Two economics professors at Colorado State University just published an analysis of Amendment 66, a ballot measure that would increase state individual income taxes by $950 million in the first year. The amendment changes the state’s 4.63 percent single rate income taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. into a two bracket system that taxes the first $75,000 of income at 5.0 percent and a rate of 5.9 percent above that. You can read our previous coverage here and here.
Three main economic effects of Amendment 66 are outlined in the report:
- Increased individual income taxes will reduce after-tax incomeAfter-tax income is the net amount of income available to invest, save, or consume after federal, state, and withholding taxes have been applied—your disposable income. Companies and, to a lesser extent, individuals, make economic decisions in light of how they can best maximize after-tax income. of Coloradans in the short term.
- Individual income taxAn individual income tax (or personal income tax) is levied on the wages, salaries, investments, or other forms of income an individual or household earns. The U.S. imposes a progressive income tax where rates increase with income. The Federal Income Tax was established in 1913 with the ratification of the 16th Amendment. Though barely 100 years old, individual income taxes are the largest source of tax revenue in the U.S. revenues will go towards increased education expenditure, adding employment in the education sector (another short-term effect).
- Increased educational expenditure will result in long-term productivity gains.
(Note that I am not discussing secondary effects such as the effect on local government revenue or changes to the progressivity of the overall Colorado tax system. Further notes on these effects can be found in the study itself.)
The first two effects noted above are considered together, since they are short-term results. The first, a decrease in Colorado after-tax income, will result in lower economic activity. The second will slightly mitigate the losses from the direct taxA direct tax is levied on individuals and organizations and cannot be shifted to another payer. Often with a direct tax, such as the personal income tax, tax rates increase as the taxpayer’s ability to pay increases, resulting in what’s called a progressive tax. effect due to “increases in employment in education-related sectors.” This money will circulate back into the economy and partially offset the economic loss associated with the tax increase itself.
The authors go on to quantify these effects. Even when considering the positive offset, the initial tax and spending effects would lead to 11,531 lost jobs and a hit to gross state product (GSP) of $3.04 billion. This would affect the service and retail sectors most severely.
The third economic effect—the productivity gains from increased educational investment—is a long-term one. The authors assert that “if the increased education expenditures increase workforce quality, it is plausible that the long-term impacts of the Amendment 66 may offset of even exceed the losses from higher taxes.”
But they also point out that the academic literature on the long-term productivity effect lacks consensus (emphasis added):
Previous research on how higher P-12 education expenditures impact economic activity examines a wide range of topics and presents a variety of conclusions. One common area of study examines how reduced classroom sizes impact student performance. Whitehurst and Chingos (2011) provide a review of the empirical findings, which are mixed. For example, some studies (eg, Krueger 1999) find a large impact, with class-size reductions, on the order of magnitude of 7-10 fewer students per class, having significant long-term effects on student achievement…Not all studies concur. For example, Hoxby (2000) concludes that reduced classroom sizes do not lead to better student performance.
The authors thus examine two scenarios, one in which education spending increases productivity by a lower magnitude, and one in which productivity gains are higher. The result?
Under the different assumptions about the effects of more spending on workforce productivity, we estimate that the change in total annual employment will range between -7,200 (-0.25 percent) and 4,771 (0.17 percent) relative to baseline. Because the productivity impacts will not immediately transpire, these effects will take several years to be realized.
(Note that this estimate is the net overall change and includes the short-term tax and spending effects, in addition to the long-term productivity gains.)
That's a wide range–the long term effect could fall anywhere between a loss of over 7,000 jobs to a gain of nearly 5,000. Uncertainty isn't something any state needs in an post-recessionA recession is a significant and sustained decline in the economy. Typically, a recession lasts longer than six months, but recovery from a recession can take a few years. economy. What’s most important is how this will affect Colorado’s economy now, in the short term. Reducing employment and production growth in the next few years is not something that Colorado can afford.
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