Tag Archives: Arkansas

More labor market freedom means more labor force participation

The U.S. labor force participation (LFP) rate has yet to bounce back to its pre-recession level. Some of the decline is due to retiring baby-boomers but even the prime-age LFP rate, which only counts people age 25 – 54 and thus less affected by retirement, has not recovered.

Economists and government officials are concerned about the weak recovery in labor force participation. A high LFP rate is usually a sign of a strong economy—people are either working or optimistic about their chances of finding a job. A low LFP rate is often a sign of little economic opportunity or disappointment with the employment options available.

The U.S. is a large, diverse country so the national LFP rate obscures substantial state variation in LFP rates. The figure below shows the age 16 and up LFP rates for the 50 states and the U.S. as a whole (black bar) in 2014. (data)

2014-state-lfp-rates

The rates range from a high of 72.6% in North Dakota to a low of 53.1% in West Virginia. The U.S. rate was 62.9%. Several of the states with relatively low rates are in the south, including Mississippi, Alabama and Arkansas. Florida and Arizona also had relatively low labor force participation, which is not surprising considering their reputations as retirement destinations.

There are several reasons why some states have more labor force participation than others. Demographics is one: states with a higher percentage of people over age 65 and between 16 and 22 will have lower rates on average since people in these age groups are often retired or in school full time. States also have different economies made up of different industries and at any given time some industries are thriving while others are struggling.

Federal and state regulation also play a role. Federal regulation disparately impacts different states because of the different industrial compositions of state economies. For example, states with large energy industries tend to be more affected by federal regulation than other states.

States also tax and regulate their labor markets differently. States have different occupational licensing standards, different minimum wages and different levels of payroll and income taxes among other things. Each of these things alters the incentive for businesses to hire or for people to join the labor market and thus affects states’ LFP rates.

We can see the relationship between labor market freedom and labor force participation in the figure below. The figure shows the relationship between the Economic Freedom of North America’s 2013 labor market freedom score (x-axis) and the 2014 labor force participation rate for each state (y-axis).

lab-mkt-freed-and-lfp-rate

As shown in the figure there is a positive relationship—more labor market freedom is associated with a higher LFP rate on average. States with lower freedom scores such as Mississippi, Kentucky and Alabama also had low LFP rates while states with higher freedom scores such as North Dakota, South Dakota and Virginia had higher LFP rates.

This is not an all-else-equal analysis and other variables—such as demographics and industry composition which I mentioned earlier—also play a role. That being said, state officials concerned about their state’s labor market should think about what they can do to increase labor market freedom—and economic freedom more broadly—in their state.

Are state lotteries good sources of revenue?

By Olivia Gonzalez and Adam A. Millsap

With all the hype about the Powerball jackpot, we decided to look at the benefits and costs of state lotteries from the taxpayer’s perspective. The excitement around yesterday’s drawing is for good reason, with the jackpot reaching $1.5 billion – the largest thus far. But most taxpayers will never benefit from the actual prize money, with odds of winning as low as one in 292.2 million for the jackpot. So if few people will ever hit it big, there must be other benefits for taxpayers to justify the implementation of lotteries, right?

Of the 43 states that implement lotteries, the majority of lottery revenues – about 58% on average – go to awarding prizes. A relatively small proportion (7%) is used to pay for administration costs, such as salaries of government workers and advertising. The remaining category, and the primary purpose of implementing state lotteries, is revenue for government services. On average, about one third of state lottery revenues is directed to state funds for this purpose. The chart below displays the state-level breakdown of lottery revenue for the most recent year that data are available (2013).

lottery sales breakdown

It is surprising that such a small portion of state lottery sales actually make it to state funds, especially considering how much politicians advertise the benefits of state lotteries. A handful of states direct more than 50% of lottery revenues towards state funds: Rhode Island, Delaware, West Virginia, Oregon, and South Dakota. The other 38 states allocate significantly less with Arkansas and Massachusetts contributing the smallest percentage, only 21%.

Many states direct their lottery revenues towards education programs. The largest lottery system, New York’s, usually directs about 30% of their lottery sales to this area. Similarly, Florida’s lottery system transferred about one third of their funds, totaling $1.50 billion, to their Educational Enhancement Trust Fund (EETF) in 2013.

The data presented here are from 2013, so it will be interesting to see how the recent Powerball jackpot revenues will affect lottery revenues more broadly in the future, especially since the Multi-State Lottery Association reduced the odds of winning in October of 2015 in the hope of boosting revenues. State officials argue that reducing the chances of winning allows the prize to grow larger, which increases the demand for tickets and revenue.

The revenue-generating function of state lotteries makes them implicit taxes. The portion of revenue generated from a state lottery that is not used to operate the lottery is just like tax revenue generated from a regular sales or excise tax. So even if lotteries are effective at raising revenue, are they effective tax policy?

Effective tax policy should take into account the tax’s ability to generate revenue as well as its efficiency, equity, transparency, and collectability. Research shows that state lotteries fall short in most of these categories.

The practice of dedicating portions of tax revenue to specific expenditure categories, also known as earmarking, can be detrimental to state budgets. Research that looks specifically at the earmarking of lottery revenues finds that educational expenditures remain unaffected, and sometimes even decline, following the implementation of a state lottery.

This result is due to how earmarking changes the incentives facing politicians. A 1999 study compares the results of lottery revenues directed specifically to fund education with revenues going to a state’s general fund. Patrick Pierce, one of the co-authors, explains that when funds are earmarked for education they go to the intended program but, “instead of adding to the funds for those programs, legislators factor in the lottery revenue and allocate less government money to the program budgets.”

Earmarking also affects total government expenditures, even though from a theoretical perspective it should have little effect since one source of funding is just as good as another. Nevertheless, many empirical studies find the opposite. Mercatus research corroborates this by demonstrating that earmarking tends to result in an increase in total government spending while having little effect on the program expenditures to which the funds are tied. This raises serious transparency concerns because it obscures increases in total government spending that voters may not want.

Last but not least, about four decades of studies have examined lottery tax equity and the majority of them find that lottery sales disproportionately draw from lower-income groups, making them regressive taxes. This only adds to the aforementioned concerns about the transparency, collectability, and revenue raising capabilities of lottery taxes.

Perhaps the effectiveness of lottery taxes can be best summed up by the authors of a 1993 study who wrote that “lotteries as a source of funding are neither efficient nor equitable substitutes for more traditional tax sources.”

Although at least three people walked away with millions of dollars yesterday, many taxpayers are not getting any benefits from their state’s lottery system.

Intergovernmental grant to gelato maker distorts market competition

Intergovernmental grants are grants that are given to one level of government by another e.g. federal to state/local or state to local. In addition to being used on public works and services they also subsidize the development of private goods. The Community Development Block Grant Program (CDBG) is a federally funded grant program that distributes grants and subsidized loans to local and state governments which then use them or award them to other businesses and non-profits. The grants can be used on a variety of projects. Since 1975 the CDBG program has given over $143 billion ($215 billion adjusted for inflation) to state and local governments. The graph below (click to enlarge) shows the total dollars by year adjusted for inflation (2009 dollars) and the number of entitlement grantees by year. While the total amount of funding has declined over time, it was still $2.8 billion in 2014.

cdbg dollars, grantees

Intergovernmental grant programs like CDBG are based on the incorrect idea that moving money around produces economic development and creates a net-positive amount of jobs. But only productive entrepreneurs who create value for consumers can create jobs. The CDBG program and others like it distort the entrepreneurial process and within-industry competition by giving an artificial advantage to the companies that receive grants. This results in more workers and capital flowing into the grant-receiving business rather than their unsubsidized competitors. For example, Brunswick, ME is giving a $350,000 CDBG to Gelato Fiasco to help the company buy new equipment. Meanwhile, nearby competitors Bohemian Coffeehouse, Little Dog Coffee Shop, and Dairy Queen are not receiving any grant money. Governments at all levels, such as Brunswick’s, should not pick winners and losers via a grant process that ultimately favors some constituents over others.

Some other projects that the CDBG program has helped fund are: a soybean processing plant in Arkansas, a new facility for a farmer’s market in Oregon, solar panels for houses in San Diego, and waterfront housing in Burlington, VT. Like the Gelato Fiasco example, these are all examples of private goods, not public, and the production of such goods is best left to the market. If private investors who are subject to market forces are unwilling to produce a private good then it is probably not a worthwhile venture, as the lack of private investment implies that the expected cost exceeds the expected revenue. Private investors and entrepreneurs want to make a profit and the profit incentive promotes wise investments. Governments don’t confront the same profit incentive and this often leads to wasteful spending.

At its best, a government can create the conditions that encourage economic development and job creation: the enforcement of private property rights, a court system to adjudicate disputes, a police force to maintain law and order, and perhaps some basic infrastructure. The scope of a local government should be limited to these tasks.

New Study of Medicaid, Focusing on Kentucky

University of Kentucky Professor of Economics and Mercatus-affiliated scholar John Garen has a new paper on the growth of Medicaid in Kentucky.  It is an enlightening read.  For one thing, I learned that the latest estimates suggest that Medicaid crowds-out private insurance at the rate of 50 to 60 percent (i.e., 5 to 6 out of every 10 new entrants to the program would have obtained private insurance).  The latest estimate, which looks at crowd-out in long-term care insurance, was obtained by Jeffrey Brown and Amy Finkelstein (incidentally, the latter just coauthored a piece that found Medicaid patients tend to be healthier than those without insurance, other things being equal).

I also learned about a number of reforms that have been shown to reduce costs and/or improve patient satisfaction. For example, Arkansas, New Jersey, and Florida have all received waivers to institute “Cash and Counseling” programs for disabled Medicaid recipients.  Under this type of program, enrollees are given a budget for various personal and household Medicaid services.  Then:

[W]ith guidance from a counselor, [they] can select the type, amount, and vendor of the services they purchase.  In other words, they receive a voucher.  Studies of this program indicate it has resulted in high recipient satisfaction, less fraud, and has saved on the use of expensive institutional care.

Here is one such study of the program.

Here is John’s website.

The State of Laziness

According to Bloomberg, here are the top ten laziest states:

Louisiana, Mississippi, Arkansas, North Carolina, Tennessee, Kentucky, West Virginia, South Carolina, Alabama, Delaware.

(I have no idea whether this survey method is valid).

Though it is provocative to label the good people of Louisiana “lazy,” I suspect that much of the observed difference in behavior can be traced not to inherent differences in the people but to differences in the institutions in which those people operate: the laws, the economy, the culture, etc. that constrains and shapes their actions.

A few years back, the Nobel laureate economist Ed Prescott (of Arizona State) analyzed the difference between American and European working habits. There was a time, in the early 1970s, when Europeans worked more than Americans. Now this is reversed: “Americans work 50 percent more than do the Germans, French, and Italians.” Prescott finds that differences in marginal tax rates are the predominant factor. So Europeans aren’t any lazier than we; they just face different incentives.

I wonder what institutional differences can explain differences in work effort across the U.S. states?

One can’t help but notice the over-representation of the South. Two centuries ago, Montesquieu wrote:

You will find in the climates of the north, peoples with few vices, many virtues, sincerity and truthfulness. Approach the south, you will think you are leaving morality itself, the passions become more vivacious and multiply crimes… The heat can be so excessive that the body is totally without force. The resignation passes to the spirit and leads people to be without curiosity, nor the desire for noble enterprise.

I seem to recall a similar observation from John Adams, but can’t locate it just now…or maybe I just don’t want to put in the effort to find it.

Budgeting Tactics for States

Tax Foundation state projects director Joe Henchman writes in today’s Daily Caller about five ideas to help states facing budget shortfalls (that is to say, virtually every state) get back in black:

  • Prioritize appropriations. When the majority-Democratic Arkansas Legislature votes to appropriate money, the money isn’t immediately spent. Instead, each appropriation goes to a legislative committee that ranks them in order of priority. Items are funded only to the extent money is available, forcing debate about how best to allocate limited resources while permitting a wish list if revenue exceeds expectations.
  • Review tax incentive programs. Although many states recognize they have burdensome tax systems, they use targeted incentives for particular industries rather than reducing burdens for everyone. Besides dumping a higher tax burden on everyone else, the jobs created are dependent on the handouts and often vanish when the incentives end. Tax incentive programs also often escape oversight and cost-benefit analysis. Iowa recently recommended elimination of several ineffective tax incentives after a review. Other states should do the same.
  • Broaden sales taxes and use the revenue to lower tax rates. A good sales tax applies to all final goods once and only once. Exempting clothing and groceries may seem like a good idea, but doing so causes year-to-year revenue instability and drives up the rate on everything else. Gross receipts taxes and taxes on business inputs cause distortions that harm economic growth. Adopting a sales tax base of all final products and services would enable both lower rates and more predictable revenue.
  • Reduce reliance on taxes on high-income earners and corporate profits. When deciding in which state to live or locate their business, one of the factors that top earners must weigh is the marginal tax rate they will face in each state. While high statutory tax rates on high incomes may bring a revenue increase in the short term, they can harm long-term economic growth as providers of jobs and capital choose to locate in lower-tax states. With these volatile revenue sources at a minimum, it may be perfect timing to minimize them.
  • Establish rainy day funds and spending restraints. To ride out recessions, states need to build a rainy day fund of 12 to 18 percent of their annual spending. Setting aside 2 to 3 percent of each year’s budget in good times can accomplish that, but those structures need to be in place now or else states will be in this mess again.

Joe discussed state tax policies on C-SPAN earlier this month.