Tax and spending limits on state budgets do work, analyst contends.

Q: AND A:

Governments tend to grow; they rarely stay the same or shrink.

State governments are no exception. Real state spending grew more than two and a half times as fast as the U.S. population in the 1970s, and over four times as fast in the 1980s, according to Dean Stansel, a fiscal policy analyst at the Cato Institute, a conservative Washington think tank.

Taxpayers first fought back against ballooning government expenditures in the late 1970s, Stansel noted in a recent study he conducted on the effectiveness of self-imposed limits on state spending. New Jersey enacted the first collar on state taxes and spending in 1976, and two years later, California's Proposition 13 paved the way for taxpayer revolts in other states.

Tax and expenditure limitations were all but forgotten by voters during the strong growth years of the 1980s. But they regained their former popularity in the early 1990s, and a majority of states could soon have some form of limit in place.

"All told, 23 states now have TELs," the report said. "This year on Election Day in November, voters in as many as six states will have the chance to vote on some type of tax limitation initiative."

Do the limits work? Some experts say they don't. Stansel says his study, entitled "Taming Leviathan: Are Tax and Spending Limits the Answer?," shows that, properly designed, they do.

Stansel has worked for the Cato Institute since 1991. Here he discusses his new study, and his thoughts on how states should design tax and spending limits, with staff reporter Dean Patterson.

Q: Would you define a tax and expenditure limitation?

A: It's any measure restricting growth of taxes or spending. They're usually based on a formula, such as tying spending growth to growth of either personal income or population plus inflation. Other measures have evolved in recent years, such as requiring voter approval for tax hikes. These get lumped in the TEL discussion, and they do have the same goal, but they're different from what you might call a classic TEL.

Q: What prompted your study?

A: There's been a renewed interest among voters in TELs, which makes this study somewhat timely. Also, we noticed a contradiction in what people were saying about TELs. On one side, critics made alarmist claims that TELs cause drastic cuts in government services. California's Proposition 13 is their favorite target. On the other hand, there has been a lot of empirical work by economists showing the opposite, that TELs are not successful at restraining spending.

Q: How did you determine whether the limits work or not? And what did you find?

A: I compared spending growth in states with and without TELs. And I compared growth in spending in states before TELs and after TELs were put in place.

In general, I found that state spending in TEL states grew faster than the U.S. average before those states adopted TELs, but grew more slowly than the average after TELs were enacted. Spending never went down, but it grew at a slower rate than in states without TELs. So TELs do have an effect, but it was not as much as we would like, nor as drastic as critics claim.

Q: Do the limits immediately begin to slow spending growth?

A: It depends. My study examined per capita spending five years before a TEL, the year the TEL was put in place, and five years after the TEL was instituted. I also compared those three points in time to the national average.

For example, I found on average that spending growth was 0.8 percentage points faster than the national average over the five years before a TEL and 2.9 points slower than the average over the five years after a TEL.

One reason, I think, why other studies did not come to the same conclusion is because they simply compared spending growth over time rather than comparing it to the national average. State spending tends to grow faster when economic growth is strong. So it does not make sense to simply compare spending growth in the late 1970s to growth in the 1980s, when the economy was healthier.

Q: What proportion of existing limits are effective?

A: This study does not really address that question specifically. They differ so much. I do know that none of them are flawless. They all have one problem or another. This study basically puts the numbers on the table and says this is what happened in the aggregate. But on the other hand, I do point out why some TELs are better than others.

Q: Which are the best and worst limits now in place?

A: That's a difficult question because not all the data is in yet. Since 1990, a half dozen states have strengthened existing TELs or passed new ones. For example, Colorado passed one in 1992 which is considered by many to be one of the most comprehensive. But it wasn't part of this study because it's only two years old.

The other reason is that TELs tend to lose effectiveness over the years because elected officials learn how to get around them. By looking at spending growth during the first five years after TEL adoption and the second five years, I found that most TELs significantly lose their effectiveness during the second five years.

Q: Should states assume their limits have a set shelf life?

A: I don't know that they should necessarily take that attitude. The more recently enacted TELs require voter approval, and I think that gives them a longer shelf life. Voter approval is considered a pretty substantial improvement. Still, I don't doubt the ability of elected officials to get around TELs over time. One way they do it is by manipulating how spending is defined, which determines whether that spending is governed by a TEL.

Q: Why have voters become so interested in limits again?

A: Economic growth was strong in the 1980s, so most states had a lot of money, and taxpayers were less likely to notice their taxes going up. But then in the early 1990s, revenue growth slowed because of the recession, leading many states to raise taxes. Because citizens too were affected by the recession, those tax hikes caused a lot of discontentment among voters. Another reason, I think, probably was that those TELs enacted in the late 1970s had lost their effectiveness by the early 1990s.

Q: I would imagine it's tough for elected officials to publicly oppose the limits?

A: You would think so. The key word here is "publicly." But even REpublicans often don't come out in favor of TELs. For example, in Missouri there's a lot of organized opposition to the proposal from the teachers union and the public employees union. It seems they will stop at nothing to stop it because it would hurt them.

Even big business groups oppose TELs. They don't want voters to have more say over how tax dollars are spent because that makes it more difficult for business to manipulate the legislature. It's easier to lobby legislators than influence thousands of voters. Nevertheless, TELs are popular among voters so they usually pass.

Q: Regarding the handful of limits considered this year, any prediction of how many will win approval?

A: They're all running high in the polls. But that tends to go down a bit as the election approaches. Nonetheless, I think they will all pass this year because they're popular. That includes Missouri, where there's a lot of opposition. It's hard to argue against them because all they say is if you want to raise taxes, get voters' permission. They aren't draconian.

Q: Are states usually better off with their limit than without it?

A: In most ways I would say yes. But in some cases, a state can be worse off. That usually occurs when legislators initiate and design the TEL. They want to take credit for doing something about wasteful spending, but of course, they don't really want an effective TEL because that inhibits their power to spend.

The best way to avoid that problem is for citizens to design TELs. Unfortunately, only about half of the states give citizens the right to put TELs on the ballot.

Q: What's the most common flaw in limits?

A: No TEL applies to the entire budget, which is a mistake. Officials are always defining or redefining types of spending as exempt from the TEL. Inevitably, spending on programs not covered by TELs grows faster than programs covered by TELs.

Routinely, TELs cap spending from states' general funds but nothing else. For example, a state may dedicate the revenues from a cigarette tax to a specific purpose, which usually would not be subject to a TEL. Thus, states with TELs tend to dedicate more and more of their funds for specific purposes. This clearly violates the intent of TELs.

Q: What can be done about that sort of loophole?

A: TELs should be applied to 100% of a state's budget. It sounds simplistic but it's very important. You want to control the whole pie, not just pieces of it.

Q: That's one of your nine recommendations. Looking at some of the others, why should the limits be constitutional rather than statutory?

A: Statutory measures are just easier to change or get around than constitutional measures. Legislators can enact a statutory measure, whereas constitutional amendments usually take voter approval.

Q: Why is it better to cap spending than to limit revenue?

A: Governments like to spend everything they get and then some. It's the nature of the beast. States have to balance their budgets, but when those budgets are being put together, officials don't know how much revenue they will have. So they make an estimate, then plan to spend that. Elected officials can spend more simply by manipulating revenue estimates. There's less room for manipulation if spending is capped before the budget process begins. Looking at it another way, it's hard to cap revenue because you don't know what it will be at the beginning of the year.

Q: Why should local governments be included in state limits?

A: You want to cap the total burden of government. If you say nothing about local governments, then state legislators have even more incentive to pile unfunded mandates on municipalities.

Many TELs will stipulate that there can be no transfer of responsibility to local governments without a corresponding transfer of funds. While this may sound sensible, the effect is essentially to prohibit decentralization. Yet research shows people trust their local governments more than their state government or the federal government. Local governments are closer to the people, thus decentralizing government is a desired thing. So, to prevent unfunded mandates without preventing desired decentralization, a TEL should simply provide that the limits of both levels of government will be adjusted when there's a transfer of responsibility.

Q: How do state bond ratings tie into this discussion?

A: TEL opponents often claim that passage of a TEL would lower the state's bond rating and raise interest costs. This is one of those persistent myths that, despite evidence to the contrary, just won't go away. Numerous studies on this issue -- including several by economist Art Laffer -- have found that just the opposite is true. More often than not, rating downgrades occur in states that have raised taxes rather than lowered them. Similarly, upgrades tend to occur in states that have lowered taxes -- as states with TELs have often been able to do.

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