Manhattan Institute Says "New York must declare a financial emergency"

E.J. McMahon, director at the Manhattan Institute says New York deficits amount to financial emergency.

New York state's huge and growing budget gap requires government to take drastic actions to correct it, said E.J. McMahon, director of the Empire Center for New York State Policy at the Manhattan Institute.

McMahon spoke to the Council of Industry, a regional trade group, Friday at the Powelton Club.

He charted flat revenues against expected spending if nothing is changed and showed a $20 billion gap looming by 2012-13.

McMahon said the state must declare a financial emergency and enact a statutory freeze on public-sector wages for at least three years. State law allows this and enables contracts to be voided, he said. It would save at the rate of $2 billion a year for state, local and school taxpayers.

McMahon also called for shutting down the state's pension systems to new entrants and giving them instead a plan similar to one of the alternatives for the State University system, in which a stable amount is contributed by the state and employees can add their own.

He said some parts of the state's Taylor Law, governing labor relations with public employees, should be repealed, including compulsory arbitration for police and fire unions. Other laws should also be targeted for repeal because they're costly, including the rule requiring that on most public work the "prevailing wage" be paid, usually the union scale.

State spending should be capped by changing the state constitution, he said, recommending the "tax expenditure limitation" approach exemplified by Colorado.

He laid blame on politicians.

"It's their failure to stop the growth in spending that is the underlying problem," he said. "New Yorkers are voting with their feet and heading for the exits."

Tax Expenditure Limitation Analysis

There is surprisingly little in the way of current analysis of TEL analysis. I did find this TEL Impact Study by the Cato Institute that seems to predate 2000.

The existence of a TEL may not be sufficient to influence the size of government. The way a TEL is written can have an important impact on its effectiveness. Hidden loopholes may make it easy for a state legislature to work around the law. For example, expenditures can be shifted to an off-budget agency.

Empirical studies through 1990 found mixed results as to the effectiveness of TELs. Papers by Abrams and Dougan (1986), Cox and Lowery (1990), and Bails (1990) found TELs to be ineffective. These studies, however, are empirically weak. Abrams and Dougan along with Cox and Lowery use cross-sectional data. Bails does not adequately control for other factors that might influence government behavior (e.g. the business cycle).

The early findings that TELs are ineffective may be due to the fact that high-spending states are more likely to pass TELs, or because TELs may reflect a shift in voter preferences for less spending. In the latter case, it is not the TEL, but the change in voter preferences that causes a reduction in spending. In this case, TELs do not play a causal role in reducing spending. This TEL endogeneity issue may have a significant impact on statistical inference, biasing the results. Work by Reuben (1995) attempts to address this issue.

Poterba (1994) suggests that TELs may impact how a state adjusts its budget to unexpected negative economic shocks. Using data for the period from 1988 to 1992, he finds that states with TELs experience lower tax increases in the face of negative economic developments. A $1.00 increase in the budget deficit results in a $0.47 tax increase in TEL states. In non-TEL states, the increase is much higher--$1.03. TELs appear to have no impact on the size of spending reductions.

Impact Of Tax Expenditure Limitations

Cleveland State University has a more recent (2006) review of Tax Expenditure Limitations and their Impact on State and Local Government.

The PDF is 78 pages. Here are a couple pages of snips.

What drives the creation of TELs?

Tax and expenditure limitations are generally the result of voter dissatisfaction with the cost of state government. The public finance environment has experienced two discernible waves of tax limitation efforts, the late 1970s and the early to mid 1990s. In both eras, dynamic individuals dedicated to reducing the size of state government led citizen tax revolt efforts.

How do TELs work?

In general, tax and expenditure limitations have three main components. The first component is a spending limit. TELs typically tie annual spending limits to a combination of the inflation rate and the population growth rate. While TELs are the most common form of state spending limitation, three other limiting methods are also employed: (1) limit growth to some percentage of current general fund receipts, (2) limit spending growth to the same rate as personal income growth, or (3) limit growth in projected revenues.

In some cases unspent money, up to a designated percentage, is placed in a budget stabilization or rainy day fund. In the event that the state exceeds the predetermined percentage dedicated to the budget stabilization fund, the taxpayers of the state would enjoy a refund. However, in the case of Colorado’s TABOR, all unspent money is automatically refunded to taxpayers in the next budget year. The third component is a mechanism to adjust tax rates. TELs oftentimes require voter approval for any new taxes, tax increases, or changes in the tax structure.

Types of TELs

There are three broad categories of TELs: tax/revenue limits, expenditure limits,
and revenue and expenditure limits.

The most common type of restriction is an expenditure limitation. As of this publication, there were 30 expenditure or revenue limitations in place, with many states employing more than one restriction. Expenditure limitations are oftentimes tied to the combined annual growth in population and inflation, growth in personal income, or the size of the previous year’s budget. While these limitations predominate, several states have “appropriations to revenue” limits. These limitations restrict actual appropriations to a percentage of projected revenues. Finally, there are two states, Colorado and Washington that have a combination of revenue and expenditure limitations. These two states have garnered considerable attention, primarily due to their rigid budgetary environments. In both cases, spending is tied to growth in population plus inflation; what makes these states
different is that Colorado provides immediate refunds to taxpayers with surplus revenue, while Washington places the surplus in a budget stabilization fund.

California’s Proposition 13

Popular interest in state tax and expenditure limits was stimulated by the antiproperty tax campaign spearheaded by Californian Howard Jarvis in 1978. Jarvis
captured populist anti-tax sentiment with his cry of “I’m mad as hell and I won’t take it any more.”1 Jarvis’ Proposition 13 grabbed the attention of California voters and the national press. He argued that he was defending hardworking Californians who could no longer afford their property tax payments and led a very public campaign.

Proposition 13 passed by a nearly two-thirds majority. The act slashed property taxes by 57 percent, by limiting property tax rates to one percent of assessed value. Property assessment increases are limited to two percent annually. When a house or commercial property is sold a new tax value is established using the sales price as the valuation. The property tax is then limited to one percent of the property’s new value and annual increases in property taxes are limited by restricting annual increases is the assessed valuation to two percent per year. Proposition 13 shifts the property tax burden to new owners and away from long-time property owners. Proposition 13 was critical in convincing the residents of other states to adopt their own revenue-limiting measures.

Colorado TABOR

The state of Colorado enacted its TABOR in 1992 under the leadership of
California-transplant Douglas Bruce. Bruce’s efforts provide insight into the three-part formula to enact radical public policy change: an articulate policy entrepreneur who has staying power, enough money to run numerous campaigns, and a policy window. Bruce began advocating for tax and spending limitations around 1988, but it was not until the “window of opportunity” presented itself, with the combination of an economic downturn, putting income pressures on voters coupled with an organized campaign; then Bruce seized the opportunity to introduce his form of fiscal restraint to Colorado’s voters.

Policy entrepreneurs, when they are skilled politically, engaging, and thoughtful, have enjoyed marked success in selling their policy innovations in the policy arena.

TEL: A Historical Timeline

The starting point of the legislative timeline is set as 1971. The table below
(Table 1) includes not only TELs, but also includes other major state tax cuts that
indicate voter restiveness with state and local taxing.

[See article for multi-page table]

State Profile – Colorado

Citizen groups came together to develop the first ballot initiative aimed at limiting the size of state government in 1986. The 1986 proposed constitutional amendment would have reduced the taxing authority of state and local governments by requiring voter approval for any new or increased tax. The initial amendment drive was disconnected, inadequately funded, and ultimately failed at the polls. Citizen groups, led by California native Douglas Bruce, came together to support his first ballot initiative aimed at limiting state government in 1988. Bruce’s goal was to implement a constitutional restriction on the size of state government, in terms of both taxing and spending capacity. This time the initiative was more aggressive and far more restrictive.

The 1988 limitation again required voter approval for any new or increased taxes but also reduced state income taxes by 10 percent, limited local residential property taxes, and rolled back any state and local tax increases adopted between 1986 and 1988 that were not approved by voters.15 Although better organized and well funded, this initiative also failed. Bruce was undeterred, championing a third initiative in 1990.

The 1990 initiative proposed a limit on state spending growth, a cap on local property taxes, and voter approval for new taxes. While the 1990 amendment enjoyed the greatest voter support of the three initiatives (49 percent), it also failed.

The fourth try was the charm; a successful campaign was finally realized in 1992. Bruce mounted a well-funded and organized campaign, and a consensus developed among residents that taxes were too high. The Taxpayer’s Bill of Rights (TABOR) became a national model for the voter-initiated TELs.

The economic and political climate in Colorado during the early 1990s was ideal for the passage of TABOR. The state had slipped into a recession, Bruce secured support from the state’s Republican establishment, and polling showed that more than 63 percent of residents thought taxes were too high. In addition to these factors, there was little organized opposition to TABOR. Roy Romer, the governor at the time, was more concerned with passing a sales tax increase earmarked for education than he was in coordinating an opposition effort to TABOR. This meant that TABOR was largely unopposed, without alternatives for voters to consider. This recipe proved successful at the polls in 1992.

TABOR remains the most stringent tax and expenditure limit employed by any state. Colorado’s TABOR is fundamentally a revenue limit and has three main provisions or components. First, it restricts growth in state revenue and spending to inflation plus the percentage change in population. The growth formula appears to be designed to keep real per capita state spending constant over time. For the purposes of TABOR, inflation is determined by The Bureau of Labor Statistics inflation rate for the Denver-Boulder area. The population rate is limited to the reported state population growth rate. Second, TABOR requires that surplus revenue above the defined limit be rebated to taxpayers. This is done in the year after the surplus has been accumulated. This revenue is commonly referred to as the TABOR surplus. Third, simple majority voter approval is required for new taxes, tax rate increases, extensions of expiring taxes, and any change in tax policy that results in a revenue gain by government.

TABOR was politically popular during years of economic expansion, but when the 2001 recession hit the state, it created an extremely challenging fiscal environment. When the recession hit, revenue surpluses quickly disappeared. As surpluses disappeared and tax revenues continued to plummet, the state was still required to provide TABOR rebates for the previous year, while concurrently implementing reductions in state spending. TABOR proved to be a fiscal accelerator rather than a fiscal stabilizer, exacerbating the state’s financial difficulties. To further complicate matters, the state did not maintain a budget stabilization (or rainy day) fund from which to withdraw funds, cushion the effects of the recession, or make the TABOR rebate payments. Therefore, there were little to no reserves to tap when revenues declined.

Spending “ratcheted down” in Colorado

While TABOR ratchets down the amount of revenue the state can spend, constitutional Amendment 23 ratcheted up state spending on K-12 education. In 2000, voters approved Amendment 23, a provision requiring annual growth in expenditures for K-12 education by a rate of inflation plus one percent through 2010 and just by the inflation rate thereafter. The new K-12 money comes from tax revenues, is earmarked for educational purposes, and is exempt from the TABOR spending limit. Further intensifying the situation are the state’s constitutional provisions requiring a balanced budget and the prohibition of most forms of debt.

Many critics of TABOR claim that the precarious balance between competing interests has led to the state’s worst fiscal crisis in decades. The effect of TABOR on state expenditures has been remarkable. Because more than two-thirds of state revenues are allocated by mandates to K-12 education, Medicaid, and corrections, the state legislature controls less than one-third of the budget. According to a study done by the Colorado Legislative Council staff, general fund spending on K-12 education has increased from 37 to 42 percent of the budget since the inception of TABOR.

Buying Votes

The problems in Colorado is not with TABOR but rather with Amendment 23, and with increasing spending elsewhere just because the lawmakers can. When laws allows spending to increase by % of population, inflation or whatever, politicians will spend every dime of it.

Ask any politician if he is in favor of reducing taxes and a balance budget. The answer will always be "of course".

Then why did it take 4 concerted efforts to pass TABOR? The answer is easy: politicians like to buy votes. The more money they can slosh around, the more votes they can buy.

No politicians wants to stand up to public unions, teachers, fire fighters, or police. Those wanting handouts vote, and vote in mass.

In addition, politicians also like the patronage jobs they can hand out to their friends and relatives. Politicians also like campaign donations wherever they can get them. The more money you slosh around, the more votes you can buy.

Taxpayers suffer. Until they revolt.

Politicians typically react by promising Armageddon if spending is reduced. The reality is Armageddon comes when spending runs out of control and promises are made that cannot be kept.

Armageddon has arrived and no one wants to do what it takes: Cut spending, slash programs, renegotiate union contracts, privatize city services, and cut pension benefits.

Instead, politicians and the select few beneficiaries want to increase taxes. It won't work. You can't squeeze money out of an unemployed turnip.

Prevailing Wage Insanity

By the way, I certainly am in favor of scrapping prevailing wage laws. For details please see Thoughts on the Davis Bacon Act.

...
...

In 1999 Ron Paul introduced the Davis-Bacon Repeal Act.

Mr. Speaker, I rise today to introduce the Davis-Bacon Repeal Act of 1999. The Davis-Bacon Act of 1931 forces contractors on all federally-funded contraction projects to pay the `local prevailing wage,' defined as `the wage paid to the majority of the laborers or mechanics in the classification on similar projects in the area.' In practice, this usually means the wages paid by unionized contractors. For more than sixty years, this congressionally-created monstrosity has penalized taxpayers and the most efficient companies while crushing the dreams of the most willing workers. Mr. Speaker, Congress must act now to repeal this 61-year-old relic of an era during which people actually believed Congress could legislate prosperity. Americans pay a huge price in lost jobs, lost opportunities and tax-boosting cost overruns on federal construction projects every day Congress allows Davis-Bacon to remain on the books. ....

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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