Repeating Past Mistakes

When Governor Davis unveiled his plan last month to increase state taxes by $8.2 billion, he boasted that it was "patterned after the successful model embarked upon by Governor Wilson." Liberal pundits across the state chimed in that it was "the only responsible thing to do."

In 1991, Pete Wilson imposed $7.3 billion of direct tax increases in an attempt to plug a deficit of similar magnitude, and Davis' proposal is eerily similar. Wilson boosted the sales tax 1.25-cent per dollar (Davis wants a 1-cent hike) and kicked upper-bracket income tax rates to an historic high of 11 percent (which Davis wants to repeat). The third component of the Davis plan, to more than double the cigarette tax, was done in New York City last year.

What Gov. Davis left out of his walk down memory lane is what happened to California (and New York) AFTER they raised taxes in exactly the same manner as he now proposes.

In the quarter following Wilson's sales tax hike, retail sales in California plunged faster than they had at any time in the prior
30 years. That's a significant event, since two-thirds of economic growth depends upon retail sales.

California already has the highest sales tax rate in the nation. Next door, Oregon has no sales tax -- a condition that has already destroyed retail commerce in every California community within driving distance of the border. A Yreka resident shopping for a new refrigerator, for example, saves $160 simply by making a 45-minute drive to Medford, Oregon. Filling a 20-gallon gas tank on the way home will typically save an additional $8.

And for those who can't run for the border, the Internet offers all Californians a sales-tax-free environment as close as the family computer. Although all out-of-state transactions technically owe a use tax, collecting it is a virtual impossibility.
Boosting income taxes on the rich also has its share of practical problems. California's income tax rates are already the highest in the nation and are radically disproportionate. The top ¼ of one percent of California income taxpayers - there are only 32,000 of them left in the state - pay nearly 1/3 of all income taxes. Next door, Nevada has no income tax.

Just a few of those upper bracket taxpayers rearranging their business affairs to claim Nevada residency produces a devastating effect on state revenues. As economist Arthur Laffer has observed, there is nothing more portable in this world than money and rich people.

Davis' proposal to more than double the cigarette tax has also been tried. When Mayor Bloomberg doubled the total cigarette tax in New York City last fall from $1.58 to $3.00 per pack (Davis' proposal would raise it from $0.87 to $1.97), cigarette sales instantly plunged 64 percent.

When a state's tax rate becomes excessive, it ends up losing not only the increased taxes it was hoping to get, but the existing taxes it had been getting as commerce moves elsewhere.

What happened when California raised taxes $7.3 billion in 1991? The taxes produced only a fraction of the revenues that had been predicted, and total general fund revenues actually dropped $1 billion. They dropped another $1 billion the year after. In 1992 and 1993 - despite an improving national economy - gaping budget deficits caused Wilson to raid local government funds by $3 billion. By 1994, California ended up in de facto receivership, with the state's lenders dictating the parameters of the state budget.

When the Wilson administration began easing business regulations and reducing the state's taxes, California belatedly joined the nation's economic recovery, albeit from the bottom.

Thomas Fuller once observed that "Experience teacheth fools, and he is a great one that will not learn by it." And there, in a nutshell, is what ails California.