Weighing the Costs and Benefits of Oklahoma's CareerTech System

March 01, 2008

By J. Scott Moody and Wendy P. Warcholik

Perhaps you've seen the billboards, heard the radio advertisements, or seen the full-page newspaper ads declaring that Oklahoma's CareerTech system is "Elevating Our Economy." A CareerTech spokesman tells OCPA that the budget for the statewide marketing campaign was $190,000 in taxpayer money last year, and a full $380,000 in 2008. The Oklahoman has reported that "CareerTech officials want the budget increased to $1 million in coming years to adequately market the system across the state."1

The Oklahoma Department of Career and Technology Education helpfully notes that "as an Oklahoma taxpayer, you are an investor in Oklahoma's CareerTech system. It is your right to know and our obligation to ensure your investment is sound; your return is solid." In that spirit of inquiry, we decided to look a bit closer to determine if indeed "your return is solid."2

CareerTech's expensive PR campaign fails to make mention of a crucially important fact, a fact acknowledged by the author of the very study on which the entire PR campaign is built: CareerTech's educational activities come with a significant price tag. "It is also important to note," Professor Mark C. Snead acknowledges, "that the model merely attempts to compute the gross income gains generated by the provision of full-time training and does not integrate the operating costs of the CareerTech system in an attempt to determine a net benefit."3

If Oklahoma taxpayers are to know whether or not their "return is solid," they really need to know if CareerTech is providing a net benefit. But, in effect, the CareerTech marketers are misleading the public by implying the cost is minimal.

Yet, according to their 2007 annual report, federal, state, and local taxpayers paid $467,063,514 in support of CareerTech.4 In addition, the much larger (and less obvious) burden is the permanent lost economic activity due to the tax burden. Economists use the term "deadweight loss" to denote the burden imposed on taxpayers to pay for government programs like CareerTech.

The costs and benefits of CareerTech are shown in Table 1 for Fiscal Year 2002.5 In terms of benefits, Professor Snead, on behalf of CareerTech, found that " ... full-time training is estimated to add approximately $4.3 billion (approximately $1.8 billion in current dollars) to their [completers of CareerTech] future income stream."

This $1.8 billion compares to the tax burden and deadweight loss of up to $1,859,400,076 (in current dollars). As a result, Oklahoma taxpayers received a net negative return on the CareerTech system of at least $77,707,331-and this estimate does not include the administrative or compliance costs associated with taxation.
Oklahoma taxpayers would be better served with a reduction of subsidies to the CareerTech system, forcing them to compete with the private sector on a level playing field.

Counting the Cost: Taxes and Deadweight Loss

The first cost of the CareerTech system is the direct cost to Oklahoma's taxpayers. According to its 2007 annual report, federal, state, and local taxpayers paid $467,063,514 in support of CareerTech. The vast majority of this tax money comes from inside the state, with local taxes contributing $296,179,218 and the state government contributing another $146,620,018.6

As noted above by Professor Snead, the CareerTech study does not attempt to determine how much it costs to graduate a class of students from the CareerTech system. Therefore, in our study we assume that one year's worth of funding approximates the total cost of graduating a single class of students. This tax cost becomes the basis for estimating the second cost of the CareerTech system to taxpayers-the deadweight loss.

What Is Deadweight Loss?

We all know that taxpayers respond to tax incentives and disincentives. For example, they may buy a larger house than they "need" because they can deduct the mortgage interest from their income taxes. Since the behavior is tax-induced, it harms the economy. Rather than buying a larger house, the taxpayer could have invested in Google instead.

"Deadweight loss" is a term used by economists to describe the economic inefficiencies created by taxation, such as when taxpayers reduce work and/or consumption or shift income to avoid taxation. In other words, the very process of transferring resources from the private to the public sector results in a permanent loss of potential economic output.

Chart 1 graphically shows how economists are able to estimate deadweight losses where Quantity (Qe) and Price (Pe) show the market equilibrium. The addition of a tax has the same effect as an artificial price increase. The new price point of intersection with the Demand (P+Td) and Supply (P+Ts) curves is at Quantity (Qt). The rectangle formed by the new intersection is the revenue gained by the tax.

However, the triangle represents the value of economic activity that would have occurred without the tax, but is now precluded by the tax. Deadweight loss can be estimated by calculating the area of the triangle.

However, estimating the deadweight loss is subject to the degree to which taxpayers change their behavior. If, in fact, taxpayers buy significantly more expensive homes because the mortgage interest is deductible, then there is a significant deadweight loss. Otherwise, if taxpayers only modestly change their home buying habits in response to the mortgage interest deduction, then there would only be a corresponding modest deadweight loss. Economists refer to this as the "tax elasticity" (TE). Graphically, in Chart 1, TE is shown by the steepness and curvature of the supply and demand curves.

Based on this standard economic methodology, Harvard economist Martin Feldstein pioneered the empirical estimations of deadweight loss. In Feldstein's own words:

The appropriate size and role of government depend on the deadweight burden caused by incremental transfers of funds from the private sector. The magnitude of that burden depends on the increases in tax rates required to raise incremental revenue and on the deadweight loss that results from higher tax rates ... recent econometric work implies that the deadweight burden caused by incremental taxation (the marginal excess burden) may exceed one dollar per one dollar of revenue raised, making the cost of incremental government spending more than two dollars for each dollar of government spending [emphasis added].7

In two exhaustive studies, Feldstein finds, based on actual taxpayer behavior derived from IRS data, that the TE is 1.28.8 Therefore, a 1 percent change in marginal tax rates yields a 1.28 percent change in taxable income. The next step is to determine the change in marginal tax rates assuming zero taxpayer funding for CareerTech.

Complicating this analysis is the fact that CareerTech is funded by three levels of government-federal, state, and local. The Feldstein study is only able to estimate the deadweight loss associated with income taxes.9 As such, our study performs two different sets of analyses based on the origin of revenue.

In Scenario 1, the entire CareerTech system is assumed to be funded entirely by the state individual income tax.10 In 2002, the top marginal tax rate was 7 percent. By reducing income tax collections by $377,240,222 in 2002, the top marginal income tax rate could have been reduced by 16.5 percent to 5.84 percent from 7 percent. The permanent economic loss is $44,464,796 per year every year. In present value, the total deadweight loss to Oklahoma's economy is $1,482,159,854. In effect, the CareerTech deadweight loss created a hole; if this deadweight loss had never occurred, private companies with streams of output into perpetuity would have filled this hole. Instead, all we're left with is an empty hole.

As shown in Table 1, when the direct tax cost and deadweight loss are combined, Oklahoma taxpayers suffer a loss of $1,859,400,076 (present value)-which exceeds the gain in income of $1,781,692,745 (present value) by $77,707,331.11

In Scenario 2, our study examines the losses associated solely with the state portion of CareerTech, which can be more directly attributed to the state income tax. Since the state only contributes 34 percent of CareerTech's revenue, it is not surprising that deadweight loss is a much lower $531,940,416. The overall loss amounts to $658,659,608. This can be interpreted as the absolute minimum cost of the CareerTech system to Oklahoma's economy.

Some may dismiss these deadweight-loss calculations as too abstract to matter in reality. Indeed, some pro-government ideologues insist that "government spending" is really "government investment." But again, as in the case of CareerTech, this implies that government spending has a surplus benefit above and beyond the taxes raised and the resulting economic carnage. Economists Stephen Brown, Kathy Hayes, and Lori Taylor completed a recent study that sheds new light on the "investment" versus "tax" debate. They find that:

If anything, most public services do not appear to justify the taxes needed to finance them. Any tax savings financed by slower growth in environmental services, health and hospitals, or elementary and secondary education is positively associated with growth in private capital. Similarly, any tax savings financed by slower growth in public safety or education spending is positively associated with growth in private employment ... this finding would seem to imply that other state and local public capital has been increased to the point of negative returns, perhaps because a growing stock of other public capital is indicative of an increasingly intrusive government [emphasis added].12

Unfortunately, the one-sided marketing campaign by CareerTech is only the latest example in the battle of easily seen benefits versus the unseen costs of government spending and taxation. After all, how does one count a business or job never created? Businesses displaced by higher taxes, as illustrated by deadweight loss, are given a voice in this article so they may, in effect, plead their case.

J. Scott Moody (M.A., George Mason University) and Wendy Warcholik (Ph.D., George Mason University) are OCPA research fellows.

Endnotes

1 Griswold, Jennifer, "CareerTech Shows Off New Image," The Oklahoman, 11 March 2007.

2 http://www.elevatingoklahoma.com/html/index.htm

3 Snead, Mark C., "Completers of Technology Center Full-Time Programs: Lifetime Income Gains and the Impact on the Oklahoma Economy," Center for Applied Economic Research, Spears School of Business, Oklahoma State University, December 2006. http://www.elevatingoklahoma.com/flash/snead_full.pdf

4 http://www.okcareertech.org/newsroom/AnnRpt07.pdf

5 For comparability with the CareerTech study, all data are reported for Fiscal Year 2002 unless otherwise noted.

6 The revenue for FY 2002 was used in the analysis to maintain comparability with the Snead study. The corresponding revenue for FY 2002 was $126,719,192 for state, $223,719,192 for local, and $26,801,838 for federal.

7 Feldstein, Martin, "How Big Should Government Be?" National Tax Journal, Vol. 50, No. 2 (June 1997), pp. 197-213.

8 Feldstein, Martin, "The Effect of Marginal Tax Rates on Taxable Income: A Panel Study of the 1986 Tax Reform Act," NBER Working Paper No. 4496, October 1993, and Feldstein, Martin, "Tax Avoidance and the Deadweight Loss of the Income Tax," NBER Working Paper No. 5055, March 1995. The 1.28 TE is based on the median value estimates by Feldstein.

9 To the best of our knowledge, there is no academic literature that attempts to estimate deadweight losses associated with local-level taxes, especially the property tax. However, unlike state taxes, people can more easily move to other local jurisdictions to escape high property taxes, implying deadweight losses that at least rival those associated with income taxes.

10 Due to state aid to localities, especially for education, much of the local cost for CareerTech can be said to be indirectly supported by state tax dollars.

11 The loss also nearly matches the dubious "total direct, indirect, and induced income gain" of $2,092,868,066 reported in the Snead study. This higher gain is based on a discredited analysis of "Keynesian multipliers." For a more detailed analysis, see: Vedder, Richard, "Orange Spiel," Perspective, Vol. 14, No. 1, January 2007. http://www.ocpathink.org/sites/ocpathink/uploads/documents/Persp0107.pdf

12 Brown, Stephen P.A., Hayes, Kathy J., and Taylor, Lori L., "State and Local Policy, Factor Markets, and Regional Growth," Review of Regional Studies, Vol. 33, No. 1, 2004, pp. 40-60.

Your Tax Dollars at Work

[Here's a sampling of courses currently available in Oklahoma CareerTech centers. - Editor]

Aerobics - Kick and Tone
Anger Management
The Art of Napkin Folding
Blackjack, Can You Count to 21?
Brunches
Cell Phone 101
Cultural Diversity in Criminal Justice
East Coast Swing
Fun with Sugar
Get Funny!
Identity in the Ink*
Individual Excellence
Introduction to Model Railroading
Keep the Sparks Alive!
Listen to Your Heart, and Success
Will Follow
The Magic of Hypnosis
Marketing Tools for Actors
Office Yoga - Relaxation at Your Desk
Photographing People with Your
Digital Camera
Placemat Totes
Potting Plants with Confidence
Prepping for Prom
Prom Make-Up
Puppy Preschool
Romance Writing Secrets
Salsa Anyone?
Sending Pictures Over the Internet
Shower Singing in Public
Tailgating Super Bowl Style
Tarot Beginning to Advanced
Texas Hold ‘Em
Time Management for the New Year
Valentine's Special
Wow, What a Great Event

*"You will learn to identify potential danger signs in a person's handwriting. This knowledge should help detect, intervene and possibly prevent suicide attempts or violent outburst."

Source: Course catalogs at CareerTech technology centers, www.okcareertech.org/main/map/map.htm

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