Academic research favors low-tax states
A recent Michigan Future report calls into question a common economic theory: increasing taxes tends to lead to less private-sector growth. Comparing Michigan’s economic performance over the last two decades to that of Minnesota’s, the report claims that “rais[ing] taxes on the wealthy and businesses to invest even more in public services” was the Gopher State’s key to success. While this anecdote convinced the Detroit Free Press, a large body of economic research does not support this view.
For example, a new working paper published by the Mercatus Center empirically examines the relationship between state taxes and economic growth and finds evidence exactly contrary to the Minnesota anecdote. Pavel A. Yakovlev, an economics professor at Duquesne University, analyzed data from 49 states from 1977 to 2000 and controlled for differences in average age, educational attainment, federal employment, natural resources, population density and a variety of other factors. He then attempted to capture state economic performance by measuring year-to-year growth in gross state product per capita, growth in the number of businesses and net migration rates.
The results of his research support the common economic theory: higher average tax rates tend to have a negative and statistically significant relationship to state economic growth. Specifically, Yakovlev found that a 1 percent increase in average tax rate led to a 1.9 percent decrease in gross state product growth from 1977 to 2000. Similar effects were found on other measures: increases in taxation rates lead to fewer new businesses in a state and a higher probability that residents will migrate to lower taxed states.
The Michigan Future report fails to show causation for the Minnesota-based narrative that higher tax burdens and more government spending lead to increased state-level economic growth. But even if this were true for Minnesota, considering the broad economic research literature, policymakers should view the Gopher State as the exception, rather than the rule.