State Taxes and Economic Growth

The chart below shows the economic growth of states between 2005 and 2010 (as measured by gross state product (GSP)) as a function of the state's total tax to GSP ratio for the year 2005. Advocates of tax cuts often argue that tax cuts will result in more growth. The governments impact on the economy can generally be divided into five categories: regulation, taxation, spending, monetary policy, and debt. Analysis at the state level might somewhat isolate the impact of taxation, since all states use the same currency and are therefore subject to the same monetary policy of the federal government. Most empirical analysis of tax policy compares national growth rates over different periods in history during which different tax policy was in effect. Advocates of supply-side economics frequently point to the Reagan tax cuts and the growth that followed them as evidence in support of their theory. However, Reagan's policies also resulted in vastly increased national debt, thus the long term impact of Reagan's policies may have been much worse than supply-siders claim. The data in the chart indicates very little correlation between taxation and economic growth. To the extent that there is a correlation, it suggests that higher taxes yield more growth. This contradicts mainstream economic thinking. It should be noted that the the chart includes all types of taxes, not just income tax which supply-siders usually focus on.