The GOP Taliban’s Cult of Tax Cuts Is The Source Of Arizona’s Budget Crisis

Dateline 2.16.09 by AzBlueMeanie

Series

(War correspondent AzBlueMeanie is embedded with the Freedom Fighters of the Arizona Democratic Resistance in the occupied state of Arizona. This dispatch is filed from an undisclosed location within the liberated territories of Baja Arizona)

Arizona's Founding Fathers were progressive populists who followed in the footsteps of the progressive giants of their day, like Republican President Theodore Roosevelt and Republican Senator Robert La Follette. Arizona's Founding Fathers crafted a state constitution which was remarkable in its day for its expression of progressive idealism (it has since been diminished by numerous amendments in the intervening years).

A public education system was of particular importance to the Founding Fathers of Arizona. A unique feature of the Arizona Constitution was Article 10 which established the state land trust, the purpose of which was to finance the public education system in Arizona. The Arizona Constitution also contains an article dedicated entirely to public education, Article 11. This article merits closer examination:

(As a matter of constitutional interpretation the use of the imperative "shall" describes a mandatory act, not a discretionary act. "Shall" commands the state to act, and it may be compelled to do so by a court of law.)

Section 1 provides that "The legislature shall enact such laws as shall provide for the establishment and maintenance of a general and uniform public school system," including kindergarten, grade schools, high schools, industrial schools, the school for the deaf and blind, and universities.

Section 6 provides that "The university and all other state educational institutions shall be open to students of both sexes, and the instruction furnished shall be as nearly free as possible. The legislature shall provide for a system of common schools by which a free school shall be established and maintained in every school district for at least six months in each year, which school shall be open to all pupils between the ages of six and twenty-one years."

Section 9 provides that "The amount of this apportionment shall become a part of the county school fund, and the legislature shall enact such laws as will provide for increasing the county fund sufficiently to maintain all the public schools of the county for a minimum term of six months in every school year. The laws of the state shall enable cities and towns to maintain free high schools, industrial schools, and commercial schools.

Section 10 provides that "The revenue for the maintenance of the respective state educational institutions shall be derived from the investment of the proceeds of the sale, and from the rental" of lands in the state land trust "for the use and benefit of the respective state educational institutions. In addition to such income the legislature shall make such appropriations, to be met by taxation, as shall insure the proper maintenance of all state educational institutions, and shall make such special appropriations as shall provide for their development and improvement.

The Arizona Constitution further provides for a general fund to be financed by taxation to defray the ordinary expenses of the state and for any debt incurred.

Article 9, Section 3 provides, in part, that "The legislature shall provide by law for an annual tax sufficient, with other sources of revenue, to defray the necessary ordinary expenses of the state for each fiscal year. And for the purpose of paying the state debt, if there be any, the legislature shall provide for levying an annual tax sufficient to pay the annual interest and the principal of such debt within twenty-five years from the final passage of the law creating the debt."

For many years both Republican and Democratic legislators alike accepted these constitutional mandates as a given and satisfied their constitutional duty by providing for at the least the minimum expenses of the state each fiscal year. The annual battles that occurred in the legislature were generally over "what should we do?" and "how do we pay for it?" in addressing the demand for government services from Arizona's rapidly growing population. Both political parties were in general agreement as to the "good government" principles of government efficiency and cost effectiveness.

But then along came the "Reagan Revolution" which ushered in the era of the anti-tax and anti-government zealots of movement conservatism. This was not your father's GOP. This new breed of radical Republican does not believe in the "good government" principles of government efficiency and cost effectiveness. They do not believe in government at all. Arizona's constitutional mandates be damned!

Conservative think tanks like the Heritage Foundation, the Cato Institute and the American Enterprise Institute promoted Arthur Laffer's "supply side" economics theory, i.e., "lowering taxation increases tax revenues," and Arizona Republicans adopted his economic theory as an article of conservative faith. They believe with an almost cult-like fervor that which cannot be proven by empirical evidence. (In 2005, the Congressional Budget Office released a paper that cast doubt on the idea that tax cuts ultimately improve the government's fiscal situation. Even in the paper's most generous estimated growth scenario, only 28% of the projected lower tax revenue would be recouped over a 10-year period.) In fact, tax cuts result in lost tax revenues to the state (only appearing to be offset by rapid population growth which expands the tax base). 

"Not so long ago Arizona earned plaudits for the 'balance' of its [tax] system. Then, Arizona tracked with tax experts’ suggestions that low rates maintained across a diversity of tax bases (including income, property and sales taxes) provide the most stable revenue yields in changing times… State lawmakers’ penchant for handing out tax exemptions to special interests has further disrupted the balance and efficiency of the system." The Revenue Sieve (chapter from "Five Shoes Waiting to Drop on Arizona's Future – APC 2001," by Tom R. Rex, Morrison Institute for Public Policy at ASU, 2001).

The tax cuts of the early 1980s lowered Arizona's tax effort from well above to well below the national average. The subsequent tax increase in 1984 pushed the tax effort measure close to, but still below, the national average. Then, the combination of a lowered tax capacity due to the weak economy in the late 1980s and early 1990s and the tax increases of the late 1980s pushed Arizona's tax effort index a little above the national average by 1991. The Facts of the Matter: Arizona’s Tax Cuts (chapter from "Arizona Policy Choices 1997 – Balancing Acts: Tax Cuts and Public Policy in Arizona," by Tom R. Rex, Morrison Institute for Public Policy at ASU, 1997):

At the beginning of the 1980s, two changes were made to Arizona state taxes: the sales tax on food to be consumed at home was eliminated and property taxes were reduced. In addition to the substantial reductions in revenues that resulted from these changes, Arizona state and local governmental revenues fell due to reductions in federal-revenue sharing and an economic slump. Even with the strong economic recovery that began in 1983, a substantial tax increase (making permanent a temporary rise in the general sales tax rate) was passed in 1984, putting the state budget back in balance. Even with this tax increase, the tax burden was less than it had been in FY 1980.

From FY 1985 through FY 1987, few changes were made to the state tax code. After this, the Arizona economy weakened, reducing governmental revenues. At the same time, spending on AHCCCS was skyrocketing. The result was substantial tax increases in three consecutive years from 1988 through 1990. These increases cumulated to nearly $500 million according to estimates made at the time.

Beginning in 1991, Arizona governmental revenues were affected by two circumstances. First, the economy began to recover, boosting revenues. Second, strong philosophical preferences for tax cuts took hold in both the executive branch and the legislature.

These tax reductions began slowly, due to the still-weak economy limiting revenues while AHCCCS spending continued to rise. Very modest cuts, mostly to the individual income tax, were passed in the legislative sessions of 1991 and 1992. More numerous and larger tax cuts were passed in the legislative session of 1993, but most of these changes were phased in over several years. Thus, the net impact on the FY 1993 budget from tax cuts made from 1991 through 1993 was only $9 million, according to estimates by the [Joint Legislative Budget Committee] JLBC.

The tax cuts passed in 1993 affected a number of taxes, most particularly the sales and use tax and the individual income tax. A wide variety of taxes also were cut during 1994, but the individual income tax was especially reduced. This was the first of three consecutive years of tax cuts of about $200 million per year, though the 1994 cuts again were phased in, with most of the impact in FY 1995 and FY 1996.

The tax cuts passed in 1995 were almost wholly to the individual income tax. However, an agreement was made to reduce property taxes in 1996. This became a reality during a special session of the legislature during the summer of 1996. Further tax cuts were passed in 1997, amounting to an initial impact of $134 million in FY 1998 and another $20 million in FY 1999. The majority of the cut was $111 million in individual income taxes.

According to the JLBC, the overall annual impact on revenues from tax code changes made between 1991 and 1997 rose from $9 million in FY 1993 to $38 million in FY 1994. After advancing to $215 million in FY 1995, the annual impact jumped to $514 million in FY 1996 and $776 million in FY 1997 (the fiscal year just ended).

Tom Rex predicted in 2003 The Revenue Sieve that:

This weakened, unbalanced tax system could harm the state – at the exact time when Arizona must upgrade its public services to ensure a prosperous future.Two equally distasteful scenarios are possible. In one, local governments and the state may each be forced to increase their sales tax rates repeatedly to generate revenue for basic services. In the other, holding the line on rate increases may simply preclude necessary investments, whether in education, quality amenities or well-targeted tax cuts.

To avoid these scenarios Arizona must update its tax systems for the new economy by rebalancing its revenue mix and broadening its tax bases. Sales taxes should be applied to services, as well as goods. Lawmakers should close dozens of the exemptions, credits and other tax breaks that cost the state millions of dollars each year. And, too, personal income tax increases and the use of more impact fees should be considered to finance reductions in high business and sales taxes. Such changes would not just ensure future revenue flows, but also restore balance and fairness to the system.

* * *

Economic, technological, social and political forces are undermining the viability of Arizona’s tax system… [T]hey may subvert the ability of Arizona’s tax mechanisms to raise adequate revenue for needed investments. Indeed, the current projection calls for a significant shortfall in state revenues in a year in which a recession was not expected.

Deep-set and structural, the threats to the system center on the growing obsolescence of Arizona’s present mix of revenue sources, with its heavy reliance on sales taxes. Tax experts, whether liberal or conservative, generally agree that wide, diverse tax bases (income, property and sales) yield the most stable revenue flows. Arizona in fact rated well on measures of balance, fairness and diversity of sources in comparison to other states as late as the mid-1990s. But the state has lost its balance.

* * *

To be blunt, an outmoded tax system is leaking hundreds of millions of dollars each year that might otherwise be applied more systematically to investments in the state’s future… That being the case, two equally distasteful scenarios are plausible. In one scenario, lagging revenues unaddressed by tax rate increases could simply reduce Arizona’s ability to invest in education, provide quality amenities or institute bolder tax cuts. In the other scenario, local governments and the state could each be forced to increase their sales tax rates repeatedly to support basic services or needed investments.

* * *

Modernizing Arizona’s state and local revenue system must focus on broadening and diversifying a narrow, exemption riddled tax base. Such adjustments will help Arizona to regain a stable, rational tax system that keeps pace with a changing economy and population. But other reforms make sense too. The best package will include raising some taxes and lowering others to give Arizona a more balanced tax system than it struggles with now.

Unfortunately, Mr. Rex's predictions went unheeded by the Arizona legislature. In 2006, the legislature approved a 10% reduction in income taxes phased in over two years, the largest one-time tax cut in Arizona history. It also suspended the state equalization property tax (dedicated to funding school construction). Governor Janet Napolitano, in an election year, went along with the GOP tax cuts despite evidence as early as the first quarter of 2006 that the housing bubble was beginning to deflate. By 2007 it was apparent to all that the housing bubble had burst, but the legislature insisted that the second half of the income tax cut should take effect.

The decline in tax revenues during FY 2007 and FY 2008 mirrored nearly exactly the amount of the 2006 tax cuts. The much larger decline in tax revenues from the dramatic decline in sales tax revenue resulting from the current steep recession has affected the FY 2009 budget (effective July 1, 2008). The tax shoe finally dropped on Arizona's future, as predicted.

The GOP legislature's response to this tax revenue drain is, predictably, to eliminate the state equalization property tax at a cost of over $250 million in additional lost tax revenue, and to make deep cuts in government spending for almost all programs (not favored by the GOP) in order to balance the state budget. Raising marginal tax rates, eliminating a hodgepodge of special interest tax exemptions, and reducing or eliminating a variety of special interest tax credits is "off the table" according to Republican legislative leaders. The Republicans remain ideologically committed to the "supply side" economic theory which has been entirely disproved and discredited over the past eight years in spectacular fashion. Such is the danger of "faith based" ideology.

Our accidental governor, Jan Brewer, and "Cut Man" Sen. Russell Pearce, are blaming the state's current budget crisis on "excessive spending" during the Napolitano years. Not surprisingly, this claim is total bullshit. Napolitano restored some of the funding cut from programs during the last recession early in the decade. Tax revenue generated by the "false economy" of the housing bubble and credit bubble briefly filled the state's coffers from 2004-2007. This "catch up" spending by Napolitano was necessary to address the pent-up demand for government services from Arizona's exploding population growth during this same period of time.

The source of Arizona's budget crisis is not excessive government spending (Arizona ranks 49th in education spending), but rather our outmoded tax structure which is badly out of balance and overly dependent upon sales tax revenue. Since 1993, tax law changes have "resulted in reductions in tax collections in all but two years, as Arizona policymakers have taken many opportunities to reduce tax burdens, primarily for individuals. Substantial reductions were implemented in each year from 1995 through 2001, and again in 2007 and 2008." "Tax Law Changes in Arizona Since 1989 and The Impact On Government Revenues and Economic Growth," (by Dennis Hoffman Ph.D., and Tom R. Rex, a Report From the Office of the University Economist, June 2008):

As estimated by the Joint Legislative Budget Committee, the effects of the tax law changes are shown in Table 1. The cumulative effect of these annual changes sums to a revenue loss of about $1.15 billion. Adjusting for inflation, the cumulative loss is somewhat greater at $1.25 billion. Adjusting for population growth as well as inflation places the loss at $1.3 billion. The limited effects from the adjustments for inflation and population growth result from increases, not decreases, in the earliest years of the time series. Tax law changes since 1993 cumulate to a decline in general fund revenues of about $2.45 billion after adjusting for inflation and population growth.

Tax decreases since 1993 have lowered general fund revenues to considerably below the historical norm, after adjustments for economic and population growth.

Despite historically low tax burdens, the state’s economic growth rate fell sharply during 2001 and 2002, ending the long period of tax cuts. Following the 2001 calendar year recession, economic growth again rose. Subsequent to this, another round of tax cuts were implemented in 2007 and 2008. Despite a historically low tax burden, economic growth rates in the expansion that began in 2002 were less than those of either of the two prior expansions.

Thus, no indication exists that the level of state tax collections in Arizona has had an impact on the state’s economic growth.

* * *

[I]n 2007 Arizona’s tax burden was noticeably less than the national average and ranked 31st in the nation.

Despite this significant decline in relative tax burden, economic growth relative to the nation in recent years has been no different than the historical relationship.

* * *

Despite the low tax burden, including additional tax cuts in 2007 and 2008, Arizona’s economic growth during 2007 (the last year in Chart 2) dropped considerably, to substantially below the national average.

[C]changes in taxes in Arizona — both increases and decreases — have not had a noticeable empirical impact on the state’s economic growth…

"Over time, some supply-side enthusiasts have moved to a position that any tax cut is good for the economy and enhances public revenues — which violates the Laffer Curve. The idea that lower taxes always are better ignores the purpose of taxation."

Many public services, such as education (kindergarten through graduate school) and provision and maintenance of physical infrastructure, are of key importance to businesses, particularly high-tech and other “new-economy” companies. For these types of companies, the quality of public goods is more important than the level of taxes. Thus, business climate benefits from investment in various public programs.

Empirical evidence exists that public infrastructure plays a role in increasing business investment, job creation and economic growth. Similarly, tax reductions financed by cutting education, infrastructure spending, and other services valued by businesses likely will have a negative effect on economic performance. The idea that taxes remove money from the economy is false. Tax revenues are spent in much the same way as private-sector revenues: paying employees, purchasing materials from the private sector, etc.

The report concluded that "Arizona policymakers have chosen to impose tax cuts when they have had an opportunity (a budget surplus). Tax cuts not offset fully by spending reductions result in budget-balancing challenges when the economy invariably turns down." Tax Law Changes in Arizona Since 1989 and The Impact On Government Revenues and Economic Growth. For "A Response to The Goldwater Institute's Proposals For Closing the State Government Budget Deficit" by budget cuts alone, see Dennis Hoffman Ph.D., and Tom R. Rex, a Report From the Office of the University Economist, December 2008.

The GOP 'Taliban' Insurgency who see themselves as Enemies of the State have been systematically draining tax revenues from the state of Arizona for the better part of the past 20 years in their jihad to reduce government "to the size where [they] can drag it into the bathroom and drown it in the bathtub," in pursuit of the fatwha issued by their leader Grover Norquist. These anti-tax and anti-government jihadists are very close to realizing their long cherished dream in Arizona.

It is up to the good citizens of Arizona to rise up and resist the GOP Taliban insurgents and to take back your government from these ideological zealots – before it is too late.