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Bell Policy Prop 103 Report

Bell Policy Prop 103 Report

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Published by: summitdaily on Oct 24, 2011
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The Bell Policy Center
Research • Advocacy • Opportunity
1905 Sherman Street, Suite 900, Denver, Colorado 80203 • 303-297-0456 • www.bellpolicy.org
Proposition 103 supportseducation while protecting economic growth
Oct 21, 2011
By Alec Arellanoand Rich Jones
Executive summary
Proposition 103 on November’s ballotwill raise about $500 million annually foreducation over the next five years. It doesthis by increasing Colorado’s income taxrate from 4.63% to 5% and the state salestax rate from 2.9% to 3%. These are therates that existed throughout the 1990s – a period of strong economic growth inColorado.These revenues will be used tocounteract deep cuts to educationspending enacted in recent years and tohelp protect against further cuts.Opponents have argued that theincreases in tax rates will slow economicgrowth, resulting in slower job growththan is currently projected. A thorough review of the research oneconomic development shows that whiletaxes matter, other factors, including thecost and quality of labor, quality of publicservices, proximity to markets andaccess to suppliers, are more important.Over the long term, investments ineducation that result in a better-educatedand higher-skilled workforce will makeColorado more attractive to businessesand help drive our economic growth.Economic analyses show that while taxincreases are likely to slow job growth,increases in state spending tend toincrease job growth. In fact, severalstudies suggest that the increasednumber of jobs related to additional statespending would exceed the losses due totax increases. At a minimum, it is likelythat these effects will cancel each otherout. The decline in job growth driven bytax increases will likely offset theincrease in job growth created throughadditional education spending.However, continued cuts in educationspending will cost us jobs and, over thelong run, will likely hurt the quality of our workforce, making Colorado lessattractive to businesses and individualslooking to relocate.Passing Proposition 103 is good forColorado’s students, their families andschools. It helps protect against futurecuts in education spending, adds to ourlong-term economic competitiveness anddoes so without harming our economy. Itis the right thing to do.
 
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Proposition 103 supports education while protecting economic growth
Introduction
On Nov. 1, Coloradans will vote on Proposition 103, aballot initiative that would raise approximately $2.9billion over five years to fund K-12 and highereducation. The revenue would be generated by raisingthe income tax rate from 4.63% to 5%, and raising thestate sales tax rate from 2.9% to 3%. These are the ratesthat existed in 1999, and both increases would betemporary, ending after five years.
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 Advocates of the initiative argue it will helpcounteract deep cuts to the state’s education spendingenacted over the past three years and help forestallfuture cuts. Proposition 103’s sponsor, state Sen. RollieHeath, argues that the initiative has “huge potential tohelp schools.”
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Colorado’s budget for fiscal year 2011-12cuts education spending by $227.5 million over the fiscalyear 2010-2011 budget, for an average reduction of $344per student.
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 According to the Colorado School FinanceProject, Colorado spent $2,408 less per pupil inkindergarten through 12th grade than the nationalaverage of $10,586 in 2009-10, the most recent year forwhich data are available.
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Proposition 103 will help keepColorado from falling further behind.
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Heath also arguesthat the initiative is needed to maintain an educatedworkforce that will help Colorado stay economicallycompetitive with other states.Opponents of Proposition 103 call it a “jobs killer”and argue the initiative would deal a “crushing blow” toColorado’s struggling economy as it recovers from therecession. In support of this claim, they cite a studycarried out by Eric Fruits, an Oregon-based economicconsultant, for the Common Sense Policy Roundtable, aColorado-based research organization.
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Fruits’ studyuses an econometric model to predict slower job growthin Colorado relative to a baseline forecast for the nextfive years if voters approve Proposition 103. He usesdata from the Legislative Council staff to project thatColorado will add 320,000 jobs from 2012 to 2017without Proposition 103. If Proposition 103 passes, hismodel predicts the Colorado economy will add 289,000 jobs, or 30,500 fewer jobs than his baseline forecast.In addition, Barry Poulson, senior fellow in fiscalpolicy at the Independence Institute, and John D.Merrifield, professor of economics at the University of Texas, authored a study using a model developed byPoulson to estimate the effects of Proposition 103 oneconomic growth and jobs in Colorado. They estimatethat if Proposition 103 passes, Colorado’s economy willcreate 7,400 to 11,600 fewer jobs than it otherwisewould over the period 2012 through 2016.
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This paper reviews the analysis contained in theopponents’ two papers, summarizes some of theacademic literature relating to taxes and economicgrowth and presents data on the effects of tax increasesrecently enacted by other states. Finally, it describes theeffect that Proposition 103 will have on economic growthand jobs in Colorado.
Fruits and Poulson studies
Both Fruits and Poulson cite a number of academicstudies that examine the relationship between state andlocal tax rates and economic growth and employmentlevels. Fruits goes into much greater detail in reviewingthe results of this literature and concludes that it showstwo things:1) Higher marginal tax rates are associated withreduced employment growth.2) Higher marginal tax rates will have a negativeeffect on net in-migration trends, meaning fewer peoplewill move to Colorado.Poulson essentially concurs with these findings,stating that taxpayers tend to migrate to states withlower taxes and that businesses respond to higher taxesby investing and relocating in states with lower taxes.Both rely on these findings in constructing themodels they use to estimate the effects of Proposition103 on economic growth and jobs. Neither paperprovides sufficient detail to determine exactly how theirmodels work, the factors used in the models or therelationships between the different factors that wereused to generate their findings. Therefore, we cannotreplicate their analysis, thoroughly examine the relativeimportance of different factors or check to see if spending on public services is accounted for in theiranalyses. However, other academic studies that examinehow taxes and spending on public services such aseducation affect economic development lead us toconclude that their findings are exaggerated at best, if not completely off base.
Research on the effects of taxes,government spending on economic growth
Most of the academic studies of business locationdecisions find that state and local taxes are not theprimary factor in deciding where businesses locate.Rather, factors such as the cost and quality of labor,quality of public services, proximity to markets andaccess to suppliers are more important. Because theeffect of taxes on business location decisions is small,costs such as wages and other compensation canpotentially overshadow the differences in taxes betweenstates and localities.
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Taxes play a role, however, and research on theeffects of state taxes on economic growth tends to focus
 
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on how tax cuts and other incentives affect economicgrowth. The effects of tax increases, while receiving lessattention in the literature, are largely the mirror imageof the tax-cut analysis. In any case, the research doesnot offer the clear consensus on the negative effects of tax increases that Fruits claims it does. Two of themajor summaries of the research cited by Fruits (Bartik,1991 and Wasylenko, 1997) find that taxes do have asmall effect on the location of firms within a region.Generally, this effect is greatest when a state’s overalltax burden differs significantly from other states in theregion. However, many of the studies included in thesesummaries do not account for differences among statesand localities in the level of public services. Theyassume the amount of public services remains constanteven though tax revenues are cut.
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In fact, an analysis of more than 100 academicstudies on this topic finds that spending on publicservices has a positive effective on economic growth. Itcites studies that found increases in spending foreducation and infrastructure, in particular, were mostconsistently correlated with economic growth. Otherresearch also found public spending on services is linkedto economic growth.
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 A review of the academicliterature on economic development showed that in 27out of 43 studies, public spending was found to have apositive effect on economic growth. Spending ontransportation had the clearest positive impact, buteducation spending also had a positive effect.
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Economists express the relationship between taxesand government spending on the number of jobs createdin terms of elasticity. In other words, they examine howan increase in one factor, such as taxes, would affectanother factor, such as jobs. If an increase in one resultsin an increase in another, it is expressed as a positiveelasticity. If an increase in one results in a decrease inthe other, it is expressed as negative elasticity. Themagnitude of the effect is represented by a number. Anelasticity of 1 indicates that a 1 percent increase in onefactor will result in an increase of 1 percent in the other.Taxes are estimated to have a median long-runelasticity of negative 0.2 percent.
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This means thatover 20 years, a 1 percent increase in taxes would resultin 0.2 percent fewer jobs, if everything else was equal.On the other hand, the effects of governmentspending on economic growth are estimated to have anelasticity that ranges between positive 0.02 and positive0.65.
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The data did not allow the author to compute amedian elasticity for government spending. Again, thismeans that a 1 percent increase in governmentspending would result in between 0.02 percent and 0.65percent more jobs, if everything else was equal. Another way to look at this question is to examinethe multiplier effects that government tax and spendingpolicies have on Colorado’s economy. Fruits and Poulsonargue that the $500 million per year that Proposition103 would raise in taxes will come out of the privatesector, thus reducing spending and savings; thisreduction in spending will reduce economic output.However, it is not clear whether they accounted for thefact that, absent the increased revenue generated byProposition 103, it is possible that state and localgovernments will continue to cut education spendingfurther, thus dampening economic activity. Nor is itcertain whether they accounted for the fact thatrevenues raised by Proposition 103 will be allocated toschool districts, colleges and universities and used topay teachers, bus drivers and other workers and topurchase supplies from private vendors. These fundswill circulate through the economy and increase outputas employees spend their earnings on goods and servicesand the vendors use their revenues to pay workers, buysupplies and otherwise invest in their businesses. A recent study of the effects of mid-year state budgetcuts found that “$1.00 in mid-year budget cuts reducesstate income in that year by around $1.70 and that$25,000 in cuts results in the loss of a job.” Almost all of the jobs that would be lost are in the private sector,according to this analysis.
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To the extent that the revenue from Proposition 103would be used to counteract cuts in education spending,it would add to total state personal income andemployment. For example, if the $227 million ineducation cuts enacted in fiscal year 2011-12 areavoided, we estimate it will preserve about 9,000 jobs,many of which are in the private sector. It will alsoavoid the loss of $395 million in total state personalincome.If Proposition 103 fails and state and localgovernments continue to cut education spending, every$1 in spending cuts to education would result in a $1.70decrease in state personal income as teachers and otherworkers are laid off and contracts with private vendorsare cancelled. The drag on Colorado’s economy fromfurther cuts to education if Proposition 103 fails wouldbe greater than the combined effects of an increase intaxes coupled with increased spending on education.Over the long term, however, investments ineducation should pay off, as businesses consistently saythat the quality of a state’s workforce is an importantfactor in their location decisions. In fact, the MetroDenver Chamber of Commerce’s Economic DevelopmentCorporation promotes Colorado as “the ideal climate forgrowing talented workers.”
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Colorado ranks fifth inCNBC’s 2011 list of the top states for doing businessand “Education” is one of the deciding criteria for thisranking.
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General Electric’s Prime Star Solar cited thequality of our workforce as one of the major reasons it
Proposition 103 supports education while protecting economic growth

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