Chapter Ten

Staffing and Financing State and Local Governments

Chapter Outline

I. Public employees: essential to government

A. Merit systems

1. Almost all states use the merit system to choose their public servants, rather than patronage

2. Merit systems are administered by a state personnel office that handles exams, provides lists of job openings, establishes job classifications, and determines salary schedules

3. Merit systems should emphasize ability and minimize political favoritism, but they may discourage able people from seeking public-sector jobs and they can deprive officials of authority over subordinates

4. The Hatch Act promoted the merit principle.

B. Public-employee unions

1. These unions have grown rapidly over the past generation and now wield considerable political clout

2. The success of public-employee unions is the result of government workers learning how to become a

political force within cities and states

3. Public-employee unions influence crucial decisions that affect taxation and the allocation of revenue; some believe these two factors may lead to unfair influence, resulting in a redistribution of income in favor of public employees

C. Mayors a collective bargainers

1. Problem: mayors have a responsibility to all voters and are also elected with union member votes (and so are employees of their own employees)

2. Bargaining with unions is affected by the monopolistic, vital nature of many public services, great publicity, and the need for legislative approval

D. Providing public services for a profit?

1. Many communities have “contracted out” some public services to private companies that can provide the services at lower costs and still make a profit; today virtually every service is contracted out, a

trend expected to continue

2. Some problems to privatization: liability concerns, individual rights questions, and difficulty in defining some public services such as police

II. Paying for state and local government

A. State and local governments are the fiscal “stress points” of American government

1. Voters involved through referenda on new or higher taxes

2. Federal government mandates force state and local governments to meet responsibilities

3. Voters have high expectations for services

4. Constitutional prohibitions on deficit spending in the states force balanced budgets

5. Tax policies are not coordinated across governments

B. Who pays the taxes?

1. Who bears the cost of state and local services is decided in the United States by politics

2. The Constitution has been interpreted to forbid states:

a. To tax exports or imports or to levy tonnage duties with the consent of Congress

b. To use their taxing power to interfere with federal operations

c. To discriminate against interstate commerce, unduly burden it, or directly tax it

d. To use their taxing power to deprive persons of equal protection of the law

e. To deprive individuals of their property without due process

3. States may collect sales taxes from interstate sales and income taxes from persons and corporations within the states, even if the income was earned from interstate business

4. State constitutions also restrict state taxing power

C. General property tax

1. Even though very unpopular, the property tax is a major revenue source for local governments, but

there is great variation from place to place in dependence on it

2. Administration of the property tax

a. It is difficult to administer, often inequitable, and not based on ability to pay

b. Many communities stipulate that the general property tax be imposed on all property, but more a significant percent of real property in cities is exempt because of ownership by tax-exempt groups

c. The general property tax is typically administered by an assessor, who attempts to place a value on property - an assessment

d. The lump-sum payment aspect of the property tax is one reason for its widespread unpopularity;

3. Property taxes and public education

a. The amount of money available to finance education varies tremendously from area to area, as property values differ

b. Reformers have urged states to take over the financing of public education, or at least to assume a greater share of the burden, in order to equalize differences from community to community

c. Several state courts have ruled that wide differences between school districts in per pupil expenditures are inconsistent with the equal protection clause of the Fourteenth Amendment and of state constitutions

d. However, in 1973 the Supreme Court held that there is no federal constitutional requirement that the amount spent per pupil in each school district must be the same

e. One effort to reform the general property tax is the circuit-breaker exemption, giving a form of tax relief to lower-income families and the elderly

4. Tax reform and revolt

a. Passage of California’s Proposition 13 set a 1 percent limit for taxes on a property’s market value based on its 1975-76 assessment and limited increases to a maximum of 2 percent a year

b. Proposition 13 elevated tax reduction to an important issue nationwide, triggering tax and spending limits in more than a dozen states and spurring movements for constitutional amendments to set federal spending limits, to require a balanced federal budget, and to index income tax brackets

c. The most important consequence of Proposition 13 was that it gave rise to a new conventional wisdom that the public had become more conservative and desired less government

d. Another consequence is that local governments have decreased their dependence on the property tax and developed other sources of revenue

D. Other taxes

1. Sales taxes

a. The sales tax is the most important source of revenue for states

b. The sales tax is easy to administer and produces large amounts of revenue

c. As we move from a manufacturing to a service economy, states continue to search for ways to tax services

d. The federal government is considering a value-added tax (VAT), which might reduce state and local ability to use the sales tax

e. Tax revenues from mail-order catalog businesses and internet sales are controversial

2. Income taxes

a. Personal income taxes are generally progressive income taxes, graduated so that the rate goes up with the size of the income

b. State income tax rates, however, do not rise as sharply as the federal income tax and seldom go above 10 percent

c. States generally do not allow local governments to levy income taxes; however, some cities collect a payroll or wage tax

3. Special excise taxes

a. Almost all states tax gasoline, alcohol, and cigarettes, known as excise taxes

b. These are justified as taxes because they can reduce consumption of those items

4. Severance taxes are taxes on the privilege of “severing” such natural resources as coal, oil, timber, and gas from the land; in recent years the severance tax accounted for more than 20 percent of tax collections in eight states

D. Nontax revenues

1. Lotteries

a. Lotteries are state-sponsored and state-administered gambling used to raise money for public purposes

b. Many states earmark lottery funds for special services (education, senior citizens)

c. Elected officials like lotteries because they raise revenue without raising taxes

d. Because they take money from many people and return it to only a few, many economists say lotteries are an inequitable form of tax

2. Legalized gambling

a. A casino is expected to be within a four-hour drive for 95 percent of all Americans

b. Indian tribes asserted their right to self-rule on reservations and brought casinos to many states and gambling companies promoted gambling on river boats and dockside casinos

c. Critics of gambling assert that lotteries and some other forms of legalized gambling have not produced as much revenue as promised and see negative social consequences flowing from expanded gambling opportunities

3. User fees or charges

a. State and local collection of user charges - fees paid directly by individuals to use certain public services - has grown rapidly in recent years

b. Examples of services that users pay fees for are toll roads, higher education, hospitals, airports, parks, sewage, and solid waste management

4. Grants

a. Grants from states to local governments have become increasingly important during the last several decades as federal grants have declined

b. Local governments receive state and federal grants in a wide range of areas

c. One reason local governments receive so much money in the form of grants is that they are the unit of government closest to the people and most experienced at providing services

E. Borrowing money

1. To fund long-term projects, called capital expenditures, cities and states often have to borrow money

2. Long-term borrowing by states and cities is necessary for projects whose costs are so large that it is not feasible to pay for them out of current revenue; for this purpose, governments issue bonds, often with voter approval, such as serial bonds

3. The National Tax Reform Act of 1986 restricted the ability of states and localities to issue tax-exempt

debt, and the power to borrow money for the long-term now routinely requires voter approval

4. State and local bonds are attractive to well-to-do investors because the interest is exempt from federal

income tax

III. Doing more with less

A. Three “R’s” that recently shocked state and local governments

1. Revolt of the taxpayers, started with California’s Proposition 13 and quickly became a national

phenomenon

2. Recession of the 1980s and early 1990s, which placed demands on state and local governments to

care for the unemployed and needy

3. Reduction in federal grant-in-aid funds, which meant state and local governments were more on their

own

B. Welfare reform has federal government paying most of cost but with far fewer strings attached

C. The Telecommunications Act of 1996

1. Opened local telephone markets to competition, set conditions for the powerful telephone companies

to enter new markets, and regulated competition between telephone and cable companies

2. States were allowed to continue regulating telephone company profits

D. Intergovernmental competition

1. State and local governments try to enhance their own economies by courting business and economic

growth

2. They use tax incentives to lower tax rates to businesses

3. New businesses, such as shopping malls, will raise the tax base and may be lower the tax burden for

residents

4. Developers play governments against one another to lower tax burdens

5. Sports teams have especially sought “sweetheart deals” to stay in a particular city