The Commonwealth of Kentucky: an Economic History and Prosperity Agenda
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July 13, 2021 103 Murphy Court Nashville, TN 37203 Ph. (615) 460-0100 Fx. (615) 460-0097 THE COMMONWEALTH OF KENTUCKY: AN ECONOMIC HISTORY AND PROSPERITY AGENDA Arthur B. Laffer, Ph.D. With John B. Burke and Nicholas C. Drinkwater July 2021 1827 Map of the Commonwealth of Kentucky Anthony Finley, A New General Altas, Philadelphia, 1827. 1 Kentucky Constitution Section 228 Oath of officers and attorneys. Members of the General Assembly and all officers, before they enter upon the execution of the duties of their respective offices, and all members of the bar, before they enter upon the practice of their profession, shall take the following oath or affirmation: I do solemnly swear (or affirm, as the case may be) that I will support the Constitution of the United States and the Constitution of this Commonwealth, and be faithful and true to the Commonwealth of Kentucky so long as I continue a citizen thereof, and that I will faithfully execute, to the best of my ability, the office of .... according to law; and I do further solemnly swear (or affirm) that since the adoption of the present Constitution, I, being a citizen of this State, have not fought a duel with deadly weapons within this State nor out of it, nor have I sent or accepted a challenge to fight a duel with deadly weapons, nor have I acted as second in carrying a challenge, nor aided or assisted any person thus offending, so help me God. Text as Ratified on: August 3, 1891, and revised September 28, 1891. History: Not yet amended. 2 The research involved in documenting Kentucky’s rich economic history was an enormous task and one I’m quite certain time would have proven to be impossible in the absence of contributions made by several dear friends and proud Kentuckians. Words cannot begin to express my sincere gratitude for the valuable time, counsel, and research materials offered in the course of preparing this work. In this spirit, I wish to thank Bill Samuels, Jr., David A. Jones, Terry Forcht, Joe Craft III, and Mac Brown. This work also benefited from the expertise of the following individuals: Mark F. Sommer, John Chilton, and Greg Harkenrider. Though each was exceedingly generous in sharing his wealth of research materials, knowledge, and perhaps more importantly, took the time to offer helpful criticisms, it must be stated that the conclusions reached in this report are solely those of its author. 3 The Commonwealth of Kentucky: An Economic History and Prosperity Agenda Table of Contents Chapter Page 1. Letter to Bill Samuels: The State of Kentucky’s Economy 5 2. Primum Primorum: A Tax Proposal for Prosperity 13 a. Introduction 14 b. Analysis of State & Local Revenue 19 c. Replacing the Existing Tax Structure 27 d. Appendix 31 3. Kentucky’s Inventory Tax: A Prime Example of a Dysfunctional Tax 42 a. Glossary 43 b. The Inventory Tax 45 c. The Property Tax 58 4. Kentucky’s Pension Crisis: A Path Forward 98 5. The Inheritance Tax 117 6. Right-to-Work 137 7. The Benefits of School Choice 155 8. A Brief History of Political Corruption in Kentucky 166 4 1. LETTER TO BILL SAMUELS: THE STATE OF KENTUCKY’S ECONOMY August 18, 2015 Mr. Bill Samuels Maker's Mark Distillery, Inc. 6200 Dutchman's Lane, Suite 103 Louisville, KY 40205 Dear Bill, If there is a single symbol of Kentucky’s economic malaise, it is the Cincinnati/Northern Kentucky International Airport. I gave a talk in July, 2015 at the Federal Home Loan Bank conference in Cincinnati, and I flew from Nashville to Cincinnati (i.e. Covington, KY) and back again. All I can say is wow. I felt like Jack Nicholson in The Shining. The Covington airport was creepy empty. Maybe one in six or seven gates had a plane, and in the halls there were no people, but the shops were open…which I found out later being open was a requirement in their original contract even though they had virtually no customers and would love to close their shops. The massive train system wasn’t running, either. And I’m hardly alone in my low opinion of the Covington airport: the CEO of Fortune 500 company Veritiv, Mary Laschinger, said, “the airport is not suitable for business travel” shortly before moving the company’s headquarters—and 50 high paying jobs—to Atlanta in 2015.1 According to NPR, the Covington airport ranks among the best in the country, receiving accolades for its “airy and spacious screening area.”2 Apparently, no business is good business to our friends at NPR. This is a slightly longer version of my response to the editorial you sent me a little while ago on how well Kentucky is doing—what with budget surpluses and robust growth (just kidding). Background Kentucky has been in a long secular decline relative to the nation since the mid-1970s and shows no signs of reversal (see Figure 1). My belief is that Kentucky’s economy has been significantly damaged by the fiscal actions of Kentucky’s state and local governments. My belief is based not so much on Kentucky-specific data, but on a lifetime of research on government taxation and spending covering: i.) cross-sections of countries, ii.) time series of a number of individual countries, iii.) specific analysis of individual states, and, iv.) a comprehensive time series / cross- section analysis of all 50 states over the past 70 plus years. To be sure, correlation is not causation. To definitively demonstrate causation we need to show: a.) correlation, b.) isolation, and finally, c.) insertion. The insertion requirement is difficult given the world’s unwillingness to allow experimentation with actual economies. But nonetheless you have my background vis-à-vis Kentucky. 1 Fatima Hussein and Jason Williams, “Fortune 500 boss: CVG reason for leaving,” Cincinnati.com, October 16, 2015. http://www.cincinnati.com/story/money/2015/10/16/fortune-500-boss-cvg-reason-leaving/73605974/ 2 Brian Naylor, “Cincinnati’s Airport: Best In The U.S.?” NPC, September 2, 2013. http://www.npr.org/2013/09/02/217267752/cincinnatis-airport-best-in-the-u-s 5 Figure 1 State Growth3 (1977 – 2014, current dollars) 1800% 1800% 1600% 1600% U.S. Avg. 1400% 1400% 772% 1200% 1200% Kentucky 546% 1000% 1000% 800% 800% 600% 600% 400% 400% change in state GSP over 37 years , 1977 to 2014 to 1977 , years 37 over GSP in state change 200% 200% 0% 0% Nominal percent Nominal IL IA ID HI RI IN MI FL NJ AL WI LA AZ TX VT UT VA TN CT AK KS PA KY NV DE CA SC SD NE AR NY GA NH NC ND OK MT CO OR MA ME MS OH MD NM MN WA WY MO WV U.S. AVG. U.S. States ranked from highest growth to lowest growth over the 1977 to 2014 period Policies There are lots of ways to slice and dice a state’s political / economy and performance data. For example, Kentucky has cut its top corporate income tax rate over the past several years from 9.2% (combined 7.0% state and 2.2% local rates, the 10th highest in the nation) to 8.2% (combined 6.0% state and 2.2% local rates, the 15th highest). That’s moving in the right direction. Kentucky has kept the Federal minimum wage and has reasonable workers compensation costs,4 but is one of 25 states that does not have a right-to-work law. This is becoming more and more important for Kentucky, given that border states Virginia, Tennessee and most recently Indiana have become right-to-work states. Kentucky has always (the past several years at least) had low property taxes, but maintains an eccentric inheritance tax5 (one of 22 states) and has the highest public debt servicing costs to tax receipts ratio in the nation. As of FY 2013, Kentucky’s combined state and local pension liability was $42.04 billion.6 At that time, the state’s pension system held an estimated $18.57 billion in assets; therefore, $23.47 billion of the liability was unfunded. For FY 2013, Kentucky only contributed 67.1% of a recommended payment of $1.35 billion to its pension system. The 3 Source: Bureau of Economic Analysis 4 Dr. Arthur B. Laffer, Jonathan Williams and Stephen Moore, Rich States, Poor States, American Legislative Exchange Council, 2016. https://www.alec.org/publication/rich-states-poor-states/ 5 Kentucky allowed its estate tax to expire on January 1, 2005, but it still levies an inheritance tax. Kentucky’s inheritance tax laws are nearly as byzantine as its income tax laws. Under the inheritance tax there are three classes of beneficiaries: Class A, Class B and Class C. Class A beneficiaries include immediate family members who, as of June 30, 1998, are exempt from inheritance taxes. Class B beneficiaries include extended family members who, after an exemption of $1,000, pay a top rate of 16% on inheritances valued at over $200,000. Class C beneficiaries are those who do not fit into Class A or Class B. They receive an exemption of $500 and pay a top rate of 16% on inheritances valued at over $200,000. http://www.revenue.ky.gov/NR/rdonlyres/3F6FF04D-F7C8-4699-9DA9-FF77C9470835/0/92F101714.pdf 6 “The Fiscal Health of State Pension Plans,” Pew Charitable Trusts, July 31, 2015. http://www.pewtrusts.org/en/multimedia/data-visualizations/2015/the-fiscal-health-of-state-pension-plans#/statecomparison 6 state’s pension system was ranked 49th out of 50 by Pew Charitable Trusts on the basis of its aggregate funding percentage in 2015.7 What strikes me as truly dangerous is that Kentucky has 218 state and local individual and corporate income tax rate jurisdictions.8 Local income taxes are especially dangerous because a city… say Burkesville… can on its own volition raise its income tax, causing damage and revenue loss to the rest of the state income tax regime while successfully raising revenues on its own account.