Bell Policy Prop 103 Report

8/3/2019 Bell Policy Prop 103 Report

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The Bell Policy CenterResearch Advocacy Opportunity

1905 Sherman Street, Suite 900, Denver, Colorado 80203 303-297-0456 www.bellpolicy.org

Proposition 103 supports educationwhile protecting economic growth

Oct 21, 2011

By Alec Arellano

and Rich Jones

Executive summary

Proposition 103 on Novembers ballot

will raise about $500 million annually foreducation over the next five years. It does

this by increasing Colorados income tax

rate from 4.63% to 5% and the state sales

tax rate from 2.9% to 3%. These are the

rates that existed throughout the 1990s

a period of strong economic growth in

Colorado.

These revenues will be used to

counteract deep cuts to educationspending enacted in recent years and to

help protect against further cuts.

Opponents have argued that the

increases in tax rates will slow economic

growth, resulting in slower job growth

than is currently projected.

A thorough review of the research on

economic development shows that while

taxes matter, other factors, including thecost and quality of labor, quality of public

services, proximity to markets and

access to suppliers, are more important.

Over the long term, investments in

education that result in a better-educated

and higher-skilled workforce will make

Colorado more attractive to businesses

and help drive our economic growth.

Economic analyses show that while tax

increases are likely to slow job growth,

increases in state spending tend to

increase job growth. In fact, several

studies suggest that the increased

number of jobs related to additional state

spending would exceed the losses due to

tax increases. At a minimum, it is likely

that these effects will cancel each other

out. The decline in job growth driven by

tax increases will likely offset theincrease in job growth created through

additional education spending.

However, continued cuts in education

spending will cost us jobs and, over the

long run, will likely hurt the quality of

our workforce, making Colorado less

attractive to businesses and individuals

looking to relocate.

Passing Proposition 103 is good for

Colorados students, their families and

schools. It helps protect against future

cuts in education spending, adds to our

long-term economic competitiveness and

does so without harming our economy. It

is the right thing to do.


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Proposition 103 supports education while protecting economic growth

Introduction

On Nov. 1, Coloradans will vote on Proposition 103, a

ballot initiative that would raise approximately $2.9

billion over five years to fund K-12 and higher

education. The revenue would be generated by raising

the income tax rate from 4.63% to 5%, and raising thestate sales tax rate from 2.9% to 3%. These are the rates

that existed in 1999, and both increases would be

temporary, ending after five years.1

Advocates of the initiative argue it will help

counteract deep cuts to the states education spending

enacted over the past three years and help forestall

future cuts. Proposition 103s sponsor, state Sen. Rollie

Heath, argues that the initiative has huge potential to

help schools.2 Colorados budget for fiscal year 2011-12

cuts education spending by $227.5 million over the fiscal

year 2010-2011 budget, for an average reduction of $344

per student.3

According to the Colorado School FinanceProject, Colorado spent $2,408 less per pupil in

kindergarten through 12th grade than the national

average of $10,586 in 2009-10, the most recent year for

which data are available.4 Proposition 103 will help keep

Colorado from falling further behind.5 Heath also argues

that the initiative is needed to maintain an educated

workforce that will help Colorado stay economically

competitive with other states.

Opponents of Proposition 103 call it a jobs killer

and argue the initiative would deal a crushing blow to

Colorados struggling economy as it recovers from the

recession. In support of this claim, they cite a studycarried out by Eric Fruits, an Oregon-based economic

consultant, for the Common Sense Policy Roundtable, a

Colorado-based research organization.6 Fruits study

uses an econometric model to predict slower job growth

in Colorado relative to a baseline forecast for the next

five years if voters approve Proposition 103. He uses

data from the Legislative Council staff to project that

Colorado will add 320,000 jobs from 2012 to 2017

without Proposition 103. If Proposition 103 passes, his

model predicts the Colorado economy will add 289,000

jobs, or 30,500 fewer jobs than his baseline forecast.

In addition, Barry Poulson, senior fellow in fiscal

policy at the Independence Institute, and John D.

Merrifield, professor of economics at the University of

Texas, authored a study using a model developed by

Poulson to estimate the effects of Proposition 103 on

economic growth and jobs in Colorado. They estimate

that if Proposition 103 passes, Colorados economy will

create 7,400 to 11,600 fewer jobs than it otherwise

would over the period 2012 through 2016.7

This paper reviews the analysis contained in the

opponents two papers, summarizes some of the

academic literature relating to taxes and economic

growth and presents data on the effects of tax increases

recently enacted by other states. Finally, it describes the

effect that Proposition 103 will have on economic growth

and jobs in Colorado.

Fruits and Poulson studies

Both Fruits and Poulson cite a number of academic

studies that examine the relationship between state and

local tax rates and economic growth and employment

levels. Fruits goes into much greater detail in reviewing

the results of this literature and concludes that it shows

two things:

1) Higher marginal tax rates are associated with

reduced employment growth.

2) Higher marginal tax rates will have a negative

effect on net in-migration trends, meaning fewer people

will move to Colorado.

Poulson essentially concurs with these findings,

stating that taxpayers tend to migrate to states with

lower taxes and that businesses respond to higher taxes

by investing and relocating in states with lower taxes.

Both rely on these findings in constructing the

models they use to estimate the effects of Proposition

103 on economic growth and jobs. Neither paper

provides sufficient detail to determine exactly how their

models work, the factors used in the models or the

relationships between the different factors that were

used to generate their findings. Therefore, we cannot

replicate their analysis, thoroughly examine the relative

importance of different factors or check to see if

spending on public services is accounted for in their

analyses. However, other academic studies that examine

how taxes and spending on public services such as

education affect economic development lead us to

conclude that their findings are exaggerated at best, if

not completely off base.

Research on the effects of taxes,

government spending on economic growth

Most of the academic studies of business location

decisions find that state and local taxes are not theprimary factor in deciding where businesses locate.

Rather, factors such as the cost and quality of labor,

quality of public services, proximity to markets and

access to suppliers are more important. Because the

effect of taxes on business location decisions is small,

costs such as wages and other compensation can

potentially overshadow the differences in taxes between

states and localities.8

Taxes play a role, however, and research on the

effects of state taxes on economic growth tends to focus


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on how tax cuts and other incentives affect economic

growth. The effects of tax increases, while receiving less

attention in the literature, are largely the mirror image

of the tax-cut analysis. In any case, the research does

not offer the clear consensus on the negative effects of

tax increases that Fruits claims it does. Two of the

major summaries of the research cited by Fruits (Bartik,1991 and Wasylenko, 1997) find that taxes do have a

small effect on the location of firms within a region.

Generally, this effect is greatest when a states overall

tax burden differs significantly from other states in the

region. However, many of the studies included in these

summaries do not account for differences among states

and localities in the level of public services. They

assume the amount of public services remains constant

even though tax revenues are cut.9

In fact, an analysis of more than 100 academic

studies on this topic finds that spending on public

services has a positive effective on economic growth. Itcites studies that found increases in spending for

education and infrastructure, in particular, were most

consistently correlated with economic growth. Other

research also found public spending on services is linked

to economic growth.10 A review of the academic

literature on economic development showed that in 27

out of 43 studies, public spending was found to have a

positive effect on economic growth. Spending on

transportation had the clearest positive impact, but

education spending also had a positive effect.11

Economists express the relationship between taxes

and government spending on the number of jobs created

in terms of elasticity. In other words, they examine how

an increase in one factor, such as taxes, would affect

another factor, such as jobs. If an increase in one results

in an increase in another, it is expressed as a positive

elasticity. If an increase in one results in a decrease in

the other, it is expressed as negative elasticity. The

magnitude of the effect is represented by a number. An

elasticity of 1 indicates that a 1 percent increase in one

factor will result in an increase of 1 percent in the other.

Taxes are estimated to have a median long-run

elasticity of negative 0.2 percent.12 This means that

over 20 years, a 1 percent increase in taxes would result

in 0.2 percent fewer jobs, if everything else was equal.

On the other hand, the effects of government

spending on economic growth are estimated to have an

elasticity that ranges between positive 0.02 and positive

0.65.13 The data did not allow the author to compute a

median elasticity for government spending. Again, this

means that a 1 percent increase in government

spending would result in between 0.02 percent and 0.65

percent more jobs, if everything else was equal.

Another way to look at this question is to examine

the multiplier effects that government tax and spending

policies have on Colorados economy. Fruits and Poulson

argue that the $500 million per year that Proposition

103 would raise in taxes will come out of the private

sector, thus reducing spending and savings; this

reduction in spending will reduce economic output.

However, it is not clear whether they accounted for the

fact that, absent the increased revenue generated byProposition 103, it is possible that state and local

governments will continue to cut education spending

further, thus dampening economic activity. Nor is it

certain whether they accounted for the fact that

revenues raised by Proposition 103 will be allocated to

school districts, colleges and universities and used to

pay teachers, bus drivers and other workers and to

purchase supplies from private vendors. These funds

will circulate through the economy and increase output

as employees spend their earnings on goods and services

and the vendors use their revenues to pay workers, buy

supplies and otherwise invest in their businesses.

A recent study of the effects of mid-year state budget

cuts found that $1.00 in mid-year budget cuts reduces

state income in that year by around $1.70 and that

$25,000 in cuts results in the loss of a job. Almost all of

the jobs that would be lost are in the private sector,

according to this analysis.14

To the extent that the revenue from Proposition 103

would be used to counteract cuts in education spending,

it would add to total state personal income and

employment. For example, if the $227 million in

education cuts enacted in fiscal year 2011-12 are

avoided, we estimate it will preserve about 9,000 jobs,

many of which are in the private sector. It will also

avoid the loss of $395 million in total state personal

income.

If Proposition 103 fails and state and local

governments continue to cut education spending, every

$1 in spending cuts to education would result in a $1.70

decrease in state personal income as teachers and other

workers are laid off and contracts with private vendors

are cancelled. The drag on Colorados economy from

further cuts to education if Proposition 103 fails would

be greater than the combined effects of an increase in

taxes coupled with increased spending on education.

Over the long term, however, investments in

education should pay off, as businesses consistently say

that the quality of a states workforce is an important

factor in their location decisions. In fact, the Metro

Denver Chamber of Commerces Economic Development

Corporation promotes Colorado as the ideal climate for

growing talented workers.15 Colorado ranks fifth in

CNBCs 2011 list of the top states for doing business

and Education is one of the deciding criteria for this

ranking.16 General Electrics Prime Star Solar cited the

quality of our workforce as one of the major reasons it



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chose to expand in Colorado.17

The current status of Colorados education system,

though, gives cause for concern. In spite of its high

ranking overall, the state ranks 30th in the education

subcategory on the CNBC list. Whats more, Colorados

per-pupil spending is $2,408 below the national average,

and the state ranks 50th in a comparison of teacher

salaries as a percentage of pay in comparable

professions.18

While we cannot tell with precision whether the

elasticity of taxes or the elasticity of government

spending on job growth is stronger, it is clear that

increased spending on education under Proposition 103

will have a positive effect on economic growth and the

number of jobs in Colorado. It would likely offset any

decline in job growth due to the effects of increased

taxes and could result in a net increase in jobs due to

the economic effects of increased spending on education.

Over the long term, however, a well-educated workforcewill be an important factor in making Colorado

attractive to businesses and in promoting economic

growth.

Research on the effects

of tax increases on migration

The other argument that Fruits makes that if

passed, Proposition 103s tax increase will cause fewer

people to move to Colorado and prompt some high-

income earners to move away is not supported by the

academic research. Recent research finds that increasesin state tax rates do not prompt people to migrate. A

study by two Stanford University sociologists found that

New Jerseys 2.6 percent increase in its top income tax

rate for those earning above $500,000 in 2004 did not

cause these filers to leave the state. While the net out-

migration of those with incomes exceeding $500,000

increased, so did the out-migration of those earning

between $200,000 and $500,000. These people were not

subject to the tax increase, and yet they left the state by

about the same rate as those who had to pay it. The

authors concluded the effect of the new tax bracket is

negligible and did not appreciably increase the out-

migration of wealthy residents. These findings meshwell with existing research that shows that the

migration response to marginal tax policy changes is

generally quite small, they said.19

Furthermore, a report by the Center for Budget and

Policy Priorities that reviewed the academic literature

on migration found that few Americans change their

state of residence over the course of their lifetime, and

those that do are drawn by cheaper housing and other

cost-of-living expenses, rather than state tax rates.

There is also evidence that other factors, such as the

weather, are important considerations that affect

decisions to migrate, particularly for retirees.20

Colorados tax structure in comparison

with that of other states

Although numerous studies suggest that a states

level of taxation is not a primary factor in business

location decisions or in the migration decisions ofindividuals, it is valuable to clarify how Colorados tax

structure compares with those of other states. According

to a 2010 report by the Colorado Legislative Council,

Colorados combined state and local taxes of $95.53 per

$1,000 of personal income were the seventh-lowest in

the nation. In terms of state tax collections alone,

Colorado ranks second-lowest. These rankings have

remained largely stable over the last decade.21

Moreover, a comparison with other states in the

west gives an indication of Colorados tax

competitiveness. Among the 12 states in the western

United States, Colorado ranks seventh-lowest forindividual income taxes and ninth-lowest for corporate

income taxes relative to personal income. Colorados

overall combined state and local tax ranking is the

second-lowest of these 12 states.22

If we consider tax rates as a factor influencing a

states attractiveness to business and high-income

individuals, it is clear that Colorado is already ahead of

nearly all of its competitors in this region. Even with

the temporary and relatively small tax increases

proposed in Proposition 103, Colorado will remain one o

the lowest tax states in the region and the nation.

If passed, Proposition 103 will raise the statesincome tax rate from 4.63 percent to 5 percent, which is

the rate that prevailed in Colorado from 1987 to 1998.

Data from the Bureau of Economic Analysis shows that

during this period, Colorados average rate of growth for

both jobs and gross state product was higher than the

national average for these indicators (Table 1). In fact,

from 1991 to 2000 Colorado had the third-highest

growth in gross state product in the nation and fourth-

largest growth in employment.23 These data indicate

that this level of income tax did not restrain economic

growth.

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Table 1

Average job and GDP growth (1987-1998)

Colorado U.S.

Job growth 3% 1.9%

GDP growth 7.3% 5.8%

Source: Bureau of Economic Analysis


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Based on these analyses, we conclude that

Proposition 103 will have a negligible effect on people

moving into or out of Colorado. When coupled with our

states natural beauty and high quality of life, Colorado

is likely to remain attractive to businesses and others

looking to migrate.

Tax policy history in other states

A recent report from the National Conference of

State Legislatures shows that, in the last 20 years,

many states have increased taxes during and

immediately after recessions to deal with declining year-

end budget balances.24Additionally, a report by the

Center on Budget and Policy Priorities found states that

enacted significant tax increases after the 2001recession saw growth rates that closely matched the

national average. By contrast, states that did not raise

taxes, or cut them significantly, saw slower growth than

average.25

In January 2010, Oregon increased income tax rates

by approximately 2 percent for filers in the top tax

bracket. A comparison of data from the Bureau of Labor

Statistics for Oregon and its neighboring states shows

that, in the year and half since this rate change,

Oregons average monthly rate of job growth was

greater than it was in the previous two recession years

and greater than the rates for California, Nevada and

Washington. It is only marginally less than Idahos rate

of growth (Chart 1). Nevada, the only state of the five

with negative monthly job growth during this period,

extended through 2013 an existing sales tax rate that

was set to decline by 0.35 in 2011.26 However, this

extension was accompanied by massive cuts to public

spending. Nevada was also hit especially hard by the

collapse of the housing bubble.27

According to the September 2011 Oregon Economic

and Revenue Forecast, Oregons 4.2 percent growth in

the past year is better than all western states and the

U.S. average. Oregons year-over-year increase ranks

fifth-best nationally.28 Clearly, the comparison of

Oregons growth with that of its neighboring states does

not support the argument that increases in state taxes

will automatically have a negative affect a states

economic growth.

Conclusion

Proposition 103 will raise much-needed revenue for

education by returning income and sales tax rates to

levels in place throughout the 1990s a period when

Colorado experienced strong economic growth and

created jobs faster than all but three other states.

Economic analyses of the effects of state taxes and

spending on economic growth show that while tax

increases are likely to slow job growth, increases in

state spending tend to increase job growth. At a

minimum, it is likely that they would cancel each other

out, with the decline in job growth due to increased

taxes being offset by the increase in job growth created

through increased education spending. However, several

studies suggest that increases in the number of jobs

related to additional spending would exceed the losses

due to tax increases. In any case, continued cuts in

education spending will cost us jobs and, over the long-

run, will likely hurt the quality of our workforce,

making Colorado less attractive to businesses and

individuals looking to relocate.

Passing Proposition 103 is good for Colorados

students, their families and schools. It helps protect

against future cuts in education spending, adds to our

long-term economic competitiveness and does so without

harming our economy. It is the right thing to do.

5


Chart 1

Average monthly job growth(February 2010-August 2011)

-.02

0

.02

.04

.06

0.08%

0.083%0.078%

0.088%

-0.022%

Washington Idaho Nevada CaliforniaOregon

0.071%

Source: U.S. Bureau of Labor Statistics

End notes

1 Colorado Legislative Council. 2011 State Ballot Information

Booklet, Sept. 9, 2011.

2 Hardin, C. (2011). Proposition 103: Loot Dreams. Colorado

Springs Independent.

3 Mitchell, N. (2011). Roller-coaster revenue ride. Education

News Colorado. Because revenue estimates came in higher

in June 2011 than originally anticipated, another $67.5

million is available to school districts beginning in early

2012 which will reduce the amount of overall cuts.

4 Colorado School Finance Project, Profile Data: 2011

Highlights, Summer 2011

5 Oldham, J. Colorado Voters May Raise Taxes by $3 Billion

After Caps Sap School Funds. Bloomberg.

6 Fruits, E. (2011). The Effects on Employment and Migration

Common Sense Policy Roundtable.


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7 Poulson, B and John Merrifield, Proposition 103: What is

the cost to Colorado Taxpayers?, Independence Institute.

8 Fisher, P. & Ditsler, E. (2003). Taxes and State Economic

Growth: The Myths and the Reality. The Iowa Policy Project.

9 Fisher, P. & Ditsler, E. (2003) and Lynch, R. (2004).

Rethinking Growth Strategies: How State and Local Taxes

and Services Affect Economic Development. Economic Policy

Institute.

10 Lynch, R, 2004, p 43

11 Fisher, Ronald, The effects of state and local public services

on economic development. New England Economic Review,

March/April, 1997.

12 Wasylenko, Michael, Taxation and economic development:

The state of economic literature, New England Economic

Review, March/April, 1997.

13 Fisher, Ronald, March/April 1997.

14 Clemens, J and Stephen Miran, The effects of state budget

cuts on employment and income, Harvard University, May

10, 2010.

15 Metro Denver Economic Development Corp. The IdealClimate for Growing Talented Workers, 2011.

16 CNBC, Americas Top States for Business 2011, June 28,

2011.

17 Jaffe, M (2011), GE could double the size of its solar panel

plant in Aurora, Denver Post, October 14, 2011.

18 Education Week (2010). Quality Counts 2010 and Colorado

School Finance Project, Summer 2011.

19 Young, C. & Varner, C. (2011). Millionaire Migration and

State Taxation of Top Incomes: Evidence from a Natural

Experiment. National Tax Journal.

20 Tannenwald, R., Shure, J. & Johnson, N. (2011). Tax Flight

is a Myth: Higher State Taxes Bring More Revenue, Not

More Migration. Center on Budget and Policy Priorities.

21 Kirk, R. (2010). How Colorado Compares in State and Local

Taxes. Colorado Legislative Council.

22 Kirk, R. (2010).

23 Hedges, C, (2003), Ten Years of TABOR, The Bell Policy

Center.

24 Snell, R. (2011). Taxes on the Horizon? National Conference

of State Legislatures.

25 Johnson, N., Nicholas, A. & Pennington, S. (2009). Tax

Measures Help Balance State Budgets: A Common and

Reasonable Response to Shortfalls. Center on Budget and

Policy Priorities.

26 Nevada Department of Taxation (2011). Tax Rate Changes.

27 Dostal, E. (2011). Biggest spending cuts, tax increases in

Nevada history wont close budget gap, Assembly speaker

says. Las Vegas Sun.

28 Oregon Office of Economic Analysis, Oregon Revenue and

Economic Forecast (2011). Economic growth is based on the

growth in the states coincident index, which measures

nonfarm employment, the unemployment rate, and real

wage and salary disbursements.

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