Baseball Crank
Covering the Front and Back Pages of the Newspaper
May 28, 2009
POLITICS: Castles of Sand

The Wall Street Journal looks at the severe falloff in tax revenues from millionaires in Maryland after the state socked them with a new, higher tax rate for the purpose of closing a budget gap, a move hailed at the time by supposedly big-thinking liberals. Somehow, Maryland liberals were surprised that this didn't work out:

One-third of the millionaires have disappeared from Maryland tax rolls. In 2008 roughly 3,000 million-dollar income tax returns were filed by the end of April. This year there were 2,000, which the state comptroller's office concedes is a "substantial decline." On those missing returns, the government collects 6.25% of nothing. Instead of the state coffers gaining the extra $106 million the politicians predicted, millionaires paid $100 million less in taxes than they did last year -- even at higher rates.

The easy partisan divide on this issue is over how much of the decline in revenues is attributable to millionaires leaving the state or voluntarily reducing their taxable income (by working less or hiding money in tax shelters) as opposed to the effects of the recession, which the WSJ notes as an obvious contributing factor. But that's only one problem with sharply progressive tax rates; the Journal notes a structural problem that is at least equally serious in times of recession, as New York and California in particular are discovering to their grief. Specifically, the surplus annual income and investment returns of the wealthy tend to be much more volatile year-to-year than the great mass of incomes earned by average citizens.

Let's consider an illustration: in a boom year, the stock market rises 20%, and housing prices rise 30%. Lots of people (proportionately to the number of millionaires) make big gushing spigots of money from this, not just capital gains from sales but commissions, year-end bonuses, the whole gamut of ways people profit in eye-popping amounts from a boom. The average guy sees some extra money too, but he's less likely to see a dramatic percentage increase in compensation. Despite some variations across different boom era, by and large, this has always been true.

When booms turn to busts, though, the high-end incomes are the hardest hit in percentage terms. We think of down times as being harder on the average worker because in human terms they are: it's a lot worse to lose your job than to go from making $10 million a year to $800,000. But when unemployment goes from 5% to 10%, the dropoff in the tax rolls isn't that dramatic, especially given that a lot of those lost jobs were people paying little or no income or capital gains taxes to start with, and so the state budget literally does not feel their pain. Whereas collections from high-end incomes can and do drop off far more than 5% in a year, as the Maryland example illustrates. Here in New York, investment banker bonuses that were once the core of the state and city tax bases evaporated overnight. Put simply, taxing the rich is the least recession-proof revenue-raising strategy you could design.

This would be problematic enough if the federal and state governments were trying to sustain a stable income and socking away the extra money for a rainy day (Gov. Palin in Alaska did something like this with the revenue from oil boom years, but Alaska too is subject to the laws of political gravity). Instead, Congress and the states tend to create new permanent claims on temporary income in the best of times, creating long-term self-perpetuating entitlement and spending programs and hiring more unionized workers. (The Obama 'stimulus' bill combined the worst of both worlds, giving states temporary revenues while demanding that they use them to permanently increase funding obligations, and doing so during a recession). This tax-on-the-boom, spend-through-the-bust philosophy is designed for certain failure; it's not possible it could ever succeed.

Yet, that's exactly how all tax-the-rich systems are designed. And no amount of failure will ever teach their proponents anything.

Posted by Baseball Crank at 9:04 PM | Politics 2009 | Comments (6) | TrackBack (0)

Well, there is an empirical question here that we will never be able to answer: what would have been the tax revenue from those millionaires if the rate had stayed the same?

Without that information, the argument that you would have gotten more revenue if the rate had stayed the same is *complete and total speculation*. It is entirely possible that they collected more revenue by raising the rates than by leaving them alone. Obviously, it wasn't enough to close the budget gap, but it might have been a lot worse if they hadn't raised it.

You can't just assume that lower taxes are going to raise revenues, just as you can't assume that you will get more revenues from raising them.

That being said, Maryland was abysmally stupid in not foreseeing that the income of millionaires would completely drop off the table. We expected that in Connecticut, for example. It was expected that the income of the Gold Coast residents would take a big hit when the financial sector, and the focus was on spending cuts. And thankfully, Connecticut *did* create a rainy day fund when we had surpluses, though it would have been nice to have a bigger one. States that don't will pay the price every time.

Posted by: MVH at May 29, 2009 11:11 AM

I suspect a lot of the millionaires in Maryland are in the D.C. Metro area, which means that they have the option of voting with their feet once the tax went up, since D.C. is equally close to the Virginia and Maryland suburbs. I don't know how many millionaires would actually pick up and move solely because of the increased tax, but wealthy people looking to upgrade their house anyway would certainly consider the increased tax in deciding whether to stay in Maryland or cross the Potomac to live in Virginia. When I lived in New York, I know people who considered Manhattan's 10% city tax as a factor in deciding to take an apartment in Hoboken, NJ, rather than NY.

Posted by: WD at May 29, 2009 11:46 AM

"Yet, that's exactly how all [supply-side; i.e., cut rates and tax revenues rise] systems are designed. And no amount of failure will ever teach their proponents anything."

WD, I've lived in the DC metro area for nearly 30 years and I don't know a single person who has moved from Maryland to Virginia because of taxes. There has been a real divide in culture between NoVa and MD, though it has narrowed considerably over the years as VA gets bluer. The school systems in VA, especially for college, are much better in VA, but the traffic and commutes are, in general, much worse.

Posted by: Magrooder at May 29, 2009 1:38 PM

Magrooder - As I said, I would be surprised if anyone picked up and moved solely because of the increased tax rate. But when I moved to the area, the taxes were something that I considered in picking NoVa, as well as the schools which you mentioned, and I certainly do not make a million a year. I would be surprised if someone who did make a million a year didn't factor taxes into the equation when he or she decided where to live, or where to move to if upgrading. I don't pretend to know how significant that factor would be, but I would be shocked if it was zero.

Posted by: WD at May 29, 2009 2:09 PM

It's probably not zero, but when you are talking about a time-frame from 2007, when the tax was passed, to mid-2009, it's not likely that moving was the cause for the decline. I have a hard time believing that people just up and moved for taxes alone in that short period of time.

Far more likely was a decline in bonus income over the period, and if bonus income was real culprit, then the higher tax was actually a *good* idea in terms of stemming the damage of declining tax revenue. Of course, as I noted above, you can't count on that alone.

Posted by: MVH at May 29, 2009 2:34 PM

Ignore that first paragraph - I didn't see WD's post.

Even outside this example, I would be surprised to find that personal income tax rates would be all that big of a factor in location. If you are a big earner, generally you will have to live near a market large enough to pay for your skills. The business market will dictate your location, by and large, and you'll want to live somewhere near there. And then, of course, there are family considerations, personal preferences, etc. that have nothing to do with taxes.

Of course, if you are wealthy enough to have your own personal jet, then you have a few more options. :)

Posted by: MVH at May 29, 2009 2:49 PM
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