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The Sea of Red Ink : The States look for moorings after being cut adrift by the federal government’s retrenchments. : Is Tax on Snacks Best States Can Do?

<i> Kevin Phillips, the publisher of the American Political Report, is the author of "The Politics of Rich and Poor" (Random House)</i>

The bloody state budget battles taking shape from Boston to Sacramento are take-no-prisoners affairs. Local revenues are hemorrhaging even as needs--and the needy--multiply. But the cowardly lions in governors’ mansions and state legislatures aren’t likely to get away with clobbering education, decimating mental health and reaming Medicaid--and then smiling at their well-heeled contributors and saying the only new taxes needed are on Twinkies, nachos, tires, wine-coolers and telephone calls.

Bolder and fairer revenue measures are inevitable. Gov. Mario M. Cuomo of New York is already in trouble, according to opinion polls, for cutting education and health programs rather than increasing taxes on business and the wealthy; and the growing logjam in state and municipal finance is beginning to shape up as one of America’s biggest challenges of the ‘90s. Experts, like Brookings Institution economic studies director Henry Aaron, worry we may be seeing the worst local budgetary strains since the Great Depression. Times are toughest in the Northeast and California--where revenue implosions are creating 10% to 20% shortfalls between budgeted expenditures and cash coming in. But dozens of states have serious problems.

What most politicians don’t have, however, are serious solutions. Governors who proposed or passed major tax hikes got burned in 1990 elections, so most of the 1991 crowd have left their fiscal lion skins in the locker room. Multibillion-dollar spending cuts are the blueprint, and teachers, school pupils, Medicaid recipients, the mentally ill and welfare families are the designated targets--not the people who made buckets of money during the ‘80s and whose local income tax rates often fell.

True, 25 years of hearing liberals repeat such arguments does constitute grounds for suspicion. Aren’t they still yelling “wolf,” cynics ask.

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Some are. Public employee unions have as big a stake in large government payrolls as corporate raiders have in financial flim-flam. However, the 1980s were a social-services ice bath, in which the minimum wage lost a third of its purchasing power and welfare mothers became ideological lepers. As a result, many “wolf” cries are legitimate, especially in education. Schools are taking a big hit in virtually every state. In Florida, where the powers-that-be don’t want a state income tax, teachers will be laid off wholesale. Even lifestyles-of-the-rich-and-famous Palm Beach County is considering laying off 1,400.

Most of what states face in the 1990s is a twofold problem centered in inadequate resources: Not just the impact of the 1991 recession in gutting local tax receipts, but the lingering effect of the federal-state tax-cut shell game of the 1980s, aggravated by the unwillingness of state officials to confront it.

The shell game worked this way: During the 1980s, Washington cut federal income tax rates, especially for those at the top. Then the pea of rising taxes was quietly switched to the state and municipal walnut shell. Part of the explanation is that Washington transferred and encouraged a wide range of government burdens back to the states. This helped the top federal income tax rate drop from 70% in 1981 to 28% in 1990 and 31% this year. State and local taxes, meanwhile, soared, climbing from 17% of national income to 19% in 1990-91. Last year’s state and local tax receipts totaled $540 billion, exceeding the $493-billion take from federal income taxes.

This brings us to the political nitty-gritty: While the federal income tax is essentially progressive (especially before the 1980s cuts), state and local taxes--on property, sales, tobacco and even income--tend to be regressive, weighing more heavily on low- and middle-income earners. Some states intensified that in the Reagan Era by reducing top income-tax rates while increasing regressive sales and property taxes.

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The limited new taxes governors are proposing for 1991 follow this pattern. Several want to increase the tab on telephone calls; others like taxes on automobile tires, and still others propose higher gasoline levies. Perhaps the ultimate easy evasion--favored, for example, by Wilson, Cuomo and Vermont’s Republican governor, Peter Snelling--is the proposed tax on “snack foods,” such as potato chips, Twinkies and nachos.

Taxes like this are the fiscal equivalent of junk food. The deficits confronting California and New York are in the $6-$10 billion range. State and local taxes require the same massive re-examination and sorting out in the 1990s that federal taxes had during the 1980s--if perhaps with a different philosophy. Some local burdens may have to be shifted back to federal financing. And the odds favor more progressivity in state taxes.

Income taxes will spread. The governors of Connecticut and Tennessee, two of the 10 states still without them, submitted proposals in March. So has the lieutenant governor of Texas--a third no-income-tax state.

Other states are discussing raising existing income taxes. Rhode Island already has. But the acid test will come in big states where either an existing flat-rate income tax is criticized for regressivity or the top rate of a progressive income tax was cut in the mid-1980s and fairness advocates want it raised again.

In New York and California, legislative leaders are proposing top-bracket income-tax increases as the magnitude of the state revenue collapse becomes clearer. California’s Democratic Senate President Pro Tem, David Roberti, suggests hiking the state’s top income tax rate--on individuals making more than $100,000 a year and couples making more than $200,000--to 11% from the current 9.3%, returning to the 1987 level. That, he says, is preferable to deep cuts in education and health programs. New York’s Democratic assembly speaker, Mel Miller, proposed a temporary hike in the top state income-tax bracket from its current 7.865% to 8.66% as an alternative to Cuomo’s cuts and regressive taxes on tires, gasoline, phone calls and snack foods.

Service taxes are another possibility. Recent months, in fact, have seen a spate of new proposals in California, Nevada, Texas, Kansas and Florida. This may seem surprising, because the last two states to establish broad service taxes--Florida and Massachusetts--ultimately repealed them. Yet lawyers, accountants, engineers and advertising people are fighting a losing battle, given how the U.S. economy is shifting toward services.

Although service taxes are less progressive than a graduated state income tax, they are more progressive than gasoline or snack-foods taxes, because a disproportion of the burden would fall on businesses and upper-bracket professionals. That’s one argument used in California, where interest in a broad-based service tax was recently expressed by Democratic Assembly Speaker Willy Brown. Intriguingly, fiscal advisers to the Republican Wilson are also interested.

In Florida, where the first services tax was repealed several years ago, the leading statewide business group just proposed another. In Texas, the chairman of the House Ways and Means Committee has proposed a 1.5% statewide tax on goods and services that would apply to virtually all professional services.

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Most of these proposals will fail. However, given the states’ fiscal crises, new revenue sources are inevitable, and the 1990s could be the decade where state and local fiscal policy comes of age. Moreover, as Albany, Austin, Tallahassee and Sacramento start making hard choices about education, human services, public responsibility, fairness and taxes, Washington may find the same debates unavoidable. How ironic if New Federalism ends up surprising its architects.


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