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Kasich plan just shifts Ohio tax burden around, economists say

By   /   February 14, 2013  /   3 Comments

THE PLAN: Kasich is proposing to extend the sales tax to 81 service industries, while cutting the rate from 5.5 percent to 5 percent. He also wants to impose a severance tax on oil and gas production, and use it to pay for an income tax cut.

 

By Jon Cassidy | Watchdog.org

Ohio Gov. John Kasich’s plan to impose new taxes on services and oil and gas production would weigh heavily on the poor, while opening the door to more cronyism, according to several free market economists interviewed by Ohio Watchdog.

Despite shifting tax burdens around, Kasich’s budget does nothing to reduce the size of a government that one recent study found to be the largest in the nation relative to its state’s economy.

Kasich is proposing to extend the sales tax to 81 service industries, while cutting the rate from 5.5 percent to 5 percent. He also wants to impose a severance tax on oil and gas production, and use it to pay for an income tax cut. It’s not clear why he wants to do this — economists consulted by Ohio Watchdog said that reams of data would be needed to determine whether Kasich’s plan would help the economy or hurt it. Still, some of the merits and shortcomings of the plan were obvious.

“Gov. Kasich’s tax plan has some positive attributes,” said Todd Nesbit, a senior lecturer in economics at The Ohio State University. “However, this plan does nothing to address the state’s primary problem.  Ohio ranks last in the Economic Freedom of North America index in regards to size of government.  That is, Ohio has the largest government as measured by government consumption, transfers, subsidies, and social security payments as a percentage of production.  Our state has a spending problem that has led to heavy taxation that has slowed economic growth and job creation.  Until our elected officials address spending, there is likely no tax policy revision that will encourage economic growth across all sectors of our economy while also balancing the state budget.”

Reducing income taxes while increasing sales taxes is bound to hit the poor the hardest, said William F. Shughart II, an economics professor at Utah State University in Logan, Utah.

“Sales taxes and selective excise taxes are among the most regressive taxes that government at all levels levies,” he said. “The biggest downside to sales tax on anything is the burden of the tax falls more heavily on lower income households.”

Many free-market economists prefer sales taxes to income taxes, but there’s a problem with using both, said Antony Davies, an associate professor of economics at Duquesne University in Pittsburgh.

“Whatever you tax, you get less of. Taxing income gives us less work. Taxing sales gives us less consumption,” Davies said. “In a choice between a world in which people are discouraged from working but not discouraged from consuming, and a world in which people are discouraged from consuming but not discouraged from working, I’d take the latter. The mix of an income tax and a sales tax is, in my opinion, worse than an income tax alone because it gives the government the ability to double-dip — tax money when it’s earned and again when it’s spent.”

Ohioans would notice those taxes all over the place, from cable bills and parking receipts to dry cleaning stubs and music downloads.

“This broadening of the base is not entirely bad from a fairness argument, as the state’s tax policy has favored the service industries over the goods-producing sector,” Nesbit said. “More equal tax treatment across industries is desirable from an economic efficiency standpoint as well. But consumers will likely notice the increased taxation of services more so than the small reduction in the sales tax rate.”

And then they’ll ask why, not that anyone’s offering a good answer. Kasich is picking some service industries for taxation while others get exemptions, which is guaranteed to produce constant lobbying and more of the cronyism that plagues government.

“If I know that the state can issue exemptions, I have an incentive to lobby the state to provide my industry with exemptions and to prevent the state from exempting my competitors’ industries,” Davies said. “This is a welcome mat for cronyism.”

Davies pointed to examples of discriminatory taxation in current law.

“I see that natural gas and electricity is exempt but heating oil is not,” he said. “If I were in the heating oil business, I’d be spending a lot of money lobbying for an exemption. If I were in the electricity business, I’d be spending a lot of money lobbying for heating oil not to be exempted. That’s a lot of money, time, and talent wasted on kowtowing to politicians that would otherwise be expended on better serving customers and investors.”

There are other ways such discrimination leads to sneaky and wasteful behavior.

“If I can find a way to reclassify my business to fall under an exemption, I will do so,” Davies said. “For example, mini-storage is taxed, but food storage is not. If I owned a mini-storage facility, I would install an air conditioner in each unit and argue that I rent space for food storage — if customers choose not to put food in the ‘food storage’ units I rent them, that’s not my problem.”

Then there’s the question of who would bear the burden of these taxes. Politically, it’s easy to sell the message that business will pay, but practically, the burden often ends up on consumers. If there’s no substitute for the service, consumers bear the whole tax — that’s basic macroeconomics. And if there are ready substitutes, the tax often ends up killing the business.

“To the extent that the demand for Ohio State football games is pretty steep, fairly inelastic, most of the tax will be paid by the buyer of the tickets, whereas the more options there are for the service that is being taxed, or out-of-state options there are, the more the burden will shift back to the supplier, because consumers will move their business across the border, either the actual border or virtual border,” Shughart said.

The list of services to be taxed includes dozens that can easily be provided tax-free by competitors in another state, from investment counseling, to loans and insurance, tax preparation, architecture, legal services, computer programming and public relations.

That loss of business caused by a tax is known in economics as “excess burden,” Shughart said.

“The more alternatives available, the bigger that excess burden is going to be. As long as only one state is taxing something and there are alternatives out there, people are going to change their behavior,” Shughart said. “They’re going to reduce the amount of services they buy in state, and they’re going to substitute out-of-state providers of the same service.”

The severance tax on oil and gas production also would create excess burden, the economists said. While Kasich argues that his severance tax would be lower than other big energy states, he doesn’t mention that those other states aren’t strictly producing shale oil. This matters because shale oil isn’t like the gushers in the old movies. It’s hard to get it out of the ground. In fact, it’s so expensive that it didn’t even make financial sense to try until recently. That means margins are tight. Some disappear entirely with a tax.

Nesbit said that the “estimated $150-million increase in tax burden on the industry by 2015 will reduce profitability and can slow growth and employment in oil and gas production.”

“Taxes have to effect decisions of where to recover oil and gas in shale,” Shughart said. “Ohio is not the only state that has abundant shale resources.”

Contact Jon Cassidy at jon@ohiowatchdog.org.

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Jon Cassidy is the Texas bureau chief for Watchdog.org. He also writes a weekly column on politics for The American Spectator. He was formerly a reporter and editor for The Orange County Register in California and a reporter at The Hill in Washington, D.C. His work has been published by Fox News, Reason, The Federalist, Human Events, and other publications. He is a 2014 Robert Novak Journalism Fellow and a graduate of the University of Southern California. He and his wife Michelle live just outside Houston with their two children.

  • http://www.facebook.com/steven.henry.141 Steven Henry

    Jon, to quote Billy Madison, “Mr. Madison, what you’ve just said is one of the most insanely idiotic
    things I have ever heard. At no point in your rambling, incoherent
    response were you even close to anything that could be considered a
    rational thought. Everyone in this room is now dumber for having
    listened to it. I award you no points, and may God have mercy on your
    soul.”

    Everyone from the Tax Foundation to the Manhattan Institute to Stephen Moore at the WSJ are enthusiastically for broadening the sales tax while drastically cutting the income tax. No serious conservative can possibly be against this plan. Maybe that’s why a bunch of Dumbocrats are retweeting your post.

  • http://www.facebook.com/jonathan.cassidy2 Jonathan Cassidy

    Don’t forget ATR! They like it, too. But take a look at the Tax Foundation’s evidence that consumption taxes are moderately preferable to income taxes. They study uniform, nationwide sales taxes (no prisoner’s dilemma!), which tells you nothing about what happens when one state taxes something and its neighbors don’t. Kasich’s plan isn’t awful. It’s silly in some parts — the small business gimmick, for example. Risky in others — there’s no reason to rush a severance tax — even your average tinpot caudillo knows to wait until the investment’s in the ground. But an income tax cut sounds great, even if a fraction of 1 percent isn’t really “drastic.” But if he’s going to go to this much trouble and anger that many constituencies, why do it for the sake of shuffling the load? How about some real cuts to the most bloated state government in the country?

  • Suzan Smith

    I would love to see an income tax cut in Ohio! Not happy about increased energy costs. Especially since we pay 1 1/2 times what we should for almost everything to cover the bill for welfare users.

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