Instead of blowing their budget surpluses on election-year goodies for voters, states should seize the rare chance to make lasting tax reforms.
Instead of blowing their budget surpluses on election-year goodies for voters, states should seize the rare chance to make lasting tax reforms.
T his year’s election cycle isn’t just about Congress: Voters in 36 states will also cast their ballots for governor — and the candidates in those races, aware that people are upset about inflation, want to be seen as doing something about the problem.
Unfortunately for them, they can’t. State governors don’t control the money supply or interest rates. Through regulatory reform or tax reform, they can encourage long-run economic growth, but that won’t have any immediate effect on inflation.
Of course, politicians aren’t known for letting the facts get in the way of a good campaign narrative, and sure enough, governors across the country have announced different plans that they claim will help fight inflation, according to Axios. Tony Evers (D., Wis.), Janet Mills (D., Maine), Tim Walz (D., Minn.), Glenn Youngkin (R., Va.), and Brian Kemp (R., Ga.) have all proposed sending state residents checks ranging from $150 to $600, ostensibly in an effort to solve the problem at the forefront of voters’ minds.
Evers, Mills, Walz, Youngkin, and Kemp can afford to make those promises because their states are running huge budget surpluses. And one of the reasons for those budget surpluses is, oddly enough, inflation. Income-tax brackets in 15 states and the District of Columbia are not indexed to inflation; ten states don’t adjust their standard deductions; and 18 states don’t adjust their personal exemption. That means that as workers in those states see wage increases, they could get bumped into a higher tax bracket, which will result in more tax revenue for the state than would have been collected if the brackets were adjusted for inflation.
Sales taxes are a percentage of a good’s price, so as the prices of goods rise, so do sales-tax collections. Additionally, goods are more often subject to sales tax than services, so the shift in consumer-spending patterns that we saw during the pandemic also contributed to an increase in sales-tax revenue.
On top of those factors, states also got a boatload of Covid-relief money from the federal government. The American Rescue Plan gave states 116 times more money than they lost in revenue in 2020 because of the lockdowns. So not only did the feared state-finance apocalypse not occur, but state budgets are actually doing very well.
Governors’ instinct to give the extra money back to taxpayers is a good one, but there are better and worse ways to do that. One-time checks are not as beneficial as making lasting reforms. Brad Little (R., Idaho), Kim Reynolds (R., Iowa), and Ned Lamont (D., Conn.) support reforming tax rates. Those proposals aren’t going to reduce inflation in the short term, but they could result in sounder tax policy in the long term.
According to Axios, Youngkin, Laura Kelly (D., Kan.), and J. B. Pritzker (D., Ill.) have proposed repealing their states’ sales taxes on groceries, and Spencer Cox (R., Utah) has proposed a grocery-tax credit. The logic behind these proposals is that food is particularly expensive, so the government should compensate by lowering or eliminating taxes on it. There may be other good reasons for states to stop taxing groceries, but regardless, such reforms won’t do anything to reduce inflation. States should also consider the long-term consequences of permanently reducing their sales-tax base in response to a present-day economic problem.
Axios also reports that Gretchen Whitmer (D., Mich.) wants to send residents $400 per vehicle owned. She’s pitching that as a way to lower costs, but it’s really a consequence of Michigan’s unique car-insurance laws: The state has a legislature-created nonprofit association that pays insurance companies for health-care-related claims over $600,000, and it ran a $5 billion surplus last year. Michigan car owners pay into the association with an annual fee, which is currently set at $86 per vehicle. The $400 checks would amount to a refund of that fee covering the last four to five years.
All of these refunds and credits will no doubt be nice to receive if you live in one of the states mentioned. But upon closer inspection, it’s clear that none of them really work as a policy response to inflation. State budgets are doing great, and governors of both parties want to make their constituents happy. There’s no ideological slant to the notion of sending voters money in an election year.
Governors can’t do anything to solve inflation. But there are still better ways than cutting checks for them to react to it. Higher inflation makes clear the downsides of not indexing tax brackets to changes in the price level. “Bracket creep” at the federal level hasn’t been a problem since President Reagan’s 1981 tax law, which indexed income-tax brackets for inflation. All states should follow the federal government’s example (which is something you don’t hear often) and allow their tax brackets, personal exemptions, and standard deductions to be adjusted for inflation, as well.
Sending voters checks is often meant to stimulate the economy, but that doesn’t really work, and even if it did, stimulation isn’t what the economy needs right now. Instead, governors should see budget surpluses as a chance to reform their tax codes. States aren’t always going to have the budgetary breathing room to enact such reforms, but they have it now. Blowing it on election-year goodies while claiming to “fight inflation” would be a terrible waste.