Washington State is considering implementing a personal income tax. Much like the federal debate over extending or expiring the Bush tax cuts, this debate is a sideshow to the real issue. In our recent Capitol Hill Campus course, Dr. Bruce Yandle laid out these two charts which point to the real problem in state and federal budgets; spending.
First, this chart tracks the top marginal tax rates versus federal revenue as a percent of GDP.
The government’s take of the economy has remained relatively constant since 1960, despite wild fluctuations in how we “soak the rich”. Washington’s proposed tax would only affect those house-holds making more than $200,000, so one should expect this pattern, or lack thereof, to hold for Washington’s gross state product.
The second part of the story is this; as government spending increases, there is a measurable decline in the economy.
With only one outlier in fifty-four years of data, this strong correlation indicates that spending cuts pay for themselves with a growing economy. In turn, that should produce more overall revenue with reasonable tax rates. If you live beyond your means, the problem isn’t your income, it’s your spending habit. Sometimes it’s better to take a small slice of the pie, but make the pie itself bigger.
Tax Foundation attorney Joe Henchman put the incentive mechanics this way:
Yes, such taxes will generally raise revenue in the short term without a sudden exodus of wealthy people fleeing to the state next door… . But over the medium term, the taxes will negatively impact location decisions. People expanding old businesses or creating new ones will incorporate the higher cost of doing business into their decision-making, and steer clear of the state.
States and the federal government need to break this destructive cycle.