In my Pioneer Press column of July 17, I did some follow-up on the budget story du jour, the testimony of state economist Tom Stinson to the effect that the unallotment proposals made by Gov. Tim Pawlent would cost the state between 3,000 to 4,700 jobs while a $1 billion tax increase would result in an estimated 1,000 jobs lost. The media portrayed Stinson’s testimony as a comparison between the governor’s unallotment proposal and the bill passed by the legislature and vetoed by the governor may. I talked with Stinson, and he, very carefully, characterized that report as “not entirely accurate” and the interpretation of his research as “simplistic.”
Putting aside the political ramifications of the way Stinson’s research is being characterized, from a market-oriented perspective the partisan spin battle over tax increases versus unallotment is missing the point in a way that does not do justice to the citizens of Minnesota. In every policy decision there are trade-offs, and for either side to deny there are trade-offs is ignorant at best and disingenuous at worst. Stinson’s research is one data point in the budget discussion that highlights a number of trade-offs facing the governor and legislators going forward.
In a response to the column, Dave Mindeman on the mnpACT! blog falls into the partisan trap with the “so what” argument that figures don’t lie and the choice facing legislators is tax increases or unallotment and clearly Stinson’s research clearly shows unallotment is bad. To give Mr. Mindeman credit, in between insults he makes the Keynesian economic argument, but he ignores the point of my column, or more accurately, disrespects the idea of reform – an interesting position for a “progressive.” He more or less denies the concept of tradeoffs, or at best he minimizes it. So, let’s look at the Keynesian argument and the tradeoffs it entails.
First, let’s answer Mr. Mindeman’s direct question regarding the hypothetical $1 billion tax increase versus the actual legislative bill that was vetoed. He asks, “Help me out here…. is there some substantial difference in outcomes? A hypothetical $1 billion or an itemized $1 billion is still going to have the same effect.”
Indeed, there are significant differences in out comes from various forms of taxation. The fact that Stinson modeled a hypothetical $1 billion income tax increase, not the actual bill passed by the legislature is significant. The legislative bill included a pass-through tax on credit card interest on rates over 15 percent and a pass though tax on alcohol profits. A $1 billion dollar income tax increase ($500 million in each of two years) does not create the same distortions in the market place as proposals that would raise the cost of credit and decrease the availability of credit or fundamentally alter he pricing structure of an industry. Moreover, at what level and at what individual rate the hypothetical income tax is implemented makes a difference in the efficiency of the tax measured by how much tax revenue is lost by activity at the margin – how much tax revenue is lost by individuals changing their behaviors as a result of the tax.
In general, board-based, low-rate taxes are less responsive to rate changes and produce a more stable source of revenue than do narrowly focused, high rate taxes that at the margins are highly sensitive to rate changes. Broad-based taxes therefore create less distortion in the market place. A pass-through tax like the proposed tax on credit card company revenue, for example, is a highly distortive tax, which would have had significant ramification for credit card customers and on the availability of credit had it passed. So, yes, Mr. Mindeman, the oncoming ramification of different types of taxes produces substantial difference in outcomes beyond the short-term job loss numbers.
Mr. Mindeman goes on to quote Keystone Research Center (Pensylvania) labor economist Mark Price channeling economist Eugene Stiglitz:
“Every dollar in state budget cuts reduces a full dollar of economic activity. Individuals, especially higher-income earners, save a portion of their income, so tax increases remove less than a full dollar of economic activity. As a result, tax increases do not hit the economy dollar-for-dollar like budget cuts do.”
So, here we have our first trade-off. The decision between spending cuts and tax increases involves a trade-off between immediate economic activity and encouraging saving. In the Keynesian view, spending is a good thing. A perfect example is the recent statement by vice president Joe Biden that the country is going bankrupt and the only way to save it is to spend more money. (The VP must also drive faster when the fuel gage reads empty so he can get to a service station before he runs out of gas.) The flip side of the coin is that one of the significant causes of the housing collapse is that the “cheap money” credit policies of the federal government created a demand for housing that was not supported by adequate consumer saving. Keynesians believe that to grow the economy, one must stimulate demand; the flip side is that without available capital to finance production, there is no capability to produce product irrespective of the demand. The tradeoff simply put is between short-term job loss and long-term economic growth.
Stiglitz goes on to say in the work I assume Price is referencing –
“For states interested in the impact only on their own economy rather than the national economy, the arguments made above [for tax increases] are even stronger. In particular, the government spending that would be reduced if direct spending programs are cut is often concentrated among local businesses. (This can cause distortions in the long run, but it bolsters the local economy in the short run.) By contrast, the spending by individuals and businesses that would be affected by tax increases often is less concentrated among local producers — since part of the decline in purchases that would occur if taxes were raised would be a decline in the purchase of goods produced out of state. Thus, more of the reduction in purchases that results from tax increases than from government budget cuts falls on out-of-state goods (relative to in-state goods), lessening the adverse impact of a tax increase on the state economy. Reductions in direct government spending consequently could have a larger adverse impact on a state’s economy than tax increases, which have a stronger adverse impact on out-of-state goods and services.”
In that paragraph, Stiglitz himself parenthetically defines the trade-off: “(This can cause distortions in the long run, but it bolsters the local economy in the short run.)” He also sets the context of his remarks: “For those interested in the impact only on their own economy rather than the national economy ….” We have another tradeoff.
Applying Stiglitz observation to Minnesota, the tradeoff is between Gov. Pawlenty “kicking the can down the road” by delaying deficit issues through across the board unallotment and tax shifts rather than solving structural budget problems and Stiglitz “kicking the can” to the overall economy. Indeed, Stigliz, in noting the “problem” is state requirement for a balanced budget, a nod to Keynesian predilection for deficit spending, writes “Given the existence of balanced budget rules at the state level, some form of federal fiscal relief to states is therefore warranted.”
Again, we have a tradeoff between the seen versus the unseen economic consequences of an action. If we focus strictly on the Minnesota economy, we can see the visible benefit of people employed because of government spending; what we cannot see (but can anticipate) is the unseen “distortions” (as Stiglitz notes) and job losses that result from things like excessive federal borrowing making investment capital more expensive and harder to get and the consequences of inflation.
Mr. Mindeman is correct when he “screams” that the governor and the legislature “STILL HAVE TO CHOOSE.” He ignores that they put themselves in that postion, each side fighting for an idealogical point while ignoring economic reality. Mr. Mindeman’s blind spot is his sole criterion for making the policy choice for tax increases is impact on short-term job loss. He, like partisans on both sides of the budget debate, doesn’t argue for the tradeoffs that are the consequences of his policy. Mr. Mindeman doesn’t acknowledge or make a case why the short-term economic view (something he rails against when the short-term view is corporate quarterly profits) is better for Minnesota than the long-term economic growth perspective. He disrespects the notion of structural reform – moving from an inefficient tax system to more effective taxation and redefining the role of government, which is necessary to stabilize spending.
And that was the point of my column – neither accounting shifts and arbitrary unallotment, cutting a little bit here and a little bit there nor tax increases that permanently make Minnesota a high-tax state at a disadvantage in a competitive global market solves the structural budget issues of this state. The irony is, the “conservative” position of tax and spending reform is the policy that demands change and progress, while the “progressive” position of tax increases as the single solution to Minnesota’s budget woes argues for continuation of the status quo. Who really is kicking the can down the road here?
The most glaring error among Mr. Mindeman’s usual Iliad of illogic is the notion that every dollar that government spends (and it spends every dollar it gets, and then more) will be spent EXACTLY as would the taxpayer or taxpayers from whom it was taken, and with absolutely zero government overhead. This is not only an obvious impossibility, but so far from reality as to be laughable were it not such a serious distortion of the economy and so disastrous for individual freedoms. The problem isn’t that the dollar gets spent, it is who chooses when and where to spend it. Substituting government’s careless, third-party decision-making for that of the individuals most directly affected by that spending can never be an effective economic process.