New ideas to better the Old Line State
The Risks of 'Tax Reform' In Maryland
By J. Scott Moody and Wendy P. Warcholik, Ph.D.
Published on Thursday, September 20, 2007
MARYLAND POLICY REPORT
Maryland lawmakers are currently considering how to close a projected $1.5 billion annual budget shortfall. One proposed solution is to broaden the tax base and increase tax rates so as to produce more tax revenue. In particular, there are calls to expand the retail sales tax base to cover certain services that are currently exempt. Before embarking on this course of action, Maryland lawmakers may want to consider some of the negative economic consequences of increasing taxes, which we will discuss in this paper.
First, all taxes by nature have "deadweight losses" - losses to consumers and producers beyond the extracted tax as people respond to the higher relative price of goods. These losses are permanent losses in economic activity. In some instances, deadweight losses are larger than the resulting government revenue, making the tax highly inefficient. For example, one important study found that the estimated deadweight loss from the 1993 federal tax increase was $15.9 billion - nearly twice the tax's resulting government revenue of $8.4 billion. Thus, federal taxpayers incurred a cost of nearly $3 for each dollar transferred to the federal government by the tax increase - a tradeoff of dubious public welfare value. If tax increases are necessary, policymakers should tailor them to minimize deadweight loss.
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