Think of a tree swinging from side to side in Hurricane Sandy: That’s the 2013 New Jersey economy, and the big wind is coming straight out of Washington.
New Jersey’s economic growth in 2013 hinges to an unprecedented extent on what the federal government does — or doesn’t — do. It isn’t just a question of whether Congress eventually authorizes the full $60 billion in Hurricane Sandy relief, economists and tax experts agree.
New Jerseyans, particularly the wealthy, will be footing more of the bill for the fiscal cliff settlement and for President Obama’s Affordable Care Act than residents of any other state except Connecticut. (View the Interactive Map to see the states where the wealthiest taxpayers live.)
In fact, combined federal tax increases this year could top 10 percent for those earning over $450,000. The only good news is that it could have been much worse if the top tax rate for families had kicked in at $250,000, instead of $450,000.
“We’re looking at a 2 percent to 6 percent hit on disposable income in an economy that has been slowed for three years,” said Joseph J. Seneca, University Professor at Rutgers University’s Edward J. Bloustein School of Planning and Public Policy. “The payroll tax increase will certainly be felt in New Jersey when the economy is still feeling the impact of Sandy, but the extension of unemployment benefits will help.
“On the high income side, we will clearly be sending more money to Washington,” he noted. “But we also would have been overrepresented in that gap between $250,000 and $450,000, and the compromise kept that money in New Jersey households,”
However, Obama and Congress still have three fiscal cliffs to go with negotiations ahead on the debt ceiling, entitlements, and other revenues, and some of the likely options, particularly further limitations on federal income tax deductions for state and local taxes, would hit New Jerseyans especially hard. The fiscal cliff agreement approved last week simply put off for two months the battle over a scheduled 10 percent “poison pill” reduction in federal spending that could still result in major cost shifts to state and local government taxpayers in March.
New Jersey annually ranks last on return for federal dollars, with just 51 cents coming back for each tax dollar paid. But the Hurricane Sandy relief package to be voted on by the House January 15 promises to change that equation for the next two years.
“We’re talking about billions of dollars of construction in the state over the next year that would not have happened without Sandy,” said Joel L. Naroff, president of Naroff Economic Advisors. “But once again, nothing’s simple because while the reconstruction is likely to dwarf the slowdown in spending caused by higher taxes, what we don’t know is what the impact will be on the state’s tourism industry this summer.”
The normally ebullient Gov. Chris Christie, in his end-of-the-year interviews with New Jersey newspapers, sought to tamp down expectations for the recovery of the Jersey Shore economy, saying he would be pleased if the Shore was well on its way to recovery by the Fourth of July, rather than the traditional Memorial Day Weekend, which he set previously as his target.
Hurricane Sandy recovery efforts will dominate Christie’s State of the State speech tomorrow, but New Jersey’s overall economy has much deeper problems than the state of the Shore, which makes up $19 billion of the state’s $37 billion tourism industry.
New Jersey ranked 47th in the nation in economic growth in both 2010 and 2011, and while the 2012 numbers won’t be available until June, the short-term impact of Sandy over the past two months will cut into whatever gains would otherwise have occurred.
“We gained about 31,000 private sector jobs in 2011, but this year we’re going to have to stretch to get to that number,” Seneca said. “The economy slowed and we were treading water — before Sandy — since July, then we had a bad November and December.”
Christie’s Call for Tax Cuts
Christie promises to renew his call for a tax cut as an economic solution for New Jersey’s flagging economy. But Democratic lawmakers are already asking his administration for a list of midyear budget cuts to make up for a $705 revenue shortfall identified by the Office of Legislative Services. Neither the governor nor the legislature have laid out any plan to make up for the tens of millions of dollars in property taxes that counties, municipalities, and school districts are likely to lose on properties destroyed by Hurricane Sandy.
Forecasting New Jersey’s revenue growth for the next fiscal year will be particularly difficult if Christie decides to deliver his annual budget message on the usual mid-February timetable, with Sandy reconstruction still in its early stages and Congress still debating revenue, spending, and entitlement issues that could affect future economic growth.
In renewing his call for a tax cut, Christie will undoubtedly cite the dampening effect of the federal tax hikes on New Jerseyans’ disposable income. While most of the congressional debate over whether wealthy Americans should pay higher taxes focused on where the top income tax bracket should begin, other provisions of the final agreement also raised taxes significantly, but received little attention.
“Most people don’t realize it, but the overall effect of the fiscal cliff agreement and the healthcare act could easily amount to a 10 percent increase for those making over $450,000, and there are more of those on a percentage basis in New Jersey than in almost any other state,” said Frank J. Abella Jr., president and CEO of Investment Partners Group, Metuchen. “And Congress isn’t done yet.”
Seneca, Naroff, and Abella all emphasized that Obama and Congress needed to reach an agreement to avert the January 1 across-the-board income tax hikes and 10 percent federal spending cuts that most economists believed would have plunged the nation into recession this year.
“The deep and lingering uncertainties over what the federal tax code was going to be that plagued the national economy and New Jersey economy for over a year were finally resolved,” Seneca said. “But it’s an incomplete grade because more has to be done on the expenditure side. And despite the president’s opening remarks about not wanting to go through this again on the debt ceiling, we’re going to replay it all again with profound implications for the economy still ahead.”
Both Naroff and Abella said the February negotiations on the debt ceiling and March deadline for new federal spending cuts would have a chilling effect on business investment. “Nothing’s going to happen until those issues are resolved,” Abella said. “We’re telling our clients not to make any decisions without paying close attention to what’s happening in Washington.”
Economics, Not Politics
Most media coverage of the cliffhanger negotiations in Washington last month focused on the political implications of whether a deal would be reached, and not on the economic impact of the actual deal.
“What flabbergasted most economists was the concentration on the tax rate issue and whether it should be $250,000 or $450,000 and the lack of discussion on the fact that the payroll tax holiday was coming to an end,” Naroff said. Payroll taxes increased from 4.2 percent to 6.2 percent on the first $113,000 of income to fund Social Security.
“Two percent may not sound like a lot of money, but somebody in New Jersey making $100,000 might pay 50 percent of their income in taxes, so losing $2,000 in spending income is really a 4 percent cut,” he said. “That’s going to translate into a drop in consumption that will cost the state at least a quarter to a half of a percentage point in economic growth.”
The biggest irony of the fiscal debate, Naroff asserted, was that Obama and Democratic leaders were arguing for the top income tax rate to begin at $200,000 for individuals and $250,000 for families, while Republicans representing states with fewer wealthy residents were fighting for the 39.6 percent tax rate to kick in at higher income levels.
“It was totally and completely clueless,” Naroff said. “Most people would agree that $250,000 is not ‘wealthy.’ New Jersey, New York and Massachusetts, Washington, D.C., and the areas around it, and California would have been clubbed. It would have hit the blue states really hard.”
Obama’s victory margin in November included 12 states and the District of Columbia with more than 3 percent of taxpayers showing taxable income of $200,000 or more, led by Connecticut (5.46 percent) , New Jersey (5.26 percent), Massachusetts (4.82 percent), Virginia (4.39 percent), Maryland (4.35 percent), and New York and California (both 3.92 percent). Romney carried only one, Texas (3.1 percent).
The increase in the top income tax rate from 35 percent to 39.6 percent on individuals making more than $400,000 and families over $450,000 will still cost the blue states more in disposable income. Connecticut, with 1.34 percent of its taxpayers showing income over $500,000, will be hit hardest, followed by New Jersey (0.98 percent of taxpayers over $500,000), New York (0.95 percent) and New Jersey (0.94 percent).
But the new $400,000 and $450,000 tax brackets are just the beginning of the increased tax bite on upper-income taxpayers that was imposed January 1, 2013, as a result of various provisions of the fiscal cliff agreement and the Affordable Care Act championed by Obama.
Capital gains taxes rise from 15 percent to 20 percent, and estate taxes increase from 35 percent to 40 percent at the same $400,000 and $450,000 levels for individuals and couples.
But other tax increases kick in at lower levels. Both itemized deductions and personal exemptions on federal income taxes are phased down on family income starting at $300,000 and individuals over $250,000, with personal exemptions eliminated altogether for those making over $422,500.
More important, a new 3.8 percent tax on investment income for couples plus a 0.9 percent Medicare payroll tax surcharge, kicked in January 1 on couples making over $250,000 and individuals over $200,000, as previously scheduled under the 2010 Affordable Care Act.
The Real Cost of Living?
It’s a problem of federalism, and the failure of national tax policy to take cost-of-living into account. Sen. Tom Harkin (D-Iowa) could argue on the Senate floor that the real middle class makes $50,000 to $70,000 a year because Iowa wages and housing costs are low. In New Jersey, however, when liberal Democratic state legislators propose making the rich “pay their fair share,” they talk about raising income taxes on those making $500,000 or $1 million.
Seneca noted that both Democrats and Republicans in the New Jersey, New York, and Connecticut congressional delegations “have been arguing, and properly so, that we send a lot of money to Washington year after year, and this time it is our states that need help. There is lots of precedent for the federal government providing aid to rebuild in the event of national catastrophe, and it is critical for the competitive position of the New Jersey economy in both the short run and the long run.”
New Jersey and New York will receive the lion’s share of the $60 billion Hurricane Sandy aid package The $9.7 billion replenishment of flood insurance funds Friday is important to individuals whose homes were inundated by Sandy’s flood surge.
But it is the $33 billion in funding for transportation, sewerage, and other infrastructure repairs, boardwalk reconstruction, beach restoration, and small business loans that will be part of the $50.3 billion package up for a vote in the House on January 15 that is most critical, Seneca said. “because that’s where you get more an economic multiplier effect and create jobs.”
Federal aid and insurance payments will not fully make up for the net worth lost by New Jersey citizens and taxpayers as a result of Hurricane Sandy, but the billions of dollars of reconstruction that will occur will be paid for largely by taxpayers from other states and by insurance ratepayers around the world, Naroff noted. In fact, Hurricane Sandy will be the largest single insurance loss payout from 2012.
“Clearly, all of the reconstruction creates new jobs and economic activity, but if the rebuilding isn’t well on its way by summer, that will have a real effect on tourism,” Naroff said. “The longer Congress takes to get things going, the longer insurance companies take to make settlements, the less likely it is that shore restaurants and homes will be rebuilt in time for June and July. If you lose a summer tourism season, you never make that money back.”