2003 Revenue Estimation Conference

2003 Annual FTA Revenue Estimating and Tax Research Conference
Summary of Proceedings

SUMMARY

The 58th Annual FTA Revenue Estimating and Tax Research Conference was held September 21-24, 2003, in New Orleans, Louisiana. Presiding over the conference was Michael Allen of the Maine Revenue Services and Chair of the FTA Research Section. This bulletin summarizes the presentations. All of the papers are available electronically on the FTA home page at <http://www.taxadmin.org>

The 58th Annual FTA Revenue Estimating and Tax Research Conference was held September 21-24, 2003, in New Orleans, Louisiana. Presiding over the conference was Michael Allen of the Maine Revenue Services and Chair of the FTA Research Section. Welcoming the participants was the Conference Host, Cynthia Bridges, Secretary of the Louisiana Department of Revenue.

The program included presentations by the major forecasting firms and industry representatives on their economic forecasts for the next 18 months. In addition, presentations were made by the Congressional Budget Office on its latest efforts to incorporate dynamic revenue estimating into its estimates, and an official from the Treasury Department made a presentation on several projects of interest to state researchers. The entire day Tuesday was dedicated to various concurrent sessions covering issues of interest to state economists such as corporate tax issues, personal income tax issues, revenue forecasting for small states, state tax reform projects, tax expenditure budget techniques, data base techniques, and cigarette tax issues.

On Wednesday morning, the participants heard several presentations on topics of broad interest to state economists. These presentations included recent federal legislative activities, an update of the Streamlined Sales Tax Project, and a study analyzing the volatility of major state tax types.

Monday Morning
Douglas Holtz-Eakin, Director of the U.S. Congressional Budget Office (CBO), gave a presentation on dynamic scoring in the federal budget process. He discussed the recent effort by the CBO to introduce dynamic feedback into its estimating process when estimating the budget effects of President Bush’s economic plan. While doing dynamic feedback estimates can be expensive and time-consuming, the President’s proposals provided a good package from which to start. The CBO took the package as a whole, not evaluating any particular proposal in isolation.

Holtz-Eakin noted that the CBO approach was to estimate a new budget baseline after enactment of the President’s proposal. CBO uses nine popular economic models – including business cycle and supply-side growth models – to determine how the proposal would affect economic variables. This led to nine different baseline scenarios that varied from a 1.4% increase in the deficit to a 1.5% decrease in the deficit. Overall, the effects on the total budget were small since the magnitude of proposals was small – revenue proposals were only about 1 percent of GDP.

Holtz-Eakin believes that the project was a good approach and helped the policymakers understand the link between the economy and the budget. While it was a useful supplement to the normal process, it would be difficult to expand to everyday proposals considering the time and resources involved. Detailed descriptions of the methodology, assumptions and the results are published on the CBO website at http://www.cbo.gov

With various corporate income tax issues facing state tax administrators, Matthew Knittel of the Treasury’s Office of Tax Analysis, discussed several papers recently published by his office. After discussing the recent trends in corporate tax collections, he described how the Treasury made estimates of recent legislation that provided a bonus depreciation deduction for new investments. The Office used an in-house depreciation model with 14 asset types across all industries. Using this model, the author also took into account adjustments for behavioral effects – a speed-up in investment activity. He notes that the bonus depreciation provisions will increase depreciation by 20% to 36% through 2004, before falling by 7% to 19% in subsequent years. Thus, it will have a significantly negative impact on corporate receipts, with a large reversal expected for FY 2005.

The Treasury Department was interested in understanding the recent trends in private stock options activities, its impact on national income product accounts, and any tax implications. In their recent Stock Option Study, Treasury economists created a sample from S&P and Nasdaq entities from 1997 to 2002. They found that calendar year 2000 was the peak year of stock option activity. Activity was very concentrated, with most of the activity centered in the top ten companies, and new economy companies utilized options more so than other businesses. The impact on federal income tax receipts is likely to net close to zero.

Finally, Knittel discussed the results of a recent study of effective corporate tax rates. This estimate is a simple measure of corporate tax burden, using total receipts divided by the national income measure of profits. This measure exhibited a sharp decline in 2002 and 2003. He attributed this decline to cyclical tax items that are not included in profits before tax, a continual increase of adjustment for misreporting income, and carryback refunds. As these items diminish, effective tax rates should increase to normal levels as the economy emerges from the recession.

Economic Forecasts
Presentations on the economic outlook were given by Global-Insights and American Economics Group economists. Cynthia Latta, with Global-Insights (GI), gave a presentation on the overall macroeconomic outlook. She noted how the economic recovery has begun, with GDP growth accelerating, output increasing in most sectors, and deflationary fears dissipating. However, employment growth continues to lag. She pointed out how the current recovery compares with the 1990-91 recession, where employment growth also lagged during the early stages of the recovery. However, unlike the previous recessions, employment has continued to decline well into this recovery. Indeed, the GI forecast shows the unemployment rate remaining above 6 percent until 2005.

Still, Latta points to several indicators that economic growth will be accelerating as monetary policy remains accommodative, fiscal policy is expansionary, and business investment is rising. Profits are rising and small business optimism is up, with hiring and capital spending plans turning positive. As a result, total output is expected to grow by 3.8 percent for the remainder of 2003, and grow by 4.1 percent next year; however, pension funding problems could have a negative impact on the rate of growth.

Eric Cook of American Economics Group (AEG), presented the regional outlook (presentation was prepared by Charles de Seve). The AEG forecast expects a slower rate of growth in GDP than the Global-Insight model, with the economy expected to grow by 3.5 percent in 2004. However, the unemployment rate is expected to drop more quickly than the GI model, falling to 5.6 percent in 2004. Cook pointed to strong consumer purchases, strong capital spending, a strong stock market, and an expanding export market as drivers behind the positive economic growth. However, purchases of high tech equipment are still lagging, and the unemployment rate is expected to remain high.

The outlook for the states depends on the relative mix of industries, degree of tax avoidance/tax planning, and migration of businesses. Cooks says that the industrial mix in four states – Idaho, Oregon, Nevada, and California – means that growth in real personal income could be over 20% during the next five years. On the other hand, the District of Columbia, Utah, Maine, and New York are expected to see the worst performance, with personal income expected to grow by under 10%.

Tuesday Luncheon Speaker
Dr. Loren Scott, an independent consultant, gave a luncheon talk titled Gazing Into the Crystal Ball: Key Factors That Will Influence Revenue Forecasts. While the recent economic recession was mild, according to Dr. Scott, the current recovery has not been felt evenly throughout the economy. This is the result of a lag in employment, as job losses have continued into the recovery. However, Dr. Scott describes this as a temporary situation, because long-term demographic forces will shift to make the labor market very, very tight. As the baby boom generation retires and fewer younger people enter the labor force, the pool of available workers will not keep pace with the economy, leading to rising labor costs. He expects more mechanization, more elderly returning to the work force, and an increase in immigration as responses to these demographic effects. However, due to different fertility rates of various ethnic groups, the pressure on labor costs will vary across the different states according to their ethnic diversity.

Scott identified two other factors, which will affect long-term economic growth. They include the value of the dollar and energy prices. He expects the value of the dollar to continue to decline, as foreign investors find alternative safe investment opportunities. This will increase exports and improve the profitability of U.S. companies. Secondly, current world events have put a premium on oil prices, as war and civil unrest have threatened supplies. An improvement in international stability will put downward pressure on oil prices. However, natural gas prices are expected to remain high due to supply restrictions.

Wednesday Morning
On Wednesday morning, participants heard presentations of general interest to state tax analysts. Harley Duncan, Executive Director of the Federation of Tax Administrators, gave an update of recent federal legislative activities. Mr. Duncan described how the federal fiscal situation has worsened during the past six months, with the latest estimates showing a budget deficit through 2011. This deficit is expected to grow larger as added legislative activity is anticipated in several areas, including extending expiring provisions, reform of AMT, and others.

Congress is currently considering several bills that directly affect states. Several bills to extend the Internet Tax Freedom Act, set to expire in November, are being considered. They would permanently extend the ban, repeal the grandfather clause, and possibly extend the ban to some telecom services. A bill to authorize the Streamlined Sales Tax Project has been introduced, but there is unlikely to be any activity on it this session. Meanwhile, efforts continue to place nexus restrictions on states’ business activity taxes. Other legislative efforts include charitable giving incentives, energy bill, and FSC/ETI replacement.

Harley Duncan also provided the participants with an update on the Streamlined Sales Tax Project (presentation prepared by Diane Hardt, Wisconsin Department of Revenue). The Project has had substantial involvement from the beginning, with businesses and 41 states participating in some form. The project is intended to simplify the collections/administration of sales taxes by creating uniform definitions and procedures. Seventeen states have enacted the conforming legislation, meeting the requirements to activate the agreement.
Duncan pointed out that work continues on several issues. They include bundling, digital property, rates/jurisdiction database, and uniform audit standards and procedures. Thus, states have not activated the agreement yet.

As part of a comprehensive tax reform study, the Washington Department of Revenue examined the volatility of different tax types to understand the stability of revenues. A Department economist, Fanny Nyaribo-Roberts, presented the results of this study to the conference. In addition to examining the current tax system, Nyaribo-Roberts noted that the study also examined the stability of alternative taxes (i.e., an income tax). But first, the economist needed to de-trend the data and recalculate the taxes with a constant base and rate. Once this was done, she could estimate the Short-run Elasticity of the taxes relative to the state’s economy. The overall system had an elasticity of 1.2 (with 1.0 tracking with the economy and less than one being more stable). The personal property taxes and public utilities have inelastic measures of 0.2 and –0.2, indicating a high degree of stability. Meanwhile, a possible flat rate income tax had an elasticity measure of 2.0.

Breakout Sessions
On Monday afternoon, participants were offered two concurrent breakout sessions, the economic outlook for selected industries and managing a research section.

On Tuesday, conference participants were offered several concurrent breakout sessions. The topics included corporate tax issues, state tax reform projects, forecasting methodologies for small states, tax expenditure budgets, data base development, personal income tax issues, and cigarette tax issues.

Electronic versions of many presentations can be found on the FTA Web site at http://www.taxadmin.org.