Monthly Archives: August 2014

Swiss Cheese and Taxes: California Joins the Tax Break Derby

Not So Stealthy Bomber

Boeing Aircaft: The B-17

Within days of each other, California passed legislation granting generous tax breaks to the aerospace industry (specifically to Northrop-Grumman), and took major steps toward quadrupling tax credits for the State’s disappearing film industry (it’s close to a done deal). The tax incentives for Northrop-Grumman try to help the company gain military contracts to build the next generation of stealth bombers.

Using tax breaks to make industrial policy makes Swiss cheese out of tax systems. Doing it often enough erodes tax bases, loses revenue for states (even when the experts, and surely the lobbyists, tell you otherwise); and it makes the tax system less fair.

Even if tax giveaways “work,” in the sense of (temporarily) retaining or attracting business, there are eventually plenty of victims.  Short of national policy to regulate tax preferences, which is of course unlikely and impractical for now, it’s hard to figure out how to curb bribery and black mail in the guise of tax policy.  Public opinion has thwarted these efforts in some places.  For example, Seattle said NO to the Supersonics’  and NBA’s demands for more public gifting, after burning out on Mariner, Seahawk and Boeing giveaways.

Here, generally, are some of the victims of industrial (tax) policy:

At the highest level, real, “free market” capitalism is a victim, supplanted by a form of “state capitalism” or “crony capitalism.”  That may be the worst or broadest of the bad effects.

Governments refusing to play the game, lose business and jobs (at least in the short run). The Seattle Supersonics moved to Oklahoma City (OKC), when Seattle balked after OKC offered the moon.  (Has losing the Sonics harmed Seattle’s economy?)

Where it’s hard to cut spending in tandem with the tax breaks – that’s the fiscally responsible thing to do — tax burdens shift to small business, less privileged industry sectors, and to ordinary households and property owners.

In places where it’s acceptable to cut core services or safety nets to compensate for tax giveaways, people who truly need them, suffer greatly. Look at Kansas right now as an example.

In California, corporate welfare and tax giveaways, without corresponding spending cuts, can result in higher taxes on the rich, but that option for saving core government services isn’t available in most other places.

Where it’s not feasible to raise taxes on the rich, all varieties of fees are increased, or new ones imposed,  on everything, short of breathing.  Special taxes may be raised on motor vehicle ownership, business licenses,  hunting, other recreation, etc..  These charges are highly visible, surprising and annoying to taxpayers, and often regressive, which fuels more public opposition to taxes.

But governments usually don’t have to make these hard choices anyway. The tax breaks often don’t take effect for a few years; or the experts scoring the measures are pressured into saying they’re freebies.  Indeed, doing it will make money for the state, they say. What a deal!

When governments do a lot of this, and the rosy outcomes don’t materialize, deficits and long term debt mount.  The governments don’t actually pass deficit budgets (because that is usually illegal), but resort to smoke and mirrors. Or, as Letterman would say, “stupid pet tricks.”

Not fully funding pension obligations (now harder to do under new GASB rules), or shifting activities from operating to capital budgets, where you can pay for them with bonds (otherwise known as borrowing), are common ways to look like you’re (magically) balancing the budget, while giving away revenue to special interests, without cutting spending.  It is, indeed, magic.

In the process we’ve turned tax codes all over the country into Swiss cheese. And we wonder why average citizens, small business, and less privileged or sainted industries, cry about taxation.

Total tax burden in the U.S., depending on how you measure it, has been stable or declining for thirty years, according to the non-partisan Congressional Budget Office (CBO).   And the U.S. has lower taxes than most advanced industrial societies, according to a Forbes report.    But it doesn’t feel that way to the average person,  to many smaller businesses , or to industries that are not sacred cows.

What Does Inequality Mean to You? Conservatively, About $10,000 a Year

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Crabbing About Inequality

When the staid, straight laced, Wall Street economists at Standard and Poor’s (S&P) jump on the “inequality,” “growing gap between rich and poor,” “shrinking middle” class bandwagon, you know these issues have moved well beyond the imaginations of class warriors, left wing think tanks, and liberal French economists.  This story should have gotten more exposure.

The recent, surprising, analysis by S&P said that part of the reason for the slow and fitful economic recovery is lack of spending power by the middle class.  Record high levels of income and wealth inequality are a big reason, according to S&P, why consumption has been slow to rebound and why the recovery has not been stronger. Wow!

That of course is not a new theory.  Distinguished Columbia University economist Joseph Stiglitz and Berkeley public policy professor Robert Reich,  for example, have written and lectured extensively on inequality and how it’s been a drag on the U.S. economy. But, coming now from S&P,  deniers (at least the open minded ones) will find it harder to dismiss that viewpoint.  Hardcore deniers will dismiss anything and everything along these lines.  Or, they will say it doesn’t matter.

Still, public opinion about Inequality, what it means, if it’s real or not, and whether anything can (or should) be done about it, is “all over the place,” as Pew survey researchers have found.

Despite many words, graphs, and charts starkly depicting how much better the “one percenters” have done than the rest of us, we really haven’t heard much about what rising inequality means to the average household.  A big reason is that the question hasn’t been posed in a way that leads easily to answers that mean something to dwellers on Elm Street or residents at the Cabrini Green projects. I credit my colleague Kurt Lightfoot, with helping me understand that.

So, instead of asking how much the gap has widened between rich and poor, or between the middle class and people in the top one percent — questions that scare a lot of folks – lets pose the question this way:

How much more income would you have if your slice of the American Pie was about the same today as in 1980?  And what could you buy with that extra money? 

What could possibly be scary about that?  Now we’re talking about American apple pie, and how big your slice is today compared with thirty years ago?  (We could do this with pizza too). Three charts give us the answers. Alas, neither are pie charts. Look first at Chart #1

chart 1

Chart #1

If you break households into “quintiles” (five groups each representing 20% of all households, aligned from lowest income earners to highest), the average income for the middle class (adjusted for inflation) rose about 10 to 20 percent.

I’m loosely defining middle class here as the second and third quintiles, with average incomes of $30,000 to $50,000 in 2012. Arguably, the fourth quintile (households with $80,000 average income) could be included in the middle, but that group includes a lot of households making over $100K, which would be typically regarded in the “upper middle class.”  Regardless, the data is there for each quintile, so you can choose whichever definition of middle class seems more reasonable.

I’ve broken the highest quintile (the top 20 percent of earners) into two smaller groups: (1) the next highest 15 percent of households (by income), and (2) the top 5%. These groups saw their average household incomes rise by about 55 percent and 80 percent respectively.

Chart #2

Chart #2

Chart 2 gets right to the point, and answers the question: “How much more income would the middle class be earning today (actually in 2012) if its slice of the American Pie had remained the same as in 1980?”

The simple answer is: About $10,000 more per household. Or $100,000 more over a decade.

While that’s substantial foregone dollars for the middle class, visually, Chart #2 may not convey the huge difference between how much incomes actually grew for the middle class, and what growth would have been if everyone’s slice of the pie had grown equally. Chart # 3 depicts that.  Had their slice of the American Pie remained the same, the lowest three quintiles would have seen their average income growth between 20 to 30 percentage points more than actually happened.

chart 3

Chart 3

That’s still about the most conservative estimate you will get from any rigorous look at the data. Thomas Picketty and Robert Reich would say I was “lowballing” it, and that I must be a Wall Street lackey.  Picketty, of course, used “wealth” instead of income to look at disparities. I discuss some of the pros and cons of that in the “caveat emptor” section at the end. Optional reading.

Even if it’s a lowball estimate, $10,000 a year is a lot of foregone dollars. On an annual basis, half of that lost income would pay for decent health insurance coverage  (without Obamacare), with enough left over for a nice, well deserved vacation at a couple of national parks, to celebrate a clean bill of health from the doctor.  Those trips are good for the family and for Arizona.  Or a decent three bedroom apartment, instead of a one bedroom place where the kids sleep on a Murphy Bed in the living room.

Over a decade, the foregone income is $100,000.  Enough to help pay for a kid’s college education at a good school, without her incurring $100,000 in student loan debt, which not only makes her poor, but seriously weakens the overall economy because now she can’t afford to buy a home and start a family (or vice versa).

Chart #2 also says that the top 5 percent of households would be making about $70,000 less per year if everyone’s slice of the American Pie had grown the same since 1980. The S&P economists point out that (1) not much of this $70,000 would have been devoted to consumption spending here at home by this upper income group,  while (2) nearly all of the foregone $10,000 would have been spent by the middle class for consumer goods and services here at home.  And (3), that there’s a lot more people in the middle class than in the top 5%. That is why S&P thinks the slow economic recovery is related to severe income inequality. QED.

Caveat Emptor

As I said in the main body, we’re looking at this from an “income” rather than “wealth” perspective. The widening gap in wealth among the top, middle and bottom is much greater than the growing gap in income. But wealth is more difficult to measure. And it’s much harder to say what more we could buy, if we were wealthier. Income includes things like wages and dividends.  Its liquid.  Its cash.  Wealth is assets, like stock and the value of your home,   But its very important to note that the answer given here to what difference it makes if your slice of the American Pie had remained the same, is very conservative. i.e., it’s a low number. Not because I’m trying to “lowball” it; but because of the technical issues  I mentioned. 

Also, the data are not adjusted for the vast growth in households with two or more wage earners.  To the extent the “middle class” has kept pace at all, its (largely) because a much higher percent of households today have at least two earners, compared with 1980, and even more so compared with any other period, before nearly all women entered the labor force.

The best data I could find for this analysis is not fine enough to look at how much the slice of pie has grown for the top 1 percent of the income distribution. But it still tells the basic story. I was able to break out the top 5 percent. BTW, the Congressional Budget Office, using more detailed data, estimates that average income increased by 200 percent for the top one percent of earners in this same period.

The “Business Climate” Studies Will Drive You Crazy

Measuring the Business Climate

Measuring the Business Climate

A commentary in the Voice of San Diego (VOSD) by Irv Lefberg (yes, that’s me), points out that California and its two largest southern cities have performed relatively well as job creators since 2009. This, despite a lot of anecdotes and news headlines to the contrary, about companies leaving the Golden State for “friendlier” business environs like Texas.

VOSD has done some good investigative journalism using real data on the movement of businesses between localities, which showed that San Diego has been attracting more businesses than it’s losing. The net job growth numbers are consistent with the data on business movements.

An important take away from these stories is not to put a lot of trust in most of the “business climate” studies or the rankings of states and cities on  “ease of doing business.” They started appearing about twenty years ago, with the U.S. Chamber of Commerce and Grant-Thornton amongst the most prominent.  I thought those were done relatively well back then.

Today the landscape is cluttered with these reports.  And the news media can’t seem to resist making them into headlines, like one earlier this year which said,  “San Diego Named the Best for Launching a New Business;” followed by another one, ironically, yesterday, shouting that “San Diego gets an ‘F’ from Small Biz Owners.” Read about it here.

The basic (and most obvious) problem with the business climate studies is they make (usually untested) presumptions about what ingredients are needed for baking a good cake. Then they measure each locality against the half baked recipe, often using data which are not even comparable across the areas.

The studies are not all this bad; but as they proliferated, bad money drove out good money,  as is the tendency.  The worst studies are the surveys of “business people” asking them what they think of their city or state as a place to do business.  (The study reported today about small business folk giving San Diego an “F”  was a survey).  How were the respondents chosen?  Are they a representative sample?  Exactly what questions were they asked?   Was the response rate good?  Who knows?

Many of the rankings and climate purveyors don’t seem to be bothered when it turns out that more than a few of their top ranked places for doing business have poor performing economies, while some of the “worst” have been top job creators for decades. This happens a lot, but doesn’t seem to lessen the appetite for more climate studies and “competetiveness councils” to list and purge the worst business polices.

The bottom line is that states and cities ought to first look at their bottom lines before they jump to conclusions about how good (or bad) they are for business growth.  The bottom lines are: job growth, wage growth, and income distribution.

This is not to say that critics of high business taxes or over-regulation can be ignored if the bottom lines of the economy look good. The critics may be onto something that will come back to bite in the future, even if it hasn’t shown up yet in the standard blood work.  Also, the critics usually have a lot of money to spend on political campaigns.