State tax expenditure limits (TELs) are intended to limit the size of government by restraining the growth of state revenues. According to the Leviathan hypothesis — a staple from the study of political economy
— government has a natural tendency to grow; and as it expands, the economy less and less reflects the marketplace preferences of consumers.
Executive Summary
In other words, by consuming an ever greater share of resources, governments have a tendency to “crowd out” the private sector, the predominant driver of economic growth.
The rise of interstate competition for capital and labor forces states, among other considerations, to examine tax policies for their effects on economic growth. Tax and expenditure limitations (TELs) are one way to redirect resources to private sector activity and away from government spending. TELs also seek to introduce certainty in the budget process. The best known TEL can be found in Colorado, which enacted a relatively stringent Taxpayer Bill of Rights (TABOR) in 1992, only to suspend it in 2005 and restore it five years later.
A recent review of the literature suggests that TELs have had mixed success. A survey by the American Enterprise Institute found most TELs are unworkable, often failing to restrain state government spending. A more supportive view suggests that TELs are effective in slowing the growth of government because of the constraints on public debt. Years after its passage in 1992, supporters maintain that Colorado’s TABOR has achieved its goals. They point to Colorado’s low-tax regime, limited debt and strong showings on business climate indices as proof that TABOR works. Others studies suggest that a TEL that is included as part of a “fiscal policy mix” with other binding measures, such as dedicated “rainy day” funds, may improve a state’s financial position.
North Carolina recently cut its income tax from the current rate of 5.75 percent to 5.499 percent beginning in 2017, while expanding the state sales tax (effective 2016). State Senate Bill 607, the Taxpayer Protection Act, is a proposed TEL that would limit tax revenues in an attempt to promote economic growth. S.B. 607 would cut the state individual income tax rate from 5.499 percent to 5 percent in 2019.
What will be the measured effects, positive and negative, of the already enacted tax cut and the proposed constitutional amendment on North Carolina’s economy? Results from the Beacon Hill Institute’s
State Tax Analysis Modeling Program (STAMP®), a computable general equilibrium model, indicate
that:
- S.B. 607 would save taxpayers $57 million in 2018 and $1.35 billion by 2025. Over the entire
period, S.B 607 would save North Carolina’s taxpayers $4.7 billion. - Furthermore, the two income tax cuts combined would create 6,500 jobs and increase disposable
income by $1.835 billion by calendar year 2025. - The tax cuts would reduce state income tax revenue collection by $1.375 billion. However,
the economic boost would increase sales tax revenues by $10 million and other tax revenues
by $25 million, bringing the total tax change to $1.340 billion. - Local governments would see their tax revenues increase by $17 million.
Notably, the revenue lost to the state from the income tax cut is only $10 million larger than the difference between the projected growth in General Fund spending using the historical trend and the growth in spending under the TEL.