The Palmetto Insider

The blog of the South Carolina Policy Council

BEA Should Think Like Economists, Not Accountants

with one comment

We’ve made no secret of the fact that we think the state’s Board of Economic Advisors (BEA) could improve upon its analysis of legislation proposed in the General Assembly. As we recommended in our recent report on economic incentives transparency, Three Steps Toward Transparency:

“In addition to any data provided by the BEA, legislators should also be provided (prior to second reading) with a dynamic cost-benefit report demonstrating the pros and cons of the proposed investment strategy, including the impact on existing taxpayers and businesses. This supplemental analysis should be conducted by an independent economist who is not a publicly paid employee, unless that economist is an employee of a public four-year university.”

Our motive in calling for independent analysis, on top of what the BEA does, is that the BEA’s static revenue impact statements rarely capture the true fiscal consequences of a proposed tax increase, cut, exemption, subsidy, or what have you.

Currently, per S.C. Code of Law sections 2-7-71, 2-7-72, 2-7-76 and 2-7-78, the Board of Economic Advisors, a division of the Budget and Control Board (BCB), is required to submit a statement of estimated revenue impact or estimated expenditure impact on revenue (tax) and expenditure (spending) bills, both at the state and local level.

On the surface, this analysis should provide legislators with accurate and useful information they need to make informed decisions about spending and taxing. But that’s not always the case.

One problem is that the analysts at the BEA seem to approach their responsibilities more like accountants than economists.

The impact statement provided for S 999 provides a good example of this mindset. In essence, S 999 would mandate that an individual’s taxable gross income excludes unemployment benefits. The BEA estimated that the tax cut would have reduced General Fund revenue by about $33.010 million in FY10-2011.

This is how the BEA arrived at its calculations:

The state allocated $917.971 million in unemployment compensation benefits for FY2009.

The current tax rate for unemployment benefits is 5.8 percent.

62 percent of all South Carolina taxpayers have income tax liability.

$917.971 million times 5.8 percent times 62 percent equals …

$33.010 million in reduced tax revenue.

This is a fundamentally flawed analysis because it is:

  • Based on historical, instead of projected, or longitudinal, data. Instead, the BEA should have conducted an analysis based on future economic projections and possible alternatives forgone (opportunity costs).
  • Uses a one-year analysis. Instead, the BEA should have conducted a multi-year analysis. Since this exemption would be in effect indefinitely, analysis should be conducted for 5-year, 10-year, or even 20-year, timeframes.
  • Employs simplified assumptions and risk calculations. The BEA assumes that 62 percent of those receiving unemployment benefits have income tax liability. But this number is based on the number of taxpayers statewide. Wouldn’t unemployed persons, generally, have lower-incomes and so make up a greater percentage of those persons with no tax liability? Thus, wouldn’t the resulting reduction in revenue be less than assumed by the BEA?

If the BEA approached these issues with the mindset of an economist, it would have stated the real economic impact, both explicit and implicit, on every revenue stream, including the General Fund, Other Funds and Federal Funds.

As far as S 999 goes, an economic analysis would consider the following issues:

  1. Short-term employment effects and long-term economic growth: such as whether the unemployment rate is expected to increase or decrease.
  2. Economic efficiency: such as whether this bill is the best option for achieving its desired end, or whether resources could be used more efficiently to accomplish the same end.
  3. Cost/benefit analysis: using various scenarios with assigned probability based on different economic assumptions and factors. For instance, considering whether the exemption would increase earning power among low-income consumers. If so, what would the extent of the increase be and how likely is it to occur? Likewise, what impact might it have on job growth?

If the BEA began to conduct more rigorous economic analysis using real-life, on-the-ground assumptions and statistical models, legislators and the general public would gain a better understanding of the true costs, as well as benefits, of important pieces of legislation. Granted such analysis would take more time and use more resources, but the resulting transparency would be well worth it.

To read more about transparency initiatives in the 2010 General Assembly, see our latest Best/Worst.

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Written by Simon Wong

November 16, 2010 at 2:26 pm

Posted in Transparency

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One Response

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  1. Don’t be so tough on accountants. I’m an accountant, a CFO actually, and I’d lose my job if I took the approaches that BEA use.

    Nathan

    December 6, 2010 at 2:20 pm


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