Left all wrong on economic development

April 21, 2014

RALEIGH — To make a long story short, the great debate in North Carolina politics concerns how state and local governments can best promote economic growth and opportunity. Opinions differ widely, as one might expect. But generally speaking, they can be grouped into three schools of thought that bear familiar labels: the Left, the Center, and the Right.

To make the story even shorter: the Left’s position on economic growth has been thoroughly discredited. North Carolina’s great political debate is now just between the Center and the Right.

According to the Left, North Carolina’s economy continues to suffer from inadequate consumer spending. If households consumed more, that would create more demand for labor, resulting in more jobs and higher wages. Fiscal liberals believe that North Carolina governments could solve the problem by raising taxes — especially on higher-income households — and redistributing the proceeds to lower-income households through cash benefits, earned-income tax credits, and entitlements such as Medicaid. Because these recipients would primarily consume rather than save, the economy would grow.

According to the Center, the main problem with North Carolina’s economy is inadequate government investment on capital assets such as roads and schools, not inadequate government spending per se. Fiscal centrists believe that North Carolina governments could solve the problem by raising broad-based taxes — especially sales taxes, which provoke the least public opposition — and devoting the proceeds to infrastructure and education. Such investments would make North Carolina workers and businesses more productive, thus resulting in more jobs and higher incomes.

According to the Right, the main problem with North Carolina’s economy is inadequate private investment in new and existing businesses, not inadequate government spending. Fiscal conservatives believe that North Carolina governments could solve the problem by reducing taxes — especially marginal tax rates on personal and corporate income — and spending a higher share of their budgets on public assets such as roads and schools that attract or increase the value of private investment. Increasing the real, after-tax return on work, investment, and entrepreneurship in North Carolina will result in more jobs and higher incomes, conservatives predict.

Which of these three schools of thought about economic growth is correct? Let’s look at the evidence.

Two years ago, I began accumulating a database of every recent study I could find about state economic policy that had been published in a peer-reviewed academic or professional journal. The list started out as a few dozen studies, then grew to about a hundred. As I continued to expand my search for articles on state and local taxes, government spending, regulation, energy prices, infrastructure, education, and other potential drivers of economic growth, the database doubled in size, then doubled again.

An initial version of the research appeared in my 2012 book “Our Best Foot Forward.” I shared an updated version with a national audience in the February 2014 issue of Reason magazine. Now JLF has published the final version of my literature review. It reflects 1,389 different findings from 681 tudies published since 1990. Here’s what I found.

First, the Left’s view of economic-growth policy lacks any substantial empirical support. States and localities can’t boost their economies simply by boosting public budgets. Only 15 percent of the relevant studies found that higher state or local spending was associated with higher economic growth. The results were particularly horrendous for spending public-assistance programs such as Medicaid, which was associated with lower economic growth in the vast majority of cases.

Second, centrists are correct to be concerned about high-quality infrastructure and education — but incorrect in assuming that higher government spending is either necessary or sufficient to providing those assets. Most academic studies found that higher state or local spending on roads and schools either had no relationship with economic growth at all. That is, the economic damage from the required taxes was greater than any economic benefits from the additional spending. On the other hand, most studies show that the quality and quantity of infrastructure (primarily transportation) and the level of educational attainment in a state correlates with economic growth. These findings suggest that governments need to find ways to make their current investment in infrastructure and education more productive, rather than simply throw more money at the problem.

Third, conservatives are correct to be primarily concerned about private investment in business expansions and start-ups. That’s the real source of economic progress. And higher tax and regulatory burdens discourage it. According to the literature survey, 63 percent of scholarly studies link higher state and local tax burdens with lower economic growth. The worst offenders are high tax rates on household income (70 percent) and businesses (67 percent). But sales taxes (65 percent) and property taxes (61 percent) are also harmful.

These findings suggest that the Center and the Right still have a lot to talk about. Both can accomplish their goals within a policy framework that avoids higher tax burdens and redirects government revenues away from redistribution and towards protective services (public safety) and productive services (education and infrastructure). On the other hand, the two sides will probably still disagree quite a bit about how best to deliver these services effectively.

The real gap is between the Center-Right, whose views are anchored in reality, and a Left dwelling in the political equivalent of perpetual adolescence. Some day, perhaps, liberals will be ready to sit at the grown-up table.

John Hood is president of the John Locke Foundation.