CLEMENS & KASZTON: Golden State offers tarnished ideas

America is following California off a financial cliff

Huge deficits and mounting debt. Increasing concern about creditworthiness. Large and growing government. Constant calls for higher taxes. High unemployment and a discouraged, even fearful, business community.

Welcome to California.

If you thought we were describing Washington, you had good reason. In instance after instance, Washington has mimicked the failed policies of the Golden State. For the sake of the nation, it’s time Washington stopped following California and started leading in a new direction.

California has been a laboratory for high taxes. California has the third-highest personal income tax rate in the country (10.55 percent), and its next-highest personal income tax rate (9.55 percent) is higher than the top rate of all but three other states. California’s corporate income tax rate (8.84 percent) is the eighth-highest in the country.

The Golden State’s sales tax is the highest in the country, and despite Proposition 13 protections, 15 other states have lower property tax burdens. Put simply, California is a high-tax state, and Democrats in Washington have followed its example.

Between the budget and legislation such as Obamacare, the Democrats have proposed large-scale increases in taxes on labor income, capital and investment. The underlying assumption behind their proposals, as in California, is that workers, investors and entrepreneurs don’t respond to incentives.

But of course we do. Tax work, investment and entrepreneurship more, and people undertake those activities less. So the very things the U.S. economy desperately needs right now the Democrats are proposing to make more expensive, which means we’ll get less of them, just like in California. Its high taxes flow from a desire for higher spending and more government.

As of 2008, the latest year of available data, California had the 10th-largest government sector - state and local - of any state. That spending has not corresponded with the 10th-best level of quality of services provided by the state. Indeed, a recent study comparing the outcomes of government services in California to those of 23 industrialized countries concluded that the state was a bottom performer in delivering value for money.

Likewise, the size and scope of the federal government has greatly expanded over the past decade, with a marked increase since 2006. The government cannot unilaterally generate value-added goods and services because first it must extract resources from the private sector to finance itself. Federal legislators seem oblivious to a key reality. No country has ever improved its economic prosperity by growing government at the expense of the private sector.

Finally, the federal government, like California, has embarked on a series of regulatory initiatives with apparently no sense of their costs or impact on the economy. Regulations can and should be thought of as hidden taxes. Regulations are a way for the government to force individuals and businesses to do certain things and prohibit others. They impose real costs on the economy through both altered incentives and the costs of compliance and administration.

The federal government seems determined to follow suit. Obamacare, the financial services re-regulation and proposed environmental regulations (principally “cap-and-trade”) promise to impose enormous costs on the U.S. economy. Worse, they have created extraordinary uncertainty in the private sector at a time when greater certainty is needed to promote investment and business development.

Poorly designed and ill-conceived policies have slapped a “Closed for Business” sign on California. The Golden State has the third-highest rate of unemployment in the country, perennial deficits, the worst credit rating in the country and an exodus of residents. Instead of following California, the federal government should set a better example for all states.

Incentives for work, savings, investment and entrepreneurship need to be re-established by simplifying and reducing taxes. The size and scope of government needs to be reduced by cutting spending and rationalizing regulations. Such a combination would return the country to economic prosperity and leadership.

Jason Clemens is the director of research and Julie Kaszton is a research fellow at the Pacific Research Institute.

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