Monday, February 7, 2011

Texas Trouble

Paul Krugman recently wrote about a “Texas Tragedy” in relation to the budget cuts that are going to have to be made in the upcoming legislative session in Austin. Certainly this last election in Texas was a farce as the true extent of the budget problems were kept from the voters (in my cynical mind) to ensure a Republican victory and of course the re-election of Governor Rick Perry. And now the alarm bells are certainly ringing loud and clear in all state-funded institutions (including my own), with virtually all planning on hold now until the extent of the cuts is made a little clearer.

But for those like Krugman who live outside of the State, I should start off by saying that there is really one group that is going to be drastically effected in Texas – the poor. For those who “have” and who are educated, the Texas budget crisis is not as bad as might be expected. Certainly at the University level, with several Universities now running early retirement programs, with some programs being abandoned and plans to combine existing programs between Universities in the same geographical proximity, this should yield some savings and so ease the pain. In general educated workers tend to be more mobile as well, so they are likely to head for other states if they are laid off in the private sector. Plus the housing market downtown hasn’t nearly been as bad in Texas as say Florida or Arizona, so there is still considerable mobility.

No, the tragedy of the cuts lies with the poorer segments of the population and the economically dislocated. But more about that in a moment. I first want to explain the way in which budgets are formulated in Texas, which is unusual, to say the least.

In Texas the legislature meets every 2 years for a short period of time in the spring and hammers out the budget as well as any new legislation. This saves money on one front, as paying annual salaries for legislators is not required as it is in most states or Canadian provinces with standing legislatives. But it leads to all sorts of problems on other fronts. First, a budget is not enacted and revised every year ( - the legislature in Texas is in essence currently making 2 budgets – one for 2011 and one for 2012). So when there is an economic downturn, the budget isn’t adjusted gradually, but on a two year basis – hence much larger cuts are likely this year in the state budget given the deficit last year, and this won’t be revised for another 2 years even though the economy could rebound In the second half of 2011, giving the State a surplus in 2012. Second, it also leads to suboptimal lawmaking as well, as laws are made during the legislative session, and then cannot be revised until 2 years later. While I support the idea of a part-time legislature as a cost-saving measure, I do think the legislature should meet at least once a year, perhaps for a short session just to revise budgets and amend existing laws, if needed.

The other thing that I think is a little crazy in Texas is that the State only has a sales tax for general tax collection purposes. Particularly during recessions like the most recent downturn, US consumers retrenched, leading to an increase in the US savings rate, which I (like most other economists) think was a good thing, as the US savings rate has been chronically low for some years and was a source of international economic imbalances. But of course, a higher savings rate really clobbers state revenues, and causes a disproportionate decline in revenues. To make things worse, the state even has a “tax free” weekend in September at the beginning of school year which caused an absolute shopping blitz in 2010 as cash-strapped parents, among others, avoided paying taxes on all clothes and school items.

Texas, like most states, has Balanced Budget legislation, and while this is all well and good, it really has a terrible impact if the recession occurs immediately after the legislature meets, as any overrun during the subsequent nearly 2 years has to be corrected with a surplus as soon as the legislature meets again two years later. That is the situation that we now find ourselves in. Here, in my opinion, Texas should really learn from Europe. The one part of the Stability and Growth pact that is, in my opinion, very sensible, is the part relating to budgetary measures during periods of recessions. The pact states that member states are exempt from abiding by the 3% of GDP limit on budget deficits in severe recessions. Of course that means that Texas would have to be able to issue bonds to cover the deficit, and that could lead to a build up of state debt that was unsustainable. I would argue that there are other options – one would be to have a temporary increase in tax (what might be called a “solidarity tax”) – another would be to build up an even bigger fund than the current “rainy day fund” ( - perhaps calling it a “recession fund”) which could be spent to offset a decline in state revenues during bad times.  Another approach would be to calculate a cyclically adjusted budget  metric that would automatically yield a surplus in the expansionary phase of the business cycle and a deficit in
the contractionary phase.
Of course the type of taxation we have in Texas is also, in my view, a problem. What Texas really needs is an income tax, and democrats have long recognized that this is also the fairest way of taxing the population given the extremely wide distribution of income in the state. But of course Democrats these days never get a majority so have never been able to enact such a change, and many Republicans don’t like the idea as it would mean greater taxes for their constituency – the rich. But apart from the politics, this tax system is a problem, as it means that the extreme poor still get taxed when they spend, even if they hardly have any income. With an income tax you could exempt all the extreme poor from paying the tax and at the same time get rid of the sales tax completely like New Hampshire has done.  I think most Texans are afraid that introducing an income tax would leave 2 taxes in place ( - that is, they don't trust their State government to repeal the sales tax), so doing this would have to be entirely contingent on removing the sales tax. 

So these are my proposals for Texas. First, set up a revenue commission at the state level to explore the implications of changing the tax system in Texas and then present this to the State politicians to start a debate on moving to a fairer tax structure. Second, get rid of the “tax free” weekend as it is a ridiculous gesture ( - why should I not pay tax just because of when I’m available to shop?). Third readjust the budget every year with a short session of the legislature. Lastly, establish a “recession fund” into which the state has to put a certain percentage of revenues during good times so as to offset any drop in revenues.

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