Boom Time for State and Local Government

The most recent development in this barrage has been the addition of state and local budget gaps to the perennial example of the Federal budget deficit as proof that Americans are undertaxed. In both 1989 and 1990, state governments around the country experienced slower-than-expected growth in tax revenues, leading to record budget deficits in some states. Since most of the affected states have balanced-budget provisions, they have not been able to delay their day of reckoning—as has the federal government so far. Consequently, highly visible battles have been waged between advocates of budget restraint and those of tax increases to balance state budgets. The national press, among others, has seized upon these state budget woes to predict that the 1980s of governmental restraint are preparing to give way to the 1990s of renewed governmental expansion.

Whether or not their prognostication is correct, the press and the various interest groups that manipulate it (teachers’ unions, state employee unions, etc.) have based their entire case on a false proposition: that the 1980s was a decade of governmental contraction. Nothing could be further from the truth. Although the rate of government expansion may have slowed a bit on the Federal level during the Reagan Administration, the share of national income consumed by Federal spending was the same in 1989 (22 percent) as it was in 1980. “Budget cuts” blamed on Reagan were only reductions in the rate of increase in government spending, not real reductions in government’s role in society and the economy.

On the Federal level, this story has been told more than a few times. But since the new battlegrounds of government activism are state legislatures and city halls, it is important to recognize the truth about state and local government in the 1980s—that during a time when the federal government retained its already large role in American society, state and local governments increased theirs dramatically, by 17 percent in real per-capita spending from 1981 to 1989. And the state and local tax burden on typical households increased steadily during the same period, according to the Tax Foundation, while the Federal burden remained roughly the same. Far from being a decade of fiscal conservatism, the 1980s were a boom time for government on the state and local level. Consider the record of government expansion in two dissimilar states: New York, the stronghold of Northeastern liberalism, and North Carolina, a Southern state with a conservative image.

New York

As of April 1990, New York State faced a projected $3 billion budget deficit for fiscal year 1991. While Governor Mario Cuomo, other state politicians, and the state press have attributed the state’s budget problems to tax cuts, slower-than-expected economic growth, and the 1987 stock market crash, Ed Rubenstein of the Manhattan Institute attributes the deficits to runaway government spending. During the 1980s, he reports, New York state spending outpaced inflation, population growth, and per-capita income growth, consuming 16 percent of New Yorkers’ personal income in 1988—up from 14.7 percent in 1983.

The state’s general fund, which doesn’t include federally funded programs or capital projects, grew at an average rate of 9.6 percent a year from 1980 to 1989, doubling every seven and a half years. Chip in Federal and other funds, and the total state budget grew by about 53 percent from 1983 to 1989.

Naturally, the meteoric rise of state spending in New York has been accompanied by higher effective tax rates on New York households. From 1983 to 1988, state taxes as a percentage of personal income rose by almost 10 percent—a rate more than three times as fast as that in “Taxachusetts.”

In New York, as in many other states, one reason asserted for state government expansion has been President Reagan’s New Federalism, which shifted the burden for some programs from the Federal level to the state level. But the fact is that Federal funds followed the programs more often than not. In the case of New York, Federal aid money to the state and to local governments actually increased by 15.4 percent after inflation between 1983 and 1988, according to Rubenstein.

Where did the state and local governments in New York spend their massive influx of taxpayers’ money? Virtually every area of the state budget increased in real terms during the decade, especially in education, environment, anti-poverty, and economic development programs. For much of the decade, New York led the nation in per-capita state spending on public welfare; in fiscal year 1987, it spent almost $600 per capita on public welfare, over $100 more than the next highestspending state, Massachusetts. New York maintained higher- than-average spending levels in education and environmental programs during the decade, and expanded the state government’s role in “economic development.” By 1987, it had attained the dubious distinction of being second only to Illinois in state spending to encourage tourism.

North Carolina

While New York’s reputation squares with its profligate record during the 1980s, North Carolina has somehow maintained an image of a small-government, low-tax state while expanding government programs, expenditures, and taxes at almost the same rate as New York. In some ways, as a matter of fact, North Carolina taxpayers have had an even rougher time of it.

From 1978 to 1990, the state budget increased by 50 percent after inflation, which far outstrips the increase during roughly the same period in population growth (up 13 percent) or state per-capita income (up 15 percent). Moreover, the spending authorized for the current 1990 fiscal year capped several years of uninterrupted budget growth, establishing a spending plateau 49 percent higher than in 1983.

Meanwhile, North Carolina taxpayers paid an average of almost $1,500 in state and local taxes in 1988, 26 percent more after inflation than they did in 1978. North Carolina levies the highest individual and corporate income taxes in the Southeast, and recently raised its gas tax to almost 21 cents per gallon—one of the highest rates in the nation. Significantly, observers outside the state are beginning to regard North Carolina as a high-tax state. In January 1990, Money magazine ranked North Carolina 11th in the country in total tax burden levied on a typical reader of the magazine, and first in the Southeast.

As in New York, state officials have blamed the increases in spending on Reagan’s New Federalism, complaining that new Federal mandates have forced more spending. But the flow of Federal funds to the state has increased by 26 percent in real terms since 1978.

During the 1980s, North Carolina dramatically increased state spending on education and on economic development programs, assuming that higher government expenditures would “solve” these and other problems. State subsidies for private industries and organizations, deemed a “progressive” investment in economic development, expanded greatly during the 1980s. One subsidy, to the North Carolina Microelectronics Center, rose to $26 million by the end of the decade.

What About the Tax Revolt?

Some might be surprised to learn that state and local governments in so many states have expanded during the 1980s. After all, a nationwide tax revolt, starting in 1978 with California’s Proposition 13, was supposed to be a defining political event for the 1980s.

And, indeed, it was—in those states where the “revolt” actually ended up restraining the growth of government and even rolling it back a bit. Usually, this required some kind of mechanism restricting taxes or spending, or requiring large legislative majorities to enact increases. California’s tax limitations spared the state the kind of fiscal woes that occurred in New York, Massachusetts, North Carolina, and other states.

The problem was that during the 1980s, an expanding economy led to increasing revenue collections, both at the Federal level and in many states and localities. These revenue windfalls gave legislators the latitude to increase spending on so-called “pressing needs” while maintaining their reputation as fiscal conservatives. This became a politician’s dream (regardless of party affiliation) and a public choice economist’s nightmare: while special interest lobbies were successful in expanding government’s role, taxpayers felt no real incentive to call for restraint. Some states did enact tax rate hikes, but most financed massive expansions of government on projections of increased revenues for future years.

In the last two years, however, this bubble has popped. As the economy has cooled off, revenue collections have failed to keep up with projections, and suddenly government officials are faced with a dilemma. They must either impose new taxes on the slackening economy to meet their revenue needs, or they must scale back the tremendous surge in government action they enacted during the 1980s. Their decision will determine whether the United States is headed for a true rebirth of limited government and free markets, or for the continued growth of bureaucratic, interventionist government that regulates and subsidizes virtually every sector of the economy.

Whatever their decision, public officials will eventually have to answer to the public. And despite the constant drumbeat to maintain the current level of government spending, there is some evidence that voters won’t countenance new taxes to finance it. Recent initiatives to increase state or local tax rates in Michigan, Washington State, North Dakota, and Virginia have lost at the polls. And a recent vote in California to increase the state’s gas tax to finance highway renovation and construction succeeded not due to voter acceptance of big government, but instead because the taxes were successfully depicted as “user fees” dedicated to a specific purpose.

There are even signs that a new tax revolt might be brewing: tax limitation referenda in states from Massachusetts to Oregon are attracting substantial public support. The question now is whether voter resistance to taxes—the “supply side” of government expansion—will lead to reductions in the demand for government programs, subsidies, and regulations. Advocates of government restraint, free markets, and liberty have much to do if a new tax revolt is indeed to be translated into a fundamental rollback of government on the state and local levels. An important first step is simply to realize that the 1980s, widely believed to he a period of government restraint and contraction, was a boom time for state and local government—and that after this decade of big government ascendancy, no problems appear to have been “solved.”