By Lowell L. Kalapa
Despite the six interest rate cuts made by the Federal Reserve Board since the beginning of the year, observers still feel that the R-word is not far away. Others believe that the infusion of the recently approved federal tax rebates and reductions in withholding taxes will help keep the national economy afloat.
However, what everyone seems to agree upon is that the economic downturn is not confined only to this country but now is reflected in both Asia and Europe. Compounding matters is the fact that the U.S. dollar has gained strength against both the yen and the euro. As a result, American-made products are now much more expensive for foreign consumers reducing demand and therefore production of those products.
Less demand on the global markets translates into reduced output of those products and layoffs of workers as inventories increase. The growing number of unemployed workers and the fear of further downsizing of companies all contribute to a lack of consumer confidence. That means people are not as willing to spend what discretionary cash they have for the fear of perhaps being unemployed in the near future.
So what is the appropriate response? Is it as the President has proposed and the Congress approved, a tax cut across the board or is it targeted tax incentives to motivate certain types of behavior? Here in Hawaii, the mentality has leaned more heavily in favor of targeted tax incentives like income tax credits and a variety of exemptions. In many cases, these targeted tax incentives are available only for a limited period of time as a means of stimulating a particular type of behavior with the hope that the type of behavior will continue well after the tax incentive has disappeared.
However, as has already become evident, those tax incentives have a hard time dying. Take for example, the alternate energy tax credits. Initiated more than 25 years ago, the tax credit has not only hung around for more than a quarter of a century, but has been expanded to include not only solar water hears (for which the credit was first established) but all sorts of alternate energy devices with a variety of percentage rebates. Ice storage systems, for example, can qualify for a 50% tax credit, which means taxpayers are picking up half the cost of the device.
Another targeted tax incentive is those which are aimed primarily at stimulating construction activity. The first tax incentive was adopted during the early years of the last decade when a 4% tax exemption was granted for building affordable housing. More recently, tax credits equal to 4% of the cost of construction or renovation of hotel property were adopted.
But what happens if the tax incentive disappears? Will all activity come to a grinding halt? Well, it will if there is no prospect that the dollar invested in whatever activity does not produce income and more importantly a profit for the investor. Taxes, and more specifically tax incentives, are but one consideration that results in a decision to invest in an economic activity, be it building a new building or replacing a water heating system with a more fuel efficient one.
The first means lawmakers embrace for stimulating the economy are targeted tax incentives. What they don’t realize is that the more the base is eroded with this or that tax incentive, the more difficult it becomes to lower the overall tax rate for everyone. The more targeted tax incentives, the longer all other taxpayers must endure the heavy burden of taxes for which Hawaii has a well-deserved reputation.
Instead of adopting targeted tax incentives, lawmakers need to think more globally about improving the tax climate for all businesses. They must also realize that the tax situation is not the only consideration for businesses and taxpayers in general when considering locating in Hawaii. Sure we have beautiful weather and great scenery, but what about the rules and regulations that make it difficult to establish a business in Hawaii? And what about the education system? Another consideration that has become increasingly more obvious is the availability of inexpensive and dependable energy. And while the world is becoming smaller because of telecommunications, what about the convenience of transportation in and out of the state for not only passengers but also products?
While taxes or their compliment, tax incentives, help the bottom line, unless investors and businesses can accommodate the other costs such as regulation, energy and education, the economic well-being of Hawaii will suffer.