Power Cut

The liberal think tank, Center for Budget and Policy Priorities just issued a report entitled, An Update on State Budget Cuts where they suggest that reductions in the growth of state budgets will have a dire effect on communities and the economy. 

But as Paul McCartney says in the song Power Cut, “And the candles burn down low, but something inside of me says the bad news isn't so.” The CBPP opines that budget cuts “have deepened states’ economic problems because families and businesses have less to spend.”  It goes on to add that, “Cuts to state services not only harm vulnerable residents but also worsen the recession — and dampen the recovery — by reducing overall economic activity. When states cut spending, they lay off employees, cancel contracts with vendors, reduce payments to businesses and nonprofits that provide services, and cut benefit payments to individuals. All of these steps remove demand from the economy.”

After two years of recession, this sort of handwringing by politicians, bureaucrats and interest groups just doesn’t hold water anymore.  Over 44 percent of the total $1.7 trillion spent by state governments consisted of transfer payments from one group of constituents to another (e.g. state funded health care, welfare payments, veterans’ benefits).  In addition, government workers have quietly become the highest paid, most coddled class in the country – meaning that even for services that the most libertarian among us would consider a reasonable government function (e.g. courts, police protection, fire protection) much of what is being spent is at above market wages.

While there may be many good social reasoning for much of the income transfer activities performed by state governments (ensuring that those most in need have a safety net, ensuring that handicapped individuals have opportunities, etc.) to state that there is an economic benefit from transferring resources from one class of people to another is disingenuous and simply incorrect.

The economy grows, creates new opportunities, jobs and wealth by maximizing the benefits of trade – trade between regions, between companies and between individuals.  If a firm hires an unemployed person, and pays them $1000 in wages, the owner expects that their labor (when combined with his capital and management skill) will create more than the $1000 that he paid.  As such, the output of production is greater than the inputs, value is created and the economy grows.  The same is not true of government induced transfers.  If the same business owner pays the same $1000 to the government in taxes, and the government transfers that money to the unemployed person (less the cost of managing the program of course which would go to a government employee), no new wealth is created and there is a “deadweight loss” to the economy.

Even worse, if the tax rate becomes too onerous, the business owner may decide to stop producing altogether and the economy can actually shrink – eliminating more jobs, more opportunities and more wealth.

For state government to see tax revenues begin to rise again, policies need to be adopted that reduce the incentives to not work, that eliminate barriers to production, and that reduce the disparity between wages for productive private sector employees, and unproductive bureaucrats.  Unfortunately, the CBPP has it backwards.