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.

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3 thoughts on “Swiss Cheese and Taxes: California Joins the Tax Break Derby

  1. pollins1

    Spot-on as usual, Dr. Lefberg. All this makes me think of the old adage “when you know you’re in a hole, the first thing to do is stop digging.” Twenty years ago I did a bit of consulting for the state of Michigan regarding state export promotion programs. All 50 states had them, and I was able to show statistically that they (in the main) actually worked and were cost-effective! (I was more surprised than anybody.) But while doing this study, it was also clear that all 50 states were engaging in competitive granting of tax breaks *and* it was clear to everybody that this was a *losing* strategy from a fiscal standpoint and from an economic development standpoint. I testified at legislative hearings in Michigan and in Ohio (they were free-riders on my Michigan study) and in both states lawmakers commented on how they were determined to get out of the tax-break business because it was a proven loser. Yet twenty years later….
    So I suspect that in a Game Theoretic sense there has to be an underlying dynamic that gives perverse incentive to governors and legislators to choose tax breaks rather than the evening news showing factory shutdowns or unemployment line, even when keeping that plant from moving to Tennessee, or the ground-breaking for the new factory is really a very expensive Potemkin Village.

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    1. Irv Lefberg Post author

      Thank You, Dr. Pollins…. I think your last paragraph hypothesis as to why states (governors, legislators) keep doing this is right on. There is also the campaign contribution factor, of course. Absolutely guarantee that Northop Grumman(and affiliates) and film industry moguls and the labor unions will contribute a lot to all of the incumbents. And yes, Governor FILL IN THE NAME and STATE doesn’t want to be known as “the Gov that lost Boeing.” They know they’re kicking the can down the road, and that US commercial aircraft will in a decade or two be blown away by Chinese, Russian, Brazilian, Japanese, etc (state supported) commercial aircraft industries, but it WONT BE ON THEIR WATCH, by G-d! In some areas like (retaining) sports teams, the publics in some states/cities have revolted. In Seattle, public and legislature said NO to Sonics. But a big established City like Seattle losing an NBA team is not nearly as bad (in the near term) as losing 10,000 machinist jobs. I think legislators and the public have also come to realize that there are only so many convention centers and performing arts centers that can sustain themselves in a region, so the spigot there has been shut down in many places. Some of those structures are being sold to private investors (for various uses) or turned into jails (no kidding). They’re needed to house the legislators convicted of taking bribes for tax breaks. 🙂 Hayward would have had a good game theoretic explanation and solution for all of this. Irv

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