The extraordinary behind-the-scenes budget negotiations between the governor and legislative leaders have come down to three utmost issues — Medicaid, education, and taxes — or so Democratic Gov. Roy Cooper indicated at mid-week as he sent his latest offer to Republican House Speaker Tim Moore and Senate leader Phil Berger. For the future of North Carolina public schools, budget provisions on education and taxes are not separate issues, but rather crucially linked.
Since the major tax-cut package of 2013, the Republican-majority legislature has slashed both corporate and individual income tax rates. It replaced the long-standing graduated income tax with a one-rate “flat” tax. It also dropped the state corporate income tax rate to the lowest in the nation. Even with offsetting increases in sales taxes, state fiscal analysts have calculated that the tax cuts of 2013 and subsequent shifts reduced annual revenue by $4.2 billion.
Now, House and Senate budgets would further cut taxes on both individuals and businesses, with a phasing out of the corporate income tax in play — with potential revenue reduction of $2 billion annually. If adopted, such revenue erosion would live on through the decade when North Carolina also faces a daunting agenda in an era requiring higher academic achievement and more people educated beyond high school.
As the National Conference of State Legislatures has pointed out, North Carolina is not alone among states in emerging from the pandemic downturn with surprising revenue availability in addition to the flow of federal relief funding. NCSL observed that “tax relief has been the primary focus of state legislatures in 2021,” but cautioned that “it is possible that an unexpected economic downturn in the future could put tax cutting states in a more vulnerable position.”
Apparently little concerned about future vulnerability, Republican tax-cut proponents contend that low taxes and relaxed regulations remain key to North Carolina’s business-friendly reputation. They attribute the state’s recovery from the Great Recession in large part to their tax reductions since 2013.
Do tax cuts, in particular those favoring the affluent, as did the North Carolina legislation overall, stimulate economic growth? The question has been the subject of decades of research, with conservative analysts mostly finding that tax cuts pay off and liberal researchers saying they do not.
A recent research paper from the London School of Economics and Political Science has gotten attention in the U.S. and Europe as a substantial effort to address the do-tax-cuts-pay-off question. The paper examined major tax cuts over 50 years in 18 countries, mostly European, but including the United States. The findings challenge the argument that sweeping tax cuts for the wealthy surely lead to economic expansion.
“We find that major reforms reducing taxes on the rich lead to higher income inequality as measured by the top 1% share of pre-tax national income,” says the London School paper. “In contrast, such reforms do not have any significant effect on economic growth and unemployment… The results also show that economic performance, as measured by real GDP per capita and the unemployment rate, is not significantly affected by major tax cuts for the rich.”
An analysis of the 2017 federal tax cuts by the Dallas Federal Reserve Bank found that they stimulated GDP growth in 2018, but the impact would diminish in 2019 and 2020.
“Most economists would agree that reducing taxes on labor and capital income is likely to increase economic activity,” says the Dallas Fed’s analysis. “However, views on the magnitude, duration and even the broad underlying mechanisms vary widely. The simple reason is that measuring the effects of tax changes on the national economy is not easy.”
Nor is it easy to measure the effects of state tax changes, when so many factors, including national conditions, influence the ups and downs in North Carolina’s economy. Meanwhile, as the Hechinger Report, a national education online publication, observed this week, the federal government may be poised to assume a stronger role in public education funding and policy.
Under the American Rescue Plan enacted in March, Congress appropriated $122 billion for K-12 schools. The “framework” that President Biden announced Thursday includes $400 billion for child care and universal pre-K, and $40 billion for higher education and workforce training. U.S. Education Secretary Miguel Cardona has called on Congress to approve an additional $103 billion for K-12 schools.
“Should it be approved,” says the Hechinger Report, “the federal school funding he’s proposing could become a steady stream that’s nearly impossible to take back, meaning a huge change in federal control over local schools.”
Another way to look at what may evolve: As North Carolina’s tax base erodes, its public schools may become more dependent on federal financial support to meet its obligations to propel young people through early childhood settings, K-12 schools, community colleges, and universities.