Wednesday, June 15, 2011

Anatomy of a State's Ill-Considered Tax Policy

Last week the Wall Street Journal featured Illinois' recent tax hikes in its lead staff editorial. Normally, a topic like this would be more appropriate on my companion political blog. But I think this merits treatment here, instead.

For several years now, as I've written in prior posts, more of my business blog writing has been devoted to government actions, primarily because, since 2008, so much of the so-called private sector has been either infringed upon, taken over by or otherwise heavily influenced and affected by government activity to overwhelming extents.

In the case of this topic, the situation was set up by years of profligate state spending and giveaways to unions in the form of pensions and compensation for government employees. As an attempt to fill state budget gaps, Illinois' Democratically-controlled legislature and its Democratic governor enacted tax increases which effectively raised personal rates 67% and corporate rates to a 9.5% level, which the Journal reports as "fourth highest in the nation."

Predictably, many large Illinois corporations promptly let it be publicly known that they were considering relocating out of the state, due to the sudden rise in tax bills.

Caterpillar, Motorola Mobility, Sears, Navistar Continental Tire, U.S. Cellular, Chrysler and even Groupon all used the ploy to extract tax givebacks of varying sizes from the state. The governor, Pat Quinn, used these occasions to claim he was working hard to keep business in the state.

The irony, of course, is priceless. The state raises tax rates, then trumpets its efforts to offset the loss of economic activity as businesses respond to the higher rates. But the underlying process of funding the state government has been corrupted, as the Journal editorial describes,

"The victims are the thousands of businesses that don't get the favors, and an overall state economy that is less attractive for employers. That's one reason Illinois has ranked 47th of the 50 states in job creation in the last decade, and has lost more private jobs (360,000) than the entire private work force of Delaware...

Illinois is proving what bookshelves full of studies have found: Handing out special favors one business at a time is politically corrupting and an ineffective economic development strategy. A sounder way to create jobs is to provide a welcome tax and regulatory climate for all businesses. Some states, such as Arizona, constitutionally prohibit politicians from granting special favors to a business or citizen."

Today's Journal has a second part to the editorial, reporting that financial market giant CME Group is now threatening to leave the state if it, too, does not receive some special tax relief.

According to the Journal, Illinois' increased tax rate is expected to capture around $6B, of which something like a quarter of a billion dollars is now being forgiven as political favors from the governor.

Is this any way to run a state? Or a country? Because we all know that Congress does exactly the same thing with the federal tax code. Special exemptions are created by Senators and Representatives for businesses which fit suspiciously complicated descriptions which- surprise surprise- result in a company in their state or district enjoying some tax break.

When are citizens, at taxpayers and voters, going to catch on to this bi-partisan scam which saps national economic activity while fostering tens of millions of dollars in economically unproductive lobbying for tax relief?

The net result is to transform what could be simpler, lower-rate tax systems for state and federal governments alike into complicated traps, partial escapes from which are granted by elected politicians in return for various favors- campaign donations, jobs for friends, or public relations events showcasing how the official 'saved' jobs by giving a company a special tax break.

If the tax break was a good economic move, why was the tax rate raised in the first place?

By the way, since it's topical in a political sense this week, Rick Perry's Texas has created more jobs in the past decade than any other state.

It has no state income tax- and, thus, no tax rates from which companies need to spend money to escape. And less political corruption.

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