DO TAX AND EXPENDITURE LIMITATIONS AFFECT THE SIZE AND GROWTH OF STATE GOVERNMENT

I. INTRODUCTION In 1994, voters elected a Republican congress, intent on giving more "fiscal" responsibilities to the states. Voters widely believed that giving states more fiscal responsibility would help control the overall size and growth of government. In the past 25 years, voters attempted to restrict both the size and growth of state and local government primarily by implementing tax and expenditure limitations (TELs). This study addresses the general question, "Do TELs affect the size and growth of state government?" Most TEL laws are not designed to stop public sector growth but are intended to cap it relative to personal income growth. Thus, answering thisquestion requires considering two possible implications of TEL design: (i) TELs will increase the elasticity of government size (and growth) with respect to income and (ii) TELs will constrain states with little or no income growth more than states with high income growth. Analyzing a panel data set on state government budgets (1972-1987), demonstrates four major points: (i) TELs significantly increase the elasticity of government size (and growth) with respect to income; (ii) on average, TELs have not limited either the size or the growth of state government; (iii) TELs do limit government size in states with below average income; and (iv) TELs decrease government growth in states with low income growth and increase government growth in states with high income growth. II. SUMMARY OF TAX AND EXPENDITURE LIMITATION LAWS Most state TEL activity took place between 1978 and 1980. Before 1978, only two states - New Jersey (1976) and Colorado (1977) - had adopted a TEL. Rhode Island is not included since its TEL is non-binding. During the period 1978 to 1980, 12 additional states adopted TELs. This number does not include Nevada and Utah because Nevada's TEL is nonbinding and Utah never implemented its TEL (see table 1 for details). The following years saw very little new TEL activity. Between 1981 and 1987, only five states adopted TELs, bringing the grand total of TEL states to 19. Once adopted, a TEL tended to become a permanent feature of each state's budgetary process. Out of the 19 TEL states, only one state has allowed its TEL to expire - New Jersey in 1983. Fourteen of the 18 state TEL laws used in this study restrict expenditures, while the remaining four restrict revenues. (Data for this study exclude those from Alaska because of the high volatility of its expenditures and revenues, which results from large amounts of oil revenues.) The most prevalent form of restriction is to limit growth of expenditures (or revenues) to growth in personal income - 14 states employ such restrictions. California limits expenditures to growth in population and inflation (as does Alaska). For the remaining three states, Colorado limits expenditures to 7 percent growth, Delaware to 98 percent of estimated general funds plus the previous years' unencumbered funds, and Oklahoma to 12 percent growth (adjusted for inflation). III. LITERATURE REVIEW The question of TEL effectiveness is not new. Neither is the more fundamental and closely related question, "Why does government tend to grow over time?" In fact, numerous economists have investigated the reasons for government's increased role in the lives of private citizens (see Aronson and Ott, 1990, for a review of this literature). However, far less research has concentrated specifically on the impact of TELs on government growth. Those who have investigated the effect of TELs on government budgets include Bails (1982, 1990), Kenyon and Benker (1984), Howard (1989), Joyce and Mullins (1991), and Elder (1992). Bails (1982) conducts a study to determine if TEL laws as currently written would have any significant effect on state budgets and finds that existing TEL laws would not significantly affect the overwhelming majority of the states' budgetary outcomes. Bails' (1990) next study essentially extends his 1982 work and does not change his main conclusion. …