Budget Balloon
New Jersey gubernatorial candidate Phil Murphy, a Democrat, enjoys a wide polling lead over Republican opponent Lieutenant Governor Kim Guadagno. Murphy has promised to pump more money into the state’s heavily underfunded pension system. The likely future governor released a tax plan last week that includes some $1.3 billion in additional revenue—in a state already ranked as one of the nation’s most heavily taxed. Murphy, an ex-Goldman Sachs executive like former governor Jon Corzine, plans to raise taxes on businesses and wealthy New Jersey residents, a strategy that both Corzine and his predecessor, Democrat Jim McGreevey, also pursued, before eventually turning to lower-income Garden State residents for additional revenue.
Murphy says that New Jersey needs the new taxes to restore fiscal stability after a series of credit downgrades by Wall Street ratings agencies, triggered largely because current governor Chris Christie failed to put enough money into the state’s deeply underfunded pension system after his 2011 reforms failed to rein in rising costs. Christie vetoed several tax increases passed by the Democrat-controlled legislature, saying that he wouldn’t devote more money to the retirement plan unless the state reduced its costs. Last year, Christie did send $2.5 billion to the pension system, but the cost of paying off the debt—now estimated at $100 billion—would require the state to double that contribution, earmarking an unprecedented $5 billion—or 15 percent of revenues—toward pensions every year. By contrast, most states typically spend about 5 percent of their revenues on pensions.
Heavily backed by state public-worker unions, Murphy says that he’ll devote a big chunk of the tax increase to the pension system. He calls for raising rates on those earning more than $1 million to 10.75 percent—one of the highest state tax levies in the country—to generate $600 million. He also plans to tax the performance fees of hedge funds and hike taxes on corporations nearly $300 million by closing what he describes as “loopholes” in the state tax code. Finally, he’s counting on the legalization of marijuana in New Jersey and an estimated $300 million in new taxes from sales.
All this should sound familiar to anyone who follows budgeting in the Garden State. McGreevey similarly closed “loopholes” in the corporate tax code, which resulted in more than $1 billion in new taxes on companies, then boosted taxes on high-earning individuals to raise an additional $800 million. He didn’t stop there. McGreevey got around to taxing just about everything else, from cigarettes and casinos to tires and cellphones. Mere taxation wasn’t enough, so McGreevey also borrowed $2 billion and used it to cover day-to-day government expenses, though the state supreme court ruled this practice unconstitutional. Corzine followed with his own tax increases, including a surcharge on the rich that lasted until his final year in office, and an increase in the sales tax. Yet Corzine left behind a mid-year budget hole of $2 billion.
Tax increases without budget reform always lead to this result. McGreevey spent wildly to satisfy the constituencies that had helped elect him, in one year raising state spending by 17 percent. Corzine, meanwhile, ignored the growing problem with the pension system, which had just $12 billion in debt when he took over. He enacted no significant reforms and never put more than $1 billion in the system in any year, despite all the new taxes. Corzine wound up quadrupling New Jersey’s pension debt.
If he wins, Murphy will face a daunting task. State tax revenues adjusted for inflation returned to their 2008 levels only last year, according to a report by the National Association of State Budget Officers. From 2009 through 2015, though the economy was in recovery, more states and cities received ratings downgrades than upgrades from the Moody’s ratings agency, according to research by PNC Capital Markets. Even in 2016, the ninth year of economic recovery, Moody’s downgraded the credit of 358 local governments. States and localities are experiencing unprecedented fiscal stress.
Murphy would have to hope that his tax hikes don’t backfire and dampen economic activity even further—a real risk because his taxes would target some of the most mobile taxpayers. A 2010 study by the Boston College’s Center on Wealth and Philanthropy estimated that from 2004 through 2008 (right after McGreevey’s tax increase on the wealthy), some $70 billion in net wealth migrated out of New Jersey. That reversed a trend from the previous four years, when the state had attracted $98 billion in new wealth.
Hedge-fund managers might be the likeliest candidates to flee. Last year, one of the nation’s biggest financiers, Dave Tepper, took his fund, Appaloosa Management, from Short Hills to no-income-tax Florida. The high-earning Tepper, according to some reports, paid more than $100 million in state income taxes the year before he left. Even other Democratic governors worry about driving this sector out. In similarly stressed Connecticut, Governor Dannel Malloy recently criticized a proposal to tax “carried interest” on hedge funds, arguing, “we have employers who have a large number of employees in our state, and I just don’t think that’s an area that we should stake out.”
When Gallup asked people across the country whether they wanted to leave their states, 41 percent of New Jersey residents said that they were looking for an exit—the sixth-highest percentage among the states. “Even after controlling for various demographic characteristics including age, gender, race and ethnicity, and education, there is still a strong relationship between total state tax burden and desire to leave one’s current state of residence,” noted Gallup. Monmouth College polled Jersey residents in 2014 about why they wanted to leave; among the 50 percent who wanted out, taxes were the Number One reason. It’s much the same with businesses. In CEO Magazine’s annual survey of where top executives want to expand, and which states they want to ignore, New Jersey consistently ranks among the worst places to do business.
Murphy can avoid the risk that higher taxes bring by instituting strict reforms, especially regarding the state pension system. One of Christie’s biggest mistakes was accepting the optimistic projections of those who designed the pension reforms he instituted in 2011, though plenty of critics pointed out that they didn’t go far enough. Four years later, the bipartisan New Jersey Benefits Reform Commission released a plan that reduces the pension system’s costs and makes bailing it out more manageable. The state’s unions, hoping for a more sympathetic governor after Christie’s term ends early next year, have resisted the plan and any other reformist measures. The unions have heavily backed Murphy, and barring some stunning turnaround, they’ll get the governor they want. What the rest of New Jersey gets remains to be seen.
