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Why cutting the tax rate
to 5% would help
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from NewsLink, Vol. 4, No. 4, Summer 2000
For years, economists have known that jobs and taxes are related. Lower taxes help create new jobs. In Massachusetts, cutting the income tax rate from the current 5.85% to 5% by 2003, as proposed in the November 2000 ballot initiative, would put 93,000 workers into jobs, according to the Beacon Hill Institute.
Good news? You'd think so. There is the prospect of bringing about an expansion in the economy through an eminently affordable tax cut. But the skeptics among us will raise doubts, not only about the feasibility of this expansion, but also about its desirability.
Skepticism springs from the fact that the Massachusetts economy, like the national economy, is already undergoing an unprecedented expansion. In May, the Bay State's unemployment rate was 2.5%, an all-time low. Since the last recession in 1991, the state has added 506,000 new jobs, with 67,900 of those coming since May 1999.
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In 1999, job vacancy rates were 8.6% for skilled production workers, 8.4% for managers, 7.6% for technicians, 5.4% for scientists and engineers and 4.8% for other employees. About 6.2% or 24,000 jobs at high-tech companies went unfilled.
With so few unemployed workers and so many unfilled jobs, someone might ask, “Why should we want to create even more jobs for Massachusetts?” The answer is that it's not just job openings at issue here. It's filled jobs, which is to say worker placements, that the proposed tax cut will make possible.
This is important because of the nature of the current economic expansion, which has brought about a restructuring of the state economy, from manufacturing to knowledge-based. Technical progress, originating largely in the information revolution, has increased personal wealth, labor productivity and the demand for skilled workers.
This works to the advantage of states like Massachusetts, which have excellent educational institutions and a skilled, educated workforce. However, it works to the disadvantage of states – like Massachusetts – whose competitiveness is at risk because of high living costs and taxes.
The advent of the footloose and fickle techies and dot-com businesses should serve as a wakeup call. A worker or business investor with a choice between Massachusetts, with its high cost of living and high tax rate and, say, Texas, with its lower cost of living and no state income tax, won't give Massachusetts an automatic “Yes.”
Yes, Massachusetts' advantage as an education center strengthens its role in the new economy. Occupations requiring a bachelor's degree or more will soon account for 47% of all new jobs. Another 10% will require an associate's degree or a certificate. But Massachusetts has, ironically, the most to lose if workers and firms start moving their very mobile intellectual capital to states that offer a friendlier business and tax climate.
Massachusetts' Human Capital Dilemma
The very shift from physical to human capital that characterizes the new economy is good news for states that are good at producing human capital but bad news for states that are not good at holding onto it.
This worry is all the greater because of the growing importance of services – which are particularly dependent on human capital – to the Massachusetts economy. By 2006, more than three out of every four new jobs will be created in the service sector in Massachusetts. The growth rate of jobs will be the highest (89%) in computer software and related services.
There are indications aplenty of the problems business faces in attracting and retaining workers. Consider housing costs. The Massachusetts Association of Realtors reports that the cost of an average single-family home in Massachusetts rose 20.7%, from $227,000 to $274,000, between May 1999 and May 2000.
Ironically, for all its educational resources and the importance of education to the state workforce, college costs in Massachusetts are among the highest in the nation. In 1996-1997, Massachusetts had the 5th highest in-state tuition rate for four-year public colleges and the 4th highest for community colleges.
As a result, Massachusetts' access to human capital is increasingly at risk. The number of engineering degrees awarded by Massachusetts schools has declined by 20%, from a high of 5,708 in 1987 to 4,578 in 1998. And we have trouble holding onto our engineering graduates. Of those who graduated in 1992, only 50% were still in the state in 1999.
The 2000 Business Climate Index reports a 5% drop in Massachusetts' rating by CEOs as a place to create, operate and expand a high-tech business. This is the first drop in the rating in nine years. Also, there has been a 4% drop in CEO sentiment regarding the overall future business outlook for the Commonwealth. Respondents cite a growing anti-business sentiment in the legislature and a tight labor market as causes of the decline.
While the state's CEO rating falls, its rating as Taxachusetts remains intact. Massachusetts continues to rank first in personal income taxes per capita.
Without doubt, high taxes threaten the state's ability to attract qualified workers, and thus remain competitive. But the economic news needn't be bad. A modest tax cut would put some 93,000 workers in Massachusetts jobs and help stem the tide. That's good news for workers, employers and, for sure, the state's economic future.
NewsLink is the quarterly newsletter of the Beacon Hill Institute for Public Policy Research at Suffolk University. © 1996-2003. All rights reserved.
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