Contract is good for New England

David G. Tuerck

May 1995

Whether the Contract with America in good for New England depends as much on how New England responds to its implementation as it does on the contract itself.

New England is characterized by high labor and utility costs, high federal, state and local taxes, high per-capita income and a propensity to sink into severe economic downturns. To this extent, the Contract is a pretty good deal for New England.

Consider, for example, our federal tax burden. According to the Northeast Midwest Institute, New England gets back 90 cents in federal spending for every tax dollar sent to Washington. That's slightly more than the Mid-Atlantic and Midwestern states, but substantially less than the 32 states that make up the South and the West.

Using the Institute's calculations, the fraction of federal spending that ends up in the pockets of New Englanders is about 5.6 percent. If, then, Congress were to adopt the contract-spawned House budget proposal, New England would lose 5.6 percent of $1.4 trillion in federal spending over the next seven years or $78.8 billion. Given a 90 percent return on federal tax dollars, that translates into $87.11 billion in taxes eventually avoided, for a net saving of $8.71 billion.

The federal government represents a bad deal for New England insofar as we pay more in federal taxes per capita - about $1,000 over the national average - than any other region. This is a result of being the region with the highest per-capita income.

For the United States as a whole, 9.5 percent of households had incomes exceeding $75,000 in 1989. For New England, the figure was 13.7 percent, the highest of any region. For Massachusetts, the figure was about 14.6 percent. When critics of the contract and of the House tax-cut proposals complain about tax cuts for the rich, they are therefore complaining in particular about tax cuts for New Englanders.

More important than these distributional consequences, however, are the federal marginal tax rates that New Englanders incur, thanks to their high incomes and to the graduated federal rate structure. According to the Tax Foundation, Connecticut has the country's highest average marginal income tax rate, at 27.3 percent. Massachusetts ranks seventh, at 25.7 percent. The result is that for the region's two largest states, a smaller federal government translates into a reduced federal income-tax penalty on work and saving.

Massachusetts ranks sixth in terms of state and local taxes per capita. If Massachusetts reacts to the contract by raising taxes, in all likelihood we will further impair our tax competitiveness and hence our ability to attract jobs and capital.  

Certainly there is pain for New England in the House and Senate budget proposals. We will miss the Amtrak subsidies and the job training and highway funds. But we won't much miss the agricultural price supports or the TVA subsidies. Indeed, the proposed cuts in both will benefit New England. Food prices will fall and the ability of states served by TVA to lure away New England manufacturers with lower utility rates.

What is good for the country is generally good for New England. Reducing capital gains taxes and the alternative minimum tax and allowing accelerated tax write-offs for investment will reduce the cost of capital and encourage investment. That's good for the country and for New England's venture capital and manufacturing industries. Balancing the budget is good for U.S. competitiveness and for New England's sluggish export growth. Protecting defense from further cuts is good for our defense industry.

U.S. Treasury officials have estimated that New England will lose as much as $19 billion annually in federal grants and other spending as a result of Contract cuts. The same U.S. Treasury officials warn that, because of the federal money that they will lose under the contract, the states will have to enact massive tax increases to make up the difference. In other words, we should enact at the state level the very taxes that the contract aims to avoid or reduce at the federal level.

The states, particularly Massachusetts, should not cave in to this pressure. Massachusetts ranks sixth in terms of state and local taxes per capita. If Massachusetts reacts to the contract by raising taxes, in all likelihood we will further impair our tax competitiveness and hence our ability to attract jobs and capital.

It is safe to say, therefore, that the contract has set in motion a process that will lead to a balancing of the federal budget and that will, too boot, confer differential benefits on this region. All that remains for us is to resist the inevitable pressure to turn New England in general and Massachusetts in particular into a showcase for the failed national polices that the contract seeks to reverse.

David G. Tuerck is executive director of the Beacon Hill Institute and chairman and professor of economics at Suffolk University. This article first appeared in The Boston Business Journal.

Format revised on August 18, 2004