Good afternoon, Chairman Weprin, and thank you for this opportunity to testify before your subcommittee today.

My name is Edmund J. McMahon, and I am senior fellow for tax and budgetary studies at the Manhattan Institute for Policy Research. The Manhattan Institute, based here in New York, is a non-partisan, non-profit research organization whose mission is to develop and disseminate ideas that foster greater economic choice and opportunity.

I’d like to begin by commending Council leaders for their decision to create a special subcommittee to focus on revenue and forecasting. You couldn’t have picked a better (or more challenging) time to take on these crucial issues.

Certainly in many ways the economic outlook is more positive than it seemed a few months ago, in the immediate aftermath of the attack on the World Trade Center.

All signs indicate the national recession is over, although there is still some question of just how robust the recovery will be. And while the bulls aren’t exactly charging down Wall Street, it looks like the worst of the bear market is also behind us.

For all the devastation wrought by the events of Sept. 11, New York City’s economy remains fundamentally stronger and more vibrant than it was a decade ago, when the rest of the nation was emerging from the last official recession. The city’s February unemployment rate of 7.6 percent represents a troubling increase over last year, but is still a far sight better than the 10.7 percent unemployment rate of February 1992. There are a quarter of a million more people in the city’s labor force and 330,000 more private payroll jobs based in the city than there were at this time 10 years ago—even after the loss of more than 100,000 jobs since Sept. 11.

There’s no denying that the city’s tax revenues took a tremendous beating from the World Trade Center disaster, dropping by some $1.3 billion. But all the official budget forecasts agree that the city’s tax revenues should bounce back along with the economy over the next four years.

In fact, according to Mayor Bloomberg’s preliminary budget forecast, city tax revenues from fiscal 2002 through fiscal 2006 will increase at an inflation-adjusted average annual rate of 2.3 percent. This is considerably above the 1.6 percent average real growth in city taxes over the 30-year period ending in 2001. And it’s more than three times the average annual tax revenue increase during Mayor Giuliani’s first term in office.

In short, the city’s problem in the years ahead will not be one of lagging tax revenues.

To be sure, New York’s economic outlook is clouded by more uncertainty than usual and will be shaped largely by factors far outside the control of anyone in City Hall—not the least of which will be the status our nation’s continuing war on terrorism. But there is one very important factor you can control—and that is the cost burden that municipal government places on the local economy.

Given New York’s heightened economic vulnerability in the wake of 9/11, city fiscal policy should take its cue from the Hippocratic oath: First, do no harm. Or, as Mayor Bloomberg put it in his inaugural address: “We cannot drive people and business out of New York. We cannot raise taxes.”

Indeed, in the current climate of worry and concern on the part of so many business decision-makers, it is economically hazardous for responsible city officials to even talk about raising taxes.

By any standard, New York’s taxes are still much too high. Consider, for example, the comparative standing of three major revenue sources:

• The median city property tax on commercial buildings is 76 percent above the median for surrounding cities and towns in New York, New Jersey and Connecticut—and these places are hardly tax havens by national standards.
• New York City’s general corporation tax rate of 8.85 percent of net income is now higher than the top New York State corporation franchise tax rate of 8.78 percent. The combined top rate in the city is effectively more than 17 percent—far higher than in any neighboring jurisdiction, or any other city in the country.
• The city’s top personal income tax rate of 3.65 percent remains higher than it was when Mayor Koch left office, more than 12 years ago. The combined state and city rate is 10.5 percent—easily the highest imposed in any major city—higher, in fact, than the effective marginal rate in any state except Montana. That high income tax rate is major reason why the non-federal tax burden on middle-class families in New York is $1,600 higher than it would be in Los Angeles, $1,800 higher than it would be in Boston, and $2,800 higher than it would be in Chicago.

New York’s overall tax burden was 79 percent above the average for the next nine largest of the nation’s top 10 cities as of 1999, according to an IBO study.

These figures make it clear that, far from raising taxes, the mayor and the Council ought to be looking for ways to further reduce taxes to promote economic growth. The city’s own recent history highlights the extent to which taxes matter.

The previous national economic downturn, just over a decade ago, was among the least severe on record for most of the country—but not for New York. In three years the city lost 300,000 jobs, 10 percent of its employment base. It’s no coincidence, I would suggest, that these losses came on the heels of huge tax increases on both the city and state level.

Conversely, the economic boom experienced by New York City in the late 1990s coincided with an unprecedented series of major city and state tax cuts. The Manhattan Institute’s statistical model suggests that tax reductions approved by the City Council from fiscal 1999 through 2001 generated more than 80,000 new jobs, or about one of every four gained by the City during that period. Without these tax cuts, private sector employment in the city would have grown at a respectable level, slightly behind the rest of the nation. With these tax cuts, the city exceeded the nation’s private sector job growth rate during an expansion for the first time in at least 50 years.

When taxes are reduced, the marginal cost of working, investing, and owning property in New York is reduced. And that increases the incentive to do those things in the city. By the same token, when taxes are increased, the marginal cost of living, working, investing and owning property in New York rises—and so does the disincentive to live, work, invest and own property here.

Unfortunately, notwithstanding Mayor Bloomberg’s pledge, the city has already taken a step in the wrong direction. I’m referring to the recent decision to allow the income tax surcharge to revert to a full 14 percent. This did not amount simply to the shelving of prospective cuts in the surcharge. Since New York residents were already paying income taxes at reduced rates last year, this was a tax increase, plain and simple—the first city tax hike in 10 years. And its distributional impact will be regressive, hitting lower-income taxpayers harder, on percentage basis, than high-income taxpayers.

Our model indicates that the income tax increase will cost New York another 10,000 private sector jobs, at a time the city can least afford to lose them. This highlights a significant, ever-present fiscal tradeoff: raising taxes can help close budget gaps in the short term—but only at the price of further hobbling the City’s economic recovery from the September 11th attack.

To get New York back on the right track, the Council and the Mayor should work together to find room in the four-year fiscal plan for achieving the growth-oriented tax cuts that include:

• Elimination of the remaining commercial rent tax in midtown and downtown Manhattan. Now more than ever, this tax makes absolutely no sense.
• Removal of the remaining surcharge on the income tax.

Over the long-term, the goal of city tax policy should be to eliminate or significantly reduce those taxes that are unique to the New York, and thus uniquely harmful to its competitive posture. This can be financed, at least in part, through the elimination of the enormous tax breaks that the city now dispenses, essentially as a stopgap measure, to firms that grow fed up enough with the local tax burden to publicly threaten a move to less costly environments. In the long run, the most valuable tax incentive of all would be a lighter overall burden for all taxpayers.

Although it appears city tax revenues will be growing again, no one suggests it will be easy to deliver new tax reductions in a time of budgetary stress. But if anything, restraining and reducing city taxes is an even more important goal now than it was before the World Trade Center attack.

Thank you once again for the opportunity to testify.

Read testimony at Manhattan Institute