revenues are the same as the second quarter. (Corporate taxes are less than 4 percent of total state and local taxes).
With that assumption, total state and local tax revenues fell 4.7 percent in the second quarter but then rose 3.3 percent in the third quarter, as shown in the chart below. Total tax revenues are still below the peak but headed upward.
The chart also shows BEA data for (current plus capital) federal aid to state and local governments. Since the data is annualized, I’ve divided by four to consider actual dollar changes by quarter. In the second quarter, total state and local tax revenues fell $23 billion but federal aid to states spiked $193 billion, thus vastly overwhelming the tax revenue loss. Federal aid is now falling toward normal levels, but CBO data (p. 34) show that there is still more than $150 billion in emergency state aid for health care and education to be spent in federal fiscal year 2021.
In sum, state and local tax revenues are rising and there is still federal cash in the pipeline. Congress does not need to pass any more emergency state aid.