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Friday, March 25, 2005

By Ralf Seiffe

OPINION - Last week, The President’s Advisory Panel on Federal Tax Reform met at the University of Chicago’s Graduate School to hear local expert’s opinions on the nation’s tax system.

This was an important event and Mayor Daley appeared on the witness stand to welcome the dignitaries to Chicago. After greeting the panelists and running through the tired litany of money-grubbing expected of big city mayors, Hizzonor waved all good-bye and left.

He should have stayed.

The mayor must have lots of demands on his time. What to do about accumulating pleas in Federal Court, keeping track of city employees making grand jury appearances or ginning up quixotic legal challenges to the gun business are important responsibilities for the mayor.

However, listening to the scholars and businesspeople who shared their wisdom might have been a better use of his time. Had he done so, he would have learned what danger his party’s tax and spend strategies hold for the nation and for our local living standards.

The mayor needn’t have stayed long, either.

Professor James Heckman was up first and was particularly interesting. Dr. Heckman, the 2000 Nobel Laureate in economics, appeared first and discussed why people decide to join the labor force and work---or not.

The distinguished UC professor discussed the tax system’s effect on work decisions with the conclusion that “incentives work” and that taxes are generally disincentives to labor force participation.

He also warned that it is difficult to understand all the effects of tax changes because they are hard to identify. Using the progressive tax system, for example, he postulated that humans evaluate their future prospects in after-tax terms. As taxes increase, future earnings have less present value.

When the present cost of education exceeds the present value of its benefits, folks stop buying. While this may not be a formal capital budgeting decision, the declining proportion of men pursuing college educations certainly shows something strange is going on.

The other panelists provided different examples illustrating how tax incentives work and that tax disincentives produce undesirable effects, too.

Beyond work decisions, other witnesses showed how tax complexity moves people from saving and investing for the future into consuming now.

Others showed how tax-motivated dealings keep very smart lawyers and finance professors up nights thimble-rigging new transactions that neatly avoid taxes, even if there’s no real, underlying economic justification.

These very smart people got me thinking about the tax debate we are having here in Illinois.

Certainly the motivating and retarding effects the experts described for the nation’s tax system should operate in the same way, here. Indeed, if we want to use our tax system to help create a vibrant Illinois economy, then these experts’ advice is timely and free.

Our debate involves “reform” of the way we fund education.

Democrats, and even some misguided Republicans, think that the best solution is to increase the income tax and decrease the property tax. To that end, they have proposed a new tax scheme that raises state income taxes at least 67% in exchange for a state paid property tax reduction.

Without regard to the fact that the state will eventually just take and spend the money it’s supposed to send back to help property tax payers, the tax experts would probably tell us the Democrat’s plan is the wrong thing to do.

In fact, it is exactly the wrong path.

Illinois’ problem is that we have not grown jobs, that is work, as fast as the state and local government’s appetite for taxes has grown. The solution to the state’s problems starts with job creation.

By increasing taxes on jobs as the Democrats propose, we decrease the incentive to work. One suspects the bigger the increase, the greater the disincentive to work. A 67% tax increase will become a gigantic impediment to individuals deciding to work and will also discourage businesses from investing in places that offer work.

The professor tells us that taxes not only discourage work, they also discourage the acquisition of the skills required to work. If that’s so, the school tax increase will have the curious effect of diminishing the value of schooling, even as we pour more money into it!

What about the other side of the Democrat’s proposal?

They say that the state will send money to local school districts to be applied to property taxes. That decreases the cost of consuming a house and would tend to divert more into housing consumption than into investment in job creation.

So, Mayor Daley, if you’re reading, think about what the best tonic for Chicago might be. You told the panel the cities need help. You told them that you have asked the Brookings Institution to find ways to help expand low income housing credits and other policies that complexify the tax code.

Had you remained for the experts’ presentations, you would have learned, as I did, that these policies tend to help people stay out of work and create complexities in the tax code that forestall the savings that create jobs. If you want to help Chicago, then use your influence to stop HB 750.

Space prohibits reporting more of this absorbing meeting but the simple bottom line is this: incentives work and disincentives work, too. If we pay folks to be idle, they will choose to be idle. If we tax jobs, we’ll get less of them.

The same iron logic applies to local politics: if we encourage tax-and spend politicians by electing them, we will most naturally get more tax-and-spend politicians.

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Ralf Seiffe advises business start-ups and product launches from Chicago, Illinois and is a political analyst and columnist for the Illinois Leader.