That’s the topic I tackled in my latest Reason Magazine column. Fiscal federalism is the idea that states should set their own economic policies rather than following directives from Washington. Libertarians and free-market advocates have a particular attachment to the concept. If states can differentiate themselves on the basis of taxes, spending, and regulation, that gives Americans more leeway in deciding the rules under which we live. If we’re dissatisfied with the policies of the state we live in, we can register our discontent by voting with our feet and moving to another jurisdiction. This competition for residents helps keep lawmakers in check, giving them an incentive to keep taxes and other intrusions modest.
While this is great as a concept, that’s all it is – a concept. No matter where you live, you are subjected to Washington’s tax bite, which has grown so big that differences in state tax rates don’t mean as much as they used to. Today, 60 percent of all government revenues in 2008 came from the federal income tax, making it the dominant tax burden in Americans’ lives. In 1930, the figure was 30 percent.
Obviously, other things being equal, it’s less costly to run a business in a state with a low tax rate than in a state with a high tax rate. But that difference becomes less important as the percentage of the total tax bill imposed by the central government grows, especially since you can deduct your state tax bill from your taxable income on your federal return.
The federal government also pours billions of dollars each year in the states’ coffer making. But this money isn’t free; it comes with many strings attached. In the end, the relationship between states and the federal government is that of a wealthy parent who give $20 to his kid and then forces him to buy $50 worth of clothes. Obviously, the passage of the health-care bill, with all its mandates to the states, makes it even worse.
Here are some charts:
Read the whole thing here.