REVIEW ARTIKEL 1,2 Dan 3-Digabungkan PDF

REVIEW ARTIKEL 1
1. Judul dan Tahun

A. Judul
The Relationship Between Taxes and Growth At The State Level : New Evidence
B. Tahun
2015
2. Variabel Yang Diteliti

Dalam penelitian tersebut, penulis artikel meneliti 3 variabel independent,
yaitu pengaruh pajak pada ekonomi, pengaruh pajak pada sosial dan pengaruh pajak
pada politik terhadap variabel dependent, pertumbuhan ekonomi.
3. Metode Penelitian dan Alat Analisisnya

Dalam penelitian tersebut, penulis artikel menggunakan metode identifikasi
pajak dengan penyusunan angka GSP (Generalized System of Preferences). Alat
analisis yang digunakan adalah perhitungan penerimaan pajak negara.
4. Hipotesis
Dalam penelitian tersebut, penulis artikel tidak secara rinci menerangkan
hipotesis yang dia tetapkan. Namun dalam analisa kami, hipotesis utama dari
penelitian tersebut adalah pajak yang berpengaruh terhadap pertumbuhan ekonomi
negara.
5. Hasil
Dalam penelitian tersebut, penulis artikel mendapatkan hasil bahwa
pemotongan tarif pajak pendapatan negara bagian teratas akan secara otomatis atau
harus menghasilkan dampak yang signifikan, atau dampak apa pun, pada
pertumbuhan ekonomi negara. Penelitian ini juga menemuka beberapa bukti bahwa
pendapatan pajak properti berkorelasi dengan pertumbuhan ekonomi negara yang
dipengaruhi oleh kondisi ekonomi, sosial dan politik. Penelitian tersebut juga
menemukan hasil bahwa tarif pajak marjinal secara umum tidak berdampak pada
lapangan kerja dan secara statistik signifikan tetapi memiliki pengaruh kecil secara
ekonomi pada tingkat pembentukan perusahaan, sehingga ukuran tarif pajak marjinal
tidak mempengaruhi hasil penerimaan pajak dan bahwa tarif pajak marjinal umumnya
tidak dimasukkan ke dalam persamaan pertumbuhan.
REVIEW ARTIKEL 2
1. Judul dan Tahun
A. Judul
The Relationship Between Taxes and Growth at the State Leve l: New
Evidence
B. Tahun
2015

yaitu pengaruh pajak pada ekonomi, pengaruh pajak pada sosial dan pengaruh pajak
pada politik terhadap variabel dependent, pertumbuhan ekonomi.

Dalam penelitian tersebut, penulis artikel menggunakan metode identifikasi
pajak dengan penyusunan angka GSP (Generalized System of Preferences). Alat
analisis yang digunakan adalah perhitungan penerimaan pajak dengan rumus sebagai
berikut :
4. Hipotesis
penelitian tersebut adalah pajak yang berpengaruh terhadap pertumbuhan ekonomi
negara.
5. Hasil
Dalam penelitian tersebut, penulis artikel mendapatkan hasil bahwa
pemotongan tarif pajak pendapatan negara bagian teratas akan secara otomatis atau
harus menghasilkan dampak yang signifikan, atau dampak apa pun, pada
pertumbuhan ekonomi negara. Penelitian ini juga menemuka beberapa bukti bahwa
pendapatan pajak properti berkorelasi dengan pertumbuhan ekonomi negara yang
dipengaruhi oleh kondisi ekonomi, sosial dan politik. Penelitian tersebut juga
menemukan hasil bahwa tarif pajak marjinal secara umum tidak berdampak pada
lapangan kerja dan secara statistik signifikan tetapi memiliki pengaruh kecil secara
ekonomi pada tingkat pembentukan perusahaan, sehingga ukuran tarif pajak marjinal
tidak mempengaruhi hasil penerimaan pajak dan bahwa tarif pajak marjinal umumnya
tidak dimasukkan ke dalam persamaan pertumbuhan.
REVIEW ARTIKEL 3
1. Judul dan Tahun
A. Judul
The Effect of State Income Taxation On Per Capita Income Growth
B. Tahun
2004

yaitu variabel independen pertama adalah perubahan antara tarif pajak pendapatan
marjinal tertinggi negara tetangga dari 1960 hingga 1990, variabel independen kedua
adalah perbedaan antara tarif pajak pendapatan marjinal tertinggi negara tetangga dari
1960 hingga 1990. Variabel dependen penelitian tersebut adalah pendapatan per
kapita negara.

Dalam penelitian tersebut, penulis artikel menggunakan metode
membandingkan kabupaten yang berbatasan dengan negara bagian dengan kabupaten
yang berbatasan dengan negara bagian yang berdekatan. Alat analisis yang digunakan
adalah analisis cross-sectional sederhana dari kabupaten perbatasan.
4. Hipotesis
penelitian tersebut pajak penghasilan negara berpengaruh terhadap pendapatan per
kapita negara.
5. Hasil
Dalam penelitian tersebut, penulis artikel mendapatkan hasil bahwa pajak
penghasilan negara berpengaruh negatif terhadap pertumbuhan pendapatan sangat
sesuai dengan teori perpajakan. Setiap pajak menciptakan disinsentif untuk aktivitas
yang dikenakan pajak, sehingga pajak pendapatan jelas menciptakan disinsentif untuk
memperoleh pendapatan kena pajak. Namun, mengingat tingkat pengeluaran negara,
orang mungkin berpendapat bahwa beban berlebih dari basis pajak lain sama besarnya
dan bahwa basis pajak yang lebih luas yang mencakup pajak penghasilan mungkin
memiliki total beban berlebih yang lebih rendah daripada basis pajak sempit yang
tidak termasuk pajak pendapatan. Lebih jauh lagi, karena pajak negara bagian kecil
dibandingkan dengan pajak federal, dan karena kebijakan federal menciptakan begitu
banyak keseragaman di antara negara bagian, kebijakan pajak negara bagian itu
sendiri mungkin tidak memiliki efek terukur pada kinerja ekonomi negara bagian.
PUBLIC
Holcombe,
10.1177/1091142104264303
FINANCE Lacombe
ARTICLE REVIEW/ EFFECT OF STATE INCOME TAXATION
THE EFFECT OF STATE INCOME TAXATION

ON PER CAPITA INCOME GROWTH
RANDALL G. HOLCOMBE
Florida State University
DONALD J. LACOMBE
Ohio University
This study examines the impact of changes in marginal state income tax rates on per ca-
pita income by comparing income growth in counties on state borders with income
growth in adjacent counties across the state border. Compared to a standard cross-sec-
tional analysis, this border-matching technique is a better way to hold constant many fac-
tors that can vary for geographical reasons, such as climate, culture, and proximity to
markets. The results show that over the 30-year period from 1960 to 1990, states that
raised their income tax rates more than their neighbors had slower income growth and,
on average, a 3.4% reduction in per capita income.
Keywords: state income taxation; per capita income; income growth; state tax poli-
cies; state borders
As state governments grew during the 1960s and 1970s, many

states instituted income taxation for the first time. In 1960, state and
local government expenditures were 10.1% of gross domestic product
(GDP), and by 1976, they had grown to 14.5% of GDP. During that pe-
riod, 10 states adopted personal income taxes. Since then, only 1 state
has adopted state income taxation, but it has been considered in other
states and remains a controversial issue in states that do not have an in-
come tax.1 After Connecticut adopted its personal income tax in 1991
despite much dissention, Texas passed a constitutional amendment
prohibiting personal income taxation. Florida also has a constitutional
prohibition, and in Tennessee, which does not, the legislature has reg-
AUTHORS’NOTE: The authors gratefully acknowledge helpful comments from Bruce Benson,
Thomas Zuehlke, and an anonymous reviewer for this journal. Partial funding for this study came
from the DeVoe Moore Center at Florida State University.
PUBLIC FINANCE REVIEW, Vol. 32 No. 3, May 2004 292-312
DOI: 10.1177/1091142104264303
© 2004 Sage Publications
292
Holcombe, Lacombe / EFFECT OF STATE INCOME TAXATION 293
ularly considered adopting income taxation amid much controversy.

Many arguments can be given on both sides of the issue, and one argu-
ment often given by opponents of state income taxation is that it has an
adverse impact on state income growth. This article presents empiri-
cal evidence to suggest that state income taxes do, indeed, slow the
growth of state income.
The conclusion that state income taxes negatively affect income
growth closely conforms with tax theory. Any tax creates a disincen-
tive to the taxed activity, so an income tax clearly creates a disincen-
tive to earning taxable income. However, given state spending levels,
one might argue that the excess burden of other tax bases is equally
large and that a broader tax base that includes income taxation may
have a lower total excess burden than a narrow tax base that excludes
income taxation. Furthermore, because state taxes are small compared
to federal taxes, and because federal policy creates so much unifor-
mity among states, state tax policies by themselves may not have any
measurable effect on state economic performance. On the other side
of the argument, because any state income tax is added to federal
taxes, the marginal impact of state income taxes may be greater
(Browning 1976), and when two governments tax the same tax base,
the combined tax rate tends to be inefficiently high (Sobel 1997). De-
spite the clear theoretical argument that income taxation should have a
negative impact on income, there is good reason to investigate the
magnitude of the effect.
The next section discusses some of the empirical literature on the
subject. This study adds to that empirical literature by examining the
impact of state income taxes on counties along state borders. There
may be many reasons why income varies from state to state, including
reasons that are related to geography. For example, since the wide-
spread use of air conditioning, one might expect incomes to have risen
faster in southern states such as Texas and Florida, which do not have
income taxes. To control for geographically related effects, this study
employs a border county technique that compares counties on state
borders directly with the counties they are adjacent to across the state
border. Thus, for example, counties in Texas are paired with and com-
pared to adjacent counties in Oklahoma and Louisiana to look for in-
come differences. This technique is a way of holding constant factors
294 PUBLIC FINANCE REVIEW
that may vary from one geographic region to another without using
dummy variables, variables for climate, distance to markets, culture,
or other factors that can affect cross-sectional studies in which obser-
vations may have geographically related differences. This border
county technique provides evidence that state income taxes have a
negative effect on state income growth.
THE LITERATURE ON THE

EFFECT OF INCOME TAXES
Most previous studies on the effect of state taxes on income and
growth have examined the effect of tax levels in general, rather than
specifically looking at income taxes, and most but not all of the studies
suggest that taxes have a negative effect on various measures of eco-
nomic performance.2 Although the typical study in this literature
looks at average overall tax burdens, several studies do examine in-
come taxes specifically. Romans and Subrahmanyam (1979) found
that the level of income taxes did not appear to affect income growth,
but the degree of progression did, with more progressive tax systems
resulting in lower growth. In contrast, after controlling for other fac-
tors, Dye (1980) found that income taxes had no impact on economic
growth rates. Mullen and Williams (1994) looked at the impact of the
marginal state income tax rate and found that it has a negative impact
on state income. Besci (1996) also found a negative impact associated
with higher income tax rates. Dye and Feiock (1995) looked specifi-
cally at the impact of adopting state income taxes and found that after
controlling for other factors, the use of income taxes by itself has a
negative impact on state economic performance. As a whole, past
studies seem to find weak or no effects to average tax levels on income
but find that higher marginal income tax rates negatively affect in-
come. This is consistent with the idea that economic effects occur
because people adjust at the margin to the prices they face.
One problem with all cross-sectional studies examining the effect
of taxes on state economic performance is that it may be difficult to
control for geographically related differences among states. Regional
dummy variables or variables reflecting differences in climate (aver-
age temperature, rainfall, etc.) are sometimes used, but only imper-
fectly, to capture geographic differences. The approach used in this

study compares counties on state borders with the counties they bor-
der in adjacent states. A similar methodology was used by Holmes
(1998) to examine the effect of right-to-work laws on manufacturing
employment, but this study advances on Holmes’s methodology by
directly comparing each border county only with its neighbors.
Other researchers have used various matching ideas to determine
the effects of state policy. For example, Card and Krueger (1994) em-
pirically investigated the impact of minimum wage laws by compar-
ing its effects on similar restaurants in New Jersey and eastern Penn-
sylvania. Fox (1986, 387) found that increases in the state and local
sales tax rate reduced the level of retail activity in two of the three met-
ropolitan areas he studied. Isserman and Rephann (1995) compared
counties within Appalachia with a “twin” county outside Appalachia
and determined that between 1969 and 1991, the counties of Appala-
chia grew faster than their control group “twins.” Bronars and Lott
(1998) examined the effect of concealed-weapons laws and con-
cluded that allowing people to carry concealed handguns deters crimi-
nals. Although those studies typically look at one or a few local areas
and compare them with areas that are otherwise similar (Bronars and
Lott’s study is an exception), this study looks at every border county in
the contiguous 48 states and compares them directly with the county
or counties they touch in adjacent states. This minimizes any differ-
ences caused by geography and allows a much cleaner comparison of
differences in state policies. Thus, this study not only contributes in-
formation about the impact of state income taxes on income but also
demonstrates a methodology that can be applied to other state policy
issues.
THE MATCHING TECHNIQUE
The rationale for comparing border counties in one state with adja-
cent counties across the state border is that the technique holds con-
stant many geographic factors that could affect income. Because the
counties are physically adjacent, they should share the same climate
and culture, be similar distances to major markets, and be similar in
other ways that may vary geographically. Plaut and Pluta (1983) note
that climate and environmental factors may play a role in state indus-
trial growth by affecting the cost of doing business or by attracting a
more productive labor force. Comparing adjacent counties across
state borders adjusts for factors that sometimes are accounted for by
regional dummies, variables for average temperatures, distances from
markets, and so forth. Because the matching technique controls for
these types of differences, any differences between adjacent counties
in different states are more likely to be the result of state government
policies. Holmes (1998, 668), in his study of the effects of right-to-
work laws on manufacturing activity, makes a similar argument con-
cerning the effects of state characteristics unrelated to policy by not-
ing, “If state policies are an important determinant of the location of
manufacturing, one should find an abrupt change in manufacturing
activity when one crosses a border at which policy changes, because
state characteristics unrelated to policy are the same on both sides of
the border.”
This study makes a more direct comparison of border counties than
Holmes (1998) because observations for a county are expressed as a
fraction of that same variable in the adjacent county or counties across
the state border. For example, to calculate the income growth variable
for a county, Mi, using this matching technique, that county’s growth
in income is calculated; then the county’s income growth is used as the
numerator in a fraction, and the denominator is the average for that
same variable in adjacent counties in the other state, following the
formula
countyi
Mi = n
,
1
n
∑ county j
j =1
where countyi is the value of per capita income growth on one side of
the policy border, and countyj is the value of per capita income growth
in the contiguous county or counties on the other side of the policy
border.3 Observations calculated in this way will be referred to as
matched values. The formula calculates the matched value for per ca-
pita income growth as the per capita income growth in a county, ex-
pressed as a percentage of the per capita income growth in the adjacent
county or counties in the bordering state. Matched income growth,

calculated this way, is a county’s income growth, expressed as a frac-
tion of the income growth in the adjacent county or counties across the
state border.
To get a better idea of how the matching process works, consider
the calculation of Mi for Columbus County, North Carolina, which
borders Horry County, South Carolina. Columbus County’s per capita
income grew by 965.0% from 1960 to 1990, compared to a 1,180.7%
growth in income for neighboring Horry County.4 The matched value
for Columbus County is 965/1180.7 = .8174. Horry County borders
not only Columbus County, North Carolina, but also Brunswick
County, North Carolina, which had a per capita income growth of
1,381.3%. The matched value for income growth for Horry County is
1180.7/((1/2)(965 + 1381.3) = 1.0064. Brunswick County borders
only Horry County, so its matched value for income growth is 1381.3/
1180.7 = 1.1700.
One can see from the formula that the values of the matched de-
pendent variables will be close to 1 and will be greater than 1 for coun-
ties that grew more than their neighbors across the state border and
less than 1 for counties that grew less. Brunswick County, which had
greater per capita income growth than the border county across the
state line, has a matched value for per capita income growth of 1.17.
Horry County grew about as fast as the average of the two counties it
borders, so it has a matched value of per capita income growth of
1.0064—almost exactly 1. Columbus County grew more slowly than
its neighboring county across the state border and has a value of .8174.
All counties have a mean for matched income growth of 1.023, with a
standard deviation of 0.207.
Two different measures of income growth from 1960 to 1990 are
used as dependent variables in the regression models that follow. In-
come growth is measured as the percentage growth in income from
1960 to 1990 in some regressions and as the dollar growth in income
in others. Results are similar, regardless of which measure of income
growth is used. In total, there are 1,129 counties on state borders in the
United States. Some counties border two states (e.g., Houston County,
Alabama, which borders Florida and Georgia), and those counties are
TABLE 1: Descriptive Statistics for Data Used in Regressions
Standard
Mean Maximum Minimum Deviation
Matched variables (used in Table 2)

Per capita income growth
1960 to 1990: County match 1.023 2.254 0.414 0.207
Per capita income difference
1960 to 1990: County match 1.020 3.438 0.317 0.209
Highest state marginal tax rate
difference –0.050 13.250 –13.250 3.878
Average tax rate difference –3.67E-05 0.039 –0.039 0.014
State and local per capita
government expenditures –24.358 2121.725 –2121.725 606.231
Fantus ranking –0.320 37 –37 13.994
Manufacturing employment (%) 0.088 13.400 –13.400 6.048
Median age –0.018 7 –7 1.792
Mineral production value (millions) –11.765 2,570 –2,570 703
Population density 0.474 776.900 –776.900 152.364
Urban population –0.578 52.100 –52.100 16.269
Per capita income 1960 1.017 2.476 0.407 0.231
Unmatched variables (used in Table 3)
Per capita income growth
1960 to 1990 747.594 2045.024 315.864 197.849
Per capita income difference
1960 to 1990 9679.118 23367.200 2750.333 2354.216
Highest state marginal tax rate
difference 1.156 8.500 –7.350 2.758
Average tax rate difference 0.015 0.033 –0.020 0.012
State and local per capita
government expenditures 3043.260 4999.055 2276.478 498.346
Fantus ranking 20.669 48 1 13.016
Manufacturing employment (%) 17.141 27.300 4 5.481
Median age 32.732 36.200 26.200 1.341
Mineral production value 0.012 0.123 0.000746 0.020
Population density 123.350 1,042 4.700 161.823
Urban population 65.870 92.600 32.200 12.819
Per capita income 1960 1369.201 3252.601 411.184 423.321
included a second time in the data set, producing a sample size of

1,319 border matches.
Table 1 shows some descriptive statistics for the variables used in
the regression models presented below and illustrates how the match-
ing technique affects the variables. The top of the table shows descrip-
tive statistics for the matched variables, and the bottom shows descrip-
tive statistics for the unmatched variables, which are the actual
magnitude of the variables, with no matching. The first matched vari-
able, per capita income growth, has a mean of 1.023, showing that per
capita income growth in all border counties is, on average, about equal
to the per capita income growth of the counties they adjoin just across
the state border. The maximum of 2.254 shows that the county that
grew fastest compared to its neighbor across the state border had
225.4% higher per capita income growth, whereas the county that per-
formed most poorly compared to its neighbor across the state border
had per capita income growth only 41.4% as fast. Further down the ta-
ble, under “Unmatched Variables,” per capita income growth from
1960 to 1990 averaged $747.59 for all counties, and the county with
the highest per capita income growth had an increase of $2,045.02,
compared to $315.86 for the county with the lowest per capita income
growth.
Some of the variables are calculated as the differences across bor-
der counties, and in these cases, the means will be about zero. Con-
sider, for examples, the highest marginal tax rate difference and popu-
lation density. Colorado had a top marginal income tax bracket of 9%
in 1960, which was reduced to 1.65% by 1990, for a change of 7.35.
Nebraska, which borders Colorado, had no income tax in 1960 and a
top bracket of 5.9% in 1990, for a change of –5.9. The difference be-
tween Colorado’s change in marginal tax rate and Nebraska’s was
7.35 – (–5.9) = 13.25, so counties on the Colorado-Nebraska border
had the highest (Colorado) and lowest (Nebraska) values for these
matched variables. The mean is close to zero because positive values
on one side of a state border are offset by negative values on the other.
Population density is calculated as the population density relative to
the population density of adjacent counties across the border, so its
mean also is approximately zero, and its minimum is the negative of
its maximum. Note that although population density has a mean of
close to zero in the matched data, in the unmatched data, its mean is
about 123 people per square mile. The main results that follow use the
matched data, but the results are repeated with the unmatched data to
show what difference it makes to use the matching technique.
RESULTS FROM THE MATCHED SAMPLE
Table 2 shows regression results using as the dependent variable the

two different measures of matched per capita income growth from 1960
to 1990. The comparison was done over a period of three decades for
several reasons. First, the impact of income taxes on income growth is
likely to be a long-run phenomenon that may be overwhelmed by
other factors in the short run. Second, a comparison over several de-
cades can eliminate some other effects on state income that might be
unrelated to state policy but that might affect states differently. Over
this time period, for example, disruptions in energy markets during
the 1970s had a negative impact on income in many states but helped
states that produced a substantial amount of coal and oil. The effect
went the other way in the 1980s when oil prices fell, but effects such as
these on state incomes should be minimized by looking at a three-de-
cade time period. The first and third regressions use as the dependent
variable the percentage growth in nominal per capita income from
1960 to 1990, matched using the above formula with the county or
counties in the neighboring state that county borders. In other words,
representing a county’s per capita income in year i as YPCi, the first
and third regressions measure income growth as (YPC90 – YPC60)/
YPC60 and use this as the county observation that is matched with ad-
jacent counties in the above formula. The second and fourth regres-
sions use the county’s nominal per capita income in 1990 minus its
nominal per capita income in 1960 (YPC90 – YPC60), again matched
with its bordering counties, as a measure of the change in the level of
per capita income over the period. These per capita income growth
measures matched following the above matching formula to calculate
the dependent variable.
The first independent variable is the change in the difference be-
tween neighboring states’highest marginal income tax rate from 1960
to 1990, and this variable is also matched against border counties in
the neighboring state.5 For example, in 1960, the highest marginal in-
come tax rate was 7% in California and 4.5% in Arizona, so on the
California-Arizona border, the difference in the highest marginal in-
come tax rates was 2.5% in 1960. In 1990, California’s highest mar-
ginal income tax rate was 9.3% and Arizona’s was 8%, so the differ-
TABLE 2: Effect of Tax Rates on Various Measures of Per Capita Income Using
Full Sample of Matched Border Counties (t statistics in parentheses)
Dependent Variable
Per Capita Per Capita Per Capita Per Capita
Income Income Income Income
Growth, Difference, Growth, Difference,
1960 to 1990: 1960 to 1990: 1960 to 1990: 1960 to 1990:
Independent Variable County Match County Match County Match County Match
Constant 1.526770 0.550400 1.527856 0.551386

(70.67) (25.27)*** (70.80)*** (25.34)***
Highest state marginal
tax rate difference –0.003768 –0.003607 –0.002935 –0.002851
(–2.96)*** (–2.81)*** (–2.21)** (–2.13)**
Average tax rate
difference NA NA –0.862868 –0.783500
(–2.18)** (–1.97)**
State and local per
capita government
expenditures 2.90E-05 3.09E-05 3.33E-05 3.49E-05
(2.87)*** (3.04)*** (3.25)*** (3.37)***
Fantus ranking –0.002433 –0.002394 –0.002308 –0.002281
(–6.50)*** (–6.34)*** (–6.10)*** (–5.98)***
Manufacturing
employment (%) –0.000536 –0.000619 –0.000530 –0.000614
(–0.63) (–0.72) (–0.62) (–0.71)
Median age 0.017086 0.019767 0.016824 0.019529
(6.16)*** (7.08)*** (6.07)*** (6.99)***
Mineral production
value 2.13E-11 1.70E-11 2.58E-11 2.11E-11
(2.67)*** (2.11)** (3.13)*** (2.54)**
Population density 7.87E-05 7.20E-05 8.91E-05 8.14E-05
(1.86)* (1.69)* (2.10)** (1.90)*
Urban population –0.000284 –2.68E-05 –0.000520 –0.000241
(–0.60) (–0.06) (–1.08) (–0.50)
Per capita income
1960 –0.495729 0.462042 –0.496737 0.461126
(–23.94)*** (22.14)*** (–24.02)*** (22.11)***
Number of
observations 1,319 1,319 1,319 1,319
F statistic 69.85*** 71.60*** 63.52*** 64.97***
2
Adjusted R 0.319781 0.325270 0.321736 0.326746
NOTE: NA = not applicable.
*Significant at the 10% level. **Significant at the 5% level. ***Significant at the 1% level.
ence in 1990 was 1.3%. Thus, the gap between California’s and
Arizona’s highest marginal income tax rate narrowed by 1.2%. In the
data for Table 2, Arizona counties that border California would have a
value of 1.2 for the highest state marginal tax rate difference variable,
indicating that relative to its bordering counties in California, Ari-
zona’s income tax rate increased by 1.2%. Conversely, California
counties bordering Arizona would have a value of –1.2 for that same
variable, indicating that their income tax rate was 1.2% lower relative
to Arizona in 1990 compared to 1960. 6
This border county analysis is intended to hold other things con-
stant, but other state-specific factors besides the income tax might also
affect per capita income in a county. One major item is state and local
government spending. The budgets of states and localities tend to be
close to balanced, so the average tax rate serves as a close proxy for
spending out of own-source revenues, but federal revenues to states
can vary considerably. For this reason, state and local per capita ex-
penditures is also included as a dependent variable.7 It is significant
and positive in every specification, indicating that more government
expenditures increase per capita income growth, holding other things
(including taxes) constant.
The Fantus ranking is a ranking of business climate and was used
by Holmes (1998) to adjust for state policies that may favor business.8
It too is significant in every specification. Lower Fantus numbers indi-
cate a more favorable business climate, so the negative sign indicates
that the more favorable the business climate according to this ranking,
the higher will be per capita income growth. Plaut and Pluta (1983)
also use a business climate variable based in part on the Fantus rank-
ing and find that a poor business climate negatively affects capital
stock growth. Manufacturing employment is the percentage of the
state workforce employed in manufacturing, and it is included to cap-
ture any effects that might result from a county being located in a state
with a larger manufacturing base but is not significant.9 Median age of
the state’s population could affect the county if, for example, an older
population created a more productive workforce, resulting in higher
income growth.10 The consistently positive sign and statistical signifi-
cance show that a higher median state population age is associated
with higher per capita income growth in border counties in that state.
Mineral production is the share of state personal income derived from
mineral production.11 Niskanen (1992) suggests that states that enjoy
natural resource endowments may have larger incomes, and the posi-
tive and significant sign on mineral production agrees with
Niskanen’s argument. Population density may affect the cost of deliv-
ering government services in the state12 and is consistently significant
and positive. Urban population is included because more urban states
may find themselves with a larger income tax base but also with a
greater demand for state services.13 However, urban population is not
statistically significant.14
By far the most significant independent variable is per capita in-
come in 1960. When the dependent variable is growth in per capita in-
come, per capita income has a negative effect, implying convergence.
Counties that start with lower incomes in 1960 tend to converge so
have higher income growth, whereas those that start with relatively
high incomes grow slower. When the dependent variable is the differ-
ence in income between 1960 and 1990, the per capita income vari-
able has a positive sign, indicating that even though per capita income
growth is greater in counties that start with low income, the (nominal)
gap in per capita income tended to widen. The significance of the ini-
tial per capita income variable supports the convergence hypothesis
and is consistent with other studies that have examined the issue, such
as Besci (1996) and Rasmussen and Zuehlke (1990).
The first two regressions are identical, with the exception of the de-
pendent variable, which is the matched growth in per capita income in
the first regression and the matched change in the level of per capita
income in the second. In both cases, the change in the highest mar-
ginal income tax rate is negative and highly significant, showing that
the more states raised their highest marginal income tax rate com-
pared to their neighboring states, the slower was their per capita in-
come growth. The second two regressions are identical to the first two,
with the exception that the change in the state’s average tax rate is in-
cluded, and also matched against border counties in the adjacent state.
The average tax rate is calculated as per capita state and local taxes as a
percentage of state and local income, so this variable looks at the
growth in average taxes, compared to that same change in the

bordering state. It also is negative and significant.
The first two independent variables show that the more states raise
their income tax rates compared to their neighbors, the slower will be
their per capita income growth, and that the more average taxes rise in
a state, the slower will be per capita income growth. Higher taxes
mean slower income growth, and larger increases in marginal income
tax rates have a negative impact on income growth, even holding con-
stant the change in average taxes. To get an idea about the magnitude
of the effect, consider this rough calculation that evaluates the vari-
ables at their means. Looking at the matched data in the third regres-
sion in Table 2, the typical pair of states has a difference in the
matched value of the highest state marginal tax rate difference vari-
able of 13.25.15 Thus, for a typical pair of states, the state that in-
creased its income tax rate less than its neighbor would reduce the de-
pendent variable by 0.039 (which is 13.25 • 0.002935) compared to its
neighbor. The mean of the dependent variable is very close to 1 (a look
at the formula showing its calculation reveals why), so the percentage
growth in per capita income would be 3.9% lower over the 30-year pe-
riod in the state with the larger income tax increase. Looking at the to-
tal percentage growth in per capita income over the period implies a
reduction in state per capita income from this income tax increase of
about $377.49, or 3.4% of per capita income.16 Thus, the impact is not
only statistically significant but economically significant as well.
The results in Table 2 provide strong evidence that increases in a
state’s highest marginal income tax rate result in a lower growth rate in
per capita income. The results are similar whether one looks at the per-
centage growth in income or the dollar amount of income growth, re-
gardless of whether the state’s average tax burden is included in the re-
gression. When the average tax burden is included, it too has a
negative and significant effect on income growth. Not surprisingly,
initial per capita income has the greatest explanatory value in the re-
gression, but even when initial income and other differences are ac-
counted for, changes in the state’s highest marginal tax rate have a sig-
nificant impact. In terms of explanatory power, all of the regression
models explain approximately 32% of the variation in the dependent
variable. When looking at these results, one must keep in mind the na-
ture of the data. This is not a simple cross-sectional regression; rather,
the dependent variable is per capita income growth in a county as a
percentage of per capita income growth in adjacent counties just
across the state border. This border county matching technique holds
constant many differences that might otherwise have to be accounted
for using independent variables, and it is likely that without this
matching technique, geographic differences will be accounted for
only imperfectly. Thus, the significant results in these regressions
provide strong evidence that raising income tax rates lowers income
growth.
RESULTS FROM THE

CROSS-SECTIONAL SAMPLE
The border county matching technique used in the previous section

is unusual enough that one might wonder what difference it makes to
use the matched variables rather than undertake a simple cross-sec-
tional analysis of border counties, as is more typically done. Table 3
shows the same specifications as appeared in Table 2 but using un-
matched variables. The dependent variables are simply the growth of
county per capita income from 1960 to 1990 and the change in the
level of income from 1960 to 1990. Similarly, the highest marginal tax
rate is the change in the rate in that county’s state, the Fantus ranking is
that state’s Fantus ranking, and so forth. In all of the specifications, the
marginal tax change variable remains statistically significant at
greater than the 1% level. The average tax variable is significant in one
specification but not in the other. All of the other independent vari-
ables are statistically significant also, in all four regressions, with the
exception of mineral production, which is never significant. However,
mineral production was significant in every specification in the
matched regressions in Table 2.
Taken as a whole, the regression specifications appearing in Table 3
explain almost 60% of the variation in the dependent variable, and the
R2s in Table 3 are nearly double those in Table 2. The only difference
in the regressions in the two tables is that Table 2 uses the matched
TABLE 3: Effect of Tax Rates on Various Measures of Per Capita Income Using
the Full Sample of Nonmatched Border Counties (t statistics in paren-
theses)
Dependent Variable
Per Capita Per Capita Per Capita Per Capita
Income Income Income Income
Growth, Difference, Growth, Difference,
Independent Variable 1960 to 1990 1960 to 1990 1960 to 1990 1960 to 1990
Constant 692.7189 –572.9924 656.1157 –527.4344

(5.62)*** (–0.40) (5.28)*** (–0.36)
Highest state marginal
tax rate difference –8.650916 –85.75549 –7.272899 –87.47063
(–5.79)*** (–4.89)*** (–4.47)*** (–4.57)***
Average tax difference NA NA –844.1765 1050.700
(–2.12)** (0.22)
State and local per
capita government
expenditures 0.055225 0.646515 0.058279 0.642714
(4.84)*** (4.83)*** (5.08)*** (4.76)***
Fantus ranking –2.731153 –28.94050 –2.528858 –29.19229
(–6.97)*** (–6.29)*** (–6.28)*** (–6.16)***
Manufacturing
employment (%) 5.364541 38.44621 5.457384 38.33065
(6.25)*** (3.81)*** (6.36)*** (3.80)***
Median age 10.92146 140.2610 11.79957 139.1681
(3.25)*** (3.55)*** (3.49)*** (3.50)***
Mineral production
value 282.4712 –1098.420 323.4002 –1149.362
(1.19) (–0.39) (1.36) (–0.41)
Population density 0.392584 5.636742 0.390705 5.639080
(12.20)*** (14.92)*** (12.16)*** (14.92)***
Urban population –2.004047 –27.71954 –1.995661 –27.72998
(–5.21)*** (–6.14)*** (–5.20)*** (–6.14)***
Per capita income
1960 –0.303861 3.561092 –0.301546 3.558212
(–27.82)*** (27.78)*** (–27.52)*** (27.61)***
Number of
observations 1,129 1,129 1,129 1,129
F statistic 178.73*** 187.1308*** 161.8066*** 168.2798***
Adjusted R 2 0.586447 0.597599 0.587729 0.597258
NOTE: NA = not applicable.
**Significant at the 5% level. ***Significant at the 1% level.
variables, whereas Table 3 uses the unmatched observations. This

lends evidence to the claim that using the matching technique removes
some variation in the data caused by geographical differences because
the independent variables (which may vary due to geographically re-
lated differences in Table 3) explain more of the variation in the de-
pendent variables in the unmatched regressions than in the matched
regressions.17
To get an idea of the magnitudes in the unmatched cross-sectional
regressions in Table 3, the average income tax rate increase in all states
over the time period was 1.5%. Multiplying that by the coefficient on
the marginal tax variable yields 0.11, which implies an impact on per
capita income of $1,064.70, or 9.6% of income. In other words, if the
typical state had not increased its highest marginal income tax rate,
rather than increased it by 1.5%, its 1990 per capita income would
have been 9.6% higher. The impact appears much larger using the
cross-sectional regression without the match, but the reason for doing
the county match methodology was to hold constant factors that might
not otherwise be controlled for in the regression. Of course, these cal-
culations are not directly comparable because the variables are mea-
sured differently in the regressions in Tables 2 and 3. Still, these calcu-
lations provide some idea about the magnitude of the effects and
suggest that the matching technique for holding other factors constant
reduces the measured magnitudes of the effects.
A comparison of the matched and unmatched results shows the
value of undertaking the matching methodology. The results in both
cases point in roughly the same direction, but the magnitudes of the ef-
fects are substantially different, and we believe that the border match
methodology more accurately captures the magnitude of the effect.
The lower R2s in the matched regressions show that the matching tech-
nique does remove some correlation in the data due to geographic dif-
ferences not captured by the independent variables. In addition to the
empirical results themselves, the matched border county methodol-
ogy used in this study illustrates a technique that could be applied to
other questions. This study contributes not only insight into the im-
pact of state income taxes but also offers a methodology that can be
used to analyze other state policy issues.
CONCLUSION
There is a substantial literature that examines the effect of state

taxes on state economic performance. This study adds to that literature
by using a matched border county methodology to evaluate the effects
of state income taxes on state income. When compared to a straight-
forward cross-sectional analysis, the matched border county method-
ology used here has the advantage that it makes a direct comparison of
conditions in one county with adjacent counties across the state bor-
der, so it provides a good way of controlling for factors that may vary
for geographic reasons. Thus, one can be more confident that the em-
pirical results reflect the impact of state policies rather than other
factors that can vary from one location to another.
The empirical results consistently show that states that increase
their income tax rates more than their neighbors have slower per ca-
pita income growth. Increases in average state tax burdens also have a
negative impact on per capita income growth. The border county
matching methodology holds constant factors that vary geographi-
cally, but other variables that were consistently significant in the
matched sample were state per capita income (suggesting conver-
gence), population density, the value of mineral production as a per-
centage of state income, a ranking of state business climate, and per
capita state and local government expenditures. Holding those factors
constant and using the border county match to hold geographic factors
constant, income tax increases consistently lead to lower income
growth.
State income taxes increased in importance as a source of state rev-
enue in the last half of the 20th century, both because states that did not
have an income tax adopted it and because states raised their rates.
Eleven states have adopted income taxes since 1960, and the highest
marginal income tax rate rose from an average of 4.1% in 1960 to
5.3% in 1990. There is a substantial literature suggesting that income
taxes have negative economic effects. This study adds to that literature
by showing that income tax increases lower per capita income growth.
A rough calculation suggests that the typical state that has increased
its income tax rates more than its neighbor has a per capita income that
is about $377.49, or 3.4%, lower than its neighbor across the border
that had lower income tax increases over the period from 1960 to
1990.
NOTES
1. States without personal income taxes in 2001 are Alaska, Florida, Nevada, New Hamp-
shire, South Dakota, Tennessee, Texas, Washington, and Wyoming. New Hampshire and Ten-
nessee have limited taxes on interest and dividend income only. Data on state income taxes are
from Holcombe and Sobel (1997, Tables 1.1, 3.3, and 3.5).
2. See, for examples, Plaut and Pluta (1983), Helms (1985), Benson and Johnson (1986),
Canto and Webb (1987), Rasmussen and Zuehlke (1990), Vedder (1990, 1995), Mofidi and Stone
(1990), Berry and Kaserman (1993), and Crain and Lee (1999).
3. Adjacent counties were determined by examining a map of the United States and deter-
mining which counties in adjoining states touched each other. The relationships are not necessar-
ily reciprocal because, for example, County A in State 1 might touch Counties X and Y in State 2,
but County X in State 2 might touch only County A in State 1.
4. These growth figures are in nominal terms, but because the matching process uses ratios,
adjustment to real growth would have the same impact on the numerator and denominator.
5. Marginal state income tax rates for 1960 are available in Facts and Figures on Govern-
ment Finance (Tax Foundation, Inc. 1960-1961). Marginal state income tax rates are from Facts
& Figures on Government Finance (Tax Foundation, Inc. 1991).
6. One might make an argument for creating a more complex measure of a state’s marginal
income tax rate structure, but in the typical state, most taxpayers face the highest marginal rate.
For states that have income taxes, the median income level at which taxpayers face the highest
marginal tax rate is $20,000. There is a good reason for using the marginal rate rather than some
other measure, such as average tax payment, because people adjust to the marginal prices they
face.
7. The state and local per capita government expenditure figures for 1960 are available in
the United States Statistical Abstract (U.S. Bureau of the Census 1962, 423). State and local gov-
ernment expenditure data are from Facts & Figures on Government Finance (Tax Foundation,
Inc. 1993). Population figures for 1990 are available in the United States Statistical Abstract
(U.S. Bureau of the Census 1995, 28). The state and local per capita government figures for 1990
are the author’s calculation (i.e., state and local government expenditures divided by population).
Local expenditures are included because there is a substantial variation across states in the per-
centage of state and local government expenditures provided by localities. However, funding
sources are similar, and state funds make up a substantial share of local government revenues.
8. Holmes (1998) gives the state Fantus rankings and explains the ranking system.
9. Manufacturing employment figures for 1960 are found in the United States Statistical
Abstract (U.S. Bureau of the Census 1965, 225). Manufacturing employment figures for 1990
are found in the Geographic Profile of Employment and Unemployment (U.S. Department of
Labor 1990, 66).
10. The median age figures for 1960 are available in the United States Statistical Abstract
(U.S. Bureau of the Census 1961, 29). Median age figures for 1990 are from the Population Esti-
mates Program, Population Division, U.S. Bureau of the Census, Washington, D.C. The data are
also available in electronic form from http://www.census.gov/population/estimates/state/

st9820.txt.
11. Mineral production value for 1960 is from the United States Statistical Abstract (U.S.
Bureau of the Census 1965, 710), and personal income statistics for 1960 are from the United
States Statistical Abstract (U.S. Bureau of the Census 1962, 319). Mineral production values for
1990 are from the United States Statistical Abstract (U.S. Bureau of the Census 1995, 710), and
personal income figures are from the United States Statistical Abstract (U.S. Bureau of the Cen-
sus 1992, 438). Personal income figures for 1960 are available in the United States Statistical Ab-
stract (U.S. Bureau of the Census 1962, 319). Personal income figures for 1990 are available in
the United States Statistical Abstract (U.S. Bureau of the Census 1992, 43). For each year, the
mineral production value was divided by the personal income figure to obtain the values for the
independent variable.
12. Population density figures for 1960 are from the United States Statistical Abstract (U.S.
Bureau of the Census 1965, 13), and the population density figures for 1990 are from the United
States Statistical Abstract (U.S. Bureau of the Census 1992, 23).
13. Urban population figures for 1960 are available in the United States Statistical Abstract
(U.S. Bureau of the Census 1965, 16), and urban population figures for 1990 are available in the
United States Statistical Abstract (U.S. Bureau of the Census 1995, 43).
14. The unemployment rate for 1960 and 1990, as well as the percentage of the state’s popu-
lation with a high school diploma for 1960 and 1990, was also used in the fully specified models
but was never significant at standard confidence levels and hence was dropped from the regres-
sion models reported here.
15. The mean of the matched highest marginal income tax variable is approximately zero be-
cause for every county with a positive value, there will be a county in the adjacent state with an
offsetting negative value. The mean would be exactly zero if county borders in states exactly
lined up with borders in adjacent states. The range of the matched highest marginal rate variable
is –13.25 to 13.25, making the midpoint of the absolute value of the range 6.625%. A typical state
with a smaller tax increase than its neighbor will have a value of +6.625, and the neighboring
state will have a value of –6.625, for a difference between them of 13.25.
16. Nominal per capita income in 1960 averaged $1,369.20 and was $11,048.32 in 1990, for
an average increase of $9,679.12, or an increase of 707%. Taking 3.9% of this yields $377.49,
which is the amount by which income in the state with the smaller income tax increase would ex-
ceed income in the state with the larger increase. Taking that difference as a fraction of average
per capita income shows that the negative impact of the higher than average income tax increase
costs 3.4% of income. That is, at the end of the 30-year period from 1960 to 1990, per capita in-
come is 3.4% lower, or $377.49 lower, in states that had higher than average income tax
increases.
17. A referee asked whether these results might be driven by a few outliers with the most ex-
treme changes in the tax rate. To address this issue, all eight regression models were reestimated,
excluding those observations with the most extreme values in the tax variable. For the regressions
in Table 2, the tax variable was restricted to the interval (–10,10), which reduced the sample size
to 1,289 observations. The tax variable became more significant, with t statistic estimates rang-
ing in value from –2.96 to –3.68, and the other variables in the specifications retained their quali-
tative and quantitative characteristics. For the regressions in Table 3, the tax variable was re-
stricted to the interval (–5,5), which reduced the sample to 996 observations. The tax variable in
this case remained about the same in terms of statistical significance, with t values ranging from –
2.78 to –3.70. Again, the specifications retained their qualitative and quantitative characteristics.
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sity. He is the author of ten books and more than 100 articles in academic and profes-
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The Relationship Between Taxes and Growth
at the State Level: New Evidence
William G. Gale, Aaron Krupkin, and Kim Rueben
April 2015
Gale and Krupkin: Brookings Institution and Urban-Brookings Tax Policy Center. Rueben:
Urban Institute and Urban-Brookings Tax Policy Center. We gratefully acknowledge comments
from David Brunori, Michael Mazerov, Mark Steinmeyer, and Jason Wiens, as well as financial
support from the Laura and John Arnold Foundation and the Ewing Marion Kauffman
Foundation. The opinions expressed are our own and do not represent the views of any
organization. We thank Sarah Gault for helpful research assistance.

ABSTRACT
The effects of state tax policy on economic growth, entrepreneurship, and employment
remain controversial. Using a framework that in prior research generated significant, negative,
and robust effects of taxes on growth, we find that neither tax revenues nor top income tax rates
bear stable relations to economic growth or employment across states and over time. While the
rate of firm formation is negatively affected by top income tax rates, the effects are small in
economic terms. Our results are inconsistent with the view that cuts in top state income tax rates
will automatically or necessarily generate growth.

I. Introduction
The effects of state-level tax policy on states’ economic growth and on related activity
such as entrepreneurship and employment have proven to be both perennial and controversial
issues in academic and policy circles. In the policy world, these controversies have heated up in
recent years as several states, hoping to stimulate long-term growth and new business activity,
have cut taxes in various ways as their budgets have recovered following the Great Recession.
Most prominently, Kansas cut taxes in 2012, eliminating its top income tax bracket, reducing
other income tax rates, and abolishing state income taxation of pass-through entities. Several
other states have enacted or proposed lower income taxes, sometimes in exchange for higher
sales tax revenue. At the same time, other states, most notably California and New York, have
maintained higher top marginal income tax rates that were introduced originally to address
revenue shortfalls.
In the academic world, a voluminous literature on taxes and state growth features widely
varying methodologies and equally widely varying results. Among major, recent studies, every
conceivable finding is obtained: that tax cuts raise growth, have no effect on growth, reduce
growth, or do not generate clear results. The effects of different taxes – income, corporate,
property, and sales – vary dramatically within and across studies. Several factors complicate
interpretation of the findings: the studies use different dependent variables, analyze different
time periods, employ alternative measures of tax revenues and/or rates, include different
measures of government spending, control for different independent variables, and (explicitly or
implicitly) use different control groups and identification methods. A complicating factor is that
state balanced budget requirements imply that revenues and spending should co-vary closely,
which makes it more difficult to investigate independent influences of taxes or spending.
1

In this paper, we develop new results on how state tax policy affects economic growth
and entrepreneurial activity. Using a framework that in prior work had generated significant,
negative, and robust effects of taxes on income growth, we nonetheless find that neither tax
revenues nor top marginal income tax rates bear any stable relation -- and, indeed, often bear a
positive relation – to economic growth rates across states and over time. Consistent with these
findings, we also find that tax revenues have unstable effects on employment over time, and that
marginal tax rates do not affect employment levels. While the rate of firm formation is
negatively affected by top income tax rates, the effects are small in economic terms.
Because there are so many specifications, studies, and results already in the literature, our
goal was to build off of a previously existing model and specification. In particular, we extend
the model developed by Reed (2008), who uses five-year observations and consistently finds that
tax revenue levels negatively affect the growth rate of real per-capita personal income during the
1970-1999 timeframe under a wide range of specifications. Our goal is not so much to replicate
Reed’s results, though we do generate similar findings for a similar time period. Rather, the
advantage of using this approach is that it can be used to compare the robustness of results as the
time period is updated or other specification details are altered. The disadvantage of this
approach is that the identification method is not as strong as some other studies, for example
those that compare the economic activity of neighboring areas that are located on opposite sides
of a state line.
Using Reed’s specification, we essentially replicate his original findings, using data from
1977 to 2001. We then show, however, that the results are not robust to a variety of
straightforward extensions. First, simply extending the sample period by one five-year
observation to 2006 (or by two, to 2011, and thus including the effects of the Great Recession)
2

greatly reduces the absolute value of the effects and eliminates their statistical significance.
Given the sensitivity of the results to time period, our second extension is to test for
parameter stability over 1977-2006. We find that the estimated impact of tax revenues on
income growth changes sign over the first and second fifteen years of the sample period. The
effect is negative over the 1977-91 period and positive over the 1992-2006 period. This suggests
the estimates are sensitive to the time period.
Our third extension of the Reed (2008) study decomposes tax revenues into its
components: personal income, corporate, sales, property and other tax revenues. We show that
different sources of tax revenues have dramatically different impacts on growth, with property
taxes exerting consistently negative effects and income and corporate taxes usually exerting
positive effects. Statistical tests overwhelmingly confirm that it is inappropriate to aggregate the
tax revenue variables into a single aggregate revenue measure.
We extend Reed’s results in a fourth way, by including estimates of the top statutory state
income tax rate and the top state income tax rate, adjusted for federal deductibility of state taxes.
Inclusion of these variables does not change the basic results for tax revenues noted above, and
generally the tax rate variables do not affect growth either. All of our findings described above
remain in place when we provide added controls for government spending categories and a
variety of economic, social, and political variables.
To explore these effects further, we look at two main components of economic growth:
entrepreneurial activity and employment levels. Using the Reed (2008) framework, we show
that firm formation is not consistently affected by tax revenue levels. Top marginal income tax
3

rates appear to have negative effects that are statistically significant but economically small.1
Raising the top income tax rate by one percentage point reduces the rate of firm formation by
about 0.1 percent per year but has no discernible effect on employment or income growth.
Section II reviews previous literature. Section III describes our methodology and data.
Section IV examines the impact of taxes on real growth of personal income. Section V examines
the impact on firm formation and employment. Section VI contains our concluding remarks.
II. Previous Research
There is a very large literature on the issues examined in this paper. Mazerov (2013) and
McBride (2012) provide a lengthy list of relevant citations. Although an exhaustive review of
the literature is beyond the scope of this paper, we discuss several notable papers below.
Perhaps the most convincing approach to studying state tax policy identifies state tax
effects by comparing neighboring areas on opposite sides of a state border that differ in tax
policy. This approach helps to control for the fact that neighboring areas may be similar in a
variety of ways, such as climate, culture, distance to ports, etc., some of which may not be
observable or measurable in an econometric study. We have found four such studies, three of
which suggest negligible impacts of taxes on growth, one of which suggests significant effects of
corporate taxes in some circumstances.
Reed and Rogers (2004) examine the effects of the 30 percent reduction in New Jersey’s
personal income taxes from 1994 to 1996. Using county-level data on employment, they show
that counties in New Jersey experienced substantial employment growth subsequent to the tax
cut, but so did counties in other states, which did not implement tax cuts. The net effect of the

1
We also estimated the effects of tax policy on establishment formation, but that series is so highly correlated with
firm formation that the results are virtually identical.
4

tax cut is measured by the difference-in-difference estimate – that is the increase in employment
in New Jersey counties relative to counties in other states in the region – and was small and not
significantly different from zero.
Holcombe and Lacombe (2004) examine growth in neighboring counties across state
lines from 1960-1990. They compare per capita income growth in each border county in the
lower 48 states to growth in the adjacent counties in neighboring states, controlling for the
average state tax rate, the highest state marginal income tax rate, and other factors. The results
require careful interpretation. The authors report that “states that raised their income tax rates
more than their neighbors had slower income growth and, on average, a 3.4% reduction in per
capita income” from what would have occurred between 1960 and 1990. This gives the
impression that the effects of state taxes are quite large. However, careful inspection indicates
the results imply that a massive increase – 13.25 percentage points – in the highest state marginal
tax rate would reduce per capita income after 30 years by about $377 (in 1990 dollars)
(Holcombe and Lacombe 2004, 304). Given that per capita income was $1,369 in 1960 and
$11,048 in 1990 (all nominal), this implies that a 13.25 percentage point increase in the top state
marginal tax rate would reduce the growth rate of nominal per capita income in the state by 0.13
percentage points, to 7.08 percent from 7.21 percent. If one can interpolate linearly, the results
imply that raising the top state tax rate by one percentage point would reduce the growth rate by
just 0.01 percentage points annually, an impact that is negligible.
Goff, Lebedinsky, and Lile (2012) match “neighboring” pairs of states based either on
location or, for states in the middle two quartiles of the respective distributions, based on
population or land size ratio. They examine the effects of tax revenues on per capita Gross State
Product (GSP) growth from 1997 to 2005. The authors show that the paired analysis – i.e. using
5

matched pairs – provides roughly double the explanatory power of a standard cross-sectional
regression. In the paired analysis, they show a one percentage point higher tax burden (defined
as revenue divided by gross state product) reduces cumulative nominal GSP per capita growth
from 1997 to 2005 by about 2 percentage points (the estimates range from 1.90 to 2.19 ). Given
that average cumulative nominal GSP per capita growth over this period was 40 percent, their
finding implies that a one percentage point higher state tax burden reduces the annual growth
rate of nominal income by 0.19 percentage points, to 4.11 percent from 4.30 percent.
However, this result is not robust with respect to splitting tax revenues into its
components. When they use income tax and corporate tax revenues as separate variables, rather
than overall revenues, they find that corporate taxes do not have a statistically significant impact
on growth and that the marginal impact of higher individual income tax burdens is only about 20
percent of the impact of overall revenues. This implies that a one percentage point increase in
income tax revenues as a share of GSP would reduce annual growth by only about 0.04
percentage points, a negligible effect.
Ljungqvist and Smolyansky (2014) employ a similar strategy of looking at counties
across state lines, but do so with respect to changes in the statutory state corporate tax rate over
the period 1970 to 2010. They find that increases in statutory corporate tax rates reduce
employment and wages, but reductions in statutory corporate tax rates do not raise employment
and wages, except during recessions. Many corporate decisions, however, depend on effective
tax rates, which in turn, depend on the base as well as the rate. The authors do not explore the
effects of other components of the corporate tax system, such as depreciation deductions or
changes in formulary apportionment rules.
The vast remainder of the literature does not exploit credibly exogenous variation in tax
6

rates, except to the extent that lagged values are exogenous with respect to current-period effects.
For example, in the most comprehensive paper, Alm and Rogers (2011) conduct an exhaustive
sensitivity analysis of specifications that examine the impact of a wide variety of variables on
growth. They obtain decidedly mixed effects. They study annual growth of real per capita
income in the lower 48 states from 1947 through 1997, the longest time frame in the literature.
Rather than using state fixed effects, which may have less value under a long time frame than a
short one, they use, in various regressions, combinations of more than 130 explanatory variables
lagged by one period and grouped into categories of revenues, expenditures, demographics,
geography, and national. They find that the estimated effects of overall tax revenues on growth
are “quite variable,” and sensitive to the inclusion of other variables as explanatory factors, the
time period employed, and other aspects of the specification. The effects of revenues from the
corporate income tax and personal income tax separately are also sensitive to specification, but
when they are significant, they are often positive, suggesting that higher taxes and greater
reliance on these specific taxes compared to others are associated with faster growth. The
authors conclude with the idea that the overall estimated effects of taxes are fragile and that their
study may indicate divergence across states in causal factors. They also find that the political
orientation of a state matters, with “conservative” states experiencing lower growth rates.
Several other studies are worth noting here. Using data from 1972 to 1998,
Tomljanovich (2004) finds that higher taxes reduce short-term growth rates. They do not affect
the long-term growth rate, but the short-term reduction in growth rates does permanently reduce
the size of the economy. When he decomposes total tax burden into components, he finds that
income, property, and sales taxes have no significant effects and that corporate taxes have
positive effects on growth.
7

Ojede and Yamarik (2012) obtain the opposite results for overall tax burdens: they find
that the overall tax burden does not affect short-term growth but does affect long-term growth.
When they decompose tax burdens, they find that sales and property taxes negatively affect
growth, while corporate and income taxes do not.
Bania, Gray and Stone (2007) analyze “growth hills,” arguing that the relation between
growth and taxes should be quadratic and depend on spending. They find a positive linear effect
and a negative quadratic effect of revenues on growth, with the growth effect hitting zero when
revenues reach about 29 percent of personal income, which is far higher than revenues in most
states.
Several studies look at the effects of taxes on growth and employment levels, with mixed
results. Using data from 1969 to 1986, Mullen and Williams (1994) find that, given overall tax
levels, higher marginal tax rates reduced growth. Wasylenko and McGuire (1985) generally find
that higher levels of overall taxation discourage employment growth. Effective income tax rates
are shown to have a negative impact on employment growth in the wholesale, retail, and finance
industries. However, their corporate tax rate variable does not yield statistically significant
results. Goss and Philips (1994) find that personal income taxes reduce employment growth, but
corporate taxes do not. Shuai and Chmura (2013) find that higher corporate taxes reduce
employment growth. Gius and Frese (2002) find that lower personal income taxes raise the
number of firms in a location, but corporate taxes do not have a significant impact.
Goolsbee and Maydew (2000) find that increased reliance on a single sales factor formula
in corporate taxes, which represents reduced taxation based on payroll, caused an increase in
manufacturing employment over the 1978-1994 period. A recent study by Merriman (2015),
however, finds statistical concerns with the study, concluding that the results are not robust to an
8

extension of the sample through 2010 or to the use of preferred statistical techniques, including
clustering of errors at the state level.
Additional studies examine the role of taxes in the formation of firms (see Gale and
Brown 2013 for further discussion.) Bruce (2000) defines the tax rate differential as the tax rate
an individual would face in a wage and salary position minus the one faced in self-employment.
He finds that self-employment falls with higher average tax rates in the self-employed sector, but
rises with higher marginal tax rates in the self-employed sector. While the direction of marginal
tax rate effect may seem counter-intuitive, it is consistent with a view that people move to self-
employment in part because business ownership provides opportunities to avoid or evade taxes.
Gentry and Hubbard (2000, 2005) find that increased progressivity – that is, increased convexity
of the tax schedule, including higher marginal tax rates – reduces entry into self-employment.
If the sheer fragility of the results in the literature is not evident from the survey above, it
is demonstrated forcefully and systematically in a remarkable study by Pjesky (2006). Pjesky
(2006) reviews five previous studies that generally show that taxes reduce state growth and
economic activity: Vedder (1996), Becsi (1996), Helms (1985), Mofidi and Stone (1990), and
Carroll and Wasylenko (1994). He first essentially replicates each of the studies, using data
collected independently. He then re-estimates all of the studies over the same time period (1977-
1997) and finds that about two-thirds of the relevant coefficients (on tax variables) change sign.
Then, he re-estimates the studies using a common time period and a common dependent variable
(per capita personal income) and finds a majority of the estimated effects of taxes on growth are
positive with many being significant. This demonstrates that the earlier results are not robust to
straightforward extensions and sensitivity analysis.
Against this backdrop of contradictory and unstable results, Reed (2008) enters the fray
9

and finds strong, negative, and robust effects of state taxes on growth. Reed regresses state-level
data on the change in the log of real per capita personal income between the current year, t, and
t-4 on the change in overall tax revenues (as a share of personal income) over the same period
and on overall tax revenues (as a share of personal income) in t-4, for six 5- year periods from
1970 to 1999 (1970-74, 1975-79, etc.). Notably, he finds strong, negative impacts of overall tax
revenues on per capita income growth across a wide variety of specifications, including splitting
the sample by time period and by geographic area, adding an extensive list of government
spending and control variables, altering the time periods involved, and estimating both structural
and reduced form versions of the model. Because our basic specification developed below
builds off of the Reed (2008) model, we defer further discussion of his framework until the next
section.
III. Methodology
A. Specification
Our basic estimating equation is based on the formulation in Reed (2008) and is given by
where the s are coefficients, t indexes years, i indexes states, D represents the change in a
variable between periods t-4 and t, LNY is the log of real personal income per capita, TTAX is
total tax revenue as a share of personal income, X is a vector of other explanatory variables, state
captures fixed effects, and time is a vector of five-year periods.
Reed discusses several virtues of this specification. Annual revenue data are susceptible
to measurement error, and five-year periods are long enough to mitigate the biases created.
10

Serial correlation and measurement errors are plausibly less severe when observations are spread
out over time. It is also advantageous that the periods are non-overlapping (1970-74, 1975-79,
etc.); having the year intervals connect would induce negative correlation between time periods.
Including both contemporaneous and lagged effects of the dependent variables, along with state
and time effects, allow for a variety of channels through which taxes can affect growth, including
effects that take time to materialize. The panel specification allows controls for state fixed effects
whose absence would contaminate cross-sectional estimates.2
To implement this specification, we use panel data for the 48 contiguous states for the
period 1977-2011. The sample period is chosen with regard to U.S. Census data limitations on
revenues and business dynamics. We estimate equation (1) with OLS using five-year, non-
connecting intervals, for example, 1977-1981, 1982-1986 and so on through 2007-11. We weight
each state’s observations by its average population from 1977-2011, using data from the U.S.
Census annual July 1 estimates (US Census Bureau 2012). Similar to the OLS analyses in Reed
(2008), we employ robust standard errors to correct for heteroscedasticity. The standard errors
are not clustered by group.
B. Dependent Variables
Following Reed (2008), our first specification examines the change in the natural log of
real personal income per capita from t-4 to t for each state. This variable is calculated starting
with data on nominal personal income by state from the Bureau of Economic Analysis’s
Regional Database (BEA 2014a). The nominal data are then converted to a real measure that is
chained to 2011 dollars and divided by the respective state’s population in the relevant year. The

2
Reed also specifies a more elaborate version of equation (1) that includes capital and labor levels. However, since
we are interested in reduced-form specifications in this paper, we do not include capital and labor as separate
explanatory variables.
11

resulting measure is logged and differenced (and multiplied by 100 to make interpretation of the
coefficients and discussion of the results more straightforward).
To measure business activity, we use 1977-2011 data on the change from t-4 to t in the
logged number of firms per capita, with the gross firm data taken from the September 2014
release of the U.S. Census Business Dynamics Statistics (BDS) database (US Census Bureau
2014a).3 Hathaway and Litan (2014) use the same data from an earlier release. We performed
similar analysis on the number of establishments using the same data source, but the number of
new firms and number of new establishments in a state over a time period turn out to be so
extremely highly correlated (99 percent) that the results were virtually identical and are not
reported below.
To measure employment, we specifically examine the change in the logged employment-
population ratio. This variable is preferred over the number of employees since the number of
employees in a state can be affected by population growth. The employment-population measure
is listed in the BLS Local Area Unemployment Statistics database as the annual average
proportion of the civilian, 16+, non-institutional population that is employed (BLS 2015).
C. Explanatory Variables
Our principal explanatory variable is the amount of total state and local tax revenue in a
given state and year as a share of personal income. The variable is taken from the Urban-
Brookings Tax Policy Center’s State and Local Finance Data Query System (SLF-DQS), which
houses state revenue and expenditure data originating from the U.S. Census Government Finance

3
BDS classifies a firm as classified as a “business organization consisting of one or more domestic establishments
that were specified under common ownership or control,” and an establishment as “a single physical location where
business is conducted or where services or industrial operations are performed.” The number of firms and
establishments are both one for single-establishment firms. (US Census Bureau 2014b)
12

Statistics (GFS) database (Tax Policy Center 2013).4 When local data are included in the request,
there are missing values for the years 2001 and 2003. To address this issue, we simply use the
averages of the preceding and following years. For example, values for 2001 are imputed as the
average of 2000 and 2002 values. Total tax revenue is distinguished from total revenue, the
latter of which includes inter-governmental transfers.
We experiment with two measures of state income tax rates. The first is the top statutory
marginal personal income tax rate (Tax Policy Center 2015, Poterba and Rueben 2001). We were
unable to code a statutory rate for Nebraska until 1987, Rhode Island until 2000, and Vermont
until 2000. These states employed tax features that make it difficult to enumerate a single value.
For example, a state might tax its citizens at a certain percentage of federal liabilities. Our study
does not include these year-state observations when analyzing marginal tax rates.
The second formulation of state income tax taxes reports the top adjusted marginal
personal income tax rate (SADJ), which we define as the difference between the combined
federal and state income tax rate for an itemizer facing the top federal rate and the federal tax
rate that filer faces. The combined rate is (1-S)F + S, where S is the state rate and F is the federal
rate. The adjusted tax rate is given by
2 SADJ 1 S F S – F S 1 F .
In certain specifications, we add a dummy variable that indicates whether the time period
is 1992 or later. This variable is never entered in a stand-alone manner, since time effects are
already included; rather, it is interacted with the tax revenue of the tax rate variables in order to
see if the impact of tax policy varies over time.

4
Series R05 from the SLF-DQS
13

To control for how revenues are used, we include measures of spending. Our measure of
productive physical investment spending combines total state and local airport, highway, and
transit utility spending as a share of personal income.5 Our proxy for social spending is the sum
of state and local direct expenditures on public welfare, unemployment compensation, and other
insurance trust expenditures as a share of personal income.6 These expenditure data, similar to
the revenue variables, have underlying missing values for 2001 and 2003 for local data. To
compensate, we employ the same averaging procedure as described above. The omitted
component of spending may be thought of largely as government operations and education.
Other control variables include the unemployment rate and population density. In its
basic form, the unemployment rate is listed as the January seasonally-adjusted unemployment
rate from 1977-2011 for a given year and state. Figures are extracted from the Bureau of Labor
Statistics Local Area Unemployment database (BLS 2015). Population density is calculated as
the average population per square mile of land (US Census Bureau 2012).
We also use three different sets of political dummy variables. The first indicates whether
a state’s governor is Republican for the majority of the year. Historical governor data were
extracted from the National Governors Association (2014). The two remaining variables indicate
party control of the state legislatures. Since every state except Nebraska has a bicameral
legislature, we use one dummy variable for a unified Republican legislature and one dummy
variable for a unified Democratic legislature. If both dummy variables are 0, a state has a divided
legislature. We omit Nebraska’s data here because the state’s unicameral members are non-
partisan. For 1977-2008, we use data from Dubin (2007). In the book, he outlines the partisan
breakdown of each legislature following every election. Since most elections occur every other

5
Series E020, E065, and E130 from the SLF-DQS, respectively
6
Series E090, E137 and E138 from the SLF-DQS, respectively
14

November, we carry each value over to the following two years. For example, data presented for
2004 are included in the 2005 and 2006 observations. For 2009-2011 we use the party controls
reported by the National Conference of State Legislatures (2014). Since these are binary
variables, we only include the current year’s value and the 4 period lagged value. There is no
“change variable” as there is for the other variables.
IV. Results for Personal Income
The first set of columns in Table 1 summarizes effects of tax revenue on personal income
growth over different time periods. The specification used is equation (1), but with no X
variables. That is, the regressions contain a constant, a change-in-tax-revenues term, a lagged
tax revenues term, and state and time fixed effects and are weighted by state population.
The regression reported in the first column shows that our estimates basically replicate
those of Reed (2008) for the effects of taxes on real per-capita personal income. For 1977-2001,
we estimate the coefficient on the change in tax revenues over the last four years to be -1.96
(p=.019) and the coefficient on four-year lagged tax revenues to be -1.36 (p=.052). Both
estimates display high levels of statistical significance. These findings basically replicate Reed’s
(2008, Table 1) results, which generate similar statistically significant estimates of -2.6 and -1.6,
respectively, on the four-year change and the level of tax revenues four years prior. His sample
period covers 1970 to 1999.
Our estimates imply that for every percentage point of personal income that tax revenue
represented four years ago, cumulative growth of real per capita income over the ensuing four
years is reduced by 1.36 percent, or almost 0.34 percent per year. They also imply that for every
percentage point of personal income by which tax revenue rose over the previous four years, real
15

per capita income is reduced by 1.96 percent, or about 0.5 percent per year. These are
economically significant and substantial effects.7
As mentioned above, Reed (2008) shows the results to be robust to a wide variety of
changes. Our first specification test is to extend the sample period. As shown in the second
column of Table 1, the results do not survive extending the sample period to 2006. The
coefficients on the change in taxes and on lagged taxes are negative, but much smaller than in the
first column and not statistically significant; the p-values, not reported in the table, are .14 and
.19, respectively. Extending the results to 2011, in the third column, generates similarly small
and insignificant effects.
The sensitivity of the tax revenue results to time period raises the possibility that the
coefficient estimates are not stable over time. To test this, in the first column in Table 2, we use
the same specification as in Table 1 but focus on the 1977-2006 period and add a dummy
variable that takes the value of 1 if the observation is in the second half of that period (1992-
2006). We interact the dummy with the two tax revenue variables. The first column shows that
the estimated net effect of the tax variables on growth is negative for the 1977-1991 period (with
coefficients of -2.30 on the change in revenues and -1.27 on four-year lagged revenues). But the
point estimate of the change in revenues variable is positive in the 1992-2006 period (-2.30 +
3.09) and is significantly different from the effect estimated for 1977-1991. These results stand

7
This basic result is robust to several alternative specifications (not shown). We obtain similar estimates under a
wide variety of specifications: (a) using 2000 data instead of 2001 to avoid having to impute local government data
for 2001; (b) not weighting the regressions by population; (c) lagging the revenue variables by one year, (d)
examining data with two-year lags rather than four-year lags; or (e) excluding states with missing data. Estimates
that exclude state fixed effects are weaker, but still attain significant negative effects. Estimates that exclude time
effects, however, generate a positive coefficient on the change in revenues over the previous four years, perhaps
because the regression is picking up the fact that revenues as a share of personal income are pro-cyclical, because of
automatic stabilizers, rather than because of anything having to do with the effects of taxes on growth.
16

in sharp contrast to the robustness shown for sample splits in the 1970-1999 period reported by
Reed.
The aggregate tax revenue variable that we, Reed (2008), and many others have used is
the sum of revenues from several different sources and thus implicitly constrains each revenue
source to have the same marginal effect on growth. It is likely, however, that different taxes
have different effects on growth, even controlling for revenues. To test this, we decompose tax
revenues into five categories (personal income, corporate income, sales, property, and other). 8
The first column of Table 3 reports the resulting regressions for personal income,
allowing for the decomposition of the tax revenue variable into its components. Table 3 shows
results for the 1977-2006 period, both for simplicity purposes and because the results for these
regressions are broadly similar for 1977-2001 and for 1977-2011. Table 3 shows that the effects
of taxes on growth vary dramatically across revenue sources. Property taxes enter strongly and
negatively, while the change in corporate taxes enters strongly and positively, as do lagged
income taxes.9 F-tests strongly reject equality of the coefficients across tax sources (in either the
lagged value or recent changes variable). This finding rejects the specification used by Reed
(2008) and many others.
We extend the basic results regarding tax revenue and growth in several ways.
First, all of the specifications discussed above include tax revenue variables, but no marginal tax

8
Series R27, R28, R09, and R06 from the SLF-DQS respectively. Other taxes are simply the total tax value less the
four aforementioned series.
9
The coefficients report the effect of an increase in the tax revenue equal to one percent of personal income.
Because the different taxes raise different amounts of revenue, the 1-percent-of-personal-income increases translates
into very different percentage changes in each tax source. For example, corporate revenues have averaged about 0.4
percent of personal income over the sample, while personal income taxes averaged about 2 percent. Thus, if the
corporate tax coefficient is 8.0, the results imply that a 10 percent increase in corporate taxes (from 0.40 to 0.44
percent of personal income) would raise the growth rate by 0.32 percentage points. Likewise, a 10 percent increase
in income taxes (from 2.0 to 2.2 percent of personal income) would raise the cumulative growth rate by 0.40
percentage points if the income tax coefficient were 2.0.
17

rate information. Marginal tax rates summarize important information regarding the incentives
created by government policy. Developing a marginal tax rate measure that captures everyone’s
incentives and how they change is next to impossible. We employ two measures of marginal
rates under state income taxes, as noted above – the top statutory marginal personal income tax
rate, and the top adjusted marginal personal income tax rate, taking into account deductibility of
state income taxes under federal law.
The second and third sets of columns in Table 1, 2, and 3 show the effects of including
the statutory or adjusted tax rates in the regressions and demonstrate two principal results. First,
including the marginal tax rate variables does not change the basic pattern of results discussed
above for the tax revenue variables. Second, the effects of marginal tax rates on growth are close
to zero, variable in sign, and not statistically significant.
In additional analyses, we add government spending variables for welfare and investment
and the variety of explanatory variables described earlier. These extensions generally do not
have much of an impact on the effects of the tax revenue or marginal tax rate variables. For
example, Table 4 expands Table 1 to report the effects of both tax and spending variables,
controlling for the other explanatory variables described above. 10 The two major qualitative
results shown earlier hold here as well; the significance of the tax revenue variables is sensitive
to time period, and marginal tax rate measures do not affect growth in any of the specifications.
Regarding the government spending variables, welfare spending has a negative impact on growth

10
Given the balanced budget requirements that states impose on themselves and given the presence of government
spending variables in the regressions in Table 4, the tax variable should be interpreted as showing the effects of an
increase in tax revenues that is used to finance spending other than welfare and investment. In contrast, the tax
variables in Tables 1-3 show the effects of an increase in taxes that is used to finance an average of all types of
government spending.

18

in all of the specifications, while investment spending does not have significant effects.11
V. Results for Firm Formation and Employment
Table 5 shows the effects of various fiscal variables on firm formation, with several
interesting results. First, the effect of tax revenues on firm formation is similar to the effect of
tax revenues on growth: the effect is negative and significant in the 1977-2001 period, but the
coefficient shrinks in absolute value and loses statistical significance as the sample period is
extended to 2006 or 2011.
Second, estimated effects of marginal tax rates are mixed. In the regressions using the
statutory marginal tax rate, the coefficient on the tax rate four years prior is negative and
significant in two of the three specifications, but it has a very small effect. A one percentage
point increase in the top income tax rate reduces firm growth by a cumulative 0.33 or 0.34
percent over four years, or by less than 0.1 percent per year. Moreover, the change in the
statutory marginal tax rate has a positive and significant effect on firm formation in the 1977-
2011 equation. Thus, for that period, the combined effect of the current statutory marginal tax
rate (the sum of the effect of the lagged rate and the change in rates, or -.34 + .47) on firm
formation is positive.
In the regressions using the adjusted marginal tax rates, there is no significant effect of
marginal tax rates from 1977-2001 (though the relationship with changing tax revenue remains

11
We have also run regressions using real Gross State Product per capita as the dependent variable (BEA 2014b).
GSP is a better measure of state-level activity compared to personal income, as it measures how much is produced in
a given state in a given year, whereas personal income measures the total (state-originated and externally-originated)
income of residents and businesses in the state. But the method by which GSP figures are constructed changed in a
manner so that the series up to 1997 and after 1997 are not comparable (BEA 2014c). As a result, we estimated
GSP effects for 1977 to 1996 and 1997 to 2006 or 2011. Our results, not shown, find that tax revenues and
marginal tax rates produce negative and insignificant effects of taxes on GSP through 1996 and positive and
insignificant effects of taxes on growth from 1997 to 2006 or to 2011.

19

negative). For 1977-2006 and 1977-2011, the lagged tax rate has negative and significant
effects. With an average top federal tax rate over the period of 43 percent, the .80 coefficient for
the 1977-2011 period implies that a one percentage point increase in a statutory state income tax
rate would reduce firm formation by a cumulative 0.46 percent over four years, the equivalent of
reducing the growth rate of firm formation by 0.11 percent per year.
Table 6 examines the possibly changing effects of taxes on firm formation over time.
Tax revenues negatively impacted firm formation through 1991, but had a positive effect from
1992-2006, consistent with the way that tax revenue affected income growth over those periods.
Effects of marginal tax rate effects were small and negative throughout the time period.
Table 7 decomposes tax revenues into its components and shows that income tax
revenues generally have had positive effects on firm formation, while property taxes generally
have had negative effects. The marginal tax rate effects continue to be negative, but small.
Table 8 shows the basic results for employment. The impact of tax revenues is negative
but insignificant in each time period, with the magnitude of the impact being smaller in the
samples that extend to 2006 and 2011. Likewise, adding marginal tax rates does not change the
impact of revenues, and the tax rates themselves are not significantly related to employment.
Table 9 shows the effects of allowing time-varying coefficients on the tax variables. The
change in tax revenues over the prior four years had a negative effect on employment in 1977-
1991, but a positive effect in 1992-2006. Tax rates do not enter significantly in either period.
Table 10 shows the effects of decomposing the aggregate tax revenue measure into its
components. The regressions suggest that changes in income taxes positively affect
employment, changes in property taxes negatively affect employment, and marginal tax rates do
not affect employment.
20

VI. Conclusion
The effects of taxes on state-level growth have been the subject of continuing controversy,
with many conflicting and fragile results in the literature. In this paper, we present new results
for the impact of tax revenues, marginal tax rates, and other variables on overall real personal
income growth, firm formation and employment.
We build off of the model from Reed (2008), who shows that tax revenues negatively and
significantly impacted growth of real personal income from 1970-1999. After replicating his
results for a slightly different time period, we show that the results are not robust to an extension
of the time period through 2006 or 2011, that the effects of tax revenues on personal income
growth differed dramatically between the 1977-1991 period (when it was negative) and the
1992-2006 period (when it was non-negative and possibly positive), and that revenues from
different taxes have different effects on personal income growth. These results undermine
Reed’s claim that there is a robust and consistent impact of tax revenues on personal income
growth. We also show that including measures of the marginal tax rate do not affect the results
for tax revenues and that marginal tax rates generally do not enter into the growth equations.
Moreover, controls for government spending and other explanatory variables do not change any
of these results. Consistent with these aggregate effects, we show that marginal tax rates
generally have no impact on employment and statistically significant, but economically small,
effects on the rate of firm formation.
The overall impression generated by these results is that state-level economic growth is
not closely tied to state-level tax policy. The results are not consistent with the view that cuts in
top state income tax rates will automatically or necessarily generate significant impacts, or any
21

impact, on growth. If anything, our study produces some evidence that property tax revenues are
correlated with growth. Exploring that relationship, especially the connection between land
values, property tax revenues, and growth, may well be worth additional research.
22

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27

Table 1
Per Capita Real Personal Income Growth
Sample Period 1977- 1977- 1977- 1977- 1977- 1977- 1977- 1977- 1977-
2001 2006 2011 2001 2006 2011 2001 2006 2011
Change in Tax Revenues **-1.96 -0.95 -0.55 **-2.05 -0.98 -0.57 **-2.12 -1.01 -0.54
Tax Revenues (t-4) *-1.36 -0.82 -0.78 **-1.51 -0.80 -0.72 **-1.44 -0.84 -0.75
Change in MTR 0.14 0.24 0.14

MTR (t-4) 0.14 -0.02 -0.08
Change in Adjusted MTR 0.20 0.37 0.15

Adjusted MTR (t-4) 0.34 0.04 -0.17
Adjusted R-Squared 0.63 0.59 0.66 0.62 0.59 0.65 0.62 0.59 0.65
N 240 288 336 228 276 324 228 276 324
*** denotes p ≤ .01, ** denotes .05 ≥ p > .01, and * denotes .1 ≥ p > .05

28

Table 2
Per Capita Real Personal Income Growth -- Time Varying Effects
Sample Period 1977 - 1977- 1977-

2006 2006 2006
Change in Tax Revenues ***-2.30 ***-2.32 ***-2.41

Tax Revenues (t-4) **-1.27 *-1.18 **-1.30
Change in Tax Revenues * (1992-2006) ***3.09 ***2.84 ***2.82

Tax Revenues (t-4) * (1992-2006) -0.12 -0.30 -0.18
Change in MTR 0.01

MTR (t-4) -0.10
Change in MTR * (1992-2006) 0.38

MTR (t-4) * (1992-2006) 0.09
Change in Adjusted MTR -0.15

Adjusted MTR (t-4) 0.06
Change in Adjusted MTR * (1992-2006) 0.98

Adjusted MTR (t-4) * (1992-2006) 0.14
Adjusted R-Squared 0.61 0.60 0.60
N 288 276 276

29

Table 3
Per Capita Real Personal Income Growth -- Tax Decomposition
Sample Period 1977- 1977- 1977-

2006 2006 2006
Change in Income Taxes 1.94 1.88 1.86

Income Taxes (t-4) *1.76 *1.79 1.76
Change in Corporate Taxes ***7.94 **7.93 ***7.98

Corporate Taxes (t-4) 1.27 1.10 1.10
Change in Sales Taxes 0.33 0.34 0.34

Sales Taxes (t-4) -0.92 -0.94 -0.95
Change in Property Taxes ***-4.38 ***-4.37 ***-4.37

Property Taxes (t-4) ***-2.77 ***-2.74 ***-2.75
Change in Other Taxes 0.43 0.46 0.45

Other Taxes (t-4) -0.68 -0.68 -0.66
Change in MTR 0.09

MTR (t-4) -0.004
Change in Adjusted MTR 0.16

Adjusted MTR (t-4) -0.003
N 288 276 276

30

Table 4
Per Capita Real Personal Income Growth -- Full Set of Controls
Sample Period 1977 - 1977- 1977- 1977- 1977- 1977- 1977- 1977- 1977-
2001 2006 2011 2001 2006 2011 2001 2006 2011
Change in Tax Revenues **-1.15 -0.55 -0.07 **-1.12 -0.54 -0.02 ***-1.37 -0.66 -0.12
Tax Revenues (t-4) **-0.98 -0.59 -0.18 **-0.90 -0.39 0.05 ***-1.11 -0.63 -0.18
Change in MTR 0.22 0.25 0.004

MTR (t-4) -0.07 -0.18 -0.19

Adjusted MTR (t-4) 0.40 0.11 0.09
Change in Welfare Spending -1.13 -0.16 0.10 *-1.20 -0.31 0.04 -0.97 -0.15 0.14
Welfare Spending (t-4) ***-1.82 **-1.09 **-0.96 ***-1.84 **-1.22 **-1.10 **-1.66 *-1.06 *-.95
Change in Investment Spending -0.29 -0.20 -0.29 -0.28 -0.37 -0.51 -0.22 -0.19 -0.31
Investment Spending (t-4) 0.14 -0.33 0.50 -0.23 0.29 0.41 0.31 0.41 0.51
N 235 282 329 225 272 319 225 272 319
Note: Though they are not listed in the table, these regressions include change in the unemployment rate, unemployment rate (t-4),
change in population density, population density (t-4), Republican governor, Republican governor (t-4), Republican legislature,
Republican legislature (t-4), Democratic legislature, and Democratic legislature (t-4).

31

Table 5
Firms Per Capita Formation Growth
Sample Period 1977 - 1977- 1977- 1977- 1977- 1977- 1977- 1977- 1977-
2001 2006 2011 2001 2006 2011 2001 2006 2011
Change in Tax Revenues ***-2.14 -0.95 -0.26 ***-2.06 -0.89 -0.31 ***-1.99 -0.79 -0.18
Tax Revenues (t-4) -0.61 -0.26 0.07 -0.40 0.06 0.40 -0.54 -0.11 0.28
Change in MTR 0.03 0.22 *.47

MTR (t-4) -0.22 **-.33 ***-.34

Adjusted MTR (t-4) -0.49 **-.76 **-.80
N 240 288 336 228 276 324 228 276 324

32

Table 6
Firms Per Capita Formation Growth -- Time Varying Effects
Sample Period 1977- 1977- 1977-

2006 2006 2006

Tax Revenues (t-4) *-.74 -0.49 -0.61

Tax Revenues (t-4) * (1992-2006) **.53 0.26 0.29
Change in MTR -0.05

MTR (t-4) **-.30
Change in MTR * (1992-2006) 0.50

MTR (t-4) * (1992-2006) 0.02

Adjusted MTR (t-4) **-.62

Adjusted MTR (t-4) * (1992-2006) 0.18
N 288 276 276

33

Table 7
Firms Per Capita Formation Growth -- Tax Decomposition
Sample Period 1977- 1977- 1977-

2006 2006 2006
Change in Income Taxes 1.41 1.49 1.39

Income Taxes (t-4) 0.95 **1.79 **2.11
Change in Corporate Taxes 2.11 0.84 1.29

Corporate Taxes (t-4) -1.08 -2.24 -2.76
Change in Sales Taxes 0.45 0.56 0.32

Sales Taxes (t-4) -0.7 -0.40 -0.86

Property Taxes (t-4) **-1.28 -0.82 **-1.21
Change in Other Taxes 0.03 -0.01 0.20

Other Taxes (t-4) 0.11 -0.19 0.02
Change in MTR 0.06

MTR (t-4) ***-.39
Change in Adjusted MTR 0.13

Adjusted MTR (t-4) ***-.98
N 288 276 276

34

Table 8
Employment-Population Ratio
Sample Period 1977- 1977- 1977- 1977- 1977- 1977- 1977- 1977- 1977-
2001 2006 2011 2001 2006 2011 2001 2006 2011
Change in Tax Revenues -0.96 -0.49 -0.24 -0.97 -0.49 -0.29 -0.89 -0.41 -0.19
Tax Revenues (t-4) -0.14 0.14 -0.14 -0.16 0.13 -0.19 -0.11 0.17 -0.10
Change in MTR -0.12 -0.07 0.09

MTR (t-4) 0.01 -0.01 0.05
Change in Adjusted MTR -0.38 -0.29 -0.08

Adjusted MTR (t-4) -0.16 -0.19 -0.20
N 240 288 336 228 276 324 228 276 324

35

Table 9
Employment-Population Ratio -- Time Varying Effects
Sample Period 1977- 1977- 1977-

2006 2006 2006

Tax Revenues (t-4) -0.18 -0.22 -0.18

Tax Revenues (t-4) * (1992-2006) 0.10 0.06 0.02
Change in MTR -0.17

MTR (t-4) 0.01
Change in MTR * (1992-2006) -0.01

MTR (t-4) * (1992-2006) 0.07


Adjusted MTR (t-4) * (1992-2006) 0.09
N 288 276 276

36

Table 10
Employment-Population Ratio -- Tax Decomposition
Sample Period 1977- 1977- 1977-

2006 2006 2006
Change in Income Taxes *1.55 *1.72 *1.81

Income Taxes (t-4) *1.18 1.04 1.28
Change in Corporate Taxes 3.19 3.12 2.83

Corporate Taxes (t-4) -1.65 -1.57 -1.78
Change in Sales Taxes *1.28 1.27 1.27

Sales Taxes (t-4) -0.31 -0.37 -0.32

Property Taxes (t-4) -0.91 -0.95 -0.88
Change in Other Taxes 0.08 0.12 0.16

Other Taxes (t-4) 0.83 0.82 0.76
Change in MTR -0.21

MTR (t-4) 0.05

N 288 276 276

37

National Tax Journal, December 2015, 68 (4), 919–942 http://dx.doi.org/10.17310/ntj.2015.4.02
THE RELATIONSHIP BETWEEN TAXES AND GROWTH AT

THE STATE LEVEL: NEW EVIDENCE
William G. Gale, Aaron Krupkin, and Kim Rueben
The effects of state tax policy on economic growth, entrepreneurship, and employ-
ment remain controversial. Using a framework that in prior research generated
significant, negative, and robust effects of taxes on growth, we find that neither tax
revenues nor top income tax rates bear stable relationships to economic growth or
employment across states and over time. While the rate of firm formation is nega-
tively affected by top income tax rates, the effects are small in economic terms. Our
results are inconsistent with the view that cuts in top state income tax rates will
automatically or necessarily generate growth.
Keywords: state taxes, state economic growth, firm formation, tax cuts
JEL Code: H71
I. INTRODUCTION
T he effects of state-level tax policy on states’ economic growth and on related activity
such as entrepreneurship and employment have proven to be perennial, controversial
issues in academic and policy circles. Policy controversies have heated up in recent
years as several states, hoping to stimulate long-term growth and new business activ-
ity, have cut taxes in various ways as their budgets have recovered following the Great
Recession. Most prominently, Kansas cut taxes in 2012, eliminating its top income
tax bracket, reducing other income tax rates, and abolishing state income taxation of
pass-through entities. Several other states have enacted or proposed lower income
taxes, sometimes in exchange for higher sales tax revenue. In contrast, some states,
most notably California and New York, have maintained higher top marginal income
tax rates that were originally introduced to address revenue shortfalls (Bosman, 2015).
A voluminous academic literature on taxes and state growth features widely varying
methodologies and results. Major recent studies reach almost every conceivable finding:
tax cuts raise, reduce, do not affect, or have no clear effect on growth. The effects of
William G. Gale: Brookings Institution and Urban-Brookings Tax Policy Center (wgale@brookings.edu)
Aaron Krupkin: Brookings Institution and Urban-Brookings Tax Policy Center (akrupkin@brookings.edu)
Kim Rueben: Urban Institute and Urban-Brookings Tax Policy Center (KRueben@urban.org)
920 National Tax Journal
different taxes — income, corporate, property, and sales — vary dramatically within
and across studies. Several factors complicate interpretation of the findings; the stud-
ies use different dependent variables, analyze different time periods, employ alterna-
tive measures of tax revenues and/or rates, include different measures of government
spending, control for different independent variables, and use different control groups
and identification methods. Additionally, state balanced budget requirements imply
that revenues and spending should co-vary closely, making it more difficult to study
independent influences of taxes or spending.
In this paper, we present new results on how state tax policy affects economic growth
and entrepreneurial activity. Using a framework that in prior work generated significant,
negative, and robust effects of taxes on income growth, we nonetheless find that nei-
ther tax revenues nor top marginal income tax rates bear any stable relationship – and,
indeed, often bear a positive relationship – to economic growth rates across states and
over time. Consistent with these findings, we also find that tax revenues have unstable
effects on employment over time and that marginal tax rates do not affect employment
levels. While the rate of firm formation is negatively affected by top income tax rates,
the effects are small in economic terms.
Because there are so many specifications already in the literature, our goal was to
build on a previously existing model. In particular, we extend the model in Reed (2008),
who uses five-year observations and consistently finds that tax revenue levels nega-
tively affect the growth rate of real per capita personal income during the 1970–1999
timeframe under a wide range of specifications. Our goal is not to replicate Reed’s
results, though we do generate similar findings for a similar time period. Rather, the
advantage of using this approach is that we can examine the robustness of results as
the time period is updated or other specification details are altered. The disadvantage
is that the identification method is not as strong as studies that compare the economic
activity of neighboring areas located on opposite sides of a state line.
We essentially replicate Reed’s original findings, using data from 1977 to 2001.
We show, however, that the results are not robust to several extensions. First, simply
extending the sample period by one five-year observation to 2006 (or two, to 2011, and
thus including the Great Recession) greatly reduces the absolute value of the effects
and eliminates their statistical significance. Given the sensitivity of the results to time
period, our second extension is to test for parameter stability over 1977–2006. We find
that the estimated impact of tax revenues on income growth changes sign over the first
and second 15 years of the sample period. The effect is negative over the 1977–1991
period and positive over the 1992–2006 period.
Our third extension decomposes tax revenues into components. We show that differ-
ent taxes have dramatically different impacts on growth, with property taxes exerting
consistently negative effects and income and corporate taxes usually exerting positive
effects. Statistical tests overwhelmingly confirm that it is inappropriate to aggregate the
components of tax revenue into a single aggregate revenue measure.
We extend Reed’s results in a fourth way, by including estimates of the top statutory
state income tax rate and the top effective state income tax rate, that is, the top statu-
tory rate adjusted for federal deductibility of state taxes. Inclusion of these variables
The Relationship Between Taxes and Growth at the State Level 921
does not change the results for tax revenues noted above, and generally the tax rate
variables do not affect growth. All of our findings described above remain in place when
we add controls for public spending categories and a variety of economic, social, and
political variables.
To explore these effects further, we look at two main components of economic growth:
firm formation and employment. We show that neither variable is consistently affected
by tax revenue levels. Top marginal income tax rates have no effect on employment, but
appear to reduce firm formation slightly. Raising the top income tax rate by 1 percentage
point reduces the rate of firm formation by about 0.1 percent per year.
Section II reviews previous literature. Section III describes our methodology and
data. Section IV examines the impact of taxes on real growth of personal income. Sec-
tion V examines the impact on firm formation and employment. Section VI contains
our concluding remarks.
II. PREVIOUS RESEARCH

There is a very large literature on the issues examined in this paper. Mazerov (2013)
and McBride (2012) provide a lengthy list of relevant citations. Although an exhaustive
review of the literature is beyond the scope of this paper, we discuss several notable
papers below.
Perhaps the most convincing approach to studying the effects of state tax policy iden-
tifies tax effects by comparing neighboring areas that differ in tax policy because they
lie on opposite sides of a state border. This approach helps to control for the fact that
neighboring areas may be similar in a variety of ways such as climate, culture, distance
to ports, etc., some of which may not be observable or measurable in an econometric
study. We have found four such studies: three find negligible impacts of taxes on growth,
while one suggests significant effects of corporate taxes in some circumstances.
Reed and Rogers (2004) examine the effects of the 30 percent reduction in New Jersey’s
personal income taxes from 1994 to 1996. Using county-level data on employment, they
show that New Jersey counties experienced strong employment growth after the tax cut,
but so did counties in neighboring states that did not have tax cuts. The net effect of the tax
cut, measured by the increase in employment in New Jersey counties relative to counties
in neighboring states, was small and not significantly different from zero.
Holcombe and Lacombe (2004) examine growth in neighboring counties across state
lines from 1960–1990. They compare per capita income growth in each border county
in the lower 48 states to growth in the adjacent counties in neighboring states, control-
ling for the average state tax rate, the highest state marginal income tax rate, and other
factors. The results require careful interpretation. Holcombe and Lacombe (2004, p.
292) report that “states that raised their income tax rates more than their neighbors had
slower income growth and, on average, a 3.4 percent reduction in per capita income”
from what would have otherwise occurred between 1960 and 1990. This gives the
impression that the effects of state taxes are quite large. However, careful inspection
indicates the results imply that a massive increase — 13.25 percentage points — in the
highest state marginal tax rate would reduce per capita income after 30 years by about
$377 (in 1990 dollars) (Holcombe and Lacombe, 2004). Given that per capita income
was $1,369 in 1960 and $11,048 in 1990 (all nominal), this implies that a 13.25 per-
centage point increase in the top state marginal tax rate would reduce the growth rate
of nominal per capita income in the state by 0.13 percentage points, to 7.08 percent
from 7.21 percent. If one can interpolate linearly, the results imply that raising the top
state tax rate by 1 percentage point would have a negligible impact, reducing reduce
the growth rate by just 0.01 percentage points annually.
Goff, Lebedinsky, and Lile (2012, p. 295) match “neighboring” pairs of states based
on either location or, for states in the middle two quartiles of the respective distribu-
tions, population or land size ratio. They examine the effects of tax revenues on per
capita Gross State Product (GSP) growth from 1997 to 2005. The authors show that the
paired analysis — i.e., using matched pairs — provides roughly double the explanatory
power of a standard cross-sectional regression. In the paired analysis, they show that
a 1 percentage point higher tax burden (defined as revenue divided by GSP) reduces
cumulative nominal GSP per capita growth from 1997 to 2005 by about 2 percentage
points (the estimates range from 1.90 to 2.19). Given that average cumulative nominal
GSP per capita growth over this period was 40 percent, their finding implies that a 1
percentage point higher state tax burden reduces the annual growth rate of nominal
income by 0.19 percentage points, to 4.11 percent from 4.30 percent.
However, this result is not robust with respect to splitting tax revenues into its compo-
nents. When the authors use income tax and corporate tax revenues as separate variables
rather than overall revenues, they find that corporate taxes do not have a statistically
significant impact on growth and that the marginal impact of higher individual income
tax burdens is only about 20 percent of the impact of overall revenues. This implies that
a 1 percentage point increase in income tax revenues as a share of GSP would reduce
annual growth by only about 0.04 percentage points, a negligible effect.
Ljungqvist and Smolyansky (2014) employ a similar strategy of looking at counties
across state lines, but do so with respect to changes in the statutory state corporate tax
rate over the 1970–2010 period. They find that increases in statutory corporate tax
rates reduce employment and wages, but reductions in statutory corporate tax rates do
not raise employment and wages, except during recessions. Many corporate decisions,
however, depend on effective tax rates rather than statutory rates. Effective rates depend
on the tax base, which varies enormously across states, as well as the rate structure. The
authors do not explore the effects of other components of the corporate tax system, such
as depreciation deductions or changes in formulary apportionment rules.
Other research in the literature also reaches conflicting conclusions. In the most com-
prehensive paper, Alm and Rogers (2011) conduct an exhaustive sensitivity analysis of
specifications that examine the impact of a wide variety of variables on growth. They
obtain decidedly mixed effects. They study annual growth of real per capita income in the
lower 48 states from 1947 through 1997, the longest time frame in the literature. Rather
than using state fixed effects, which may have less value under a long time frame than a
short one, they use, in various regressions, combinations of more than 130 explanatory
variables lagged by one period and grouped into categories of revenues, expenditures,
demographics, geography, and national. Alm and Rogers (2011, p. 9) find that the esti-
mated effects of overall tax revenues on growth are “quite sensitive” and depend on
the inclusion of other variables as explanatory factors, the time period employed, and
other aspects of the specification. The effects of revenues from the corporate income
tax and personal income tax separately are also sensitive to specification, but when
they are significant, they are often positive, suggesting that higher taxes and greater
reliance on these specific taxes compared to others are associated with faster growth.
The authors conclude that the overall estimated effects of taxes are fragile and that the
causes of growth may vary across states. They also find that the political orientation
of a state matters, with typically conservative states experiencing lower growth rates.
Several other studies are worth noting here. Tomljanovich (2004) uses data from 1972
to 1998 to show that higher taxes reduce short-term growth rates. Higher taxes do not
affect the long-term growth rate, but the short-term reduction in growth rates perma-
nently reduces the size of the economy. Decomposing total tax burden, Tomljanovich
finds that income, property, and sales taxes have no significant effects, and corporate
taxes have positive effects on growth. Ojede and Yamarik (2012) obtain the opposite
results for overall tax burdens; the overall tax burden does not affect short-term growth
but does affect long-term growth. Decomposing tax burdens, they find that sales and
property taxes reduce growth, but corporate and income taxes do not.
Bania, Gray, and Stone (2007, p. 193) analyze “growth hills,” arguing that the rela-
tion between growth and taxes should be quadratic and depend on spending. They find
a positive linear effect and a negative quadratic effect of revenues on growth, with the
growth effect hitting zero when revenues reach about 29 percent of personal income,
far higher than revenues in most states.
Several studies look at the effects of taxes on growth and employment levels, and
obtain mixed results. Using data from 1969 to 1986, Mullen and Williams (1994) find
that, given overall tax levels, higher marginal tax rates reduce growth. Wasylenko
and McGuire (1985) generally find that higher levels of overall taxation discourage
employment growth. Effective income tax rates are shown to have a negative impact
on employment growth in the wholesale, retail, and finance industries. However, their
corporate tax rate variable does not yield statistically significant results. Goss and Philips
(1994) find that personal income taxes reduce employment growth, but corporate taxes
do not. Shuai and Chmura (2013) find that higher corporate taxes reduce employment
growth. Gius and Frese (2002) find that lower personal income taxes raise the number
of firms in a location, but corporate taxes do not have a significant impact.
Goolsbee and Maydew (2000) find that increased reliance on a single sales factor
formula in corporate taxes, which results in reduced taxation based on payroll, caused
an increase in manufacturing employment over the 1978–1994 period. A recent study
by Merriman (2015), however, finds statistical concerns with the study, concluding that
the results are not robust to an extension of the sample through 2010 or to the use of
preferred statistical techniques, including clustering of errors at the state level.
Additional studies examine the role of taxes in the formation of firms; see Gale and
Brown (2013) for further discussion. Bruce (2000) defines the tax rate differential as the
tax rate an individual would face in a wage and salary position minus the one faced in
self-employment. He finds that self-employment falls with higher average tax rates in
the self-employed sector but rises with higher marginal tax rates in the self-employed
sector. While the direction of the marginal tax rate effect may seem counterintuitive,
it is consistent with a view that people move to self-employment in part because busi-
ness ownership provides opportunities to avoid or evade taxes. Gentry and Hubbard
(2000, 2005) find that increased progressivity — that is, increased convexity of the tax
schedule, including higher marginal tax rates — reduces entry into self-employment.
If the sheer fragility of the results in the literature is not evident from the survey
above, it is demonstrated forcefully and systematically in a remarkable study by Pjesky
(2006). Pjesky reviews five previous studies that generally show that taxes reduce state
growth and economic activity: Vedder (1996), Becsi (1996), Helms (1985), Mofidi and
Stone (1990), and Carroll and Wasylenko (1994). Pjesky first essentially replicates
each of the studies, using data collected independently. He then re-estimates all of the
studies over the same time period (1977–1997) and finds that about two-thirds of the
relevant coefficients (on tax variables) change sign. Then, he re-estimates the studies
using a common time period and a common dependent variable (per capita personal
income) and finds a majority of the estimated effects of taxes on growth are positive,
with many being significant. This demonstrates that the earlier results are not robust to
straightforward extensions and sensitivity analysis.
Against this backdrop of contradictory and unstable results, Reed (2008) enters the fray
and finds strong, negative, and robust effects of state taxes on growth. Reed regresses
state-level data on the change in the log of real per capita personal income between
the current year, t, and 4 years earlier, t – 4, on the change in overall tax revenues (as a
share of personal income) over the same period, and on overall tax revenues (as a share
of personal income) in t – 4 for six five-year periods from 1970 to 1999 (1970–1974,
1975–1979, etc.). Notably, he finds strong, negative impacts of overall tax revenues on
per capita income growth across a wide variety of specifications, including splitting the
sample by time period and by geographic area, adding an extensive list of government
spending and control variables, altering the time periods involved, and estimating both
structural and reduced form versions of the model. Because our specification developed
below builds on the Reed (2008) model, we defer further discussion of his framework
to the next section.
III. METHODOLOGY
A. Specification
Based on the formulation in Reed (2008), we estimate
(1) DLNYit = β0 + β1 ( DTTAX it ) + β 2 (TTAX i ( t −4) ) + β3 ( DX it ) + β 4 ( X i ( t −4) )

+ statei + timet + ε it ,
where the b’s are coefficients, t indexes years, i indexes states, D represents the change in
a variable between periods t – 4 and t, LNY is the log of real personal income per capita,
TTAX is total tax revenue as a share of personal income, X is a vector of other explana-
tory variables, state captures fixed effects, and time is a vector of five-year periods.
Reed develops a structural model based on theory. He estimates a structural model,
which includes measures of capital and labor at the state level, as well as a reduced form
version. Our specification in (1) is essentially the reduced form version. Reed discusses
several virtues of this specification. Annual revenue data are susceptible to measure-
ment error, and five-year periods are long enough to mitigate the biases created. Serial
correlation and measurement errors are plausibly less severe when observations are
spread out over time. The periods are non-overlapping (1970–1974, 1975–1979, etc.).
Having the year intervals overlap would induce spurious positive correlation across
time periods. Having the year intervals connect would induce spurious negative correla-
tion between time periods. Including both contemporaneous and lagged effects of the
dependent variables, along with state and time effects, allow for a variety of channels
through which taxes can affect growth, including effects that take time to materialize.
The panel specification allows controls for state fixed effects.
We use panel data for the 48 contiguous states for the period 1977–2011. The sample
period is chosen with regard to U.S. Census data limitations on revenues and business
dynamics. We estimate (1) with ordinary least squares (OLS) using five-year, non-con-
necting intervals (for example, 1977–1981, 1982–1986, and so on through 2007–2011).
We weight each state’s observations by its average population from 1977–2011, using
data from the U.S. Census annual July 1 estimates (U.S. Census Bureau, 2012). Similar
to the OLS analyses in Reed (2008), we employ robust standard errors to correct for
heteroscedasticity. Standard errors are not clustered by group.
B. Dependent Variables

Following Reed (2008), our first specification examines the change in the natural
log of real personal income per capita from t – 4 to t for each state. This variable is
calculated starting with data on nominal personal income by state from the Bureau of
Economic Analysis’s Regional Database (Bureau of Economic Analysis, 2014b). The
nominal data are then converted to a real measure that is chained to 2011 dollars and
divided by the respective state’s population in the relevant year. The resulting measure
is logged and differenced (and multiplied by 100 to simplify interpretation).
To measure business activity, we use 1977–2011 data on the change from t – 4 to
t in the logged number of firms per capita, with the gross firm data taken from the
September 2014 release of the U.S. Census Business Dynamics Statistics (BDS) database
(U.S. Census Bureau, 2014b).1 Hathaway and Litan (2014) use the same data from an
earlier release. We also estimated effects for the number of establishments using the
1
BDS classifies a firm as a “business organization consisting of one or more domestic establishments that
were specified under common ownership or control,” and an establishment as “a single physical location
where business is conducted or where services or industrial operations are performed.” The number of
firms and establishments are both one for single-establishment firms (U.S. Census Bureau, 2014a.)
same data source, but the firm formation and establishment series are so highly cor-
related (99 percent) that the results were virtually identical and are not reported below.
To measure employment, we specifically examine the change in the logged employ-
ment-population ratio. This variable is preferred over the number of employees since the
number of employees in a state can be affected by population growth. The employment-
population measure is listed in the Bureau of Labor Statistics Local Area Unemploy-
ment Statistics database as the annual average proportion of the civilian, age 16 and
over, non-institutional population that is employed (Bureau of Labor Statistics, 2015).
C. Explanatory Variables

Our principal explanatory variable is total state and local tax revenue in a given state
and year as a share of personal income. The variable is taken from the Urban-Brookings
Tax Policy Center’s State and Local Finance Data Query System (SLF-DQS), which
houses state revenue and expenditure data originating from the U.S. Census Govern-
ment Finance Statistics (GFS) database (Tax Policy Center, 2013).2 When local data are
included in the request, there are missing values for the years 2001 and 2003. To address
this issue, we simply use the averages of the preceding and following years. For example,
values for 2001 are imputed as the average of 2000 and 2002 values. Total tax revenue
is distinguished from total revenue, as the latter includes inter-governmental transfers.
We use two alternative measures of state income tax rates. The first is the top statu-
tory marginal personal income tax rate (Tax Policy Center, 2015; Poterba and Rueben,
2001). We were unable to code a statutory rate for Nebraska until 1987, Rhode Island
until 2000, and Vermont until 2000. These states employed tax features that make it
difficult to enumerate a single value for the maximum personal rate. For example, a
state might tax its citizens at a certain percentage of federal liabilities. We exclude these
year-state observations when analyzing marginal tax rates.
The second formulation of state income tax taxes reports the top adjusted marginal
personal income tax rate (SADJ), which we define as the difference between the com-
bined federal and state income tax rate for an itemizer facing the top federal rate and
the federal tax rate that filer faces. The combined rate is (1 – S)F + S, where S is the
state rate and F is the federal rate. The adjusted tax rate is given by
(2) SADJ it = (1 − Sit ) Ft + Sit − Ft = Sit (1 − Ft ).
In certain specifications, we add a dummy variable that indicates whether the time
period is 1992 or later. This variable is never entered on a stand-alone basis, since time
effects are already included; rather, it is interacted with the tax revenue of the tax rate
variables in order to see if the impact of tax policy varies over time.
To control for how revenues are used, we include measures of spending. Our mea-
sure of productive physical investment spending combines total state and local airport,
2
This is series R05 from the SLF-DQS.
highway, and transit utility spending as a share of personal income.3 Our proxy for
social spending is the sum of state and local direct expenditures on public welfare,
unemployment compensation, and other insurance trust expenditures as a share of per-
sonal income.4 These expenditure data, similar to the revenue variables, have underlying
missing values for 2001 and 2003 for local data. To compensate, we employ the same
averaging procedure as described above. The omitted component of spending may be
thought of largely as government operations and education.
Other control variables include the unemployment rate and population density. In its
basic form, the unemployment rate is listed as the January seasonally-adjusted unem-
ployment rate from 1977–2011 for a given year and state. Figures are extracted from
the Bureau of Labor Statistics Local Area Unemployment database (Bureau of Labor
Statistics, 2015). Population density is calculated as the average population per square
mile of land (U.S. Census Bureau, 2012).
We also use four different sets of political or institutional dummy variables. The first
indicates whether a state’s governor is Republican for the majority of the year. Histori-
cal governor data were obtained from the National Governors Association (2014). Two
additional variable sets indicate party control of the state legislatures. Since every state
except Nebraska has a bicameral legislature, we use one dummy variable for a unified
Republican legislature and one dummy variable for a unified Democratic legislature.
If both dummy variables are zero, a state has a divided legislature. We omit Nebraska’s
data because the state’s unicameral members are non-partisan. For 1977-2008, we use
data from Dubin (2007), where he outlines the partisan breakdown of each legislature
following every election. Since most elections occur every other November, we carry
each value over to the following two years. For example, data presented for 2004 are
included in the 2005 and 2006 observations. For 2009–2011 we use the party controls
reported by the National Conference of State Legislatures (2014). We also include a
dummy variable set that indicates whether a state has a tax or expenditure limitation
(TEL) in place during a given year (National Association of State Budget Officers,
2015). Since these are binary variables, we only include the current year’s value and
the four-period lagged value. There is no “change variable” as there is for the other
variables.
IV. RESULTS FOR PERSONAL INCOME

The first set of columns in Table 1 summarizes the effects of tax revenue on personal
income growth. The specification used is (1), with no X variables. The regressions
include a constant, the change in tax revenue, lagged tax revenue, and state and time
fixed effects, and are weighted by state population. The regression reported in the first
column shows that our estimates basically replicate Reed (2008) for the effects of taxes
on real per capita personal income. For 1977–2001, the coefficient on the change in tax
3
These are series E020, E065, and E130 from the SLF-DQS, respectively.
4
These are series E090, E137, and E138 from the SLF-DQS, respectively.
revenues over the last four years is –1.96 (p = 0.019) and the coefficient on four-year
lagged tax revenues is –1.36 (p = 0.052).5
These findings are similar to those of Reed (2008, Table 1), who obtained statistically
significant estimates of –2.6 and –1.6, respectively, on the four-year change and the
level of tax revenues four years earlier. His sample period covers 1970 to 1999. Our
estimates imply that for every percentage point of personal income taken as tax revenue
four years ago, the cumulative growth of real per capita income over the ensuing four
years was reduced by 1.36 percent, or about 0.34 percent per year. For every percentage
point of personal income by which tax revenue rose over the previous four years, real
per capita income was reduced by 1.96 percent, or about 0.5 percent per year. These
are economically significant and substantial effects.6
As mentioned above, Reed (2008) shows the results to be robust to a wide variety of
changes. Our first specification test is to extend the sample period. As shown in the sec-
ond column of Table 1, the results are not robust to extending the sample period to 2006.
The change-in-taxes and lagged-taxes variables have negative effects, but they are much
smaller than in the first column and not statistically significant. Extending the sample to
2011 (see the results in the third column) generates similarly small and insignificant effects.
The sensitivity of the results raises the possibility that the coefficient estimates are
not stable over time. To test this, we use the same specification as in Table 1 but focus
on the 1977–2006 period, add a dummy variable that equals one if the observation is
in the second half of that period (1992–2006), and interact the dummy with the two
tax revenue variables. The first column of Table 2 shows that the estimated net effect
of the tax variables on growth is negative for the 1977–1991 period (with coefficients
of –2.30 on the change in revenues and –1.27 on four-year lagged revenues). But the
point estimate of the change in revenues variable is positive in the 1992–2006 period
(–2.30 + 3.09) and is significantly different from the effect estimated for 1977–1991.
These results stand in sharp contrast to the robustness shown for the sample splits in
the 1970–1999 period reported by Reed (2008).
The aggregate tax revenue variable that we, Reed (2008), and many others have used
is the sum of revenues from different taxes and thus implicitly constrains each revenue
source to have the same effect on growth. Different taxes, however, may have different
5
Estimates that exclude state fixed effects are weaker but still attain significant negative effects. Estimates
that exclude time effects, however, generate a positive coefficient on the change in revenues over the pre-
vious four years, perhaps because the regression is picking up the fact that revenues as a share of income
are pro-cyclical because of automatic stabilizers, rather than because of anything having to do with the
effects of taxes on growth.
6
The result are robust to a variety of specifications (not shown), including (1) using 2000 data instead of
2001 to avoid having to impute local government data for 2001; (2) not weighting the regressions by
population; (3) lagging the revenue variables by one year to address the potential endogeneity of the
change in revenues (recall also that all of the regressions include time effects); (4) examining data with
two-year lags; (5) excluding all data for states with any missing data; (6) estimating separate effects for
increases versus decreases in tax revenues; (7) estimating non-linear effects of revenues; (8) controlling
for tax rates and revenues in neighboring states; and (9) adding a dummy for the presence of a TEL and
interacting that dummy with lagged revenues and the change in revenues.
Table 1
Per Capita Real Personal Income Growth
1977– 1977– 1977– 1977– 1977– 1977– 1977– 1977– 1977–
Sample Period 2001 2006 2011 2001 2006 2011 2001 2006 2011
Change in tax revenues –1.96** –0.95 –0.55 –2.05** –0.98 –0.57 –2.12** –1.01 –0.54
(0.83) (0.65) (0.60) (0.82) (0.65) (0.62) (0.84) (0.66) (0.63)
Tax revenues (t – 4) –1.36* –0.82 –0.78 –1.51** –0.80 –0.72 –1.44** –0.84 –0.75
(0.70) (0.62) (0.59) (0.68) (0.64) (0.62) (0.68) (0.64) (0.63)
Change in MTR NA NA NA 0.14 0.24 0.14 NA NA NA

(0.32) (0.30) (0.26)
MTR (t – 4) NA NA NA 0.14 –0.02 –0.08 NA NA NA

(0.29) (0.25) (0.22)
Change in adjusted MTR NA NA NA NA NA NA 0.20 0.37 0.15

(0.68) (0.63) (0.54)
The Relationship Between Taxes and Growth at the State Level
Adjusted MTR (t – 4) NA NA NA NA NA NA 0.34 0.04 –0.17

(0.66) (0.60) (0.54)
Adjusted R2 0.63 0.59 0.66 0.62 0.59 0.65 0.62 0.59 0.65
N 240 288 336 228 276 324 228 276 324

Notes: Asterisks denote significance at the 1% (***), 5% (**), and 10% (*) levels. Robust standard errors are included in parentheses.
929
Table 2
Per Capita Real Personal Income Growth — Time Varying Effects
1977– 1977– 1977–
Sample Period 2006 2006 2006
Change in tax revenues –2.30*** –2.32*** –2.41***
(0.73) (0.73) (0.74)
Tax revenues (t – 4) –1.27** –1.18* –1.30**

(0.58) (0.61) (0.61)
Change in tax revenues × (1992–2006) 3.09*** 2.84*** 2.82***

(1.04) (1.07) (1.08)
Tax revenues (t – 4) × (1992–2006) –0.12 –0.30 –0.18

(0.46) (0.44) (0.47)
Change in MTR NA 0.01 NA

(0.35)
MTR (t – 4) NA –0.10 NA
(0.23)
Change in MTR × (1992–2006) NA 0.38 NA

(0.70)
MTR (t – 4) × (1992–2006) NA 0.09 NA

(0.21)
Change in adjusted MTR NA NA –0.15

(0.75)
Adjusted MTR (t – 4) NA NA 0.06

(0.61)
Change in adjusted MTR × (1992–2006) NA NA 0.98

(1.15)
Adjusted MTR (t – 4) × (1992–2006) NA NA 0.14

(0.36)
Adjusted R2 0.61 0.60 0.60
N 288 276 276

Notes: Asterisks denote significance at the 1% (***), 5% (**), and 10% (*) levels. Robust standard er-
rors are in parentheses.
effects on growth. To test this, we decompose tax revenues into five categories (per-
sonal income, corporate income, sales, property, and other).7 The first column of Table
3 shows that the effects of taxes on growth vary dramatically across revenue sources
for 1977–2006 (similar results hold for 1977–2001 and for 1977–2011). Property taxes
enter strongly and negatively, while the change in corporate taxes enters strongly and
positively, as do lagged income taxes.8 F-tests strongly reject equality of the coefficients
across tax sources (in either the lagged value or recent changes variable). This finding
rejects the specification used by Reed (2008) and many others.
All of the specifications discussed above include tax revenue variables but omit marginal
tax rate information. The second and third sets of columns in Tables 1, 2, and 3 show the
effects of including the top statutory or the top adjusted tax rates in the regressions and
demonstrate two main results. First, including the tax rate does not change the basic pattern
of results discussed above for the tax revenue variables. Second, the effects of marginal
tax rates on growth are close to zero, variable in sign, and not statistically significant.
In additional analyses, we add government spending variables for welfare and
investment and the variety of explanatory variables described earlier. These extensions
generally do not have much of an impact on the effects of the tax revenue or marginal
tax rate variables. For example, Table 4 expands Table 1 to report the effects of both
tax and spending variables, controlling for the other explanatory variables described
above.9 The major results shown earlier hold here as well. The sign and significance of
the tax revenue coefficient is sensitive to time period, and marginal tax rate measures
do not affect growth in any of the specifications. Regarding the government spending
variables, welfare spending has a negative impact on growth in all of the specifications,
while investment spending does not have significant effects.10
7
These are series R27, R28, R09, and R06 from the SLF-DQS, respectively. Other taxes are simply the total
tax values less the four aforementioned series.
8
The coefficients report the effect of an increase in the tax revenue equal to 1 percent of personal income.
Because the different taxes raise different amounts of revenue, the 1 percent of personal income increases
translate into very different percentage changes in each tax source. For example, corporate revenues have
averaged about 0.4 percent of personal income over the sample, while personal income taxes averaged
about 2 percent. Thus, if the corporate tax coefficient is 8.0, the results imply that a 10 percent increase
in corporate taxes (from 0.40 to 0.44 percent of personal income) would raise the growth rate by 0.32
percentage points. Likewise, a 10 percent increase in income taxes (from 2.0 to 2.2 percent of personal
income) would raise the cumulative growth rate by 0.40 percentage points if the income tax coefficient
were 2.0.
9
Given the balanced budget requirements that states impose on themselves and given the presence of
government spending variables in the used to finance spending other than on welfare and investment. In
contrast, the tax variables in Tables 1–3 show the effects of an increase in taxes that is used to finance an
average of all types of government spending.
10
We have also run regressions using real Gross State Product per capita as the dependent variable (Bureau of
Economic Analysis, 2014b). GSP is a better measure of state-level activity compared to personal income,
as it measures how much is produced in a given state in a given year, whereas personal income measures
the total (state-originated and externally originated) income of residents and businesses in the state. But
the method by which GSP figures are constructed changed so that the series up to 1997 and after 1997 are
not comparable (Bureau of Economic Analysis, 2014a). As a result, we estimated GSP effects for 1977
to 1996 and 1997 to 2006 or 2011. Our results, not shown, find that tax revenues and marginal tax rates
produce negative and insignificant effects of taxes on GSP through 1996 and positive and insignificant
effects of taxes on growth from 1997 to 2006 or 2011.
Table 3
Per Capita Real Personal Income Growth — Tax Decomposition
1977– 1977– 1977–
Sample Period 2006 2006 2006
Change in income taxes 1.94 1.88 1.86
(1.42) (1.56) (1.58)
Income taxes (t – 4) 1.76* 1.79* 1.76
(0.90) (1.05) (1.12)
Change in corporate taxes 7.94*** 7.93** 7.98***

(2.85) (3.14) (3.05)
Corporate taxes (t – 4) 1.27 1.10 1.10
(2.74) (2.94) (3.05)
Change in sales taxes 0.33 0.34 0.34

(1.35) (1.38) (1.41)
Sales taxes (t – 4) –0.92 –0.94 –0.95
(1.17) (1.16) (1.21)
Change in property taxes –4.38*** –4.37*** –4.37***

(0.90) (0.92) (0.93)
Property taxes (t – 4) –2.77*** –2.74*** –2.75***
(0.83) (0.87) (0.85)
Change in other taxes 0.43 0.46 0.45

(1.52) (1.56) (1.54)
Other taxes (t – 4) –0.68 –0.68 –0.66
(1.59) (1.61) (1.61)
Change in MTR NA 0.09 NA

(0.37)
MTR (t – 4) NA –0.004 NA
(0.24)
Change in adjusted MTR NA NA 0.16

(0.66)
Adjusted MTR (t – 4) NA NA –0.003
(0.56)
Adjusted R2 0.69 0.68 0.68
N 288 276 276

Notes: Asterisks denote significance at the 1% (***), 5% (**), and 10% (*) levels. Robust standard
errors are in parentheses.
Table 4
Per Capita Real Personal Income Growth — Full Set of Controls
1977– 1977– 1977– 1977– 1977– 1977– 1977– 1977– 1977–
Sample Period 2001 2006 2011 2001 2006 2011 2001 2006 2011
Change in tax revenues –1.13** –0.55 –0.07 –1.09** –0.53 –0.005 –1.35*** –0.65 –0.12
(0.55) (0.48) (0.46) (0.52) (0.48) (0.45) (0.52) (0.48) (0.46)
Tax revenues (t – 4) –0.99** –0.60 –0.17 –0.88** –0.37 0.08 –1.10*** –0.62 –0.16
(0.46) (0.45) (0.44) (0.43) (0.44) (0.44) (0.41) (0.43) (0.43)
Change in MTR NA NA NA 0.21 0.25 0.01 NA NA

(0.30) (0.29) (0.24)
MTR (t – 4) NA NA NA –0.09 –0.20 –0.21 NA NA NA

(0.23) (0.21) (0.18)

(0.47) (0.48) (0.44)
Adjusted MTR (t – 4) NA NA NA NA NA NA 0.39 0.09 0.08

(0.34) (0.34) (0.32)
Change in welfare spending –1.14 –0.15 0.12 –1.20* –0.31 0.06 –0.97 –0.14 0.15
(0.72) (0.62) (0.54) (0.71) (0.61) (0.54) (0.74) (0.63) (0.55)
Welfare spending (t – 4) –1.87*** –1.12** –0.97** –1.90*** –1.28** –1.14** –1.69*** –1.09* –0.96*
(0.63) (0.55) (0.48) (0.64) (0.55) (0.48) (0.63) (0.56) (0.49)
933
934
Table 4, Per Capita Real Personal Income Growth — Full Set of Controls, Continued
1977– 1977– 1977– 1977– 1977– 1977– 1977– 1977– 1977–
Sample Period 2001 2006 2011 2001 2006 2011 2001 2006 2011
Change in investment spending –0.23 –0.17 –0.28 –0.19 –0.32 –0.50 –0.16 –0.15 –0.30
(1.43) (1.19) (0.99) (1.39) (1.16) (0.99) (1.44) (1.20) (1.00)
Investment spending (t – 4) 0.13 0.32 0.48 0.22 0.27 0.37 0.31 0.40 0.50
(1.28) (1.06) (0.92) (1.21) (0.99) (0.88) (1.30) (1.07) (0.93)
Adjusted R2 0.82 0.79 0.83 0.83 0.79 0.83 0.82 0.79 0.83
N 235 282 329 225 272 319 225 272 319

Notes: Asterisks denote significance at the 1% (***), 5% (**), and 10% (*) levels. Robust standard errors are in parentheses. Though they are not listed in
the table, these regressions include change in the unemployment rate, unemployment rate (t – 4), change in population density, population density (t – 4),
Republican governor, Republican governor (t – 4), Republican legislature, Republican legislature (t – 4), Democratic legislature, Democratic legislature
(t – 4), TEL, and TEL (t – 4).
National Tax Journal
V. RESULTS FOR FIRM FORMATION AND EMPLOYMENT

Table 5 shows the effects of various fiscal variables on firm formation, with several
interesting results. First, the effect of tax revenues on firm formation is similar to the
effect of tax revenues on growth — negative and significant in the 1977–2001 period,
but shrinking in absolute value and losing statistical significance as the sample period
is extended to 2006 or 2011. Second, the estimated effects of marginal tax rates are
mixed. In the regressions using the statutory marginal tax rate, the coefficient on the
tax rate four years prior is negative and significant in two of the three specifications,
but it suggests a very small effect. A 1 percentage point increase in the top income
tax rate reduces firm growth by a cumulative 0.33 percent or 0.34 percent over four
years, or by less than 0.1 percent per year. Moreover, the change in the statutory
marginal tax rate has a positive and significant effect on firm formation over the
1977–2011 period. Thus, for that period, the combined effect of the current statu-
tory marginal tax rate (the sum of the effect of the lagged rate and the change in
rates, or –0.34 + 0.47) on firm formation is positive. In the regressions using the
adjusted marginal tax rates, there is no significant effect of marginal tax rates from
1977–2001 (though the relationship with changing tax revenue remains negative).
For 1977–2006 and 1977–2011, the lagged tax rate has negative and significant
effects. With an average top federal tax rate over the period of 43 percent, the 0.80
coefficient for the 1977–2011 period implies that a 1 percentage point increase in a
statutory state income tax rate would reduce firm formation by a cumulative 0.46 per-
cent over four years, the equivalent of reducing the growth rate of firm formation by
0.11 percent per year.11
Table 6 shows the basic results for employment. The impact of tax revenues is negative
but insignificant in each time period, with the magnitude of the impact being smaller
in the samples that extend to 2006 and 2011. Likewise, adding marginal tax rates does
not change the impact of revenues, and the tax rates themselves are not significantly
related to employment.12
11
In regressions for firm formation that mirror the specification in Table 2, tax revenues had negative effects
through 1991 but positive effects from 1992–2006, consistent with the way that tax revenue affected income
growth over those periods. Marginal tax rate effects were small and negative throughout the time period. In
regressions mirroring the specification in Table 3, income tax revenues generally have had positive effects
on firm formation, while property taxes generally have had negative effects. The marginal tax rate effects
continue to be negative but small.
12
As with firm formation, we ran regressions for employment that mirror the right-hand-side specifications
in Tables 2 and 3. In the analogue to Table 2, the change in tax revenues over the prior four years had a
negative effect on employment in 1977–1991 but a positive effect in 1992–2006. Tax rates do not enter
significantly in either period. In the analogue to Table 3, changes in income taxes positively affect em-
ployment, changes in property taxes negatively affect employment, and marginal tax rates do not affect
employment.
936
Table 5
Firms Per Capita Formation Growth
1977– 1977– 1977– 1977– 1977– 1977– 1977– 1977– 1977–
Sample Period 2001 2006 2011 2001 2006 2011 2001 2006 2011
Change in tax revenues –2.14*** –0.95 –0.26 –2.06*** –0.89 –0.31 –1.99*** –0.79 –0.18
(0.56) (0.62) (0.59) (0.56) (0.61) (0.54) (0.56) (0.58) (0.51)
Tax revenues (t – 4) –0.61 –0.26 0.07 –0.40 0.06 0.40 –0.54 –0.11 0.28
(0.45) (0.49) (0.45) (0.46) (0.52) (0.48) (0.47) (0.51) (0.46)
Change in MTR NA NA NA 0.03 0.22 0.47* NA NA NA

(0.22) (0.24) (0.28)
MTR (t – 4) NA NA NA –0.22 –0.33** –0.34*** NA NA NA

(0.16) (0.14) (0.13)

(0.43) (0.51) (0.53)
Adjusted MTR (t – 4) NA NA NA NA NA NA –0.49 –0.76** –0.80**

(0.39) (0.37) (0.34)
Adjusted R2 0.73 0.64 0.78 0.73 0.65 0.79 0.73 0.66 0.80
N 240 288 336 228 276 324 228 276 324

Notes: Asterisks denote significance at the 1% (***), 5% (**), and 10% (*) levels. Robust standard errors are in parentheses.
National Tax Journal
Table 6
Employment-Population Ratio
1977– 1977– 1977– 1977– 1977– 1977– 1977– 1977– 1977–
Sample Period 2001 2006 2011 2001 2006 2011 2001 2006 2011
Change in tax revenues –0.96 –0.49 –0.24 –0.97 –0.49 –0.29 –0.89 –0.41 –0.19
(0.58) (0.44) (0.45) (0.61) (0.46) (0.46) (0.63) (0.48) (0.46)
Tax revenues (t – 4) –0.14 0.14 –0.14 –0.16 0.13 –0.19 –0.11 0.17 –0.10
(0.49) (0.42) (0.42) (0.53) (0.45) (0.45) (0.52) (0.45) (0.44)
Change in MTR NA NA NA –0.12 –0.07 0.09 NA NA NA

(0.26) (0.23) (0.21)
MTR (t – 4) NA NA NA 0.01 –0.01 0.05 NA NA NA

(0.19) (0.15) (0.14)
Change in adjusted MTR NA NA NA NA NA NA –0.38 –0.29 –0.08

(0.56) (0.46) (0.40)
Adjusted MTR (t – 4) NA NA NA NA NA NA –0.16 –0.19 –0.20

(0.42) (0.37) (0.32)
Adjusted R2 0.27 0.29 0.67 0.26 0.28 0.67 0.27 0.28 0.67
N 240 288 336 228 276 324 228 276 324

Notes: Asterisks denote significance at the 1% (***), 5% (**), and 10% (*) levels. Robust standard errors are in parentheses.
937
VI. CONCLUSION
The effects of taxes on state-level growth have been the subject of continuing contro-
versy, with many conflicting and fragile results in the literature. In this paper, we present
new results for the impact of tax revenues, marginal tax rates, and other variables on
overall real personal income growth, firm formation, and employment.
We build on the model constructed by Reed (2008), who shows that tax revenues
negatively and significantly impacted growth of real personal income from 1970–1999.
After replicating his results for a slightly different time period, we show that the results
are not robust to an extension of the time period through 2006 or 2011, that the effect of
tax revenues on personal income growth differed dramatically between the 1977–1991
period (when it was negative) and the 1992–2006 period (when it was non-negative
and possibly positive), and that revenues from different taxes have different effects on
personal income growth. These results undermine Reed’s claim that there is a robust
and consistent impact of tax revenues on personal income growth. We also show that
including measures of the marginal tax rate do not affect the results for tax revenues
and that marginal tax rates generally do not enter into the growth equations. Moreover,
controls for government spending and other explanatory variables do not change any of
these results. Consistent with these aggregate effects, we show that marginal tax rates
generally have no impact on employment and statistically significant but economically
small effects on the rate of firm formation.
Our results are not consistent with the view that cuts in top state income tax rates will
automatically or necessarily generate significant impacts, or any impact, on growth. If
anything, our study produces some evidence that property tax revenues are correlated
with growth. Exploring that relationship, especially the connection between land values,
property tax revenues, and growth, may well be worth additional research.
ACKNOWLEDGMENTS AND DISCLAIMERS

We gratefully acknowledge comments from Leah Brooks, David Brunori, Robert
Chirinko, Michael Mazerov, Mark Steinmeyer, Eric Toder, and Jason Wiens, as well as
financial support from the Laura and John Arnold Foundation and the Ewing Marion
Kauffman Foundation. The opinions expressed are our own and do not represent the
views of any organization. We thank Sarah Gault for helpful research assistance.
DISCLOSURES
The authors have no financial arrangements that might give rise to conflicts of interest
with respect to the research reported in this paper.
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1. Judul dan Tahun

2. Variabel Yang Diteliti

3. Metode Penelitian dan Alat Analisisnya

2. Variabel Yang Diteliti

3. Metode Penelitian dan Alat Analisisnya

2. Variabel Yang Diteliti

3. Metode Penelitian dan Alat Analisisnya

THE EFFECT OF STATE INCOME TAXATION

As state governments grew during the 1960s and 1970s, many

ularly considered adopting income taxation amid much controversy.

THE LITERATURE ON THE

fectly, to capture geographic differences. The approach used in this

THE MATCHING TECHNIQUE

county or counties in the bordering state. Matched income growth,

TABLE 1: Descriptive Statistics for Data Used in Regressions

Matched variables (used in Table 2)

included a second time in the data set, producing a sample size of

RESULTS FROM THE MATCHED SAMPLE

Table 2 shows regression results using as the dependent variable the

Constant 1.526770 0.550400 1.527856 0.551386

growth in average taxes, compared to that same change in the

RESULTS FROM THE

The border county matching technique used in the previous section

Constant 692.7189 –572.9924 656.1157 –527.4344

variables, whereas Table 3 uses the unmatched observations. This

There is a substantial literature that examines the effect of state

also available in electronic form from http://www.census.gov/population/estimates/state/

Randall G. Holcombe is a DeVoe Moore professor of economics at Florida State Univer-

Donald J. Lacombe is an assistant professor of economics at Ohio University. His re-

at the State Level: New Evidence

William G. Gale, Aaron Krupkin, and Kim Rueben

will automatically or necessarily generate growth.

which makes it more difficult to investigate independent influences of taxes or spending.

the estimates are sensitive to the time period.

tax revenue variables into a single aggregate revenue measure.

variety of economic, social, and political variables.

II. Previous Research

corporate taxes in some circumstances.

significantly different from zero.

just 0.01 percentage points annually, an impact that is negligible.

percentage points, a negligible effect.

Ljungqvist and Smolyansky (2014) employ a similar strategy of looking at counties

changes in formulary apportionment rules.

positive effects on growth.

growth, while corporate and income taxes do not.

clustering of errors at the state level.

is demonstrated forcefully and systematically in a remarkable study by Pjesky (2006). Pjesky

straightforward extensions and sensitivity analysis.

captures fixed effects, and time is a vector of five-year periods.

whose absence would contaminate cross-sectional estimates.2

are not clustered by group.

coefficients and discussion of the results more straightforward).

To measure employment, we specifically examine the change in the logged employment-

employees in a state can be affected by population growth. The employment-population measure

latter of which includes inter-governmental transfers.

rate. The adjusted tax rate is given by

see if the impact of tax policy varies over time.

component of spending may be thought of largely as government operations and education.

“change variable” as there is for the other variables.

IV. Results for Personal Income

period covers 1970 to 1999.

economically significant and substantial effects.7

Change in Tax Revenues -2.30 -2.32 ***-2.41

Change in Tax Revenues * (1992-2006) 3.09 2.84 ***2.82

Change in Corporate Taxes *7.94 7.93 ***7.98

Change in Property Taxes -4.38 -4.37 ***-4.37