Economic Benefits of Limiting Government, Part 3

The first two parts of my three-part series on the economic benefits of limiting government (part 1 here and part 2 here) analyzed the significant gains that we can harvest with only a few steps of curtailing the growth of government employment. I explained that the gains run in the hundreds of millions of dollars, and that is just from a quick, static analysis of existing economic data.

The big question, then, is how to reap the harvest of limiting government. In my article on the five steps to a growing economy I outlined a framework for reforms that, over time, will structurally reduce the size of government in Wyoming. However, the full gains from implementing this framework do not surface until a few years down the road. Big government was not built overnight, and it won’t go away overnight either.

But fear not. There is a lot we can do right here and now. One good idea is the first of the five steps: a cap on the growth of government spending.

There are two important reasons why this first step, while humble in itself, is a good way to start the trip to the land of limited government. First, even with small changes to the trajectory of government growth, taxpayers will gain substantially. Rightly designed, it will save taxpayers sizable amounts of money over time. (Look for a comprehensive study of the economic gains of spending caps in a Wyoming Liberty Group Economic Review toward the end of March.)

Secondly, a growth cap on government spending would send a confidence-inspiring message to the private sector. Business owners know that government will not be as frantic at hiring more people as it has in the past. In other words, they can expect less artificial competition from government when they look to hire new employees.

Taxpayers can confidently expect that their tax burden will be more predictable. Long-term stability and predictability are particularly important to businesses; rightly designed, a cap on government growth will inspire a more growth-oriented outlook among Wyoming’s job creators.

The question, then, is what a government growth cap should look like. More to the point, the choice of cap depends on how we define the growth that government is still allowed.

TABOR is probably the best known model for capping government spending. The Taxpayer Bill of Rights became law in Colorado in 1992, capping the growth in General Fund spending to the growth of Colorado’s population plus inflation.

Unfortunately, TABOR has not proven very effective in Colorado. According to historic spending data from the National Association of State Budget Officers (NASBO), the growth rate of total state government spending in the Centennial State did not change noticeably after TABOR was introduced. There are three possible explanations for this. The first is that Colorado legislators steered spending over to Other Funds, which was outside of the TABOR cap. There is some evidence toward this in the NASBO data.

The second explanation also has some empirical validity. The combined growth rates of inflation and population do not differ much from the growth in government spending in states without TABOR. Consider New Jersey, for example, simulating a TABOR introduced in 1990: 

Figure 1

Data sources: National Association of State Budget Officers (state spending), Bureau of Economic Analysis (GDP-based inflation) and U.S. Census (state population).

We thus have reasons to question the usefulness of TABOR as a meaningful growth cap on Wyoming state spending. However, the final word on that will be presented in a forthcoming study.

The third problem with TABOR is perhaps the most serious one. TABOR does not tie the growth in government spending to the ability of taxpayers to fund government. Imagine, for example, that the Wyoming economy starts growing strongly and there is a rising demand for labor. Young professionals migrate from other states, and most of them are not yet married. They do not consume a lot of government services, so there is little need for growth in government spending. However, because of the rise in population TABOR now allows government to accelerate spending.

Two other growth cap models provide a remedy for this third problem with TABOR: 

  • Nominal state GDP growth, meaning the actual expansion of the state economy (real GDP) plus inflation;
  • Personal income growth, meaning the annual rise in the sum total of what individuals in Wyoming earn in one year.

The GDP model has an advantage in that it ties growth in government spending to the broadest possible tax base, namely current-price GDP. Therefore, if government spending cannot grow faster than GDP, the spending cap serves both as a cap on the size of government and a guarantee that overall the state economy will not be overwhelmed by taxes.

In real life, though, taxes are levied only on some parts of GDP, and most taxes are actually paid, one way or the other, by individuals. (Corporate taxes are passed on by businesses as a mark-up to their consumers.) For this reason, the spending-growth cap model that is based on the growth in personal income may be the most appropriate one to consider for Wyoming.

It takes more than a short blog article to explore the full advantages and disadvantages of caps on government spending. However, hopefully this introduction can serve as a thought-provoking opener for a broader discussion on measures to put a leash on state and local governments in the Cowboy State.

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