Minnesota Gov. Tim Pawlenty this week defended accepting a $250 million federal health grant in part because what Minnesota pays in federal taxes is much less than federal spending in our state.
By coincidence, I had just gotten an e-mail from a reader inquiring why states with high levels of per capita federal spending, and thus high returns on taxes paid, tend to be “red states” that usually vote Republican, while states with low federal spending relative to taxes paid tend to be “blue states” that favor Democrats.
As an economist, I have found the general public’s preoccupation with such questions somewhat beside the point. There is no intrinsic reason why federal spending within a state and federal taxes paid should balance. Any effort to force the matter would make our economy less efficient and probably more unjust. But the reasons take some explanation.
First, why the disparities? One reason is differences in incomes. Federal taxes are somewhat progressive, so states with high average incomes pay in more on a per capita basis than those with lower incomes. Historically, Western states other than California and states in the South tend to have lower average incomes than states in the Midwest and Northeast. So even if per capita federal spending were exactly equal across all states, low-income states like Alabama or South Dakota would have higher ratios of federal spending to tax dollars paid in than higher-income states like Minnesota or New York.
This is accentuated by the fact that most large corporations are headquartered in states like New York and Illinois and even Minnesota and thus the corporate income tax they pay is tallied as from those states even though the corporations may have factories and offices in many states.
A second factor is that many of the states with high “returns” on taxes paid have small populations, often fewer than 1 million. Thus much federal spending is higher on a per capita basis. The federal government spends more than six times as much per capita to maintain 100 miles of Interstate 90 in sparsely populated South Dakota as it does to maintain an identical 100 miles in Minnesota.
Third, military installations remain disproportionately concentrated in the South and West. When most such bases were established during either of the World Wars, land was cheaper and weather more favorable for training in places like North Carolina, Georgia and Texas than in Illinois, Pennsylvania or Minnesota. The local spending to run Ellsworth Air Force Base near Rapid City is larger relative to the overall economy of South Dakota than a similar size base would be for Massachusetts or New York. And again, average incomes and thus taxes paid are lower and populations less dense in states that have few defense installations.
Fourth, states with high federal spending relative to taxes paid often have high proportions of land owned by the federal government. This includes not only military installations but also millions of acres run by the Bureau of Land Management and the U.S. Forest Service. Again, these states tend to have sparse populations and low average incomes. (One also must remember that living costs, especially for housing, also are lower in many of these states compared with the more urbanized Midwest and Northeast.)
There are exceptions to this rule. For example, Nevada’s land is still nearly 85 percent federally owned but federal spending is only 65 percent of taxes paid.
Fifth, some of the states with high “returns” on taxes paid are those like the Dakotas, Montana and Wyoming that for decades have seen many of their young people move elsewhere. Populations are older and thus Social Security and Medicare outlays are bigger compared with the overall economy than states with more young people.
Add in federal crop subsidies, and the importance of federal spending in many rural counties becomes enormous. Some farming counties on the high plains that have little economic base other than agriculture and an aged population have the highest ratios of federal dollars received versus taxes paid of any in the nation simply because of ag subsidies, Social Security and Medicare.
So why do economists discount the importance of such disparities? Fundamentally it is because many goods and services provided by the federal government benefit people in many or all states, regardless of where dollars are actually disbursed.
When we worried about Soviet bombers coming across the North Pole, the important thing was to have effective air defenses. Whether the interceptors were based in Duluth or Sioux Falls was not important.
The mainstem Missouri River dams reduce flooding all along the lower Mississippi. It doesn’t matter that money to build them was spent on wages, fuel and concrete in the Dakotas and Montana. Mississippi, Arkansas and Louisiana still benefit. The Centers for Disease Control and Prevention are based in Georgia but we all benefit from disease reduction. Ditto for the rewards of space exploration even though NASA is based in Houston. And the fact that 82nd Airborne paychecks get spent at malls in Fayetteville doesn’t mean that we here in the Midwest don’t benefit from that division’s existence.
Yes, there are local benefits from a big facility like NASA or Fort Bragg or even humble Minot Air Force Base for that matter. But they are highly overrated and of little importance compared with the broader question of what public goods are provided for our economy and society as a whole.
© 2010 Edward Lotterman
Chanarambie Consulting, Inc.