Spotlight Exclusives

August 3, 2009: How to Win the War on Poverty, By Matthew Ladner, Vice President of Research for the Goldwater Institute

Posted on

Which states succeeded in reducing poverty during the 1990s, and which failed miserably? What can we learn from these successes and failures as the nation struggles to recover from the current financial crisis? In modern politics, many believe that the government plays the role of Robin Hood. Proponents believe that through progressive taxation and spending, government reduces poverty by making everyone pay their fair share.

Many economists, however, argue that low taxes and constrained government spending will lead to higher rates of economic growth. Growth creates greater employment opportunities, which in turn lower the rate of poverty.

In a 2006 study, the Goldwater Institute tested these different theories by examining state poverty rate trends in the 1990s. Nationwide, significant strides were made in reducing both the general and childhood poverty rates during the 1990s. In the mid-1990s, the federal government eliminated the largest welfare program, replacing it with a system of block grants to the states. In essence, the federal government admitted its failure in administering welfare, and looked to the states to serve as “laboratories of reform” in the effort to reduce welfare dependence and poverty. State-by-state results varied, but overall, observers have judged welfare reform to be a success.

Likewise, states also serve as laboratories of reform in economic policy. Some states maintain relatively low levels of taxation and spending, and others have much larger and more ambitious state governments. Empirical evidence indicates these varying policies had real, measurable impacts on state poverty rates. Nationally, poverty fell by 5.3 percent and childhood poverty by 9.4 percent during the 1990s. Some states, however, reduced poverty much more than others. Some states, in fact, suffered large increases in poverty rates during the 1990s.

<?xml:namespace prefix = v ns = “urn:schemas-microsoft-com:vml” />      <?xml:namespace prefix = o ns = “urn:schemas-microsoft-com:office:office” />

For example, Colorado۪s childhood poverty rate dropped by almost 27 percent during the 1990s. Meanwhile, Rhode Island saw its childhood poverty rate increase by almost the same percentage.

Trends in poverty rates are complex phenomena, influenced by literally millions of individual decisions a day, and sometimes by what some might describe as pure luck. What would the poverty rate in Arkansas be today if Sam Walton had built his retail empire in another state? No one can say, but it would certainly be higher than it is today, and it would be lower somewhere else.

Using data from the Census Bureau, the Goldwater Institute found that states with the lowest tax and spending rates enjoyed sizeable decreases in poverty rates during the 1990s. For example, the ten states with the lowest state and local tax burdens saw an average reduction in poverty rates of 13.7 percent, more than twice the national average. The ten highest-tax states, meanwhile, suffered an average increase in poverty rates of three percent.

Many high-tax and high-spending states suffered catastrophic results in poverty trends during the 1990s. California rejected the low-tax legacy of the Reagan governorship during the 1990s and paid a steep price for it. Californians watched their poverty rate increase by 13.6 percent during the 1990s. Some will be quick to explain this as a product of illegal immigration, but low-tax and high-immigration states such as Arizona and Texas experienced substantial declines in poverty during that decade.

If the current decade were to duplicate the performance of the previous decade, the poorest state in 1990, Mississippi, would have a smaller percentage of people in poverty than California and New York by 2010. Fast-growing economies make gains quickly, leaving relatively stagnant economies behind.

George Mason University economist Tyler Cowen has noted that had the United States grown one percentage point less per year between 1870 and 1990, the America of 1990 would be no richer than the Mexico of 1990. Cowen also notes the compound power of economic growth. At five percent growth, it takes about 80 years for a country to move from a per-capita income of $500 to $25,000 in constant dollars. At a growth rate of one percent, such an improvement takes 393 years.

Arizona, California and Colorado Poverty Trends in the 1990s

During the 1990s, Arizona and California embraced different fiscal policies, and in some sense, they switched places. Judged on the poverty statistics alone, Arizona made wise fiscal decisions, while California did not.

In 1990, Arizona had the fifth-highest state and local tax burden in the nation, at 11.6 percent of state income. Almost 16 percent of Arizonans lived below the poverty level, and over 20 percent of Arizona children lived below the poverty line. Both of these figures were well above the national average of 13.1 percent for general poverty rate and 17 percent for childhood poverty. Arizona۪s poverty rate was 25 percent higher than California۪s, and Arizona۪s childhood poverty rate was 18 percent higher than California۪s.

California had a lower tax burden than Arizona in 1990, with the nation۪s 25th highest tax burden. California also had lower rates of poverty. With general poverty at 12.5 percent and childhood poverty at 17.2 percent, California was better off than both the national average and Arizona in 1990.

During the 1990s, however, Arizona and California diverged significantly. Under Governor Fife Symington, Arizona engaged in a series of tax cuts which moved the state down to having the 25th highest tax burden in 2000. California moved up to the 10th highest tax burden in 2000. By 2000, California۪s poverty rate had overtaken Arizona۪s, both because Arizona۪s had declined, and because California۪s had increased.

Arizona should feel complacent by no means, however, as the star performer left it far behind during this period. Colorado experienced the largest combined decline in general and childhood poverty in the nation, despite starting the decade with relatively low poverty levels. Colorado also experienced the second-highest level of per-capita income growth during that decade, only narrowly edged out of the top spot by fellow small-government state South Dakota.

The fiscal policy adopted by Colorado helped make this remarkable amount of progress possible. In 1992, Colorado enacted what was known as a Taxpayer۪s Bill of Rights (TABOR), limiting increases in state government spending to no more than the combined rate of inflation and population growth. Any excess revenue collected was rebated back to Colorado taxpayers. The result is that Colorado taxpayers have received $3.2 billion in tax rebates since 1997, an average of $900 per taxpayer.

Ironically, during the 1992 campaign, thenColorado Governor Roy Romer bitterly denounced the TABOR proposal, saying that defeating TABOR at the ballot box was the “moral equivalent of defeating the Nazis at the Battle of the Bulge.” Governor Romer predicted that TABOR would bring about an economic meltdown, warning that the Colorado border would have to be posted with signs reading “Colorado is closed for business.”

Despite those predictions, Colorado’s economy has been exceptionally strong. Between 1995 and 2000, Colorado ranked first among all states in gross state product growth and second in personal income growth. Although the system has been strong, it has not been perfect. In 2005, Colorado voters narrowly voted to temporarily suspend TABOR after an early-decade general economic downturn and the aftereffects of 9/11 forced cuts in state government spending, which resulted in lower baselines for subsequent years. This is a design feature that need not be replicated in other states.

The trends in poverty rates also defied negative predictions, as seen in Figure 2 below.

Conclusion: The Moral Case for Small Government

We cannot know all the reasons that high-tax/spending states proved inept at reducing poverty during the 1990s, but the failure of many government programs to reduce poverty should fill policymakers with a sense of humility. The causes of poverty have proven to be complex, and the ability of government programs to impact them limited.

Despite the difficulty of poverty alleviation by government agencies, economic growth has proven to be an effective tonic. Private sector growth possesses much greater power in the fight against poverty than government programs.

Although advocates justify high taxes based upon the poor and children, the truth of the matter is that taking money out of the private sector slows job creation and income growth. This causes the economy to create fewer jobs, meaning less need for labor, both skilled and unskilled. Ultimately, it will be the most vulnerable hurt by this, those looking for the first rung on the economic ladder. The best anti-poverty program is a four letter word: jobs. Taxes and regulation destroy them.

The Robin Hood mythology of state as anti-poverty crusader requires serious reexamination. Economists term the pursuit of government subsidy, whether through direct government appropriation or through the tax code, as “rent seeking.” Rent seeking represents an alternative way to seek riches. Justifying a subsidy to a handful of politicians, rather than producing something for which people will voluntarily hand over their money, can grant enormous fortunes.

Accordingly, we should not be surprised that the poor suffered in high-spending states. Wealthy interests possess enormous advantages over the poor in the process of rent seeking. The poor vote, participate in civic organizations, make campaign contributions and hire lobbyists at relatively low rates. The wealthy pursue all of these activities at much higher rates. Progressives implicitly assume that government spending will help the poor, as if fiscal policy were set by a non-political board of altruists.

The reality is quite different. Politicians set fiscal policy in an entirely political context. Rather than a Federal Reserve board peopled by Mother Theresalike individuals, politicians in competitive democratic races make decisions about state taxing and spending. High-tax and high-spending states dole out a great deal of “rent,” but we shouldn۪t be shocked to find that it is the powerful, rather than the powerless, benefiting.

Those interested in reducing poverty should seek to emulate Colorado۪s, rather than California۪s, example. We should reduce taxes, reduce spending and limit the growth of spending in the future. A Taxpayer Bill or Rights, limiting the increase in state spending to a combination of the inflation and population growth rates and returning surplus amounts to the taxpayers, is an excellent way to increase income growth and thus reduce poverty.

Beyond limiting future mistakes, however, state policymakers should reexamine past decisions. Justifications for subsidy are legion and laden with sophistry, but they are bad for the economy and hurt the poor.

As the nation struggles through the most severe economic downturn since the Depression, we would do well to judge the actual records of states in reducing poverty, and judge them by their results. The myth of the Robin Hood state should be viewed precisely as that: a myth. Generally, when the state gets richer, the people get poorer.

Matthew Ladner is Vice President for Research at the Goldwater Institute

« Back to Spotlight Exclusives