AR's Feel-Good ‘Tax Holiday’ Is Poor Substitute For Real Reform

(originally published at thearkansasproject.com). 

Alex Cartwright  

This weekend, Arkansas consumers are predicted to flock to retailers in order to save a bit of sales tax. That’s because this weekend is the “sales tax holiday” on various items under $100. Many politicians and retailers favor this policy, arguing that it gives consumers a needed tax break while stimulating the economy. However, there is little evidence that any economic benefit exists.
Tax holidays are widely supported by politicians because they are highly visible; that is, all the hype that surrounds the tax break, plus the instant savings, are things that consumers can easily see and remember and credit their representatives for providing. A widely supported, highly visible policy is the perfect method for politicians to secure votes in an upcoming election; thus, it should be no mystery why public officials favor them.
Arkansas politicians are not alone in supporting tax cut holidays. Tax cut holidays became so politically popular that, at one point, 19 states implemented some type of tax holiday, but that number is now down to 17 as the true costs of this policy have come to light. Though many claim that a tax holiday increases consumer spending, thus stimulating the economy, there is little empirical evidence of this — and many reasons to believe the exact opposite.
Sales tax holidays provide such small savings to consumers that the increase in consumer spending is minimal. There is reason to believe that consumers simply shift the dates of purchase around to save a few dollars. After all, items less than $100 don’t offer much opportunity for significant ‘savings,’ nor are they likely to be luxury items. Furthermore, most of the exempted items are school supplies and clothing — things that consumers are very likely to buy (and buy in the same quantity) without the tax exemption. In fact, New York state became increasingly skeptical of its tax holiday after a study showed that although sales rose on the tax holiday, overall yearly retail sales did not. This suggests that consumption didn’t increase, but only shifted.
In order to prepare for the tax holiday, businesses often have to take special measures to keep their accounting records compliant with the new rules. Businesses also must hire additional temporary staff, accumulate extra inventory, and take various costly steps in order to satisfy consumer demand for one weekend of tax exemption.
To pay these additional costs, the Tax Foundation reports that some stores even raise prices during the tax holiday. While the rise in retail prices is not typically great enough to eliminate all of the savings from the tax break, the study found that during the Florida tax holiday, retailers typically increased their prices enough to recapture 20% of consumer tax savings.
Many supporters of tax holidays argue that it provides much-needed relief to low-income individuals. They explain that, while the savings might not seem like much, they are significant for poorer people, given that the exemptions apply to items that most people must buy. While this position is not completely erroneous, there are certainly much better ways to aid low-income individuals than giving them a two-day vacation from the tax law. This argument, however, demonstrates that the same citizens suffer from the tax code during the other 363 days of the year. Those who believe that tax holidays provide a significant economic stimulus would do better to work to lower them across the board year-round.
The sales tax holiday is certainly expedient if you’re a politician, but the policy carries costs that are passed on the businesses and the consumers. Tax holidays are not sustainable solutions to promoting economic growth, they are not sound tax policy, and any time spent on extending or implementing this policy is time spent kicking economically-productive tax reform down the road.
For a more developed discussion of how Arkansas can — and should — reform our tax code in order to create jobs, attract investment capital, and spur economic growth, you can read this policy paper from Advance Arkansas Institute“How to Cut Taxes in Arkansas: Basic Principles of Tax Policy.”


AR's Feel-Good ‘Tax Holiday’ Is Poor Substitute For Real Reform

(originally published at thearkansasproject.com). 

Alex Cartwright  

This weekend, Arkansas consumers are predicted to flock to retailers in order to save a bit of sales tax. That’s because this weekend is the “sales tax holiday” on various items under $100. Many politicians and retailers favor this policy, arguing that it gives consumers a needed tax break while stimulating the economy. However, there is little evidence that any economic benefit exists.
Tax holidays are widely supported by politicians because they are highly visible; that is, all the hype that surrounds the tax break, plus the instant savings, are things that consumers can easily see and remember and credit their representatives for providing. A widely supported, highly visible policy is the perfect method for politicians to secure votes in an upcoming election; thus, it should be no mystery why public officials favor them.
Arkansas politicians are not alone in supporting tax cut holidays. Tax cut holidays became so politically popular that, at one point, 19 states implemented some type of tax holiday, but that number is now down to 17 as the true costs of this policy have come to light. Though many claim that a tax holiday increases consumer spending, thus stimulating the economy, there is little empirical evidence of this — and many reasons to believe the exact opposite.
Sales tax holidays provide such small savings to consumers that the increase in consumer spending is minimal. There is reason to believe that consumers simply shift the dates of purchase around to save a few dollars. After all, items less than $100 don’t offer much opportunity for significant ‘savings,’ nor are they likely to be luxury items. Furthermore, most of the exempted items are school supplies and clothing — things that consumers are very likely to buy (and buy in the same quantity) without the tax exemption. In fact, New York state became increasingly skeptical of its tax holiday after a study showed that although sales rose on the tax holiday, overall yearly retail sales did not. This suggests that consumption didn’t increase, but only shifted.
In order to prepare for the tax holiday, businesses often have to take special measures to keep their accounting records compliant with the new rules. Businesses also must hire additional temporary staff, accumulate extra inventory, and take various costly steps in order to satisfy consumer demand for one weekend of tax exemption.
To pay these additional costs, the Tax Foundation reports that some stores even raise prices during the tax holiday. While the rise in retail prices is not typically great enough to eliminate all of the savings from the tax break, the study found that during the Florida tax holiday, retailers typically increased their prices enough to recapture 20% of consumer tax savings.
Many supporters of tax holidays argue that it provides much-needed relief to low-income individuals. They explain that, while the savings might not seem like much, they are significant for poorer people, given that the exemptions apply to items that most people must buy. While this position is not completely erroneous, there are certainly much better ways to aid low-income individuals than giving them a two-day vacation from the tax law. This argument, however, demonstrates that the same citizens suffer from the tax code during the other 363 days of the year. Those who believe that tax holidays provide a significant economic stimulus would do better to work to lower them across the board year-round.
The sales tax holiday is certainly expedient if you’re a politician, but the policy carries costs that are passed on the businesses and the consumers. Tax holidays are not sustainable solutions to promoting economic growth, they are not sound tax policy, and any time spent on extending or implementing this policy is time spent kicking economically-productive tax reform down the road.
For a more developed discussion of how Arkansas can — and should — reform our tax code in order to create jobs, attract investment capital, and spur economic growth, you can read this policy paper from Advance Arkansas Institute“How to Cut Taxes in Arkansas: Basic Principles of Tax Policy.”


AR's Feel-Good ‘Tax Holiday’ Is Poor Substitute For Real Reform

(originally published at thearkansasproject.com). 

Alex Cartwright  

This weekend, Arkansas consumers are predicted to flock to retailers in order to save a bit of sales tax. That’s because this weekend is the “sales tax holiday” on various items under $100. Many politicians and retailers favor this policy, arguing that it gives consumers a needed tax break while stimulating the economy. However, there is little evidence that any economic benefit exists.
Tax holidays are widely supported by politicians because they are highly visible; that is, all the hype that surrounds the tax break, plus the instant savings, are things that consumers can easily see and remember and credit their representatives for providing. A widely supported, highly visible policy is the perfect method for politicians to secure votes in an upcoming election; thus, it should be no mystery why public officials favor them.
Arkansas politicians are not alone in supporting tax cut holidays. Tax cut holidays became so politically popular that, at one point, 19 states implemented some type of tax holiday, but that number is now down to 17 as the true costs of this policy have come to light. Though many claim that a tax holiday increases consumer spending, thus stimulating the economy, there is little empirical evidence of this — and many reasons to believe the exact opposite.
Sales tax holidays provide such small savings to consumers that the increase in consumer spending is minimal. There is reason to believe that consumers simply shift the dates of purchase around to save a few dollars. After all, items less than $100 don’t offer much opportunity for significant ‘savings,’ nor are they likely to be luxury items. Furthermore, most of the exempted items are school supplies and clothing — things that consumers are very likely to buy (and buy in the same quantity) without the tax exemption. In fact, New York state became increasingly skeptical of its tax holiday after a study showed that although sales rose on the tax holiday, overall yearly retail sales did not. This suggests that consumption didn’t increase, but only shifted.
In order to prepare for the tax holiday, businesses often have to take special measures to keep their accounting records compliant with the new rules. Businesses also must hire additional temporary staff, accumulate extra inventory, and take various costly steps in order to satisfy consumer demand for one weekend of tax exemption.
To pay these additional costs, the Tax Foundation reports that some stores even raise prices during the tax holiday. While the rise in retail prices is not typically great enough to eliminate all of the savings from the tax break, the study found that during the Florida tax holiday, retailers typically increased their prices enough to recapture 20% of consumer tax savings.
Many supporters of tax holidays argue that it provides much-needed relief to low-income individuals. They explain that, while the savings might not seem like much, they are significant for poorer people, given that the exemptions apply to items that most people must buy. While this position is not completely erroneous, there are certainly much better ways to aid low-income individuals than giving them a two-day vacation from the tax law. This argument, however, demonstrates that the same citizens suffer from the tax code during the other 363 days of the year. Those who believe that tax holidays provide a significant economic stimulus would do better to work to lower them across the board year-round.
The sales tax holiday is certainly expedient if you’re a politician, but the policy carries costs that are passed on the businesses and the consumers. Tax holidays are not sustainable solutions to promoting economic growth, they are not sound tax policy, and any time spent on extending or implementing this policy is time spent kicking economically-productive tax reform down the road.
For a more developed discussion of how Arkansas can — and should — reform our tax code in order to create jobs, attract investment capital, and spur economic growth, you can read this policy paper from Advance Arkansas Institute“How to Cut Taxes in Arkansas: Basic Principles of Tax Policy.”


Is the Human Development Index Really Measuring Anything?

(originally published at thearkansasproject.com)

Alex Cartwright: 

A recent report attempts to compare and rank human well-being in each of the 50 states by means of a new and non-traditional metric – it’s called the Human Development Index. This study and its deficiencies might be of special concern to Arkansas, because our score was the second worst in the entire nation. The report explains, “Human development is about what people can do and be; it is the process of improving people’s well-being and expanding their freedoms and opportunities.” Statistics on life expectancy, graduation rates, and median income are converted into numbers and averaged together to create a state’s HDI. The authors apparently want to obtain a clearer image of citizen’s lives than traditional economic analysis reveals, but the defective methodology they use clouds the study’s results.  In what follows, I explain how the report’s bad methodology leads to garbage outcomes.
The authors emphasize that a state’s high GDP does not demonstrate that its citizens enjoy a high quality of life. But this is hardly a controversial assertion; few, if any, policy experts or economists would argue the point. GDP is a mere accounting measure – it’s designed to measure output. The Soviet Union regularly saw increases in GDP while people starved. GDP measures output, not well-being.
While we understand what GDP shows and doesn’t show, this illustrates the need to use another metric to measure well-being. However, it sure doesn’t show that the three yardsticks the authors chose — life expectancy, graduation rates, and median income – make for good measures.
By using life expectancy to measure quality of life, the HDI methodology assumes that longer lives are better lives.  One’s life expectancy is in part a function of genetic makeup and lifestyle habits, but this report seems to suggest that life expectancy can be altered based on the state you live in. Furthermore, the differences in life expectancies between the states do not vary much. Some states have higher average life expectancies than others, but there are no large differences in life expectancy in the data.
Readers should note that the authors rank states using averages and medians instead of by looking at statistically significant differences. Well-established and widely used standard statistical methods involve taking a series of averages and testing for ‘significance’ between variables. Even though the averages of a measure (say, average life expectancy) in different states might be different, any statistician can tell you that one cannot justifiably conclude that one average is actually greater than another without performing a significance test.
For example, average life expectancy in state A could be slightly higher than state B, but without doing a test of statistical significance, one cannot say with confidence that that life expectancy in state A is higher generally. All three factors that the HDI index utilizes (median income, life expectancy, and graduation rates) are mere averages that the authors use to ‘rank’ the states. It appears that none of the ‘rankings’ on any of the 3 measurements was computed by testing statistical significance – but only by comparing averages. The methodology in this report is fatally flawed because the authors make no use of testing for statistical significance. Without statistical significance, all of the data used in this report (and thus conclusions drawn from them) are mere observations that demonstrate little or nothing.
Median income is not a bad variable to consider when trying to measure well-being, but several other factors should also be considered if we are to consider median income. Many fairly obvious factors that vary between states and contribute to the quality of life were omitted. For example, the authors make no reference to citizen tax burdens. Median incomes, and the well-being that results from a higher median income, can only be accurately evaluated in light of the taxes citizens pay on income, capital gains, purchases, and so forth.
By using graduation rates to measure well-being, the HDI methodology simply assumes that the more educated live better lives. Aside from simply counting graduation rates from school, a more appropriate and accurate way to measure well-being would likely include youth unemployment rates, the average cost of post-secondary education, scholarships available, the amount of debt students with college degrees must carry, and employment opportunities for those with advanced degrees in one’s home state.
Since the HDI seeks to measure how different state environments are conducive to “improving people’s well-being and expanding their freedoms and opportunities” it is remarkable that the authors choose not to look at labor market issues, such as occupational licensing laws (that bar entrepreneurs and new workers from entering an industry). Nor did the authors consider how states protect citizens’ property rights from eminent domains and civil forfeiture laws – or fail to do so.
Using three (unrepresentative at best) yardsticks to measure human development, without any test of statistical significance, is a poor methodology; the results the methodology produces rest on a foundation of sand. For a thorough analysis of citizen freedom in the 50 states based on over 200 public policy items, instead of 3 non-statistically significant measures, someone who was interested in human flourishing could look at the Mercatus Center’s Freedom In The 50 States.


Hiking the Cigarette Tax: Obama’s Plan To Burn Taxpayers and Inflame the Deficit

(originally published at thearkansasproject.com)

Alex Cartwright:

The Obama administration is once again attempting to control record deficits and government spending via a harmful short-term solution instead of developing a long-term strategy to address Washington’s systematic spending problem. Specifically, in order to pay for expanded preschool and cover other budget shortages, President Obama is proposing a 94 cent tax increase on cigarettes. This would bring the total federal tax on cigarettes to $1.95 per pack. Congress is also considering its own version of a tobacco tax increase. These short-term patches to our country’s spending problem will place an undue burden on consumers and vendors, while expanding the size and scope of government and possibly even adding to the deficit.
Perhaps the most potentially damaging effect of increasing taxes on tobacco products is that such a tax would be regressive: a disproportionately large portion of lower income earners use tobacco products. Therefore, increasing taxes on those products will place most of the burden on low-income people — those who work for a living. In the midst of economic turmoil, when all citizens face financial uncertainty, raising taxes on low-income citizens should be the farthest thing from a public policy priority. Furthermore, during his campaign, President Obama repeatedly pledged not to raise taxes – of any kind – on those making less than $250,000 per year. However, he has already raised taxes on tobacco once and appears to be setting the stage to break his promise again.
Unfortunately, tobacco users aren’t the only group who will bear the brunt of this massive tax increase. Hundreds of thousands of retailers in the U.S. depend on cigarette sales as an important source of revenue. According to the National Association of Convenience Stores, cigarette sales account for nearly 40% of all in-store sales. Arkansas alone has more than 1,700 convenience stores, employing over 19,000 Arkansans. Higher tobacco prices will presumably result in lower sales for these establishments — and the lost sales could be on more than just cigarettes! Tobacco users facing higher tax burdens will visit the store with less frequency and spend less money on other items.
Aside from the potentially harmful economic effects on consumers and suppliers that a tax increase would have during turbulent economic times, advocates of tobacco taxes should keep in mind that these taxes are already extremely high. In fact, in 2009 Congress enacted the largest cigarette tax in history. That same year the Arkansas Legislature raised taxes on cigarettes from $0.59 to $1.15. Today, tobacco products are some of the most excessively taxed products on the market, with taxes and fees accounting for about 60% of the cost of a pack. As a result, some reports indicate adult smokers paid over $44.9 billion in taxes and fees on cigarettes in 2012.
Raising taxes on cigarettes has been a sure-fire way for governments to raise revenue because demand for tobacco is relatively ‘inelastic’ (higher prices won’t cause a decrease in consumption like the same price rise would on a different product) since tobacco is addictive. However, even on tobacco products, higher taxes will not raise revenues indefinitely. Increasing the taxes on tobacco only increases the benefits of buying tobacco products illegally in a black market where buyers and sellers don’t pay any taxes at all. The Bureau of Alcohol, Tobacco, and Firearms & Explosives reported in 2009, directly after the FET increase, that cigarette
…smuggling has turned into a lucrative business for the criminals who trade cigarettes and other tobacco products on the black market…Nationally it’s estimated $5 billion in tax revenue annually is lost on the black market. Currently, for every 1000 cartons smuggled into the country, the federal government loses $10,066 and the state governments lose an average of $12,140.
For Arkansas, that number would likely be higher since our cigarette tax is the highest in the region.
Even though the Obama administration wants to use the funds from the tobacco tax increase to cover budget shortfalls, one study says that just the opposite could happen. An article published by the Congressional Budget Office in the New England Journal of Medicine explains that higher tobacco taxes, and less tobacco users, would extend the government’s responsibilities to provide entitlements as more citizens live longer. This extension in entitlements would, as the study estimates, actually add to the deficit. Therefore, a higher tobacco tax leaves consumers, sellers, and potentially even the government poorer in the long run.
An obvious argument in favor of tobacco tax increases is that tobacco is a public health issue that affects all of us. According to this argument, because tobacco users put their own health and others around them at risk, they should be forced to internalize some of the costs of their behavior via taxes. But tobacco taxes are not the best or even the only way to deal with the health issues tobacco causes. Many laws already exist that ban smoking in most public areas and studies have shown that the current tax levels, health insurance costs, and other costs that smokers must pay easily make up for any public damage smokers do.
The majority of Americans are not smokers, so an attempt to close a budget shortfall by taxing the minority is the less politically ‘troublesome’ route for the government to raise revenue. However, increasing cigarette taxes will lead to poor consequences for all Americans — not just smokers. Continuing to tax an already taxed-to-death habit to fill a budget shortfall is bad public policy for everyone. It could possibly lead to an increase in the deficit (a deficit we all pay for) and it is not a long-term, sustainable solution to Washington’s systematic spending problem. Short term solutions to long-term problems, especially when they come at the expense of low-income earners and businesses that are struggling to recover in the Obama economy, are not sound public policy. Permitting Washington to increase the tobacco tax will only increase the size and scope of government without making any progress towards repairing the causes of our spending problem.


Planning vs. Competition: depends on the institutional context, Dr. Krugman

Alex Cartwright and Dylan DelliSanti
            Sears Chairman Eddie Lampert has been experimenting with a new management model at Sears. Essentially, different divisions of the company are forced to compete against one another- supposedly the best Sears division will be the one who gets to use the resource that all divisions are competing for. Of course, competition isn’t ‘good’ in itself and it does not always yield positive results. Productive competition takes place in an institutional environment (under rules or laws) that allows the competitive process to be productive. Lambert’s model may not be the most effective management strategy- we just can’t say without more information about Sears- but we can say that Paul Krugman’s recent blog post criticizing Lampert is a strange and poor attempt at justifying ‘central planning’ in lieu of markets.
            In a recent blog post at his New York Times Blog The Conscience of a Liberal, titled “John Galt and The Theory of The Firm”, Paul Krugman writes:
“Of course, that’s not how we do things. We may live in a market sea, but that sea is dotted with many islands that we call firms, some of them quite large, within which decisions are made not via markets but via hierarchy — even, you might say, via central planning. Clearly, there are some things you don’t want to leave up to the market — the market itself is telling us that, by creating those islands of planning and hierarchy.”
Krugman uses this example to suggest that market advocates should be wary of using the market for planning large systems. If competition and decentralization doesn’t work for a big corporation like Sears, then why would it work for a large economy?
            Krugman is stumbling onto an insight that economists like F.A. Hayek and Ludwig von Mises stumbled upon several decades ago. Essentially, markets are a web of various planned activities. The popular phrase “spontaneous order” can be misleading, and cause one to think that no planning occurs, but Hayek and Mises realized that planning happens all the time in a market – just on varied and decentralized levels.
            In a private firm, the incentives between the planners and the profit earners are aligned (in economists speak, there isn’t a principal agent problem). Those who do the planning have an incentive to do a good job, and as employees in a firm, they are likely to have the local, specialized and tacit knowledge about how to effectively plan and change their plans upon error. Government planners lack all of these characteristics. The issue isn’t the ‘planning’ itself as Krugman suggests; planning is effective depending on who plans for whom.
            Krugman’s confusion lies in misunderstanding the difference between a market and a firm. Markets are complex systems that result from the spontaneously coordinated actions of many different individuals and firms, with each acting on their own bit of information. These firms might employ more command-and-control elements or they might take a more decentralized approach like Sears, but it’s up to them to discover the balance. Regardless of which approach they take, they’ll know if they are successful, because of market signals: If, like Sears, they have taken too decentralized an approach, then they’ll see their profits diminish. Firms are the market’s built-in planning units, and testaments to the fact that spontaneous order is not unplanned chaos, but a dense conglomeration of varied plans.
            Krugman, of course, wants to use this observation that markets are actually a web of plans to justify greater government planning. What he seemingly fails to understand is that it is not greater complexity that necessitates top-down planning. Essentially, the economic variables known to a firm are tangible and within their grasp – even larger firms like Sears. If the price of a production input rises, the firm can, from their vantage point, search out substitutes that are now relatively cheaper.
            However, as Hayek points out in his essay The Economics of Planning, rational planning of an entire economy or industry will face difficulty since the “number of variables which any mind, even with the best assistance, can manipulate is limited.” Many have interpreted Hayek as arguing that planning is too complex, but a bigger and more powerful computer won’t make planning a more realistic possibility. Hayek’s key insight is that the market process is ‘dynamic’ that is, the process itself actually yields results- the competitive market process sends signals to all economic actors (transmitted via prices) that could not possibly be replicated by a planner since the prices are the result of millions of actor’s decisions occurring simultaneously.
            Equally as important is that governments don’t receive the same signals as firms. Whereas we know that Sears’ business strategy might have some shortcomings, because their profits are falling.  Their falling profits are an indication that they haven’t been able to satisfy consumer demands like they did in the past. They’re being punished for being inefficient. Politicians don’t have comparable signals. Instead, politicians respond to votes; public choice theory and, ideas like rational ignorance, indicate that democracy might be inadequate at punishing bad politicians and rewarding good ones.  Furthermore, a firm’s existence depends on its effectiveness that is not at all true to the same degree with government.
            Maybe the Sears business model failed to strike the right balance between centralization and decentralization. Not all of the business plans that entrepreneurs try will work out, but those who take a risk and succeed in executing their plan are rewarded with profit for making the consumer’s life better. The virtue of the market is that many different plans and business strategies can compete with each other. We don’t know ahead of time which plans will be most efficient at satisfying consumer desires – especially since the context of this planning is ever-changing.