Michigan Can't Afford the Status Quo

(Note: Following is an edited version of testimony delivered by Mackinac Center senior economist David L. Littmann before the House Tax Committee on Restructuring on February 8, 2006.)

The past four years have seen a better-than-expected and longer-than-expected economic prosperity in the United States. This expansion has marched company profits to record heights and dropped the U.S. unemployment rate to 4.7 percent. The combination of 1.5 percent annual growth in U.S. employment and 2.6 percent yearly productivity improvement has given our country the top real gross domestic product performance among developed economies over the past 2 ½ years.

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For real GDP performance, the U.S. economy gets an "A".

Housing and mortgage markets have been fantastic. An "A+" in this arena. What would you expect from record low mortgage rates and the record affordability of homes — up until recently. [As of third quarter, housing prices appreciated 12 percent for the nation; 4 percent for Michigan].

U.S. retail sales have been brisk — up a whopping 6.4 percent for 2005, compared with 2004 — helped immensely by capital gains in homes and stocks, and a new record level of personal wealth and net worth (now $55 trillion — up $5 trillion last year alone). So retailing, (40 percent of the U.S. economy) gets an "A" as well.

The U.S. auto industry has performed marvelously. Contrary to the media and Michigan spin, the world has never seen such exuberance and profitability.

Last year was the fourth consecutive year of spectacular motor vehicle sales, averaging 17 million units sold over the past four years. There’s nothing like it on record.

Michigan’s automakers lost market share, so this economic success story is not written for Detroit’s automakers or auto suppliers.

Michigan’s economy has earned a solid "D".

Some here in Lansing would have you believe that if Michigan just borrowed more money and threw it into the maw of the public schooling establishment, our business climate would improve, with prosperity hot on its heels.

The unvarnished reality is that Michigan hasn’t yet reached rock bottom. We will be at rock bottom sometime over the next three to five years, regardless of any decision Toyota makes regarding the building of an engine plant in western Michigan.

Here’s why I believe we remain on a down economic trajectory. As of 2005, Michigan experienced its sixth consecutive year as a below-average income state.

This is an especially nerve-wracking observation for two reasons:

1. We’ve been losing ground to other states on a trend basis for half a century.

2. In 2005, even in good economic times for the nation, Michigan managed to match 1982 — its worst year for relative economic performance vis-à-vis the nation.

Think about it — nearly four years of robust housing and auto markets with 40-year lows in financing rates and inflation! Honorable representatives, these are the tail winds for Michigan’s economy.

This is precisely why we can be assured that Michigan will see even greater economic erosion this year and next, compared with sister states.

In other words, the U.S. economy has now entered that portion of the business cycle that traditionally turns vigorously against Michigan’s fortunes, with higher interest rates and rising inflation, not to mention the continued hit on discretionary income and the psychologically debilitating effect of high energy prices.

There’s no state in the union today in greater need of economic and financial reform than Michigan.

Outside of the Katrina-affected states, Michigan’s unemployment rate is the highest in the United States, averaging one to two full percentage points above the national average.

Our population and employment growth are both negligible; actually, Michigan was the only state in the U.S. to exhibit a payroll employment decline in 2004. Data will show Michigan losing jobs again in 2005 (some 38,000), even before layoffs announced by GM, Ford and Delphi.

Nothing new here — Michigan’s population and job growth have been less than half that of the U.S. for decades.

The city of Detroit just slipped from the top ten population grouping; Wayne County has a net decennial loss. A just-published study shows that the out-migrant households from Wayne County had average incomes nearly $10,000 higher than the new in-migrant households, up to census year 2000!

Michigan shows nothing competitive in a recent Forbes magazine listing of business climates of the 150 largest metro areas in the U.S.

Over the past 29 years, United Van Lines has tracked household movements: Michigan is a perennially "outbound" state. That means Michigan has been a net outbound state for nearly three decades.

Michigan’s per capita personal income in 2004 was 3 percent below the national average. Undoubtedly, 2005 didn’t improve matters and I cannot imagine how 2006 will improve our relative position. Given the faltering market share of Detroit’s automakers, Michigan will again lose economic and political clout this year.

This is a shocking situation when you compare our fortunes with the halcyon days of 1965, prior to passage of the Michigan personal income tax. It’s especially galling when you consider that between 1995 and 1999 we were already sending the flower of our youth, ages 25 to 39, to other states in search of good, exciting and more permanent jobs — jobs with upward mobility.

Nearly 40,000 of this Michigan age cohort (net) bolted in just that brief period of exceptional U.S. prosperity, especially in the hi-tech industry! I believe at least 80 percent of that group was college educated.

So, when Gov. Jennifer Granholm tells us in her State of the State message that we need to throw another $2 billion into the coffers of our 15 public institutions of higher learning in order to be competitive, I just hope that the graduates and other recipients of Michigan-taxpayer beneficence will kindly send us a dozen roses — when they land their jobs elsewhere.

In 1960, Michigan accounted for 4.3 percent of the U.S. population and employment. We also had 21 electoral votes. Today, Michigan has 3.4 percent of the nation’s population and workforce, with 17 electoral votes and more decline on the horizon.

Alas, what’s our economic salvation? What major reforms will reverse our sinking fortunes?

If we become serious and focused, then the answers are quite straightforward. In fact, look at Michigan’s Latin insignia: Si Quaeris Peninsulam Amoenam Circumspicei.e. just look around us.

From my studies and observations over the past 40 years, the most outstanding features of preeminent growth states are as follows:

First: of the three major state taxes — personal income tax, corporate income tax and sales tax — the states that have consistently eaten Michigan’s lunch are those with only one or two such taxes, not all three. Not only are Michigan’s taxes above the U.S. average in their burden on our diminished tax base, relative to income levels, but also, they’ve been on the upsurge on all fronts in recent years, with more onerous taxes and regulations being proposed.

Are you aware that during the 1990s the 10 states with the highest tax burden had: economic growth only half the rate of the 10 states with the lowest tax burden; personal income growth of 25 percent versus 40 percent for states with the lowest tax burden; and job growth of 13 percent versus 28 percent for those states with the lowest tax burden. A study done by the nonpartisan Tax Foundation in Washington, D.C., found that eight of the top 10 inbound states for household movement had lower tax burdens than Michigan.

And yes, fees are taxes, pushing up effective tax dates is tantamount to a tax increase, higher home transfer levies are taxes and sin-tax hikes also raise taxes.

So, if we are to stanch Michigan’s economic bleeding, the priority is to remove the personal income tax as quickly as possible.

The second reform required is this: make Michigan a "right-to-work state," just as soon as humanly possible. Why? Economic growth in right-to-work states has so convincingly and consistently eclipsed the average growth of non-right-to-work states that it makes the whole argument for more workplace flexibility a non-controversial subject.

The seven states enjoying the greatest net in-migration of people from other states all have right-to-work laws. Not one state of the seven states suffering the worst out-migration has such a law!

The laws of economics are everywhere and are at all times the same, ubiquitous and as immutable as the law of gravity. Defy the laws of economics, and you eventually pay the consequences.

Twenty-first century global imperatives are for better, faster, cheaper and more resource mobility.

Michigan remains entirely too complacent judging from its lack of effort at real business climate reform or remediation. We’ve become careless, unfocused, and socialist in our taxes and regulations.

Happily for my mental health, I’ve associated with four dozen inspiring think tanks over the past 30 years; organizations that have contributed volumes of highly respected, peer-reviewed research and empirical studies documenting the efficacy of policy improvements in the fields of health care, education, environment, the economy, pensions, prison systems, energy, transportation and labor markets.

As with most problems afflicting the human condition, when the pain gets bad enough, and the population gets angry enough, legislators will find the lesser threat is turning to the constructive alternatives that have been proposed by these professional, reform-minded, non-profit organizations. Michigan’s Mackinac Center for Public Policy in Midland should be their first resort!

I must tell you that from my perspective, however, Detroit and Michigan have not reached that pain threshold as of this juncture. There are two mindsets that keep us from enacting real reform:

1) We blame our economic plight on China, India, Japan, Enron or oil-price "gouging." Where’s the finger pointing at our obscene tax and regulatory climate? Or our antiquated and uncompetitive labor laws? Or our unaffordable public sector pension and health care compensations, including the public education sector? Michigan’s chief competitors today include most southern and some western states, even before we look at China, India and Korea over the balance of this decade and beyond.

2) We have this perpetual fiscal insanity of wanting to raise more tax revenue to enable state and local governments to toss more scarce resources into areas of their special interests — rather than empowering all citizens and firms or improving statewide incentives for attracting capital and workers

Only through downsized, more effective government that is fiscally prudent and focuses on the priorities of government service — protecting the lives and property of its citizens — will there be resources left over to promote the generalized incentives necessary to compete in a global economy.

Perhaps I’m alone in my forecast of continued decline for Michigan and most of its counties for the foreseeable future.

Yes, the U.S. has passed the maximum dynamic expansion portion of this business cycle. Just how much longer do we think Michigan’s auto or housing industry can expect interest rates to remain at these remarkably low levels? How much longer do we think Michigan’s auto and manufacturing-based economy — as currently constituted — can withstand the income- and psychologically-debilitating effects of $2-3 per gallon gasoline and related oil and gas expenses in the industrial processes?

Might we have expected by this late date that labor contracts expiring in 2007 would already have been urgently revisited and repaired when it comes to legacy costs, defined- benefit pensions and health care costs that weigh so heavily on our competitive posture? But no, the governor and GM call for socialized medicine instead.

Past governors, candidates and legislators kick our most promising industries and job creators in the face — think of what they’ve done over the past five years to the highest tech firms and those employers best positioned to meet the demographic and environmental exigencies of our day. Remember what they’ve done to our pharmaceutical, oil and gas, and land fill/recycling firms.

The good news is that the U.S. economy still has a reasonably good head of steam. More than ever before, technology, capital and even labor are mobile and fungible. Investment capital goes where it’s invited and stays where it’s welcome.

Motivation counts a lot. China and India rush to get where we were 50 years ago. Complacency is a killer.

Let me conclude on a positive note.

Sure, Michigan’s economy has been especially challenged by the industrializing nations of the world. What’s new about that? When challenged, we need to be more, not less, fleet-footed in our adaptability. That includes government policy no less than labor and management.

Today, the way to differentiate our competitiveness from that of other cities and states is to provide the best business and living climate in the land — not to this or that special industry or interest group, but to anyone and everyone who wants to compete here.

And that’s the good news for our future. Given our infrastructure, our lake and water properties, and the falling prices for land and labor resources, the potential for dramatic turnaround in our fortunes are impressive, if our policies signal a new wave of economic incentives to keep businesses here and attract others.

Today, more than ever, the marketplace is not blind and it is not deaf. Entrepreneurs and workers know keenly and very rapidly where their labor and capital will be treated best. When Michigan and Detroit figure this out, our economic prospects will indeed change for the better.

Thanks for the invitation and your attention.


David L. Littmann, a retired senior vice president and chief economist of Comerica Bank, is senior economist at the Mackinac Center for Public Policy, a research and educational institute headquartered in Midland, Mich. Permission to reprint in whole or in part is hereby granted, provided that the author and the Center are properly cited.