Articles and Updates

What Will It Cost If Arizona Voters Reject the One-Cent Sales Tax Hike On May 18, 2010?

March 30, 2010

By Alberta H. Charney, Ph.D.

Arizona voters will be asked to approve a temporary one-cent increase in sales taxes on May 18, 2010. This increase will raise nearly 1 billion of the 3 billion dollar budget gap projected for fiscal year 2010-11. What if voters reject this referendum? How will this impact Arizona's economy?

The answer is a two-sided coin. According to estimates from the Governor’s office, the tax will raise $918 million annually, thereby draining that same amount from private-sector spending. But those dollars don’t disappear. Government doesn’t bury (or burn or flush) the proceeds – it spends those dollars and thereby pumps money right back into the economy. That spending by the public sector adds to aggregate demand just as private sector spending does. So what’s the value of public spending – and how does it compare in magnitude?

Using a model that tracks the flow of dollars through the economy as they are spent and re-spent many times over, we find that the cost of increasing the sales tax by 1-cent, as measured by lost jobs, is less than 7,400i.

If the measure fails, the Governor has proposed some $867.5 million in spending cuts. Those cuts will trigger a loss of federal matching dollars totaling an additional $442.5 million. After careful analysis of detailed agency budgets that show how dollars are spent, we find that the proposed cuts will cost 20,500 jobsii.

Approving the sales tax increase will save over 13,000 jobs!

Why the big difference, you may ask? Obviously, the loss in federal matching dollars substantially contributes to the finding that job losses are larger with expenditure cuts than with a sales tax increase. But even without the federal matching money, expenditure cuts reduce jobs substantially more than comparably sized tax increases. There are three major reasons why a cut in government expenditures result in a larger economic impact than an increase in the sales tax rate.

First, the government is a service provider and, generally, services employ more persons per $1 million of expenditures than do non-services providers. Consequently, a larger portion of government expenditures is paid as labor income than most sectors of the economy. Sometimes the state government provides services directly, such as parts of higher education, sometimes the state government subsidizes other government entities to provide the services, such as K-12 education, and often the state government contracts with private entities to provide services, such as health care, day care, and social service providers.

Second, from the taxation side, a portion of the sales tax is paid by out-of-state visitors, so only slightly under 90 percent of the tax is paid by Arizona residents.

Third, the sales tax is imposed primarily on the sale of tangible goods, rather than services. Very few of the good purchased by Arizona consumers are produced in Arizona. For most sales, only the retail margin (the difference between final sale price and the wholesale cost of the item) is retained in the state. Retail margins can be as low as 27 percent of the total sales price for purchases made at general merchandise stores.

For a detailed description of the economic impact analysis reported in this article, please refer to the following two studies:

Sales Tax Increase vs. Expenditure Cuts: An Economic Impact Study. Alberta H. Charney, Ph.D., March, 19, 2010.

Comparison of UA, REMI, and STAMP Simulations of Tax/Spending Increases. Alberta H. Charney, Ph.D., March, 30, 2010.