The projected state budget gap, which ranges from $450 million to $700 million depending on one’s spending assumptions, has been the source of significant political controversy for months. Most recently, a front-page story in The News & Observer on May 14 attempted to make the case that state tax reductions since 1995 have been the major causal factor. But the facts do not support this assertion.

First of all, the tax cuts (which total approximately $1.4 billion in fiscal impact in FY 2000-01) came on the heels of two major tax increases earlier in the decade. In FY 1989-90, lawmakers created the Highway Trust Fund and raised motor fuels and auto taxes to fund an ambitious road-building program. The fiscal impact of that tax increase in FY 2000-01 is about $710 million. Two years later, facing a budget gap caused by excessive spending growth and recessionary economic factors, lawmakers hiked sales, income, and other taxes. The fiscal impact of this tax increase will be $1.1 billion in FY 2000-01. In other words, the net change in state fiscal policy during the 1990s was a tax increase of $427 million (see chart).

Another way of considering whether North Carolinians are undertaxed is to look at the “effective” tax burden the percentage of personal income going to state and local taxes. The rate was 9.5 percent in 1990, rose to as much as 10.2 percent in 1994, and then fell with tax reduction to 9.8 percent in 1998. Current projections are that the rate will rise to 10 percent in 2000 a high rate by historical standards (see chart).

The state has adequate revenues, but inadequate controls on spending. During the 1990s, the average annual increase in state operating spending was 6.7 percent. Inflation and population growth combined averaged only 4.5 percent. If state spending had simply been kept to the midpoint in this range 5.6 percent the budget would have been more than $1 billion lower this year, erasing the projected gap.

John Hood, President

 Graph of 1990s Tax Law Changes in NC: the Whole Story Graph of Trends in North Carolina's effective tax rates, 1980-2000