White Paper

Tax Cuts and Balanced Budgets: Lessons from the States

The advisability of Bob Dole’s 15 percent across-the-board federal income tax cut has been challenged in two ways. First, the White House and other skeptics have argued that the tax cut will preclude balancing the budget, and will even make the budget deficit worse. Second, many Washington economists question whether tax cuts will stimulate the economy or produce higher incomes, as supply-side advocates predict.

The states, in their roles as laboratories of democracy, may shed some light on the controversy. During the recession of 1990-91, more than half of the states raised taxes. But in the last two years, 26 states have enacted substantial tax cuts. In fact, the 1995-96 biennium has been the largest tax-cutting period for states since the early 1980s. The state tax reduction experience is of special relevance to the current debate in Washington, because many states have reduced income tax rates across the board—as Bob Dole’s plan proposes. The top 10 tax-cutting states reduced state taxes as a share of total tax collections by about 6 to 7 percent. Michigan cut tax revenues by more than 10 percent. The Dole plan would reduce total federal revenues by 5.2 percent on a static basis and by 4.1 percent on a dynamic basis (i.e., adjusting for higher economic growth from the tax cut).

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Stephen Moore is director of fiscal policy studies and Dean Stansel a fiscal policy analyst at the Cato Institute