HAWAII’S Special Edition / March 1998 EC NOMYfiles.hawaii.gov/dbedt/economic/data_reports/hawaii-econ/...Hawaii’s Economy /Special Edition - March 1998 3 of the burning tourism

EC NOMYA Quarterly Report from the Department of Business, Economic Development & Tourism

HAWAII’S Special Edition / March 1998

In This IssueHawaii’s economic future:

proposals of the ERTFpage 1

Summary of the proposalspage 4

The ERTF processpage 5

Tax reform proposalspage 6

Tourism proposalspage 13

Education proposalspage 15

Government proposalspage 18

Economic impactof key proposals

page 20

Economic conditions & outlookpage 22

Selected statisticspage 23

Hawaii’s Economyis published by the Department of Business,

Economic Development & Tourism; Research& Economic Analysis Division

BENJAMIN J. CAYETANOGovernor

SEIJI F. NAYADirector

BRADLEY J. MOSSMANDeputy Director

PEARL IMADA IBOSHIDivision Head

ROBERT SHOREEditor

Direct Inquiries to:Hawaii’s Economy

DBEDTP.O. Box 2359

Honolulu, Hawaii 96804Fax: (808) 586-8449

1Hawaii’s Economy /Special Edition - Mar ch 1998

Virtually everyone in Hawaii hasbeen impacted by the slow growthin the State’s economy over the

last six years. Real production and in-come have grown at a snail’s pace. Whilejob losses have stabilized in the pastyear, there were about 12,000 fewer jobslast year than in 1992. Government taxrevenues have fallen in inflation-adjustedterms. All of this has taken place againstthe backdrop of one of the strongest eco-nomic expansions in U.S. history, an ex-pansion shared by virtually every stateexcept Hawaii.

The Economic RevitalizationTask Force

Against this background GovernorBen Cayetano, Senate President NormanMizuguchi, and House Speaker Joe Soukijoined with key leaders in the privatesector to form the Economic Revitaliza-tion Task Force (ERTF). These leadersrealized that while Hawaii faces manychallenges, a strong economy is the es-sential foundation for dealing effectivelywith Hawaii’s non-economic problems.Moreover, they recognized that majoreconomic reforms were needed and thatformulating and enacting such reformswould be possible only through a large,cooperative effort involving segments ofthe community knowledgeable in how

Hawaii’s economic and business sys-tem works. For these reasons, the TaskForce and its Work Groups were com-posed of a wide assortment of leadersfrom big business, small business, labor,community groups, and others.

After months of work, the ERTF de-veloped a set of recommendations thatdeal with taxation, tourism, education,regulation, government efficiency, andothers. The recommendations are boldand a few are controversial; yet the ERTFfeels that all can be realistically imple-mented.

The recommendations reflect theERTF’s conclusion that continuing on ourcurrent course is unacceptable. Its pack-age of proposals represents a remarkableconsensus on sweeping reforms designedto take our fate into our own hands.Whatever one thinks of the proposalsindividually, the package represents acoordinated and optimistic response tothe challenges facing Hawaii.

How Hawaii Arrived at thisCritical Turning Point

From statehood to 1990, Hawaii’s eco-nomic engine has been the marvel of thenation, with real gross state product (GSP)increasing at an annual average rate of4.4 percent. Hawaii’s non-agriculturalwage and salary job count grew at 3.6

Hawaii’s Economic Future:Proposals of the

Economic Revitalization Task Force

2 Hawaii’s Economy /Special Edition - Mar ch 1998

and 1997. This has translated into realreductions in services. Some would arguethat the size of State government is toolarge in any case, while others are con-cerned about the reduction in services. TheTask Force believes that further reductionin the size of government is necessary,but that too large a cut will have a nega-tive impact on the economy as a whole.

percent per year for the period. But inthis decade the story has been very dif-ferent. From 1990 to 1996, the annualgrowth rate of real GSP has slowed to anaverage 0.5 percent. Since 1990 Hawaiihas lost jobs in five out of seven years.

This recent period of stagnation is un-precedented in the State’s history. Hawaiihas suffered recessions and periods ofslow growth in the past, but the length ofsuch periods has always been short andthe recovery swift. Such chronically poorperformance is a sign that our economicproblems are not a simple matter of thebusiness cycle—they go much deeper intothe way our economy is able to respondto the changes in the national and inter-national economies around us. This iswhat is commonly meant by “structural”economic problems as opposed to problemscaused by the occasional ups and downsof the business cycle.

Our economy must deal with manychallenges. First, Hawaii faces much morecompetition in the long-haul, resort travelmarket today than in the past. Dazzlingnew resorts have been developed all a-round the Pacific Rim, from the Gold Coastof Australia to the Gulf of Mexico. More-over, the profile of travelers is changingover time as the baby-boom generationages and new niche markets develop.Hawaii’s product and promotional target-ing appears not to have kept pace withthese changes. Consequently Hawaii haslost market share to other destinations.

Hawaii has failed to adjust in otherareas as well. For instance, a high coststructure and excessive land use and busi-ness regulation discourage new businessdevelopment and undercut the competi-tiveness of existing businesses. Cutbacks indefense expenditures with the end of theCold War have eroded the job base at thePearl Harbor Shipyard and caused a declinein the contribution to the economy fromthe defense sector. The once-dominantsugar and pineapple industries have de-clined to relatively minor activities at best,except on Maui and Kauai.

State and local government has notbeen immune from the economic drift.The number of State government jobs fellin two consecutive years (in 1995 and1996) for the first time in state history.State general fund revenues have fallen inreal terms by 4.3 percent between 1989

Following the input of the generalpublic, more than one hundred local busi-ness leaders, academics, government of-ficials, and others, the Task Force spentan intensive two days developing a set ofrecommendations that all members con-sidered bold, meaningful, and achievable.While some have taken the ERTF to taskfor not going far enough, by a large mar-

Options For ResponseGiven that Hawaii is experiencing

something more serious than another dipin the business cycle, the question be-comes what can we do to change things?

One option, of course, is to continue todo nothing and hope that the situationwill change. However, after six years ofslow economic growth in Hawaii whilethe Mainland booms, it is hard to find any-one who advocates depending upon hopealone. The weakness in our mainlandvisitor markets despite national economicgrowth leaves little room for optimismthat tourism is likely to accelerate soon.The recent financial crisis in Asia alsoraises concerns about the growth of thatmarket in the near future. Other economicindicators (including jobs, income, andtax revenues) have also exhibited slowgrowth for an unusually long period. Thus,trusting that recovery is overdue and willdevelop on its own, no longer seems atenable or responsible position.

A second option is to be pro-active andmake changes that will position Hawaiifor a recovery and long-term viability (i.e.,do something). The ERTF was created asthe catalyst for this option.

gin most of the criticism appears to be fromthose who believe the Task Force went toofar in one or more directions.

Regardless of whether one agrees en-tirely with the package of ERTF proposals,it seems clear that the package meets thecriterion of bold, significant action in theface of Hawaii’s problems. Other initia-tives are certainly possible, but alterna-tive proposals that are as comprehensiveand that balance the needs of Hawaii citi-zens with economic growth have not beenforthcoming. If any meaningful action isto be taken, then some consensus is nec-essary on how to move forward. Other-wise, Hawaii will choose the blind hope,“do nothing” option by default.

The Rationale Behind theRecommendations

The specific ERTF recommendationsappear on pages 4 & 5. The rationale fortheir recommendations reflect the carefulthought put into the effort by Task Forcemembers.

TourismAs the engine of Hawaii’s economy, the

Task Force felt it critical to address some

The Task Force focused onthose issues that, in its opinion, were

the most pressing for Hawaii’s economyand about which there was consensus

for bold action and a reasonablelikelihood of successful

implementation.


of the burning tourism issues. Foremostamong these is the level and uncertaintyof funding for tourism marketing and pro-motion. Long-term efforts to diversifyHawaii’s economy must continue. But inthe short term, the most likely source ofgeneral economic growth and job creationlies with the visitor industry. Because ofits size (about 25% of the economy),tourism is also where positive changesare likely to have the largest effects.

GovernmentTwo areas of the Task Force’s recom-

mendations deal with government. Thefirst concerns how government conductsits legitimate regulatory functions. Thesecond deals with improving the effi-ciency with which government providesservices to Hawaii residents and visitors.

Regulatory Process ImprovementsDeserved or not, Hawaii has a reputa-

tion for being a difficult and costly placeto do business. Business people complainof the complicated and slow regulatoryprocesses required to engage in economicactivity. While the goals of governmentregulatory actions remain valid (such asassuring a clean environment, a safeworkplace, and so on), the methods forachieving these goals can be improved.The recommendations of the Task Force inthis area are intended to improve the effi-ciency of legitimate regulatory activity, andeliminate unnecessary costs associatedwith that activity.

Efficiency in Government ServicesA second source of complaint about

Hawaii government lies with the percep-tion of the high cost of its services. Al-though the accounting systems necessaryto evaluate the complaint are not in place,there is enough evidence about the dupli-cation of government services betweenthe State and the Counties, about the pos-sibility of lowering the costs of servicesthrough greater private-sector participa-tion, and about making the procurementprocess more flexible, that the Task Forceurged action on these fronts.

EducationEducation is the key to long-run eco-

nomic success. Society needs its people todevelop advanced skills and knowledge

in order to produce the complex goodsand services that support our standardof living. Likewise, individuals need ad-vanced skills in order to earn the level ofincome required to consume those goodsand services. Acquiring advanced skillsand well-paying jobs means that peoplemust assimilate and actively use new in-formation. This is what education is allabout.

Public SchoolsIt is no secret that Hawaii’s public edu-

cation system faces challenges in meet-ing these goals. Some observers cite theweight of top-down, bureaucratic man-agement as a problem. Others note thelack of real accountability. Still othersrefer to the lack of new technological re-sources (computers), the disincentivesto outstanding performance in currentlabor-management arrangements, andthe insecurity of funding programs thatrelate the classroom to the larger world.The Task Force felt that all of these areasdeserve attention.

University of HawaiiA high-quality university is vital to the

educational support for economic well-being. This is where advanced skills aretaught. This is where cutting-edge re-search is performed. While the Universityof Hawaii enjoys a solid reputation inseveral fields, government regulationsand process sometimes stymie its effec-tiveness and ability to seize opportuni-ties. The University can do more to takeadvantage of Hawaii’s position in theAsia-Pacific area. An important compo-nent of that advantage lies in removingthreats to the survival of the East-WestCenter as a vital center of intellectual andcultural exchange.

Native Hawaiian ClaimsIn addition to all the other issues

raised by Hawaiian claims, the Task Forcefelt strongly that resolution of the claimsand self-determination questions was animportant economic issue facing the state.The current status of these questions cre-ates uncertainty and fear that translateinto higher business costs, lower invest-ment rates, fewer jobs, and smaller house-hold incomes for all of Hawaii’s residents.The Task Force recognized that a variety

of forums are dealing with specific issuesand that it might be counterproductive tomake specific recommendations at thispoint. However, the Task Force felt it vitalto recognize the importance of reachingresolution soon.

TaxationThe structure and level of taxation have

much to do with the perception of Hawaii’spoor business climate. Hawaii residentsface the fourth-highest top income tax ratein the country. The overall level of taxa-tion also ranks high, whether adjustedby personal income or by population. IfHawaii is to position itself to fully partici-pate in economic recovery, it must reformthe tax structure by lowering tax rates andfollowing other jurisdictions in movingaway from taxation of income and towardthe taxation of consumption.

ConclusionThe Task Force could not address all, or

even most, of the issues facing Hawaii.Many issues were raised and discussedthat did not survive to the recommendationstage. The Task Force focused on thoseissues that, in its opinion, were the mostpressing for Hawaii’s economy and aboutwhich there was consensus for bold actionand a reasonable likelihood of successfulimplementation.

Hawaii clearly faces an unusual periodin its economic history. Even those ini-tially so inclined can no longer assumethat time and patience will reverse theslow growth that has plagued the statesince 1990. We must take action to beginto reverse course. At the very least, wemust act to position our economy to takefull advantage of opportunities for recov-ery when they come—perhaps we caneven accelerate the recovery’s arrival. TheERTF proposals constitute a major, col-laborative effort along these lines. It is atestament to the participants and theirorganizations that broad support wasreached on a set of dramatic proposals.Whether they or some other set of propos-als become law is yet to be determined.But if nothing happens—if we ultimatelychoose the “do nothing” course—then we,Hawaii’s citizens, will only have ourselvesto blame.


➣ Restructure the tax system to reduce resident taxesover the next three years and enhance the state’s at-tractiveness for new and additional investment2

• Reduce personal income tax rates [highest rate falling overthree years from 10% to 7.5%, and all other rates fallingat least proportionately]

• Create two low-income tax credits, funded in part by con-verting the existing food tax credit into a non-refundabletax credit. [single refundable credit for those with AGIbelow $35,000]

• Cut corporate income tax rates by 30%• Raise the GET [from 4% to 4.75%]• Exempt exported services from GET and impose an equiva-

lent Use tax on imported services

➣ Strengthen the competitive position of our tourismindustry• Provide increased funding for tourism promotion at the

$60 million level (1997 dollars)• Raise the TAT rate from 6 percent to 7 percent of hotel rent-

als and dedicate 3 percentage points of the 7 percent TATfor tourism marketing. Broaden the TAT base to includetimeshare condominiums

• Establish a 7-to-11 member tourism executive board, withgeographic representation, to oversee all marketing andpromotion. The board will assume responsibility and beaccountable for expenditures from the dedicated tourismfund, contracting out, and measurement of fund’s impact,while using no more than 10% of the funds for administra-tion. The Board will be responsible for an annual report onobjectives and performance to the Governor/Legislature

• Consolidate tourism research functions, including statisticsgathering, into DBEDT

• Ensure that Waikiki remains competitive with other desti-nations through appointment of a joint State/City analysisgroup to address the revitalization of the visitor infrastruc-ture and activities in Waikiki

➣ Make structural improvements in the regulatory processand strengthen the efficient delivery of governmentalservices in Hawaii• Require that all permits, approvals and licenses have a maxi-

mum timeframe for review and approval set by the appro-priate State or County agency. Approval must be grantedor denied (with appeal rights) within that timeframe with-out extensions, or approval is automatically granted

• Eliminate the State Land Use Commission. Transfer respon-sibility for conservation district boundaries to the StateBoard of Land and Natural Resources, with all other re-classifications and parcel-specific reviews to become theresponsibility of the Counties. Issues of statewide concernare to be administered by a state agency

• Create a GAAP-based (Generally Accepted Accounting Prin-ciples) government accounting and budgeting system, tomore closely approximate the private sector system whichfocuses on fully accounting for both accrued and capitalcosts and budgeting for outputs and outcomes

• Reduce duplication of State-County government functionsin such areas as highway and road maintenance, parks,health and ambulance services, human services, housingand civil defense. A group of State, County, and privatesector representatives should analyze this issue, determineareas and methods to consolidate, and gain agreement onimplementation plans

• Support cost-efficient government by implementing a sys-tem of managed public-private competition for governmentservices. Such a system would determine whether a par-ticular service can be provided more efficiently, effectivelyand economically by a public agency or a private enterprise,considering all relevant costs. Establish protections for af-fected State and County employees, and ensure that civilservice laws and merit principles are not violated

• Revise the State procurement code to provide greater flex-ibility, while maintaining accountability

• Prohibit worker’s compensation claims related to stressfrom appropriate disciplinary actions (the Mitchell decision)

• Resolve Hawaiian claims and self-determination issues

➣ Make structural changes to better empower the publicschools to meet needs of community, students, andfaculty. Position the University of Hawaii as a preemi-nent institution in the world in key areas to help drivethe local economy• Create four County-based, 7-member school boards jointly

appointed by the Governor with appropriate confirma-tion. Funding would remain at the State level. The Gover-nor would appoint a statewide superintendent who wouldappoint county superintendents with concurrence of theCounty school boards

• Basic academic standards and guidelines would be set atthe State level, but how to best achieve those standards,given the various needs of the local communities, will bedetermined at the County level

• Empower individual schools through the strong use ofschool-based budgeting through a decentralized commu-nity-based focus of the County boards, with particular con-sideration for schools with special needs

• Establish two major strategic requirements for 21st centuryskills: (1) require that all students learn a second lan-

Historic Agenda for Change

Summary of the ERTF Package of Proposals1

1 For ease and clarity of presentation, the original seven categories of recommendations by theTask Force have been consolidated here into four categories.2 Bracketed data represent modified rates and income levels recommended by the State Admin-istration as of February 5, 1998.


guage before graduation from high school by 2004; and(2) require computer literacy for all 8th grade students. Tosupport the computer competency requirement, the pri-vate sector will commit $10 million to provide computernetwork technology to schools

• Within existing labor-management relationship, restruc-ture principal/vice principal framework to: (1) revise com-pensation programs to provide pay relating to identifiedperformance measures; and (2) provide significant flexibil-ity in assignment of principals to match school needs withindividual skills

• Focus school boards, school management, faculty, par-ents and community on two fundamental issues in publicschools: (1) “low tolerance” approach to discipline in pub-lic schools; and (2) establish programs to encourage(strongly) parental participation in day-to-day education

• Continue the Hawaii School-to-Work Opportunities pro-gram, which concentrates on preparing students for ca-reers, after federal funding ends in 1999 through privatesector funding

• Restructure the University of Hawaii into a quasi-publiccorporation with independent accountability. State supportto be determined by the Legislature and Executive Branch

• Establish an advisory Board of Visitors comprising distin-guished individuals from around the world to expand thehorizon of the University and help position the Universityas a major institution in the Pacific

• UH will explore actions up to, and including, the acquisi-tion of the East-West Center and position it as the preemi-nent Asia-Pacific institution in the world and a cornerstoneof UH’s reputation in this broad arena

Once the Governor and the two legis-lative leaders agreed on the task force con-cept, they began the selection of members.In doing this, the three officials made aconcerted attempt to bring together lead-ers from business, labor and academia whounderstand and also influence Hawaii’seconomy. Representatives of Hawaii’slarge and small businesses were included.Many people were considered for the TaskForce, but the need to keep the numberto a manageable size required makingdifficult choices.

Still, the ERTF planning group felt itcritical to hear from the many other lead-ers in the community. For this reason,five Work Groups were established toconcentrate on broad issues: Educationand Workforce Training, Business Cli-mate, Role of Government, Economic De-velopment, and Taxation. Twenty to thirtyleaders served on each of these WorkGroups which met at least once per weekin facilitated sessions through September.The Work Groups considered and shareda large amount of information, heard fromexperts, and formed recommendations tobe forwarded to the Task Force.

During the process of Work Group

meetings, they received input from anactive public. People voiced their con-cerns and expressed their views on eco-nomic revitalization by mailing, faxing,and phoning in comments to the TaskForce and through e-mail. A special website was created to keep the public in-formed and to receive comments. In allmore than 800 public comments werereceived and considered.

The Task Force met initially on Octo-ber 17 to discuss their mission and goals,and then met for two days, October 20and 21, to develop recommendations. Thefirst session began at 8:00 a.m. and endedafter 10:00 p.m. The group then recon-vened the following morning at 8:00 a.m.and agreed to a final set of recommenda-tions by 7:00 p.m. The Task Force oper-ated under a general set of rules in whicheach member could vote on proposals inone of five ways ranging from (1) enthu-siastic, unqualified support to (5) activeopposition. While there was substantialdebate on individual issues, and manyproposals surfaced that did not survive,the final package received the unanimousvote of (1) by all 26 members. Consider-ing the degree of change proposed and

The ERTF Process

the composition of the Task Force, thiswas a remarkable achievement.

Town MeetingsOn October 22, 1997 the ERTF pre-

sented its proposals to the public and mem-bers of the Legislature. Since then, morethan a dozen town meetings have beenheld on Oahu and the Neighbor Islands,some broadcast via television and radio.Almost 550 comments and questionshave been received. In addition, a num-ber of newspaper articles and letters to theeditor have been published regarding theERTF proposals. If nothing else, the ERTFsucceeded in raising critical issues andgetting people to think and talk about howto move Hawaii forward.

LegislationThe next step is to begin the process

of implementation. Rather than expend-ing resources to develop a formal report,effort is being placed toward drafting leg-islation to implement the proposals. Ulti-mately, it is in the legislative arena thatthe relative merits of the package will beevaluated and action taken—or not.


TaxReform

Proposals

From the evidence and testimonypresented to it, the Economic Revi-talization Task Force concluded that

the state’s tax system has a negative im-pact on Hawaii’s existing businesses, itscompetitiveness in export markets, and itsattractiveness to outside investment. Ex-port markets for tourism and other goodsand services are, of course, essential to thestate’s economic growth. Likewise, out-side investment from domestic and foreignsources is key to expanding the capacityof our economy to produce exports and tomaintain a high-quality visitor product.

Investment DiscouragedHow is the tax system hurting Hawaii’s

competitiveness? To start with, the TaskForce found that the amount and rates ofState taxation are at levels that discour-age firms from investing or reinvesting inHawaii. For example, Hawaii’s maximumpersonal income tax rate is among thehighest in the nation. An accompanyingarticle compares Hawaii’s major taxes toother states and confirms the general im-pression that Hawaii has a relatively hightax burden.

A nationally recognized business re-cruitment expert told the Task Force thatHawaii’s tax burden, particularly its highincome tax rates, tend to exclude it fromeven first-round consideration as a sitefor business relocation and investment.This means that Hawaii’s significant ad-vantages as a player in Asian and Pacific

commerce—in particular its geographicand time zone advantages, and its highquality of life and other strong points—may not be receiving due considerationif Hawaii’s tax-related negatives eliminateit from consideration early in the locationresearch process.

Penalty on Local ProductionThe Task Force found that the tax sys-

tem also penalizes many Hawaii firmstrying to either export their services tooutside markets or compete with outsideservice providers in the local market. Ha-waii firms exporting services must nowpay general excise tax on its revenues.This effectively raises the cost of produc-ing services and makes Hawaii providersless cost-competitive. On the other hand,outside firms providing services in Hawaiiare not subject to general excise tax. This

causes them to be more cost-competitiverelative to Hawaii service providers in thelocal market.

It was also determined that the pyra-miding, or “tax on tax” aspect, of the GETas goods and services move through thedistribution channel, raises business andliving costs in Hawaii, and contributes toa less competitive business environment.For goods, pyramiding is not a seriousproblem because most pass-through, orwholesale-level, transactions are taxed atjust one-half percent. However, for manyservice transactions, including subcon-tracting and subleasing arrangements,pyramiding can be significant.

Finally, the Task Force concluded thatin addition to making Hawaii more com-petitive, lowering rates and readjusting therevenue system will put more money inthe bank accounts of residents at a timewhen many households are struggling tomake ends meet.

The Task Force Tax ReformProposals

As a result of its investigations, theTask Force developed a tax package de-signed to turn Hawaii’s tax system into apositive rather than a negative factor inattracting investment, and which wouldalso lower taxes overall for residents andbusiness (see page 4 & 5 for a descriptionof the specific proposals). The Task Forceaccomplished this by shifting the burdenof taxes away from income taxes and

Highlights of the Tax ProvisionsType of Tax Change Original ERTF Proposal Modifications Recommended

by Administration

Personal income tax rate cuts phased in Top rate lowered to 6%. All other rates down Three new brackets established:

within two years (Top rate currently 10% proportionately $100,000 and above, 7.5%

at $41,000 and up on joint returns.) $80- to $100,000, 7.0%

$60- to $80,000, 6.5%

40% reduction in all other brackets

Corporate and franchise tax rates 50% cut in rates 30% cut in rates

Reduce pyramiding of general excise tax Reduce rate on direct inter-business trans- Maintain current rates

actions to 0.5%

Raise general excise tax rate from 4% to: 5.35% 4.75%

GET on exported services Eliminate Eliminate

Use tax on imported services Establish Establish

Additional low income tax credits Two credits One credit

Value: $60 million Value: $67 million


Q. Why reduce personal income tax rates?A. To raise the after-tax rate of return from

work and investment and to stimulateeconomic activity through increasedconsumer spending. Hawaii’s currentpersonal income tax rates are amongthe highest in the country. Tax expertsgenerally agree that, especially forservice-dominated economies, highmarginal tax rates can impede invest-ment, job creation, and incomes. If Ha-waii is going to retain and attract busi-nesses that can provide well-payingjobs, then adopting a tax structurethat rewardshard work and investmentis critical.

Q. Why lower corporate income tax rates?A. To send a signal that Hawaii is prepared

to aggressively compete in the globaleconomy. Hawaii’s corporate incometax rates are not as high relative toother states as are our personal incometax rates. Moreover, the corporate in-come tax raises a relatively small amountof revenue (1.8% of general fund rev-enue). However, many observers believethat the corporate income tax results in

double taxation—earnings are taxedat the corporate level and then taxedagain as either dividends or capitalgains at the personal shareholder level.Lowering corporate tax rates may there-fore be a relatively cost-effective wayof reversing Hawaii’s perception as anunfriendly place to do business.

Q. What is “pyramiding”?A. “Pyramiding” refers to the payment of

the general excise tax (GET) at morethan one stage of production. The GETis a tax on virtually every transactionin Hawaii, from the manufacturer tothe distributor, the wholesaler, the re-tailer, and eventually to the ultimateconsumer. Because the tax is imposedat each step, the tax “pyramids” sothat the after-tax price paid by the con-sumer includes an amount for taxesthat is larger than the nominal amount(currently 4%).

The ERTF proposal reduced pyramidingby applying a lower GET rate for di-rect, inter-business transactions. Inorder to achieve a lower GET increase,

Questions & Answers about the Tax Proposals

toward the general excise tax, by settingrates that would lower total revenues togovernment, and by establishing tax cred-its to eliminate the negative impact of theGET increase on persons with little or noincome tax liabilities.

The individual proposals, specific ratesand other data that apply to the tax pro-posals are summarized in the accompany-ing highlights box. Shown are both theoriginal ERTF rates and modifications tospecific tax rates recently recommendedto the Legislature by the State Administra-tion. These modifications address concernscoming out of the process established forpublic input. The modifications reducesomewhat the shifting of taxes from theincome tax to the GET, as well as increase

the level of the low-income tax credit.Thus, the increase in the GET is moremodest under the Administration’s recom-mendation while the decreases in the per-sonal and corporate income tax rates arealso smaller. In order to achieve a lowerGET rate increase on consumer transac-tions, the modification does not lowerinter-business GET rates on services asoriginally proposed by the ERTF to ad-dress the problem of “pyramiding.” Themodifications continue to support the ba-sic strategy and goal of the Task Force,which were to lower income tax rates inorder to stimulate investment and providetax relief.

Under the modified rates, Hawaii’smaximum personal income tax rate would

fall from the current 10 percent to 7.5 per-cent within two years and would applyonly to incomes over $100,000. All otherrates would fall at least proportionately,as indicated in the table on page 6. In ad-dition, the corporate income tax wouldbe the second lowest in the nation amongstates that impose such a tax. Finally,though the GET will rise to 4.75 percent, itwill still compare favorably with sales taxrates in other states across the nation andthere will continue to be no local sales orexcise tax, as is the case elsewhere. Thequestions and answers that follow adoptthe administration’s modified rates asthe basis for evaluating the effects of theERTF proposals.

An Expert’s Viewof Investment Attraction

“A company starts its search witha universe of potential locationsthat may include anywhere fromhundreds of locations to only ahandful. A rigorous screening pro-cess is then used to systematicallyeliminate those locations with thegreatest disadvantages and thefewest advantages for the particu-lar operation. What this shouldsuggest to island leadership is thatfatal flaws in its image, businessclimate, or marketing program canquickly and irreversibly eliminateit from the site seeker’s short listof locations.”

Statement to the Task Force byRobert M. Ady,

Deloitte & Touche Fantas Consulting


the Administration’s proposed modifi-cations defer action on pyramiding atthis time.

Q. Why does the Task Force propose in-creasing the GET?

A. There are several reasons: First, the re-duction in income tax rates will lowergovernment revenue by approximately$273 million to $373 million. Althoughthe ERTF recognized the need to reducethe size of government, it also recog-nized the need to preserve importantgovernmental services and to avoiddismissing large numbers of govern-ment workers in this difficult economicperiod. This requires maintaining acertain level of revenue. Second, per-haps as much as 30% of the GET isborne by non-residents (mostly tour-ists) who benefit from many publicservices. Third, the shift toward aconsumption tax and away from theincome tax will encourage savings,investment, and the creation of jobs.

Q. Won’t the increase in the GET offsetthe reduction of personal income taxand thereby raise taxes?

A. No. For most income tax payers, thereduction in personal income taxeswill exceed the increase in paymentswhen the GET rises. To see this, con-sider that for every $100 reduction inincome taxes, a family would have tospend approximately $13,300 in orderto pay that amount in higher excisetax.1 It is estimated that a family offour with taxable income of $50,000will save more than $750 in state in-come taxes under the plan. This fam-ily would have to spend an additional$100,000 on goods and services beforethe increase in the GET would offsetthe gain in income taxes. Clearly, thisfamily will be better off under the plan.

Q. What will be the effect on low-incomepeople and those with pensions whocurrently do not pay much in incometaxes?

A. In general, low-income people shouldalso benefit under the plan. The ERTFrecognized that income tax relief must

be augmented for low-income individ-uals. The Administration’s proposedmodifications would establish a refund-able tax credit, partially funded by con-verting the current $27 food tax creditavailable to everyone regardless of in-come to a low-income credit. The re-fundable credit varies by income groupand phases out at $35,000 of taxableincome. With this credit, low-incomeindividuals should also see a reduc-tion in combined (income and GET)tax liability.

Low-income retirees with tax-exempt pensions will also benefit fromthe refundable credit. The low-incometax credit will phase out for non-taxableincome (such as pensions) at a higher,$50,000. In addition, those 65 yearsand older will be eligible for double thevalue of the tax credit, which could bea significant addition to their income.Some higher-income retirees may seean increase in their tax burden due tothe increase in the GET rate. However,Hawaii is one of only 5 states listed bythe U.S. Advisory Commission on In-tergovernmental Relations as fully ex-empting pension income from taxation.Thus, recipients of pension incomealready receive a substantial tax breakin Hawaii.

Q. Is it true that the income tax reductionswill go mainly to those with incomeshigher than $40,000, while the GETincreases will be paid mainly by thosewith incomes lower than $40,000?

A. No. Income tax rates are reduced forall income groups. Some have notedthat most of the savings will go tothose with incomes above $40,000,but this simply reflects the fact thatpeople in that group currently pay mostof the income tax. A claim has alsobeen made that the increase in theGET will be borne primarily by thosewith incomes below $40,000. This isvery unlikely since this group accountsfor only 35% of the total income pro-duced in the state. Since GET paymentsdepend upon spending, which dependsupon income, most of the extra GETburden is likely to be borne by thegroup with higher incomes.

Q. Why did the Task Force not recommend

a larger cut in government revenue?A. Larger reductions in government rev-

enue would seriously threaten valuedgovernment services and could lowereconomic activity—at least in the short-run. The ERTF recognizes that govern-ment must continue to streamline andseek cost reductions as the private sec-tor has done in recent years.

Q. Why didn’t the Task Force recommendsimply taking a fraction of the Federaltax liability?

A. This decades-old proposal has a num-ber of problems with it: (1) it abdi-cates control of a major component ofHawaii’s fiscal policy to the Federalgovernment. This is likely to be unde-sirable especially when the conditionof the national economy differs sub-stantially from the condition of Hawaii’seconomy; (2) taken literally, it mightresult in an increase in income taxrates. For example, if the Hawaii rateswere set at one-third of the Federalrates, the top income tax rate wouldrise from the current 10% to over 13%;and (3) depending upon the fractionchosen, it could lead to very large re-ductions in government revenue. Asdiscussed in the answer to the previousquestion, too large a reduction in gov-ernment revenue could undermine theeffort to promote economic growth.

Q. Will the tax proposal really turnHawaii’s economy around?

A. The ERTF tax proposal must be seenas part of a package of proposals meantto stimulate Hawaii’s economy. Nosingle component by itself will turnHawaii’s economy around. Indeed, be-cause Hawaii depends on the outsideworld for much of its economic activ-ity, even the package as a whole willgo only so far in boosting growth. Butthe ERTF stated its belief that Hawaii’scitizens must do what they can to po-sition the state for economic recovery.If nothing is done, the likelihood ofrecovery is lower and the extent ofHawaii’s recovery, when it comes, willbe smaller than otherwise.

Q. Is it true, as some claim, that expertshave found no link between taxes andeconomic activity?

1 .0075 × $13,300 = $100; where .0075 is the additional taxpaid per dollar of spending.


A. No. The conclusions from the economicliterature are that, on average, positiveeffects of tax reductions and economicactivity exist, but they are often smalland imprecisely measured. However,the literature also suggests that forstates with tax structures quite differentfrom those of others, the economicimpacts are likely to be greater. Hawaiihas the fourth-highest maximum in-come tax rates in the country, whilethe GET rate is below the average ofsales tax rates nationally. Thus, theproposal to lower income tax rates sig-nificantly, while increasing the GETrate to a level that still leaves it belowaverage, is likely to improve Hawaii’seconomic environment.

Q. Rather than general tax reductions,wouldn’t it be more effective to targettax reductions to specific businessesor industries?

A. Tax reductions or credits targeted toparticular economic activity are toolsthat work within the scope of the ex-

isting tax structure and are usually de-signed to accomplish specific objectivessuch as attracting firms to an area ornurturing promising infant industries.The Task Force, on the other hand, wasfocused on the strategic level of howthe tax structure as a whole encouragesor discourages economic activity. Themembers concluded that the tax struc-ture itself is no longer appropriate intoday’s economic conditions in whichfirms and regions compete on a globalplaying field. They agreed with econo-mists who generally argue that a taxsystem with low rates and a broad baseis most effective in fostering growthand development. Within such an en-vironment, all businesses face similarfiscal incentives. This tends to resultin the most economically viable firmsemerging throughout the economyrather than in a selected few sectors.Once the entire tax system is workingmore optimally, the need for addi-tional targeted tax incentives can beconsidered.

Q. Will the tax savings really stay inHawaii to help the economy?

A. This question misses a crucial factabout Hawaii’s economy: since theearly 1800s, our economic prosperityhas depended on competing in marketsbeyond our borders. From whaling ser-vices to the rise of sugar, pineapple andtourism, the relatively high standardsof living in Hawaii have been drivenby exports and have benefited fromimports. Because Hawaii participatesin the global economy, we cannotforce money to stay in the state—norshould we try. If Hawaii is to benefitfrom global competition, it must playby the rules. Money will be attractedto Hawaii because we offer innovativeproducts, a desirable working and liv-ing environment, a well-educated work-force, and so on. That is, if we get thefundamentals right, then not only willthe tax savings stay in Hawaii, butother capital will flow here as well.

The economics of who bears whattypes of taxes is complex, confusing, andsometimes controversial. The effects de-pend on the sensitivity of supply and de-mand in both the market for the goodsand services that companies provide andin the markets for the goods and servicesthat they purchase.

At a simplified level, standard economicanalysis predicts that the more competition,the more likely are cost increases (say, viataxes) passed on to consumers. Many peo-ple find this result counter-intuitive. Thisshort article attempts to set aside the com-plications of tax incidence analysis to focuson how and why the degree of competitionaffects who pays taxes.

Firms facing substantial competitionhave little room to change prices. If sucha firm tries to raise its price above cost (in-cluding a margin for normal profit), then it

would lose customers as other firms eitherleave their prices at the original level orenter the market by offering the originalprice. At the same time, if such a firm triedto lower its price, then it would lose moneyin the long-run and go out of business.Therefore cost determines the level ofprices in competitive markets. By implica-tion, anything that raises costs—such ashigher taxes—will ultimately result inhigher prices, and this is true for all busi-nesses competing on an equal footing inthe market.

Firms facing less competition can earnabove-market rates of return as theirprices exceed costs. Such firms have someflexibility in where to set price, but theypresumably set them in order to maxi-mize profits. If they set price too high,the quantity demanded will fall too muchas consumers purchase less. If they set

price too low, the price will fall below costand they will lose money. When costsincrease for this type of firm—say, becauseof an increase in taxes—the firm can raiseprice to some extent. But the price willnot generally rise by the full amount ofthe cost increase because of the firm’sconcerns about reducing the quantitydemanded too much.

Thus, there are two conclusions fromthese considerations: (1) Firms that oper-ate in relatively competitive conditionswill fully pass-on increases in costs—in-cluding taxes—in the form of higher prices;and (2) firms that operate in less-than-competitive conditions may partially pass-on increases in costs—such as taxes—butwill be restrained by the effect of price riseson the quantity demanded.

Will Companies Be Able to Pass on the GET Increase?


It is tempting, but tricky, to compareHawaii’s tax structure and burden withother states. One must exercise care inmaking the comparisons to avoid reachingmisleading conclusions. For example, itis straightforward to compare state taxcollections either as a percentage of incomeor on a per-capita basis. However, HawaiiState government is responsible for pub-lic expenditures that are conducted at alocal level in other states (such as publiceducation). One must therefore base suchaggregate comparisons on state and lo-cal tax collections. As another example,a comparison of sales tax revenue percapita would fail to reflect the fact thatsome states—such as Hawaii, Nevadaand Florida—host significant numbers ofout-of-state visitors at any point in timewho also pay these taxes and consumepublic services. This brief article attemptsto compare Hawaii taxes to other stateswhile keeping in mind these qualifications.

The vast majority of State generalfund tax revenues comes from the gen-eral excise tax (GET) and the personal

A Brief Comparative View of Hawaii Taxes

income tax. Of the $2.8 billion in generalfund revenue collected in calendar year1996, $1.47 billion came from the GETand $1.0 billion came from individual in-come taxes (Figure 1). In other words,these two sources accounted for 88 per-cent of general fund revenues. The impor-tance of these sources explains why theyform the center of the ERTF tax proposals.

By several measures, Hawaii has arelatively high rate of taxation. Table 1summarizes Hawaii’s ranking in terms ofoverall state and local taxation accordingto three measures. Whether calculated asa fraction of total personal income or ex-pressed on a per-person basis, Hawaiistate and local taxes rank in the top fiveamong the 50 states. The relative burdenon a family of four is distinctly lower. Thisis because the calculation applies to a fam-ily and thereby excludes the significantportion of taxes borne by non-residents.1

Individual Income TaxesTable 2, which looks only at individual

income taxes, also shows that Hawaii’s

individual income taxes are high by allthree measures.

General Excise TaxIn contrast, Hawaii’s general excise

tax presents a more complicated picture.As table 3 indicates, Hawaii’s “sales tax”ranks high either as a fraction of totalpersonal income or in per-capita terms.However, calculated for a family of four,Hawaii’s ranking is relatively low. Sev-eral factors explain this. First, Hawaii’sGET is not a “sales tax,” but a “transac-tions tax.” That is, the tax is applied atevery step in the distribution chain, fromproduction to retail, and this generatesadditional revenue. Second, Hawaii’s GETis very broad-based, including services,food, and medical items that are excludedto one extent or another in some otherjurisdictions. Third, as mentioned previ-ously, a relatively large share of the GETis exported to non-residents (estimated at30%). Combined, these three facts makeHawaii’s ranking very high by the firsttwo measures. However, the third facthelps explain why the family-of-four mea-sure gives such a low ranking—the cal-culation accounts for the “exporting” ofHawaii’s sales tax to non-residents.

Tax RatesEconomists argue that, as far as taxa-

tion is concerned, tax rates are particularlyimportant when considering the effects oftaxes on economic development. High taxrates tend to discourage economic activity;low tax rates tend to encourage economicactivity.

Figures 2 and 3 provide interstatecomparisons of individual income tax andsales tax rates. Figure 2 shows that Ha-waii’s current income tax rates are amongthe highest in the nation. With a top rateof 10%, only North Dakota (12%), Mon-tana (11%), and Rhode Island (10.89%)have higher top rates. However, Hawaiihas a relatively low combined state-localsales tax rate (Figure 3). The low sales

1 The family-of-four comparison also includes property taxeswhich are relatively low in Hawaii. Hawaii’s comparableproperty tax burden in 1994 averaged $967, ranking 43rd

among the states.

Table 3. Hawaii Comparative State and Local “Sales” Taxation

“Sales tax” per Burden of “Sales$1,000 of Personal “Sales Tax” per Tax” on FamilyIncome, FY 19941 Rank capita, FY 19941 Rank of Four, 19942 Rank

$48 3 $1,130 2 $583 42

1 Zieper, Matthew, “Interstate Tax Comparisons: Where Does Massachusetts Stand?” State Tax Notes, Dec. 1, 1997.2 For Honolulu compared to other urban areas in each state. Government of the District of Columbia, “Tax Rates and TaxBurdens in the District of Columbia: A Nationwide Comparison.”

Table 2. Hawaii Comparative State and Local Individual Income Taxation

Income taxes per Burden of Income$1,000 of Personal Income taxes per Taxes on FamilyIncome, FY 19941 Rank capita, FY 19941 Rank of Four, 19942 Rank

$35 6 $816 5 $2,759 6

Table 1. Hawaii Comparative State and Local Taxation

Taxes per $1,000 Burden of Majorof Personal Income, Taxes per capita, Taxes on Family

FY 19941 Rank FY 19941 Rank of Four, 19942 Rank

$136 3 $3,185 5 $4,542 19


tax rate is due to the transactions natureof the tax, the broad tax base, and theexportation of the tax to non-residentsas discussed above.

The figures also show in graphic termsthe central feature of the tax proposal:relatively high income tax rates are low-ered, while our relatively low “sales tax”rate is raised but will still remain low incomparison to other locations.

*Excludes states with no broad-based individual income tax. Rhode Island and Vermont tax a percentage of Federal tax liability. Thus, these represent implied rates for those states. Note thatimcome taxes vary by state, as do the levels at which the top rate applies.**Sales tax bases vary dramatically by location. Hawaii’s GET has a relatively broad base. Also, Hawaii’s GET is a tax on the sales revenue of firms rather than a retail sales tax on the con-sumer.

Sources: Figure 2: Research Insistute of America, State and Local Taxes: All States Tax Guide, 1992 and weekly supplements.Figure 3: Advisory Commission on Intergovernmental Relations, Significant Features of Fiscal Federalism, June 1995.

General Excise& Use52%

Other GFT10%

Corporate Income2%

PersonalIncome

36%

$300mil

$1.47bil

$1.0bil

$56 mil

Total GFT 1996:$2.8 Billion

Source: Hawaii Department of Taxation.

Figure 1. Distribution of Major Componentsof the General Fund Tax: 1996

Figure 2. Maximum Individual PersonalIncome Tax Rates by State*

Figure 3. State-Local General Sales Tax Rates**

0.00 2.00 4.00 6.00 8.00 10.00 12.00 14.00

PennsylvaniaIllinois

IndianaMichigan

ConnecticutColorado

MississippiAlabamaMaryland

ArizonaVirginia

Hawaii (proposed)

LouisianaGeorgiaMissouri

KentuckyMassachusetts

New JerseyKansas

West VirginiaNew YorkDelaware

WisconsinNebraskaArkansas

OklahomaSouth Carolina

UtahOhio

North CarolinaIdaho

New MexicoMinnesota

MaineOregon

CaliforniaDistrict of Columbia

Vermont*Iowa

HawaiiRhode Island*

MontanaNorth Dakota

Sta

te

Percent

Hawaii(current)

10%

Hawaii(proposed)

7.5%

Lo

ca

le

Percent

Hawaii (current) 4.0%

Hawaii (proposed) 4.75%

0.00 1.00 2.00 3.00 4.00 5.00 6.00 7.00 8.00 9.00 10.00

Alaska-JuneauHawaii

MichiganVirginia-Richmond

Idaho-BoiseIndiana

Iowa-Cedar RapidsMaryland

MassachusettsVermont

Wyoming-Cheyenne

Hawaii (proposed)

Wisconsin-MilwaukeeNew Mexico-Albuquerque

Arkansas-Little RockConnecticut

District of ColumbiaGeorgia-Atlanta

KentuckyMaine

New JerseyNorth Carolina-Charlotte

North Dakota-FargoSouth Carolina-Charleston

South Dakota-Rapid CityWest Virginia

Utah-Salt Lake CityFlorida-Miami

Nebraska-OmahaArizona-Phoenix

Missouri-St. LouisKansas-Wichita

Minnesota-MinneapolisMississippi

Nevada-Las VegasOhio-Cleveland

Pennsylvania-PhiladelphiaRhode Island

Colorado-DenverWashington-Seattle

California-Los AngelesNew York-New York

Tennessee-NashvilleTexas-Dallas

Oklahoma-Oklahoma CityIllinois-Chicago

Alabama-MobileLouisiana-New Orleans


Arthur Andersen Tax Impact Calculations

In a recent presentation to the Chamberof Commerce of Hawaii, Arthur Andersen,LLP (AA), provided a valuable analysisof the effects on business of the GET in-crease and the corporate income tax ratereduction. It also shows how sensitivesuch analyses are to assumptions aboutthe ability to “pass on” the GET to theconsumer.

AA prepared illustrative impact analy-ses for several types of businesses in Ha-waii including a “professional servicescompany,” three sizes of retailers, and adistribution company. Because the Cham-ber was primarily interested in the directimpact on businesses, AA elected to ex-clude from the calculations the effects ofthe individual income tax reductions onthe ultimate owners of the business.

The AA analysis assumed that eachcompany would charge the higher excisetax to its customers but would not raisetheir base prices by the amount of addi-tional GET that they are charged by theirsuppliers. In addition, AA assumed (forsimplicity) that there is no pyramiding of

the GET and that none of the companieshas subleasing arrangements.

Overall, AA found that most of thecompanies would see a decline in after-tax income, with personal service com-

slight increase in after-tax income.Personal services companies did not

fare as well as the retail and distributioncompanies in the AA analysis becauseof the relatively large proportion of com-pany expenses that are (presumed) sub-ject to GET. About 40 percent of personalservices company expenses are subject toGET, according to AA, compared with ahigh of 24 percent for retailing and only8 percent for distribution.

The AA analysis provided a useful con-tribution to the discussion on the ERTFproposals. However, there were somelimitations.

First the analysis did not include theeffects of individual income tax reductionson the business owners’ or stockholders’net income. Thus, while the business’ after-tax income may be somewhat lower aftertaking account of the GET increase andthe corporate income tax reduction, theowner’s or stockholder’s after-tax incomemay rise once the individual income taxrate reductions are included.

Second, AA did not attempt to includethe positive impact on business of theERTF proposal to reduce tax pyramiding.

Third, the AA analysis assumed thatnone of the increase in GET that supplierscharge a company will be passed on toconsumers. This contrasts with AA’s as-sumption that all of the increase in GETthat is due on the company’s own saleswill be passed on customers.

While there may be legitimate account-ing reasons for this distinction, there areno economic grounds.1 The economic con-ditions that determine how much of theGET the company can pass through onits own sales also permit the company topass through the increased GET it paid toits suppliers. These conditions have to dowith the degree of competition facing thefirm (see the related sidebar on what de-termines whether a company can passthrough taxes).

But while AA assumed only limited

1 Companies often add the GET on their receipts as a separateline on the customer’s bill, but they do not explicitly add theGET paid on expenses as a separate line on the bill.

Continued on page 22

The assumptions by ArthurAndersen of only partial

pass-through of GET and noestimate for the effects oflower personal tax rates

on the bottom-line incomeof owners and stock holders,

produced extremelyconservative results.

panies impacted the most, followed byretail businesses and distribution compa-nies impacted the least. Indeed, the caseof the distribution company showed a

Table 1. Tax Impact on a Hypothetical Personal Services Corporation(Approximately $2 million per year in sales)

Current1 Modified tax reform proposal2

Corporate Side

Gross income base (before tax adjustments) $81,000 $81,000

Additional GET not passed on3 0 1,359

Gross income before taxes 81,000 79,641

State corp. income tax 4,124 2,835

Fed Corp income tax 14,388 14,364

Net Corporate income ➣ $62,488 ➣ $62,442

Personal Income Side

Corporate Dividend 4 $62,488 $62,442

State indiv. income tax 5 3,511 2,245

Fed indiv. income tax 5 5,851 6,035

Personal income after income taxes 53,126 54,162

Estimated GET paid for year 6 1,815 2,212

Personal income after income & GET taxes ➣ $51,311 ➣ $51,950

1 Corporate model and data from A. Andersen. Personal data estimate, DBEDT.2 Represents rate and income level adjustments to the ERTF proposal recommended by the Administration on February 5,1998. These are applied to the Andersen Corporate model.3 Represents about 6% of the increase in the GET, which it is assumed will not be passed on to the final consumer.4 A single owner of all the stock and all net income paid as the dividend is assumed for simplicity. This is also assumed to bethe sole source of income for the owner.5 A typical set of itemized deductions and four exemptions are assumed.6 Consumer spending subject to GET is assumed to be about 82% of disposable income.


TourismProposals

The slowdown in tourism is a majorcause of Hawaii’s current economicdifficulties because it powers about

one-quarter of Hawaii’s economy directly,and an even greater share indirectly. There-fore effective recommendations to reinvigo-rate tourism was a high priority for the TaskForce, which addressed both the short-run and long-run needs of the industry.

Jump-Starting Growth inTourism

As figure 1 shows, growth in visitorarrivals to Hawaii from 1990 to 1996 hasdeclined 0.4 percent per year on average,compared with a 2.0 percent average an-nual increase in the U.S Gross DomesticProduct (GDP). This performance is inmarked contrast to previous decades whentourism arrivals increased much faster thanthe growth of the U.S. economy as a whole.

Of course, growth in tourism has beengradually slowing over the decades, so anarrowing of the tourism-GDP growth dif-ference in the early 1990s was not unex-pected. However, the drop-off in visitorarrival growth since the early 1990s hasbeen more abrupt and prolonged than any-one would have predicted.

Looking more closely at the majormarket segments, it is clear that the ma-jor problem through most of the 1990s

has been the erosion of Hawaii’s competi-tive position in the U.S. market, wherevisitor arrivals have actually declined bynearly 18 percent since 1990. Foreignvisitors have generally made up for theloss and then some, but not enough togenerate much net growth. On the nearhorizon, the recent financial instability inAsia could instill caution in potential trav-

Questions & Answers about the Tourism Proposals

Q. Why is $60 million for tourismnecessary?

A. Hawaii’s attractiveness as a destina-tion has been eroded by competitionfrom other destinations and by thenatural maturing of the Hawaii visitorproduct. In order to maintain the eco-nomic support that the tourism indus-try provides to Hawaii, effective andcompetitive promotion is critical.

Q. Why does tourism promotion need adedicated source of funding?

A. Currently about $25 million is annuallyappropriated from the State generalfund to be expended by the Hawaii

Visitors and Convention Bureau fortourism promotion. As a general fundappropriation, this amount can changeannually, making long-term promo-tion planning impossible. A dedicatedsource of funding, coming primarilyfrom the tourism industry itself, willassure the kind of long-term planningthat will make every promotional dol-lar count.

Q. Why would the board be responsiblefor tourism policy instead of leavingthat responsibility within DBEDT?

A. In order to have a cohesive plan forHawaii’s tourism industry, the State

needs to have one entity responsible,and accountable, for all aspects oftourism—policy development, marketing and market development, productdevelopment and impact monitoring.These elements cannot be treated sepa-rately if we are to successfully revitalizetourism to Hawaii.

Q. Why does the board need to be con-cerned about product development?

A. Marketing and promotion alone willnot make Hawaii more competitive.Marketing and product developmentgo hand in hand. It is essential that wecontinue to revitalize our tourism prod-

Source: Hawaii Visitors and Convention Bureau; U.S. Department of Commerce.

Figure 1. Visitor Arrivals & US GDP(average annual growth rates)

-5.0

0.0

5.0

10.0

15.0

20.0

25.0

US GDP

Visitor Arrivals

1990–19961980–19901970–19801960–1970


elers from our major foreign markets, andsoften growth in visitors from that region.

It became clear to the Task Force thata pressing need in tourism is to increaseHawaii’s share of the tourism market. Itwas recognized that in addition to short-term (cyclical) problems, there are un-doubtedly complex long-term (structural)problems that have caused the slowergrowth of tourism, which we have yet tofully understand. However the short-termsituation is the most critical at this pointand the Task Force identified the level ofmarketing and promotion effort as thestrongest tool to help increase Hawaii’sshare of the long-haul visitor market.

To boost the contribution of tourism tothe economy in the shortest possible time,the Task Force recommends a permanentand dedicated increase in funds for tourismto the level of $60 million.

Laying the Groundwork forStronger Long-Term Growth

To better address the long-term growthneeds of tourism, the Task Force recom-mended restructuring tourism promotion,market development, product developmentand research efforts. As indicated in the

summary of Task Force recommendationson pages 4 & 5, the Task Force proposes aState-level tourism board to manage tour-ism promotion and market developmentfunctions. The appointed board would in-clude both private and public sector mem-

ing long-term tourism policy; implementingproduct-oriented policies and projects; co-ordinating with other governmental agen-cies, committees, task forces, communitygroups and industry representatives inaddressing tourism problems and issues;establishing public information programs;and monitoring the economic, social andphysical impacts of tourism on the state.Hence, it is clear that it was the intentionof the Task Force that the board wouldoversee and fund more than just tourismmarketing and promotion programs forthe state.

The Task Force also recognized thatone of the most important factors con-tributing to long-term tourism growth isthe quality of the tourism product andinfrastructure. Much work by the tour-ism board will need to be done to betterdefine and improve Hawaii’s offerings tovisitors. Details of these efforts were be-yond the strategic focus of the Task Force.However, the Task Force did specificallyidentify the need for the State govern-ment and the City and County of Honoluluto cooperate on a program to revitalizeWaikiki, Hawaii’s single most importantresort destination.

uct—the physical as well as humanelements—in order to remain interna-tionally competitive. We need to con-tinue to address the problems of amaturing destination. We need to makecertain that our visitors continue to feelwelcome and safe. We need to be surethat Hawaii maintains a high level ofappeal to not only our new, but alsoour repeat visitors. All the money spentto promote our state as a destinationwill be for naught if visitors are notsatisfied with their experience whilein Hawaii.

Q. Why use the TAT as the source offunding?

A. Ideally, promotion of tourism would befinanced by a broad tax on all formsof tourist expenditures. In this way, the

beneficiaries of the information pro-vided by the promotion would bearthe costs. Unfortunately, such a broad-based tax would be difficult to estab-lish and costly to administer. The TAT,97% of which is borne by non-residents,is a reasonable alternative. Effectively,the use of the TAT to fund tourism pro-motion amounts to a user fee—hotelsand visitors reap the benefits and bearthe costs.

Q. Why establish a new executive boardto oversee tourism promotion—whatabout HVCB?

A. HVCB has a long and honorable historyas the general promotional organiza-tion for tourism in Hawaii. However,in an era when government account-ability and efficiency are particularly

important to Hawaii residents, improve-ments can be made. A public-privateexecutive board can assure that pro-motion dollars are effectively expended.Furthermore, the fact that any organi-zation—including HVCB—may bid towin the promotion contract injectshealthy competition into the systemand should lead to a higher level ofaccountability.

Q. Won’t the increase in the TAT rate hurtthe tourism industry by reducing thenumber of visitors or the level oftourism expenditures?

A. Probably not. At 7%, the TAT will stillbe well below the level of accommoda-tions tax rates that apply in competi-tive destinations. Moreover, economicstudies of past increases in the TAT

bers. The Task Force recommended thatresearch and statistical functions that trackand explain tourism become a specificresponsibility of DBEDT.

However, receiving little notice but withmajor implications was the Task Force’srecommendation that all non-research func-tions within DBEDT be transferred to theboard and that these activities be fundedthrough the board. DBEDT’s Tourism Of-fice currently is responsible for formulat-

...the Task Force recommendsa permanent and

dedicated increase in fundsfor tourism to the level

of $60 million.


have shown no effect on hotel revenues.

Q. Combined with the proposed increasein the GET, won’t our combined rateon hotels make them uncompetitive?

A. No. Currently, the combined tax rateon hotels is 10 percent (4 percent GETand 6 percent in TAT). Under the cur-rent proposal, the combined rate willrise to 11.75 percent (4.75 percent inGET and 7% in TAT). The combinedproposed rate still falls below the ratesprevailing in 24 other destinations(Table 1).

Q. Will the reduction in TAT revenues bythe Counties force them to increaseproperty taxes?

A. Not necessarily. As with the State, theCounty governments have worked toreduce costs and streamline. But thereis still much that can be done. Thereare significant areas of duplication be-tween the Counties and the State, andeliminating these areas of duplicationcan significantly lower the costs ofgovernment services. Ultimately, theCounties will choose how to respondto the change in TAT revenues.

Q. Is it fair to reduce the County revenuesfrom the TAT?

A. TAT revenues have grown at double-digit rates for the last three years—farin excess of the growth rate of Stategeneral fund revenues over the period.The Counties have enjoyed the bulkof this windfall, and as a result, theirgeneral funds have relied increasinglyon the TAT and have averaged higher

growth rates than the State generalfund since 1992.

Q. How is the Administration handlingthe tourism-related recommendationsof the Task Force?

A. The Administration has submitted anomnibus bill which will address thetourism-related recommendations ofthe Task Force, e.g., establishment ofthe Tourism Board and special fund; in-crease the transient accommodations

tax (TAT) to 7%; deposit 3 percentagepoints, or approximately $60 million,of the TAT into the tourism specialfund; require DBEDT to collect visitor-related data and conduct basic tourism-related research and transfers DBEDT’snon-research tourism functions to theboard. In addition, the bill will con-solidate the Convention Center Author-ity and the Hawaii Convention Centerinto the board’s responsibilities.

EducationProposals

The Task Force looked at the rolesand performance of the public schoolsystem in Hawaii (K–12th grade)

and the State university system with re-spect to the economy and economic revi-talization. The members found a need fororganizational restructuring and refocus-ing in order for these institutions to realizetheir full potential.

The Public School SystemThe Task Force recognized that public

education is the foundation of our econ-omy as well as a fundamental responsi-bility of society to its youth. If Hawaii’speople are to compete successfully for themarkets and jobs of the 21st century, theskills taught and effectiveness of the pub-lic school system in teaching them must

Table 1. State and Local Accommodation Tax Comparisons

Ranking State/Locale Maximum Rate (percent)

1 Washington-Seattle 15.20

2 Illinois-Chicago 14.90

3 Wisconsin-Milwaukee 14.60

Ten 4 Ohio-Cleveland 14.50

Highest 5 Missouri-St. Louis 14.10

6 California-Los Angeles 14.00

7 Georgia-Atlanta 14.00

8 Michigan-Detroit 14.00

9 New York-New York 13.25

10 Oklahoma-Tulsa 13.10

Hawaii25 Hawaii (proposed) 11.7535 Hawaii (current) 10.0042 West Virginia-Charleston 9.00

43 Delaware-Wilmington 8.00

44 Mississippi-Jackson 8.00

Ten 45 Nevada-Las Vegas 8.00

Lowest 46 New Hampshire-Manchester 8.00

47 South Carolina-Charleston 8.00

48 Vermont-Burlington 8.00

49 Wyoming-Cheyenne 8.00

50 Maine-Portland 7.00

51 Montana-Bozeman 4.00

Source: National Conference of State Legislatures, survey of state tourism offices.


Q. Specifically in what ways are the pub-lic schools lagging behind in studentperformance?

A. Compared to the nation as a whole, theperformance of Hawaii’s public schoolsystem is by no means seriously inad-equate. In terms of student achievement,the most recent results from the nation-wide SAT exams show that Hawaiiyouth scored about one percent belowthe average.1 This suggests that per-formance of Hawaii schools is aboutaverage, and is perhaps a respectableresult, given some of the challengesHawaii’s public school system faces.One challenge is that a higher propor-tion of Hawaii children attend privateschool, and they tend to be above-average achievers. Moreover, 15 per-cent of Hawaii residents in 1990 wereforeign-born compared with 8 percentnationally, suggesting a greater chal-

Questions & Answers—Public Schools

lenge in teaching language skills testedon the SAT.

However, “average” is far from thelevel of excellence we will need if Ha-waii youth are to compete in the glo-bal markets of the 21st century. Barriersshould not be allowed to become ex-cuses. For example, students in bothCalifornia and New York scored higheron the SAT than did Hawaii students,even though those states have an evenhigher proportion of foreign-born resi-dents.

Moreover, while Hawaii studentperformance may be about average bynational standards, by internationalperformance standards, both Hawaiiand U.S. students fall well down on thelist. This is the message from the mostrecent (third) International Maths andScience Study (TIMSS) testing con-ducted among 13-year-olds in 41 coun-

tries. This is a comprehensive math andscience test, calibrated to reduce culturaland other biases to a minimum. U.S.students did not score in the top ten ineither the math or the science test. U.S.student performance managed a 17th

ranking in science but sunk to 28th outof the 41 nations in math. These re-sults suggest that Hawaii student per-formance is only about average in anational system that has lost muchground to the rest of the world overrecent decades.

Q. What is the rationale for County schoolboards?

A. County-based school boards and Countysuperintendents under a State superin-tendent are part of a package of rec-

1 Based on the average for participants in 24 states with 40percent or greater student participation.

meet the highest standards possible. TheTask Force found that Hawaii student per-formance relative to the nation is averageat best and well below international perfor-mance standards. The members concludedthat the key to increasing the effective-ness of our public school system is to placeauthority and responsibility for educationcloser to the school level. The Task Forcedetermined that this could best be accom-plished by establishing four appointedCounty school boards, adopting school-based budgeting, and providing greaterindependence to principals. Members fa-vored the establishment of State-levelstandards for education to be achievedthrough a County-based, decentralizedschool structure making program and allo-cation decisions suited to each County’sschools. In addition, the Task Force rec-ommended an emphasis on computer andlanguage skills relevant to a technologi-cally advanced economy engaged in in-ternational commerce. In short, the TaskForce envisions a public school system that

is decentralized and accountable, with a21st century curriculum.

University of HawaiiThe Task Force observed that few in-

stitutions can impact the course and suc-cess of Hawaii’s economic developmentas much as the University of Hawaii, par-ticularly the system’s flagship campus inManoa. Members concluded that the cam-puses, schools and departments of theUniversity of Hawaii have the potential tobecome significant agents for economicdevelopment in the 21st century but thatthe University needs to focus its resourcesso that priority programs can become trulyworld-class. It found that the main prob-lem standing in the way of the Universitybecoming a more productive institution isa lack of independence and too little ac-countability. The Task Force also recom-mended that the University increase itsproportion of private funding and provideoutside perspectives into managementdecisionmaking.

“What is this autonomy to whicheveryone refers? It is not freedomfrom accountability—we are andwill continue to be held account-able to the people through the legis-lative process, which includes thegovernor. [Through autonomy] wewill be able to be more responsiveto the changing world; we will beable to move quicker and be moreeffective…UH will be able to leadthe state in the global competitionof the 21st century.”

UH President Kenneth P. Mortimer,Ku Lama, October 24, 1997


ommendations designed to decentralizeprogram decisions. It is a basic mana-gerial principle that the best decisionsare usually made by those closest tothe problem or issue; that is, by thoseat the lowest feasible level of an or-ganization. In the case of education,teachers are probably closest to theneeds of the classroom, and the prin-cipal is closest to the needs of theirschools. Likewise, County boardswould likely be more able than a State-level board to assess the needs and pri-orities of the schooling needs withinthe County.

Q. What about accountability?A. Accountability was a key issue leading

the Task Force to its recommendations.Currently there is controversy over whois ultimately responsible for educationalresults in Hawaii—the Board of Edu-cation? the Department of Education?the Governor? or the Legislature thatallocates resources to education? TheTask Force concluded that if a State-supported system of public educationwas to continue, the ultimate respon-sibility for the system’s performanceshould rest with the chief executive ofthat level of government—i.e., the Gov-ernor. Thus, while the Task Force fa-vored decentralizing of decisionmaking,

they also favored an effective systemof accountability for results. Thus, allmajor governing agents of the restruc-tured system, including the superin-tendent and the County boards, wouldbe appointed by, and responsible to,the Governor for their effectiveness inworking together to achieve educa-tional goals and for the effectiveness ofmeeting them. Of course, the Legisla-ture retains responsibility for providingeducational resources.

The restructuring recommendationsof the Task Force are accompanied byother organizational and program rec-ommendations. These include adoptingstronger budgeting procedures, re-structuring the principal/vice principalframework, instituting a low-tolerancediscipline policy, ensuring parent par-ticipation in day-to-day education, con-tinuing school-to-work opportunityprograms, and a system of State stan-dards to guide County-level programdecisions and resource allocations.

Q. What is the rationale for the TaskForce’s recommendations?

A. The Task Force recommended instilling a world-class focus on the PacificRim and computer technology intoschool curricula. It also recommendeda low-tolerance policy with respect to

discipline and programs to stronglyencourage the participation of parentsin day-to-day education. The TaskForce concluded that in Hawaii’s eco-nomic future, Asia and the Pacifictrade will play a much more prominentrole. Our children must be prepared forthis emphasis through language skillsand a basic understanding of the his-tory and cultures of the region. Thereis little question that computers andother high technologies will be im-mensely important tools of productiv-ity growth in the future. Hawaii fullyintends to be at the leading edge oftechnology use and even its develop-ment in some specialized areas. There-fore, our school system must educateour children in emerging technologiesand the skills to use them. Finally, theTask Force is convinced that in orderfor our education system to produceworld-class student performance, theenergies of teachers and administra-tors must be focused fully on the edu-cational needs of the children with theassistance of the parents. Thus, waysneed to be found to deal quickly andeffectively with distracting disciplin-ary problems and bring parents closerto the educational process.

Questions and Answers—The University

Q. Why is the University important toeconomic revitalization?

A. The Task Force viewed the Universityof Hawaii as a key institution for Ha-waii’s economic development as wellas a center for advanced learning. Thisis because the technology-orientedbusinesses of today that are on theleading edge of economic growth needto partner with the researchers andfaculties of world-class universities.According to management expert andUCLA Vice Dean, Dr. William Ouchi,the foundation for California’s devel-opment of the agriculture, computerand biotechnology industries was theworld-class research capabilities of thestate’s university system.

As part of the partnering effort,private sector firms and institutions

provide a major source of funding forthe University to support research andprograms. This funding augments pub-lic funds and tuition, and permits theUniversity to expand research activi-ties. The process is mutually reinforc-ing in that the more research capabilitythat exists within the University, thegreater the private sector support. Moreresearch and private funding tends toattract high-caliber faculty which feedsback into the expansion of researchand private sector interest in partnering.

Q. Isn’t the University meeting this role?If not, why not?

A. Objective performance indicators sug-gested to the Task Force that the Uni-versity of Hawaii at Manoa has haddifficulty excelling as a major national

university, despite funding levels thatare among the highest in the nation.Based upon 21 criteria, the CarnegieFoundation rated 228 national univer-sities in the U.S. and ranked UH Manoaa second-tier institution at number 99.UH-Manoa fared better among only thepublicly run universities on the list, butstill ranked only 25th among this group.This middle-of-the-road ranking as aninstitution came about despite the factthat per capita public expenditures onhigher education in Hawaii was the 7th

highest in the nation (according to Bu-reau of the Census data for 1994, themost recent available).

Moreover, the University of Hawaiihas fallen behind most other publicuniversity systems in the amount ofprivate support it is able to raise. This


is one measure of the effectiveness ofa university’s efforts to partner withthe private sector. Nationally in 1995,the ratio of private–to–public sectorfunding for public colleges (both 2–and 4–year institutions) and universi-ties averaged about 8 to 1. That is, forevery 8 dollars of public funds, theaverage public institution of highereducation obtained a dollar of privatefunds. For the University of Hawaiisystem, the ratio was only 20 to 1 (theUH ratio was reduced to 14 to 1 in1996 but mainly due to a decline inpublic funds).

Q. If the University is not performing op-timally, why give it more autonomy?

A. The Task Force expressed confidence

that the UH is trying to work toward ahigher level of excellence and account-ability for results. Rather than need-ing more oversight, the Task Force sawthe major barrier to this goal as theinability of the University to establishand vigorously pursue those goals with-out undue interference (albeit well-meaning) from other parts of State gov-ernment. The members viewed thequasi-public corporation as the bestmodel for a more autonomous univer-sity. Priorities would be set by the Uni-versity which would also manage itsown lands, funds and other resources.In addition, the board of distinguishedvisitors that is being proposed wouldadd a new level of depth, insight andworld-class affiliation to the Univer-

sity. Finally, the University corporationwould be accountable to the Governorand Legislature for results.

Q. Why does the Task Force want theUniversity to absorb the East-WestCenter?

A. The Task Force views the East-WestCenter as a crucial asset for the con-tinuation and enhancement of Hawaii’srole as a center for Asian-Pacific edu-cation and research. The Task Forcefeels strongly that should the financialsupport from the Federal governmentbe curtailed, the University should seekto acquire the Center in order to pro-tect Hawaii’s interests in the programsand role of that institution.

Proposalsto Increase

Governmentand

RegulatoryEfficiency

The Task Force determined that longpermit approval processes and in-ternal government efficiency prob-

lems are impeding the development andgrowth process.

Improving the RegulatoryProcess

The State government has been mak-ing steady progress over the past threeyears in accelerating the review of a widerange of permits and approvals that affectbusiness and development. For instance,the processing time for clean water, cleanair and ventilation permits has been cutsubstantially. Moreover, the State hasreinstituted its Consolidated ApplicationProcess for developers and conducts pre-application meetings among major devel-opers and all agencies that might becomeinvolved. This allows all parties concernedto work out a strategy for the efficient ap-plication and review of all necessary per-mits. The State has also set up internetweb sites to solicit input from businesson regulations or other issues of concerninvolving government, so that they maybe addressed.

However the Task Force found that amore basic change in the regulatory struc-

ture is warranted. The members noted thatthe duplicative land use functions of theState and Counties significantly compli-cate the approval process and extend theapproval time horizon. As a remedy, theTask Force recommends that the State

Land Use Commission, which makes broadland classification changes, be eliminated,and its function be redistributed amongthe Counties and State as summarized onpage 4. The Task Force also urges the Stateto move to a permit approval system withspecified time limits, after which approv-als will automatically be granted. An ap-peal process was also recommended.

Improving GovernmentEfficiency and Coordination

The State government has taken anumber of strong measures to reducewaste and inefficiency in government inthe past three years. Of course, budgetrestrictions have made cutbacks in pro-grams and personnel unavoidable. Butbeyond this, the State has also institutedstringent new procurement regulationsto reduce costs and reorganized depart-ments to increase efficiency. The State hasalso worked to lower costs for businessincluding a more than 30 percent reduc-tion in worker’s compensation insurancepremiums.

However, the Task Force identified aproblem in the ability of government todo proper cost accounting for the servicesit provides and to measure the value or


benefit of those services to the public. Fur-thermore, members found that the currentState procurement system does not per-mit enough flexibility that could make itmore efficient. The Task Force also foundthat duplication of services between theState and Counties is a drain on resourcesand government effectiveness.

RecommendationsAs a result, the Task Force made a se-

ries of recommendations. First the mem-bers proposed that State governmentshould move towards a system of ac-counting which will show the actual costof providing government services, includ-ing the capital charges associated withvarious programs.

Second, the Task Force recommended

that the budgeting system move from afocus on inputs to a focus on outputs. Thatis, the budget process should specify out-puts and the outcomes sought, and thenstructure input estimates designed toaddress the output and outcome goals.

Third, members proposed that the Stateand Counties move to eliminate duplica-tion of programs and administrative struc-tures in currently overlapping areas. Areasto be examined include highways andpark maintenance, health and emergencyservices, human services, housing andcivil defense. This duplication not onlywastes public sector resources but, in theview of the Task Force, also results in dis-parities in effort and effectiveness fromCounty to County.

Fourth, the Task Force recommended

that a process of managed public-privatecompetition be instituted to provide afair and accurate evaluation of the costsand benefits of whether particular publicservices should be provided through thegovernment structure or the private sec-tor. In addition, the Task Force recom-mended building more flexibility into theprocurement system and closing loopholes permitting payment of workers com-pensation for stress caused by appropriatedisciplinary actions.

Finally, the Task Force urged all par-ties to work towards a resolution to issuesof Hawaiian self-determination, which hasbeen a source of uncertainty for both thecommunity and economy.

Questions and Answers regarding Government Reform

Q. Won’t the transfer of land use deci-sions to the Counties encourage poorlyplanned development?

A. Placing land use decisions at the levelclosest to the people most directly af-fected by development should makedecisions more responsive and sensi-tive to local issues and desires. Localconstituencies should therefore be better able to address and weigh betweencompeting development proposals tomaximize local benefits while mini-mizing local impacts. The State couldprovide the Counties with specificguidelines to address statewide issuesand areas of concern when makingland use decisions. In this way, localdecisionmaking is enhanced whileproviding a method for Counties to ad-dress State concerns in their planningand land use processes.

Q. How will time limits and automaticapprovals improve the permittingprocess?

A. For reasons of public safety, health andorderly development, government triesto ensure that a wide range of busi-

ness and development activities meetcertain standards before they are al-lowed to proceed. However the processinstituted to ensure that the standardsare met can be a source of consider-able delay which ultimately meanhigher costs to business. Reducing themultiplicity of permits and processesfor approval has been the subject ofconsiderable effort by both State andlocal governments over the past threeyears and the situation is clearly im-proving. However, a definitive estimatefor the time frame that any given per-mit request will be acted upon is stilloften unavailable. This uncertainty isa source of frustration for business. Itis difficult for them to make firm com-mitments for future stages of activitywithout the risk of delays. A time limiton the approval process will improvebusiness planning and set benchmarksfor government agencies to improveupon. The time limit will be set by theagencies, so they can take into accountthe reasonable time they will need forreview and better establish internalaccountability for the process. For

business, time limits with automaticapprovals if no action has been takenmake the process predicable and allowfirm commitments to be made furtherin advance.

Q. What do accounting and budgetingsystems have to do with governmentefficiency and effectiveness?

A. While it is good to make sure that gov-ernment gets a good price on what itbuys, it is also important to know thetrue costs of programs and then com-pare this information with the valueof the services being provided. Onlythen can government evaluate whetherthe program is cost-effective and in-vestigate whether alternative waysof achieving the same public purposeare available at less cost or greatereffectiveness.

Current accounting systems in gov-ernment do not provide information todecisionmakers on such costs as con-struction, capital equipment, pensions,etc., for each program although thereare legitimate costs of the program tothe State. Current budgeting focuses


on things that must be purchased toachieve broad program goals. How-ever, the product or service to be pro-vided and the ultimate outcome or goalthat the service is supposed to addressis not quantified. As a result, there isless than desirable accountability forthe efficiency and effectiveness of theservices that are either provided or con-tracted for. The Task Force would liketo see a budgeting system that focuseson the services (or outputs) and theirrelationship to the outcomes that gov-ernment is trying to bring about. Thiswill permit more realistic comparisonsof relative efficiency among programs,and assist in making decisions aboutwhether the service should be providedthrough government, the private sector,or at all.

Q. What is the difference between “man-aged public-private competition” and“contracting out”?

A. Contracting a government activity orfunction to the private sector is theend process of a decision that a certainactivity will not be performed directlyby government. However, it is not al-ways clear what activities should beperformed by government rather thana private contractor. Managed public-private competition is a process of eval-uating what means of delivering publicservices is the most efficient and willbest achieve the public purpose in-volved. It is also a means of improvingthe efficiency of government agenciesby requiring them to submit proposalsto perform a certain activity as if theywere a private contractor. In this way,the benefits of either a private or pub-lic sector service provider can be eval-uated. The process, however, dependson a “fair” comparison of the true costsand quality of public sector versus pri-vate sector service provision. This ba-sically means that all costs must be

built into the public agency estimates,while the costs of the private providermust be adjusted to account for thetrue quality capability of that provider.

Q. What do Native Hawaiian claims andself-determination issues have to dowith the revitalization of the econ-omy?

A. The Task Force is empathetic to thegoals of all parties to Native Hawaiianclaims and other Hawaiian issues, andtakes no position on the manner orcontent of their resolution. However,the Task Force notes that uncertaintyand confusion over various claims andpotential settlements can act as barriersto investments and developments. Itis therefore in everyone’s interest towork with as much energy and goodfaith as possible to resolve all out-standing issues and eliminate thissource of uncertainty which inhibitseconomic development.

What increase in economic ac-tivity might we expect if theproposals of the Task Force, ad-

justed by the Administration’s tax modi-fications, are implemented? Unfortunatelyonly a partial answer to that question ispossible at this time. But that partial an-swer is decidedly positive for the economy.The modified tax restructuring packagecould, by itself, lead to a permanent in-crease in overall economic activity ofaround 0.4 percentage points over whatwould have been achieved without thetax changes. Further, the package is de-signed to stimulate new investment in theeconomy and additional tourism growth.If a modest 3 percent increase in invest-ment and a 1 percent per year increase intourism are achieved, the added increasein economic activity could double to anadditional 1 percentage point of growth.

Estimating ImpactsThe Task Force proposals involve

making a substantial change from theexisting structure of taxes, tourism mar-keting, education, and government op-erations. Translating the many potentialimpacts into actual changes in jobs andeconomic growth rates is very difficult.

However, for the changes in the taxstructure alone, estimates of potential im-pacts are possible. In addition, if a fewassumptions are made about how thepackage might affect investment and tour-ism, some reasonable illustrations of thepotential impacts of those elements ofthe package on the economy are possi-ble. DBEDT has recently completed suchan analysis and the results are discussedbelow.

Impacts of the Tax PackageHow do the changes in the tax struc-

ture result in more economic activity?First, they do not come about by simplycutting taxes. In fact, if taxes were sim-ply to be cut, meaning that government

Estimatingthe

EconomicImpactof the

Task ForceProposals


would receive less and taxpayers wouldkeep more by the same amount, economicactivity would actually suffer somewhat.This is because government tends to spendtax money in ways that keep it in Hawaiilonger and result in more jobs and localincome being created. The spending pat-terns of the average consumer, however,tend to result in money leaving the statemore quickly to pay for goods brought infrom overseas.

There are two reasons the Task Forcetax proposals result in an increase in eco-nomic activity. The first is though the shift-ing of the tax burden from income taxes,paid by residents, to the General ExciseTax, which is paid by both residents andvisitors. As a result, residents receive alarger overall cut in taxes than the stategovernment loses in tax revenues. The dif-

ference, under the Task Force proposal, ismade up mainly though more collection ofGET from visitors, as well as by broaden-ing the current use tax on imported goodsto include imported services.

The second reason is that the lowertax rates stimulate more investment in thestate economy.

In addition to the impact from tax re-form, the Task Force proposal to restruc-ture tourism marketing will help revitalizegrowth in tourism. The exact magnitudeof the increases cannot be estimated atthis time. However, if we are willing tomake some assumptions about plausibleincreases in both investment and tourism,we can translate these into additional jobs,income and the output of the economythat would be generated.

Table 1 shows what we could expect

from increases in the rate of investmentin Hawaii’s economy due to the proposalfor tax reform. A modest increase in therate of investment to an additional 5 per-cent per year above the ten-year averagewould boost jobs in the economy by anadditional 0.4 percent. An increase in an-nual average investment of 10 percentwould boost overall state jobs by 0.8 per-cent. Disposable income and total outputin the economy would also rise.

Table 2 shows how an increase in therate of visitor arrivals would affect theeconomy. The restructuring and expan-sion of tourism promotion and market-ing is expected to increase visitor arrivalsand visitor spending. This, in turn, willgenerate further sales, additional house-hold income, and additional jobs. For ex-ample, if the tourism proposals increasevisitor arrivals by an additional 1 per-cent, then output would rise by 0.3 per-cent, disposable income would increaseby 0.2 percent, and jobs would rise by0.5 percent.

These impacts from the tax proposals—i.e., the increased investment and tour-ism—are cumulative. That is, they can besummed to estimate the combined impactof both the tax and tourism proposals. Forexample, if as a result of the ERTF taxproposals, investment expands by 5 per-cent over the 10-year average, and tour-ism increases by an additional 2 percentper year, then output and jobs could eachgrow by an additional 1.3 percent.

Cautions and ConclusionsThis exercise in estimating impacts

should be treated as an illustration of whatcould happen if the proposals are imple-mented in their current form, includingthe Administration’s suggested tax pro-posal modifications. Many factors thatcould not be accounted for in this exer-cise may play a part in determining howmuch the actual impact of the proposalswill be.

It is clear, however, that the proposalswill likely boost economic activity, assum-ing the distribution of taxes is allowed toplace more emphasis on the GET, wherethe contribution of visitors will play a keyrole. In addition, even modest increasesin the rates of investment and tourismwill add to economic growth.

Table 1. Economic Impact from Investment IncreasesResulting from the Modified Tax Package

Increase in New Investmentfrom 10-year Average*

5.0% 10.0%

New investment ($millions) 191.7 383.3

Total output generated ($millions) 306.1 551.4

Total jobs generated (jobs) 2,953.3 5,648.1

Total household disposable income generated ($millions) 206.3 292.3

Percentage point increase in growth (%)

Output 0.59 1.05

Disposable income 0.79 1.12

Jobs 0.43 0.83

*10-year average is $3.8 billion per year.

Table 2. Potential Tourism Proposal Impacts

Increase in New Visitors from 1997 Level of 6,857,200

1.0% 1.5% 2.0% 2.5% 3.0%

New visitors 68,572 102,858 137,144 171,430 205,716

Total visitor expenditures ($millions) 101.5 152.2 202.9 253.7 304.4

Total output generated ($millions) 178.6 267.9 357.2 446.5 535.8

Total household disposable income 56.9 85.3 113.7 142.1 170.6

generated ($millions)

Total jobs generated (jobs) 2,471.3 3,707.0 4,942.6 6,178.3 7,413.9

Percentage point increase in growth (%)

Output 0.34 0.51 0.68 0.85 1.02

Disposable income 0.22 0.33 0.44 0.54 0.65

Jobs 0.46 0.69 0.92 1.15 1.38


EconomicConditions& Outlook

Economic activity remained subduedthroughout most of 1997, althoughjob losses in construction slowed and

westbound tourism showed some strengthin the last few months of the year. For thefirst 11 months of 1997, wage and salaryjobs totaled 535,300, roughly 500 jobsor 0.1 percent below the same as in thesame period of 1996. An 8.7 percent lossof jobs in construction over the period wasthe major drain on the job count whichcould not be countered by gains in servicesand government. However, in the October-November period of 1997, constructionjob losses eased to a 3.1 percent declineover the same 1996 period. This suggeststhat in the coming months the level ofconstruction jobs may stabilize.

Visitor arrivals grew only 0.5 percentfor the first 11 months of 1997. A slight0.6 percent decline in eastbound visi-tors from Asia and the Pacific was thecause. Westbound visitors (mostly fromthe U.S. mainland) increased 1.2 percentfor the period. However, in the October-November period, westbound arrivalsshowed unusual strength, posting an 8.1

Counties showed job gains in the first 11months of 1997 while Kauai’s job marketwas flat and Oahu experienced a slight de-cline. Tourism continued to appear stron-gest on the Big Island and weakest onOahu for the first 11 months of last year.While all counties experienced an increasein arrivals, westbound visitors were themajor factor in gains for Maui and Kauai,while eastbound visitors propped up thetotal on Oahu. Hawaii County, on the otherhand, did well in both markets. However,despite its gains, Hawaii County continuesto experience the second-highest level ofunemployment among the counties at 9.7percent for the first 11 months. Kauai stillhas the highest level at 10.4 percent, adubious distinction it has held since theaftermath of Hurricane Iniki in 1992. Un-employment rates on Oahu and Maui av-eraged 5.0 and 7.0 percent, respectively,for the period.

Economic OutlookBased on current trends, DBEDT ex-

pects that the visitor industry will seemoderate growth over the next several

percent increase over the same 1996 pe-riod. As the Selected Economic Indicatortable on page 23 shows, eastbound visitorscontinued to perform below year-beforearrival rates.

As Table 1 shows, Hawaii and Maui

Arthur Andersen Tax Impact Calculations continued from page 12

pass through, the 1989 Tax Review Com-mission estimated that approximately 94percent of the general excise tax paid byHawaii residents is passed on to consum-ers.2

The assumptions by AA of only par-tial pass-through of GET and no estimatefor the effects of lower personal tax rateson the bottom-line income of owners andstockholders, produced extremely conser-vative results. The net income estimatesbecome relatively low compared to a higherassumption of GET pass through.

Of course, with the more recent modi-fications to the tax rates proposed by theAdministration, the results of the AAanalysis no longer apply. This is why theAA estimates are not presented here. How-

ever, the issue of how a business firm willbe affected by the currently recommendedrates is still very relevant.

Using income and cost elements fromthe AA study, DBEDT estimated the im-pacts of the tax changes on a personalservices corporation as defined by AA.However, the DBEDT estimate adopts the94 percent GET pass-through estimatefrom the 1989 Tax Review Commissionstudy. The results are shown in table 1.

At the corporate level, the additionalGET tax that cannot be passed through isroughly balanced by the lower state cor-porate tax rate. However, at the personalincome level, the lower personal tax ratemore than counters the increase in theGET faced by the business owner or stock-

holder as a consumer.Thus, when the pass through of the

GET and effect of lower personal tax ratesare taken into account, there is a gain innet personal income of more than $600in this particular example. By AA’s con-struction of the business examples, thepersonal services corporation was theworst-case example. Thus, we would ex-pect a similar analysis of the retail anddistribution corporations to show a moresubstantial net gain.

...in the coming monthsthe level of construction

jobs may stabilize.

2 Miklius, Walter, James E.T. Moncur, and PingSun Leung,“Distribution of State and Local Tax Burden by Income Class,”Tax Review Commission Working Papers and ConsultantStudies, December 1989, Vol. 2, p. 10.


Selected Economic Indicators: State

Percent change from same period

in previous year1997

Series Year-to-Date October–November Year to Date October–November

Civilian Labor Force (persons)1 595,750 593,600 0.7 -0.2

Civilian Employment 559,100 559,550 1.2 0.5

Civilian Unemployment 35,650 34,050 -6.3 -10.0

Unemployment Rate (percent)2 6.0 5.7 -0.4 -0.6

Total Wage & Salary Jobs1 535,300 536,350 -0.1 -0.1

Total Non-Agr. Wage & Salary Jobs 528,150 528,550 -0.1 -0.1

Contract Construction 21,450 21,600 -8.7 -3.1

Manufacturing 16,300 16,050 -2.1 -2.7

Trans., Comm., Utilities 40,950 40,850 0.1 -0.8

Trade 134,350 134,250 -0.5 -0.9

Retail 112,700 112,400 -0.8 -1.4

Finance, Insur. & Real Estate 35,850 35,450 -2.7 -3.1

Services & Miscellaneous 168,400 168,900 1.5 1.0

Hotels 39,100 38,850 1.8 -0.1

Government 110,800 111,450 0.8 1.5

State 63,100 64,150 1.9 2.5

Federal 30,650 30,500 -2.1 -1.0

Agriculture Wage & Salary Jobs 7,150 7,800 -2.7 0.6

($Thousands except as noted)

State General Fund Tax Revenue3 2,492,051 422,397 -2.3 1.1

Trans. Accom. Tax Revenue 115,999 18,288 1.2 2.0

General Excise & Use Tax4 1,304,502 216,337 -2.9 -1.9

Retailing Tax 567,667 95,690 -3.0 2.0

Services Tax 196,296 33,509 -4.6 -2.5

Contracting Tax 105,261 19,580 -12.5 -7.7

Hotel Rental Tax 74,460 12,069 -2.0 -4.5

Producing Tax 2,263 356 1.8 -18.3

Unallocated Net Collections 58,449 4,678 27.3 -1.1

Visitor Arrivals (persons)5 6,299,010 1,089,670 0.5 4.6

Westbound Visitors 3,739,160 660,920 1.2 8.1

Eastbound Visitors 2,559,850 428,750 -0.6 -0.4

Hotel Occupancy Rates (percent)2 74.6 71.2 -1.5 -0.8

1 Labor force and jobs averages are based on monthly rounded data. Labor force data were also rebenchmarked in February 1997. Self-employed data will no longer be published by DLIR.2 Change represents absolute change in rates rather than percentage change in rates.3 If tax period ends on a weekend some of the collections may be shifted to the next period.4 Components may not reflect true collections due to unallocated net collections.5 Preliminary data.Note: Data for 1995 and 1996 were rebenchmarked by DLIR.Sources: Hawaii Department of Labor and Industrial Relations, Dept. of Taxation, Hawaii Visitors & Convention Bureau, and PKF-Hawaii. Compiled by Economic Planning Information System,

READ, DBEDT.

years, with the number of visitor arrivalsincreasing 1.6 percent in 1998 and 1999,and rising to 2.0 percent in 2000. Assum-ing this level of visitor activity is realized,real gross state product should expand at

a 1.1 percent annual rate through theyear 2000. The declining trend in jobs isexpected to stabilize and reverse coursein 1998 and beyond. Inflation, as mea-sured by changes in the Honolulu Con-

sumer Price Index, is expected to grow atthe historically low rate of 1.0 percent in1997 and by 1.2 percent in 1998.


ECO

OM

YNHAWAII’S

State of Hawaii, DBEDT • No. 1 Capitol District Bldg., 5th Floor • 250 South Hotel St. • Honolulu, Hawaii 96813

Printed on recycled paper

This report has been cataloged as follows:Hawaii. Dept. of Business, Economic Development & Tourism.Research and Economic Analysis Division.

Hawaii’s economy. Honolulu: May 1995–Quarterly.1. Hawaii-Economic conditions.

2. Hawaii-Statistics.HA4007.H358

1 Change represents absolute change in rates rather than percentage change in rates.2 Labor force and jobs averages are based on monthly rounded data. Labor force data were also rebenchmarked inFebruary 1997.3 Preliminary data.Note: Data for 1995 and 1996 were rebenchmarked by DLIR.Sources: State DLIR, HVCB, PKF-Hawaii. Compiled by EPIS/READ, DBEDT.

Table 1. Selected Economic Indicators by County: January to November 1997(value and percent change from same 1996 period)

C&C of Honolulu Hawaii Maui Kauai

Percent Percent Percent PercentIndicator Value Change Value Change Value Change Value Change

Unemployment Rate1 5.0 -0.4 9.7 -0.9 7.0 -0.3 10.4 -1.8

Total Wage & Salary Jobs2 402,850 -0.7 51,100 1.4 57,150 2.1 24,200 0.0

Non-Agr. Wage & Salary Jobs 400,950 -0.6 48,650 1.7 55,200 2.2 23,400 0.2

Construction 16,150 -9.3 2,250 -4.3 1,950 -9.3 1,100 -8.3

Retail 81,100 -2.5 11,350 4.1 13,900 3.7 6,350 4.1

Services & Miscellaneous 121,900 1.2 16,500 2.8 21,950 3.1 8,100 0.0

Hotels 18,450 1.9 6,450 8.4 10,900 0.5 3,350 -2.9

Government 89,000 0.7 10,200 1.5 7,600 2.0 3,950 0.0

State 48,400 1.9 7,100 1.4 5,100 3.0 2,550 2.0

Federal 28,850 -2.0 900 0.0 500 0.0 400 0.0

Agriculture Wage & Salary Jobs 2,000 -2.4 2,450 -3.9 1,950 0.0 800 -5.9

Total Visitors3 4,578,170 0.2 1,148,650 4.3 2,156,190 0.3 910,240 1.1

Westbound 2,093,920 -3.9 838,430 3.5 1,735,950 2.6 792,510 3.2

Eastbound 2,484,250 3.8 310,220 6.5 420,240 -8.2 117,730 -10.9

Room Occupancy Rate (%)1 79.0 -2.9 65.7 3.2 72.5 -1.9 69.9 0.8

HAWAII’S Special Edition / March 1998 EC NOMYfiles.hawaii.gov/dbedt/economic/data_reports/hawaii-econ/...Hawaii’s Economy /Special Edition - March 1998 3 of the burning tourism

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