Why Is California Broke? Because it Taxes the Rich!

Business Insider breaks it down:

Almost half of California's income taxes come from the top 1% of earners. In New York, the percentage is now 41%, up from 25% in 1994. In Connecticut and New Jersey, the top 1% pay more than 40%.

Being so dependent on super-rich people is great when times are good, because revenues soar. But the trouble is that the earnings of super-rich people are super-volatile, so when times are bad, or even mediocre, tax revenues plummet.

If governments approached budgeting the way smart people would, they would run massive surpluses in boom times, thus storing acorns for the inevitable winter ahead. But if our government officials have demonstrated anything over the years, it's that they are utterly incapable of doing this. Instead, they look at the revenues in the boom times and think "WOW! We're rich! We can spend every penny of that and more!"

Brad Williams, a California economist, has been trying to impress this fact upon Golden State lawmakers for some time now.

The Wall Street Journal reports:

As Brad Williams walked the halls of the California state capitol in Sacramento on a recent afternoon, he spotted a small crowd of protesters battling state spending cuts. They wore shiny white buttons that said "We Love Jobs!" and argued that looming budget reductions will hurt the Golden State's working class.

Mr. Williams shook his head. "They're missing the real problem," he said.

The working class may be taking a beating from spending cuts used to close a cavernous deficit, Mr. Williams said, but the root of California's woes is its reliance on taxing the wealthy....

Mr. Williams, a former economic forecaster for the state, spent more than a decade warning state leaders about California's over-dependence on the rich. "We created a revenue cliff," he said. "We built a large part of our government on the state's most unstable income group."

In his article, Robert Frank of the Wall Street Journal adds that it's a volatile strategy for state governments to depend on revenues from taxing the rich:

State income taxes are generally less progressive than federal income taxes, and more than a half-dozen states have no income tax. Yet a number of states have recently hiked taxes on the top earners to raise revenue during the recession. New York, for instance, imposed a "millionaire's tax" in 2009 on those earning $500,000 or more, although the tax is expected to expire at the end of 2011. Connecticut's top income-tax rate has crept up to 6.5% from 4.5% in 2002, while Oregon raised the top tax rate to 11% from 9% for filers with income of more than $500,000.

As they've grown, the incomes of the wealthy have become more unstable. Between 2007 and 2008, the incomes of the top-earning 1% fell 16%, compared to a decline of 4% for U.S. earners as a whole, according to the IRS. Because today's highest salaries are usually linked to financial markets—through stock-based pay or investments—they are more prone to sudden shocks.

There's another reason why state governments shouldn't depend on tax revenue from the rich: the rich vote with their feet. An excellent report called Rich States Poor States, put out by the American Legislative Exchange Council, shows that when states like California impose burdensome taxes on the rich, the rich respond by moving to states like Texas, which have friendlier tax climates.