Is Connecticut’s Slanted Tax Structure Inviting Crony Capitalism?

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From the ornate mahogany desk of the Cautious Optimism Correspondent for Economic Affairs and other Egghead stuff.

As CO has recently reported, Connecticut is losing population due to the burden of heavy taxation and over-regulation.

Adding fuel to the fire is Connecticut’s heavily progressive and relatively new tax structure. After having no income tax until 1991, Connecticut’s current lowest income bracket has since reached 3% while the tax rate on single earners making over $500,000 has quickly risen to effectively 7% (6.99%). 

Taxes on estates of over $10 million is 12% (on top of the federal estate tax rate of 40% for an effective rate of 52%). In addition to property taxes, the corporate state tax rate is among the nation’s highest at 9% (source: Bankrate.com).

All this adds up to a huge share of Connecticut’s tax revenue stemming from a small number of wealthy taxpayers, many of whom own businesses in Connecticut and several of whom have made high profile departures in the last few years. For example, (from the Yankee Institute):

"Connecticut faces an outmigration trend in which higher-earning individuals are leaving the state, with Florida being one of the primary beneficiaries."

"Florida, with no income tax, has been attracting wealthier individuals as Connecticut passed two of its largest tax increases in history in 2011 and 2015. Notably, Florida has siphoned off some of Connecticut’s wealthiest people. In 2015, hedge fund manager Paul Tudor Jones moved from Greenwich to Florida, taking with him nearly $30 million in income tax revenue."

And the two historic tax hikes in 2011 and 2015, combined with the wealth exodus, has put further pressure on the remaining rich. The result has been greater and greater budget dependency on a shrinking and evermore exclusive club of well-to-do citizens. Also from the Yankee Institute:

"A 2014 study by the Connecticut Department of Revenue Services found that 357 families account for 11.7 percent of the total Connecticut income tax burden. Those 357 families paid $682.5 million in income tax in 2014, so minor fluctuations in the number of high wealth families and their income levels can have big consequences for balancing the budget."

Connecticut’s dependence on this dwindling pool of wealthy taxpayers has propelled officials to keep a very close eye on them, even meeting with one personally to discuss what accommodations might convince him not to leave. As the Hartford Courant reports:

“Two years ago, tax officials were alarmed that a super-rich hedge fund owner might leave and reduce the state's income tax revenue. They met with the unidentified taxpayer. The effort was partly successful, with the taxpayer's leaving Connecticut but agreeing to keep the hedge fund here.”

Which raises an interesting question: If government tax policy makes it so dependent on a handful of taxpayers to fund its operations that officials meet personally with them to keep them in Connecticut, is the same tax policy making the same officials vulnerable to political influence?

Or put another way, despite all the grumbling by progressive leftists about the rich “buying” government, does their vaunted progressive taxation actually enable more “government buying” and crony capitalism? Is corruption built into state-level “soak the rich” policies?

When officials rely so heavily on a handful of residents to pull the entire budget wagon, it empowers that exclusive club to exert enormous influence over them. Politicians can more easily be talked into compensatory forms of accommodative policy to keep their sponsors happy. 

Perhaps progressive taxation through democratic government produces more undemocratic results than voters and politicians would like to believe—another example of government policy producing the opposite results it was intended to.

Source stories:

http://www.courant.com/business/hc-ap-connecticut-rich-residents-dont-leave-20150209-story.html

http://www.yankeeinstitute.org/2017/02/connecticuts-wealthiest-taxpayers-cause-big-changes/

Some Famous Macroeconomic Predictions from 1929-2009

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4 MIN READ - From the desk of the Cautious Optimism Correspondent for Economic Affairs and other Egghead Stuff 

2005-2009: More recent macroeconomic predictions

As we approach the 88th anniversary of 1929’s Black Thursday stock market crash, here are some predictions by several famous economists and policymakers.


"We will not have any more crashes in our time"

-John Maynard Keynes (Keynesian School), 1927

"There will be no serious consequences in London resulting from the Wall Street slump. We find the look ahead decidedly encouraging.”

-John Maynard Keynes (Keynesian), November 1929

"Stock prices have reached what looks like a permanently high plateau"

-Irving Fisher (Quantity Theory School), October 17, 1929

“The end of the decline of the Stock Market will probably not be long, only a few more days at most”

-Irving Fisher (Quantity Theory), November 14, 1929

"[The economy is] in its 150th month of unparalleled, unprecedented, and uninterrupted economic expansion" and has taken a 'dramatic departure' from the past."

-Arthur Okun (Keynesian), LBJ Council of Economic Advisors, from “The Obsolescence of the Business Cycle" in his book "The Political Economy of Prosperity," 1970. Over a decade of stagflation would follow

“Meanwhile, economic policy should encourage other spending to offset the temporary slump in business investment. Low interest rates, which promote spending on housing and other durable goods, are the main answer.”

-Paul Krugman (Keynesian), Nobel Laureate, October 2001

“The good news about the U.S. economy is that it fell into recession, but it didn’t fall off a cliff. Most of the credit probably goes to the dogged optimism of American consumers, but the Fed’s dramatic interest rate cuts helped keep housing strong even as business investment plunged.”

-Paul Krugman (Keynesian), Nobel Laureate, December 2001

"On the basis of historical experience, the risk to the government from a potential default on GSE debt is effectively zero."

-Joseph Stiglitz (Keynesian), Nobel Laureate, 2002

"The stability of our economy is greater than it has ever been in our history. We really are in remarkable shape... The United States is at the peak of its performance in its history... I think monetary policy is primarily responsible for it."

-Milton Friedman (Monetarist School), December 2005

“The United States economy has never been in better shape… … monetary policy is spectacular.”

-Arthur Laffer, August, 2006

“To be honest, a new bubble now would help us out a lot even if we paid for it later. This is a really good time for a bubble… There was a headline in a satirical newspaper in the US last summer that said: 'The nation demands a new bubble to invest in,' and that’s pretty much right.”

-Paul Krugman (Keynesian), Nobel Laureate, May, 2009

“A great crash is coming, and I don't want my name in any way connected with it."

-Ludwig von Mises (Austrian School), summer 1929, to his wife when asked why he turned down a lucrative job at Austria’s largest bank, the Kreditenstalt, which failed spectacularly in 1931.

“Ironically, by transferring the risk of a widespread mortgage default, the government increases the likelihood of a painful crash in the housing market. This is because the special privileges of Fannie, Freddie, and HLBB have distorted the housing market by allowing them to attract capital they could not attract under pure market conditions. As a result, capital is diverted from its most productive use into housing. This reduces the efficacy of the entire market and thus reduces the standard of living of all Americans...

...However, despite the long-term damage to the economy inflicted by the government’s interference in the housing market, the government’s policies of diverting capital to other uses creates a short-term boom in housing. Like all artificially-created bubbles, the boom in housing prices cannot last forever. When housing prices fall, homeowners will experience difficulty as their equity is wiped out. Furthermore, the holders of the mortgage debt will also have a loss. These losses will be greater than they would have otherwise been had government policy not actively encouraged over-investment in housing...”

...Perhaps the Federal Reserve can stave off the day of reckoning by purchasing GSE debt and pumping liquidity into the housing market, but this cannot hold off the inevitable drop in the housing market forever.”

–Ron Paul (Austrian School), Congressional Testimony 2002

…and a few bonus quotations!

“The Soviet economy is proof that, contrary to what many skeptics had earlier believed, a socialist command economy can function and even thrive.”

-Paul Samuelson (Keynesian and Nobel Laureate), in the 1989 version of his textbook “Economics.” The Soviet Union collapsed that same year.

“[i]t is a vulgar mistake to think that most people in Eastern Europe are miserable.”

-Paul Samuelson, in the 1976 version of his textbook “Economics”


“Can economic command significantly accelerate the growth process? The remarkable performance of the Soviet Union suggests it can. Today it is a country whose economic achievements bear comparison with those of the United States.”

-Lester Thurow, MIT economist, and Business School Dean, in 1989. Also co-founder of the progressive Economic Policy Institute. Again, the Soviet Union collapsed two years later.


“What counts is results, and there can be no doubt that the Soviet planning system has been a powerful engine for economic growth. . . . The Soviet model has surely demonstrated that a command economy is capable of mobilizing resources for rapid growth.”

-Paul Samuelson (Keynesian), 1985


“I fear that those who think the Soviet Union is on the verge of economic and social collapse are kidding themselves.”

-Arthur Schlesinger, famous liberal historian, “court historian” to John F Kennedy White House, social critic, and public intellectual, in 1982.


“A Messiah rather than a dictator.”

-Joan Robinson (Keynesian), about North Korean leader Kim Il-Sung from her report “Korean Miracle.”


“[o]bviously, sooner or later the country [Korea] must be reunited by absorbing the South into socialism."

-Joan Robinson (Keynesian)


"As the North [Korea] continues to develop and the South to degenerate, sooner or later the curtain of lies must begin to tear.”

-Joan Robinson (Keynesian)


“moderate and humane"

-Joan Robinson (Keynesian), regarding Chairman Mao Zedong’s intentions in her 1969 book “The Cultural Revolution in China.” Robinson was both an admirer of Mao and of his Cultural Revolution.

Trump Suggests Clearing Puerto Rico’s Debt, But Will Puerto Rico Rein In Its European Levels of Spending?

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3 MIN READ - Thoughts on Puerto Rico from The Cautious Optimism Correspondent for Economic Affairs and other Egghead Stuff.

As CO has recently reported on Puerto Rico’s post-Hurricane Maria debt position, it’s helpful to look at some numbers that explain why the Commonwealth’s fiscal situation got so desperate in the first place.

When Puerto Rico’s debt crisis made headlines in 2014 and into 2015 most major US newspapers were full of columns blaming low taxes and tax cuts for the Commonwealth’s accumulated budget shortfalls. Meanwhile more conservative/free market outlets blamed out-of-control government spending.

So which narrative was right?

Well it happens that very same year the New York Federal Reserve published its own report on Puerto Rico’s economic competitiveness...

https://www.newyorkfed.org/medialibrary/media/outreach-and-education/puerto-rico/2014/Puerto-Rico-Report-2014.pdf

The comprehensive paper analyzed many economic indicators such as GDP, unemployment, private debt, labor markets, regulations, etc… but also included the all-important metrics on tax/fee revenue and government spending.

Despite progressive claims that Puerto Rico’s debt crisis was the product of tax cuts, Puerto Rico ranked #1 for government revenues as a percent of GDP (38.65%) among all 50 states plus District of Columbia plus itself (see page 14, figure 10). 

However, unlike the continental United States, Alaska, and Hawaii the Commonwealth government owns and operates sizable state-owned enterprises (SOE’s) delivering services such as electric power, health insurance, and transportation to the island. And a significant share of its revenue comes from SOE’s.

Yet even after removing SOE revenues, Puerto Rico tax revenues still ranked #2 out of 52 states/districts at 14% of GDP. As the New York Fed report states:

“Puerto Rico’s overall state and local tax burden, at 14 percent of GDP, is heavy compared with that of most mainland states. Among the fifty states plus the District of Columbia, Puerto Rico would rank second in terms of total tax burden.”

Furthermore Puerto Rico residents enjoy the advantage of paying no federal income tax to Washington, DC (except for federal employees) and the island receives Medicare and Social Security payments as well as continuous federal aid. So with the second highest tax revenues in the United States plus sizable intergovernmental transfers it’s hard to see insufficient revenues or tax cuts as a problem.

But what about spending? The New York Fed report did not tally spending minus SOE’s, but when including all government spending Puerto Rico not only exceeded every other state at a mindboggling 50.1% of GDP, its total expenditure ranked it sixth highest out of 31 OECD countries (see page 17, figure 12). 

Let me repeat that. Puerto Rico’s government spends more as a percent of GDP than the overwhelming majority of OECD countries. 

That means more spending than not only the United States itself, but also most European social democracies including Spain, Portugal, the Netherlands, Norway, the UK, Germany, and more—many of which also have their own SOE’s, an amazing display of government inefficiency and largesse. Although in fairness they were still beat out by Greece, a country that was allegedly suffering from “austerity” and draconian spending cuts during the same period (restrain laughter).

Now one important factor to consider is that Puerto Rico is responsible for funding a greater share of its  own highway construction than most states—although it still receives some financial assistance from the federal government—which would necessitate marginally higher spending levels than most states. 

However the island also enjoys the benefit of military protection from the United States while paying no income taxes to Washington, much like the European countries it emulates. Given that total public construction spending (above and beyond just roads and highways) in the United States is less than half that of defense spending (source: St. Louis Federal Reserve), the Commonwealth enjoys a considerable net benefit from the pay-for-highways/free-defense tradeoff. And sharing some of the road transportation costs with Washington is not going to account for the difference between, say… Texas and Norway levels of spending.

Given that Puerto Rico has been devastated by Hurricane Maria, the verdict is still out as to whether or not wiping out its debt obligations is a good idea. Will it encourage other disaster prone states to practice fiscal moral hazard in the hopes of a federal bailout? Or is it simply the humanitarian thing to do?

But one thing is certain: Puerto Rico got into its fiscal mess with European-level taxes, European-level spending, and the burden of vast and expensive government enterprises. No one can pin their fiscal problems on tax cuts.