To all who insist that raising taxes necessarily results in higher revenues, we have this.
Connecticut’s surplus, announced with great fanfare only a few weeks ago, has disappeared practically overnight. $83 million has suddenly become a paltry $1.4 million — and even that is likely to vanish and vault us into the red. This after the largest tax increase in state history that, we were assured, would balance the books and make us stronger. Things have gotten so bad that today Gov. Malloy used his rescissionary authority to cut $79 million more out of the budget just to keep us in the black.
The culprit? Lower-then-expected revenues, especially income taxes paid by Fairfield County Gold Coasters who have seen their incomes on investments and bonuses plummet in tandem with the great recession and financial crisis that began in 2008. Those diminished revenues include capital gains taxes, which, unlike on the federal level, are taxed at virtually the same rate as ordinary income in Connecticut.
That subject has become hotly debated in the current presidential race and with the release of Mitt Romney’s tax returns, which reveal that he paid an effective tax rate of less than 15%. And let me tell you, that’s a far lower rate than I paid on my family’s modest income. So I don’t have a philosophical problem with taxing both forms of income at the same rate.
But here’s the problem with doing that. Capital gains tax revenues are very unstable, much more so than those generated by income, sales and real estate taxes. So if you jack up the CG rates, you become more dependent on a volatile source. That’s one of the problems playing out in California, where income and CG are also taxed at the same rate. The downturn in wealth generated by the market is one reason that state is such a mess. So if you want to soak the rich on their investments, go ahead. But be careful what you wish for because you’ll be groping for a way to fund the government the next time the economy turns sour.
Now back to whether raising taxes, by definition, increases revenues. I recall after I left Quebec in 1982, reading about how in the 1990s the Canadian government felt compelled to reduce its absurdly high excise tax on cigarettes by $5 per carton because of a massive smuggling operation out of the U.S. that resulted in the loss of billions in sales in Canada. That is a clear case of high taxes resulting in diminished revenues.
What so many people don’t understand is if you raise taxes, a lot of people will find clever ways to avoid them and revenues can actually decline. So stating with certainty that raising taxes will increase revenues to the treasury is as foolish as the supply-side notion that tax cuts invariably pay for themselves (although some of them do).
Ok, my economic sermon of the day has ended.