The broad-based tax fantasy

Diverse tax codes double likelihood of budget shortfall

By Patrick R. Gibbons
  • Thursday, April 16, 2009

The Las Vegas Sun this week highlighted on its front page a recent article from the Center for Budget and Policy Priorities (CBPP), a left-of-center think tank in Washington, D.C. A March 13 report from the CBPP says Nevada's budget gap for 2010 is 30 percent, the highest in the nation.

Not surprisingly, some have taken this to mean that Nevada needs to expand and diversify its tax base. Dr. Elliott Parker, an economist at the University of Nevada, Reno, thinks the state tax code is "unbalanced," while Joe Edson of the Progressive Leadership Alliance of Nevada (PLAN) says the state needs a broad tax base. Local economist John Restrepo points next door to Arizona and concludes its slightly smaller budget shortfall and lower unemployment level stem from that state's broader tax base.

Not so fast.

It's more likely that Arizona's lower unemployment and marginally smaller budget gap stem from the state's more diversified economy. That is, a greater likelihood of jobs outside housing construction and entertainment (gaming) — two industries that sustained major hits in Nevada and across the United States.

Arizona still faces a huge budget gap, and it's for the same reason that Nevada does. Politicians in the Grand Canyon State raised taxes at the start of the housing boom, rapidly filled the state coffers and then blew nearly every dime on any new program the government could dream up. Raising taxes yet again will not help diversify Nevada's economy — especially if taxes on non-gaming and non-construction industries are hiked.

Beyond this, the study has one very obvious problem. It uses state-reported budget needs to calculate the gap. Each cabal of state politicians has its own method for determining how much it wants to spend and faces little pressure to seriously contain spending. Nevada office-holders, for example, are demanding spending increases by 17 percent over the last biennium. That is a pretty large increase and objectively difficult to justify.

A more accurate way to view budget "shortfall" problems would be to examine how much a state already planned to spend for FY 2009 versus how much tax revenue the state projects. Conveniently for us, the CBPP already collected this data and found that Nevada's mid-year FY 2009 shortfall was just 7.3 percent. Thus the Silver State ranks 20th out of the 42 states, plus the District of Columbia, included in the study. Arizona, incidentally, has the largest shortfall for FY 2009 at 29.8 percent — quadruple the percentage CBPP places on Nevada's 2009 mid-year budget gap.

Demanding an unjustifiably large 17 percent increase in spending is the real reason Nevada faces the largest shortfall for 2010.

For the moment, however, let's set aside the above critique and look at the underlying question: Would a more diverse tax code help? The results of a closer examination say no.

The following states have no corporate or personal income tax: Alaska, Florida, Nevada, North Dakota, Texas and Wyoming. Let's also include Tennessee and Vermont, two states that limit income taxes to dividend and interest income. These states can be considered to have the least diverse tax codes.

For the FY 2009 mid-year shortfall, these states averaged a shortfall of just 4.6 percent compared to 7 percent for the states with more diverse tax codes. The shortfall drops to 3.8 percent when you exclude Tennessee and Vermont. For FY 2009, states with diverse tax codes had budget shortfalls that were twice as large as states with the less diverse codes.

In terms of estimated shortfalls for FY 2010, no difference exists. States with little tax diversity face an estimated 13.2 percent shortfall versus 13.1 percent for states with diverse tax codes. When Tennessee and Vermont are excluded, states with no income tax face a shortfall of 13.1 percent. And remember: this includes Nevada's overinflated demand for a 17 percent spending increase.

Which states are likely to face a shortfall? It is not the states with less diverse tax codes. For FY 2009, 33.3 percent of those states faced no shortfall — versus only some 14.3 percent of states with a more "diverse" tax code (D.C. included).

For FY 2010, assuming projections by the CBPP are correct, 28.5 percent of states with the least diverse tax codes will face no shortfall — compared to just 2.3 percent of states with the more diverse tax codes.

A diverse tax code does not help, and the reason is simple: Diverse tax codes give state governments easier access to more money — dollars politicians can spend with little or no taxpayer accountability. Facing fewer limits on spending growth, states are significantly more likely to spend at unsustainable rates until the inevitable budget crunches arrive.

There is no denying that Nevada's economy is currently fragile. Yes, significant general-fund revenue derives from gaming taxes and the underlying industry grows or shrinks with strength or weakness in the global economy. But that doesn't mean we need a "diverse" tax code. Instead, it means we need wise, mature and frugal government — a government that sets priorities, spends money where it is needed most, eliminates ineffective programs and limits its growth to sustainable levels.

Patrick R. Gibbons is an education policy analyst at the Nevada Policy Research Institute.

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