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The Venom Killing California: Only Elimination of Entitlements Can Save the Golden State

Judging by the efforts of legislators in Sacramento, solving California’s debt crisis seems as impossible as cold fusion. However, the cause of the state’s perpetual fiscal problems is as straightforward as its solution: spending grew faster than state GDP for at least 25 years. The main drivers behind excess growth in state spending are programs that are hallmarks of the welfare state.

Medical doctors prescribe medicines that target the cause of illness. Similarly, economics doctors should prescribe fiscal solutions that target the cause of deficits. If, as is shown below, welfare state spending has driven California into the abyss of debt, then reforming away those spending programs is the only logical solution to the problem.

California state spending has outgrown the state’s tax base by 1.3 percentage points annually for 25 years. Simple arithmetic dictates that in lieu of constant tax increases, this perpetuates a deficit.

From 1985 to 2009 state GDP in California grew by 5.5 percent per year, on average (not adjusted for inflation). Annual growth in state spending was 6.8 percent, on average. Three spending categories have dominated this spending spree: public schools, cash assistance and Medicaid. Making up half of state spending, they are outlets for traditional redistributive welfare state policy.

Redistribution is based on entitlements. Entitlements are based on political decisions on who should get what and why. There is no tie between entitlements and the tax base that is supposed to pay for them. So long as entitlements remain unchanged, tax revenues will, at least in theory, pay for entitlements over one business cycle. But if politicians increase entitlements continually, they will turn a surplus-deficit balance into a deficit slant in the state budget.

California is a classic example of this deficit bias. Of the three aforementioned spending categories, two have grown faster than state GDP, i.e., the tax base, throughout the past quarter-century:

• Public school spending grew at 6.5 percent per year on average, one full percent faster than state GDP

• Medicaid grew at 10.7 percent per year on average, approximately twice the rate of state GDP

Notably, cash assistance spending grew at only 2.6 percent annually. Part of the reason for this is the success that California has had with its workfare reform. Over the last quarter-century, cash assistance fell from 13 percent of state spending to four percent.

Cash assistance cost containment shows that reforms targeting the cause of high spending actually work. However, workfare reform efforts are not directly applicable to other spending programs. Cash assistance provides money directly to entitled recipients, thus differing from in-kind programs such as public education and Medicaid. By comparison it is easy to design reforms that help cash assistance clients find another source of income.

The more complex nature of public spending and Medicaid is a reminder that reforms in these areas will not come as easy as they did in workfare. Public education and Medicaid are service-producing and service-funding programs: unlike reforms in cash assistance which simply replace one income source with another, education and health care reforms require the ability of current beneficiaries – families with children and patients in Medicaid – to buy services on a regular market.

The theoretical concept in play here is purchasing power: families who send their children to public, tax-funded schools are not necessarily able to pay for that school should public education be terminated. Taxpayers are rarely the major recipients of what their taxes pay for.

Nevertheless logic dictates that there is no other solution to California’s chronic deficit than reforms to end public education and Medicaid as items in the California state budget. This means the ultimate privatization of funding and production of elementary and secondary education as well as health care for all citizens. It is the duty of the legislators in California to produce those solutions.

Only two other alternatives exist, both equally non-recommendable: higher taxes have negative effects on private-sector economic activity; small-scale spending cuts within existing programs erode the services promised to the public and will not have any permanent effect on the growth in spending.

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Tuesday, 26 September 2017
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