Progressive Tax Rates Stunt States' Growth

Investor's Business Daily

One of the most exciting developments in the arena of political economics is the heated debate over tax policy among the states.

A number of Republican governors have stated their intention to eliminate their respective states' progressive income taxes, only to face a serious push-back by fellow Republicans as well as Democrats.

Seriously, who can blame them? No one wants school budgets shortchanged or police furloughs.

Then again, if a state continues to tax more successful people at higher tax rates and pay more generously people who don't work, where's the incentive to boost the economy

What makes this so poignant is that state lawmakers don't have the academic luxury of waiting for more evidence to roll in.

Their action is no riskier than is their inaction. Doing nothing is far from a safe and responsible fallback position.

We all know that, using a 10-year moving average, zero-income-tax states as a group outperform high-income-tax-rate states and have done so every year for the past half-century.

Even when serendipity strikes, as with the recent surge in oil prices, tax rates still matter. Zero-income-tax states without oil outperform high-tax-rate states without oil.

As persuasive as these facts are, they aren't truly conclusive. And from time to time within these categories are counterexamples to the simple income-tax thesis.

Zero-income-tax states quite simply aren't the same states as are the high-tax-rate states. Each state has its own set of characteristics that could influence the outcome of these comparisons.

Comparing Texas to California or New York to Florida, no matter how one-sided the results are, is, to some degree, comparing apples to oranges.

Comparisons of South Dakota to North Dakota, New Hampshire to Vermont, Washington to Oregon or Tennessee to Kentucky may be more like comparing tangerines to oranges, but they're still different states.

In each of these examples, the income-tax-rate thesis holds.

But we can do even better.

Over the past 50 years, 11 states have adopted a progressive income tax.

West Virginia, for example, had no income tax in 1961, and today its highest rate is 6.5%.

In 1965, New Jersey had neither an income tax nor a sales tax. At that time, it was one of the fastest-growing states in the nation, attracting people from everywhere and running a budget surplus.

Four years ago under Gov. Jon Corzine, New Jersey had close to the highest property tax rate, one of the highest sales tax rates and an income-tax rate of almost 9%.

What a disaster they were, creating slow growth and deficits and repelling people in droves.

Then there's Michigan, which adopted the progressive income tax under Gov. George Romney (Mitt's father) in 1967, followed by Ohio, Pennsylvania, Indiana, Nebraska, Maine, Illinois, Rhode Island and Connecticut.

If you have any doubt as to what the consequences were for these states that adopted the progressive income tax, look carefully at the table on Page A13.

In the table, I list the share of U.S. population, U.S. Gross State Product and, yes, even U.S. total state and local tax revenues for the five years preceding the adoption of a progressive income tax and for the most recent year for each of these 11 states.

It's hard to imagine a more precise comparison than this before-and-after comparison.

What I find absolutely astonishing is how the size of the economy in each one of these states has declined as a share of the U.S. economy compared with a time just prior to when each state introduced its income tax.

Some of the declines are quite large.

From 1968 to 1972, Ohio's economy was 5.42% of U.S. gross domestic product, yet in 2011 it had fallen to 3.25%.

Rhode Island and Pennsylvania, respectively, went from 0.43% and 5.7% of the U.S. in 1967—71 to 0.34% and 3.89% in 2011. Ouch! Illinois' percentage of U.S. GDP in the 1965-69 period was 6.53% — and 4.51% in 2011. Just wait till the numbers following Gov. Pat Quinn's tax increase come in. They'll be begging for Rod Blagojevich to come back.

Our beloved Michigan, which seems never to get a break, went from 5.21% of U.S. GDP in the 1963—67 period to 2.59% in 2011.

Anyone for a vacation in Detroit? There's plenty of room. Detroit had a population of 1.8 million in 1950; today it's a little over 700,000. Leaping lizards!Lastly, Indiana in 1963 and West Virginia in 1961 went from 2.52% and 0.78% to 1.8% and 0.48%, respectively.

Who could have thought West Virginia could be made poorer from its state of abject poverty in the 1960s

Remember Bobby Kennedy's tour of Appalachia in 1968? Well, adoption of the progressive income tax did make West Virginia poorer.

A similar pattern also holds for these states' share of the national population. What is perhaps even more surprising to some is that the introduction of an income tax did not universally increase the share of tax revenues going to these states.

In fact, more times than not, the share of state and local tax revenues fell despite rising top marginal personal income tax rates in each one of these states.

And if you think by protecting your state's progressive income tax you're doing your schools any good, or helping police and fire protection, getting better roads or more health care, think again.

Texas, a zero-income-tax state, spanks California, the highest-taxed state in the nation, in every one of these metrics.

In education, Texas student test scores are universally higher than California's. California's K-12 education ranked fourth worst in the nation in spite of having about the highest teacher salaries in the nation.

Texas has almost 50% more prisoners per 100,000 population than California, more prison guards per 10,000 of population and less crowded prisons. Texas spends $59 per day while California spends $129 per day per prisoner.

And it goes on and on.

The most immoral act a state government can perpetrate on its citizenry is to enact policies that have the effect of destroying the state's economic base whence all benefits ultimately flow. And the state progressive income tax is the worst.

• Laffer is the founder and chairman of Laffer Associates, an economic research and advisory firm, and served as a top economic policy adviser to President Reagan.

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