Rhode Island lawmakers must “stabilize spending, renew public investments and protect jobs—all while maintaining a robust public health response to COVID-19. By enacting progressive changes to the tax code, they can maximize the state’s capacity to weather this storm.“
As Rhode Islanders feel the pain of the economic downturn caused by COVID-19, elected officials must take action to shore up incomes, preserve jobs and set the state on a firm footing for recovery. To build the capacity needed to achieve these goals, they should strengthen tax progressivity.
Taxes—especially the personal income tax—play an important role during recessions and in their aftermath. Along with programs such as unemployment insurance and food assistance, the graduated income tax is an automatic stabilizer—a measure that cushions the blow to households and the broader economy during hard times. The stabilizing function of the income tax works like this: When a household’s income decreases—due to a pay cut, furlough or job loss, for instance—it often drops into a lower top tax bracket, leaving the household to face a lesser rate of taxation than before. Thanks to the income tax, a household subject to a large reduction in pre-tax income will experience a reduction in take-home pay that is not as large. In a recession, where losses in household income are prevalent, the effect aggregates throughout the economy, dampening the volatility of overall economic performance.
In general, more progressive income taxes are more effective stabilizers. This occurs through two channels. First, the more graduated the tax structure, the less sharply each household will see its take-home pay fall when its pre-tax income is reduced. Second, more progressive tax systems tend to generate a larger amount of revenue which can be directed toward public investments that boost economic output and programs that deliver resources to lower-income and middle-income households who are most likely to spend that money back into the economy. For these reasons, areas with more progressive tax systems and higher average tax rates tend to be better equipped to respond to downturns.
However, over the last 25 years, Rhode Island lawmakers have weakened, rather than strengthened, the progressivity of the state’s income tax. In 1997, a well-off individual or household could face a marginal state income tax rate as high as 10.89 percent. Today, after a series of cuts and reforms enacted by Republican Governors Lincoln Almond and Donald Carcieri, the top rate is just 5.99 percent. Some countermeasures, such as the expansion of the earned income tax credit and the elimination of several tax credits and deductions that primarily benefited high earners, have lessened the damage. But Rhode Island’s income tax remains significantly less progressive than it once was.
During a recession, this is a problem. The income tax doesn’t do much to help Rhode Islanders on their way down, and when lawmakers look for revenue to stabilize spending and get everyone back on their feet, they find the cupboard bare and instead resort to cuts. Rhode Island knows this process all too well. When the Great Recession hit, officials responded by hacking away at the budget, laying off more public sector workers than nearly any other state in the country, reducing support to municipalities and restricting cash assistance for out-of-work parents—while continuing to lower the top income tax rate for the well-off. This approach is credited with contributing to Rhode Island’s snail-pace economic recovery.
In the current moment, more of the same would spell disaster. Thankfully, there is a smarter way forward.
To Rhode Island’s immediate north, 91 Massachusetts economists recently published a letter urging their state’s leaders to raise personal and corporate income tax rates to close the $6 billion shortfall caused by COVID-19. Signatories include a Nobel laureate, a former director of the Federal Reserve Bank of Boston’s New England Public Policy Center, a former member of the White House Council of Economic Advisers, a co-editor of the Brookings Papers on Economic Activity, the author of the widely-used textbook Public Finance and Public Policy, the chair of the Northeastern University economics department and a former vice president and economist at the Federal Reserve Bank of Boston. “In a recession, balancing the budget by cutting spending has a more negative impact on economic growth than balancing the budget by raising taxes,” they write. “… We the undersigned encourage you to raise revenue rather than cut the social and physical infrastructure that will be necessary to protect the health and economic well-being of our people, our communities, and our Commonwealth.”
Rhode Island lawmakers’ imperative is the same: stabilize spending, renew public investments and protect jobs—all while maintaining a robust public health response to COVID-19. By enacting progressive changes to the tax code, they can maximize the state’s capacity to weather this storm.
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Lawmakers have several proposals to choose from. One, from the Rhode Island Political Cooperative, would introduce a tax bracket with a 10.99 percent rate for income above $467,700, the threshold for the top one percent highest-income Rhode Islanders. In December 2019, the Co-op estimated that their plan would generate $170 million in new revenue. Another, endorsed in February and promoted again in recent weeks by Senate Finance Committee Chair William Conley (Democrat, District 18, East Providence, Pawtucket), would raise nearly $130 million with a tax rate of 8.99 percent on income over $475,000. Other proposals, such as one introduced by Representative Rebecca Kislak (Democrat, District 4, Providence) in February, would add multiple new brackets at the high end of the income distribution. Lawmakers should consider these proposals and others against the budget gap that remains after all constructive resources—including work sharing arrangements, debt issuance powers and the extra tranche of federal aid that is almost certain to come later this summer—are taken into account.
In a fiscal crisis, easy choices are few and far between. But for Rhode Island’s state leaders, one decision ought to be simple: The state budget should serve as a vehicle for economic stabilization, not ill-timed cuts. By strengthening tax progressivity, lawmakers can save jobs, sustain spending and set the state on the path to recovery.