California and Mexico Jude Wanniski October 26, 1994

Proposition 187 on the California ballot, the "Save Our State" initiative, is an anguished attempt by ordinary Californians to make a political statement about the flood of illegal immigrants from Mexico. The problem is a painful one: In significant numbers, Mexicans continue to abandon their own country in search of better opportunity in California. At the same time, California's economy is dreadful, smothered by what may be the highest combined federal and state marginal tax rates in the nation -- higher even than Canada's criminal confiscations. The illegals are competing for low-wage jobs against legal immigrants and poor U.S. citizens, at the same time burdening the hapless middle class with their claims on the public social infrastructure. Meanwhile, the Californians most likely to finance the state's generous "free goods" in welfare and education with tax dollars are abandoning the state and flooding into the neighboring western states -- which are still hospitable to entrepreneurial enterprise and are more or less thriving.

Polls indicate Prop 187 may pass by a two-to-one margin. It would deny all but emergency medical services to illegals, but even its authors acknowledge its chief intent is to force the hapless political establishment to confront the issues. All agree the initiative would, if passed, immediately be challenged in the courts. In a way, Prop 187 can be likened to 1978's Proposition 13, the Howard Jarvis initiative to slash state taxes by a third, which was opposed by the entire ruling establishment. But Prop 13 -- which passed two-to-one -- was opposed by almost all elected officials in both parties, from Democratic Gov. Jerry Brown on down. Prop 187 is being supported by most Republican candidates, including Gov. Pete Wilson, who is running for re-election. His challenger is Jerry Brown's sister Kathleen, who opposes Prop 187. 

Because the issues are so complex, there are odd bedfellows galore. The leading liberal newspapers are in opposition, including the San Jose Mercury, San Francisco Chronicle, and Los Angeles Times, on the grounds that it would be heartless and cruel to Mexican widows and orphans. The best line, though, is from columnist Richard Cohen of The Washington Post, who says it would "withhold both education and medical services from illegal aliens, allowing them to go through life illiterate and, finally, die in the gutter." At the same time, the most conservative Orange County Register opposes Prop 187 on the grounds that it is a scapegoat that "has enabled politicians -- Gov. Pete Wilson most prominent among them -- to divert attention from their own economic policy failings." The conservative Copley papers of San Diego likewise denounce Prop 187 and praise former HUD Secretary Jack Kemp and former Education Secretary Bill Bennett for their "courage" in opposing Prop 187. Meanwhile, Pete Wilson and other GOP candidates who have tied their fortunes to 187 are furious with Kemp and Bennett for throwing in with the bleeding hearts.

In New Jersey, we sympathize with Californians who are trying to figure out how their votes will be interpreted, on one side or the other. Nobody ever said democracy was easy, though. Prop 187 is clearly a good thing, at least in the sense that it has put a lot of problems before the electorate that the garden variety politician, such as Pete Wilson, have been unable to solve. Here is what we think is going on:

In 1990, the same year Pete Wilson decided to give up his Senate seat to run for governor, George Bush broke his "read my lips" pledge. The Bush taxes were added to an economy that was being slowly strangled by the unindexed 28% capital gains tax enacted in 1986 as part of the omnibus tax reforms. Also in 1990, New Jersey's Democratic Gov. James Florio, elected in 1989 having promised no new taxes, shocked the citizens of the state with his middle-of-the-night tax increases. Pounded by Bush and Florio, the New Jersey economy bled itself into deep recession. Wilson, I trusted, would do better. Alas, he did not. The last time I saw him, at an event at the National Press Club, in 1989, he was already gearing up for the governor's race. We chatted about (what else?) Mexican illegal immigration and California's high (11%) capital gains tax. He won the governorship the following year promising to solve problems. 

Sadly, Gov. Wilson went with increases, rejecting my earlier advice to eliminate the state capgains tax, on the advice of President Bush's chief economic advisor, Michael Boskin, a Californian. Who could blame him? The Establishment and its minions in the media were already celebrating the "courage" of George Bush and Jim Florio for raising taxes. New York Gov. Mario Cuomo, for goodness sakes, told The New York Times Magazine that Florio should be considered the front-runner for the 1992 Democratic nomination! The effect of the Wilson tax increases -- atop a combined federal/state capital gains rate of 39% -- tilted the San Andreas fault, sliding several hundred thousand taxpayers into adjacent states. President Clinton's 1993 tax hikes made things worse by putting the combined top rate on ordinary income for Californians at almost 50%.

New Jersey only had to wait two years to get rid of the Democrats who controlled the legislature. In '93, Florio (who chose not to run for President in '92) was polished off by Republican tax-cutter Christie Whitman. California's problem in democracy was worse than New Jersey's: This is because its economy was strangled by a Republican aided by the Democratic legislature while Jersey's was strangled by a Democrat opposed by the GOP minority. Pete Wilson, who will be touted (by Democrats) as front-runner for the '96 GOP presidential nomination if he wins re-election in two weeks, is being opposed by Jerry's Brown's sister, who has the moonbeam look of a taxer. What's a poor Californian to do? How are they going to get the right message to their dense politicians? The answer may be Prop 187. In the tumult over it, at least Kemp is now in a position to argue his real point, that the immigration problem is a confluence of the bad tax policies of Sacramento, Washington and Mexico City. 

The worst tax policies of all are in Mexico City, which is why Mexicans continue to take off their shoes and head for the Rio Grande and the California border. Yes, President Salinas did get the peso under control, cut tax rates on the top ordinary incomes, and enact NAFTA. This has brought an expansion of capital values held by the elites, whose shares traded on the Bolsa are not taxed at all on capital gains. It is the little guys who are still crushed by tax rates on labor income of 35% at about $7,000, which prevents the accumulation of meaningful start-up capital by potential entrepreneurs. We've also been urging Finance Minister Pedro Aspe for the last three years to give the little guys the same zero rate on capgains enjoyed by the elites. As it is, capital gains accumulated by small businessmen face confiscatory rates that produce almost no revenue anyway -- as the most enterprising Mexicans head for the borders. In Mexico City, the National Association of Business Leaders recently reported: "The majority of micro, small and medium industries -- which make up 97% of the nation's productive sector -- are virtually bankrupt and are without working capital." 

Will it get any better for ordinary Mexicans when the new president, Ernesto Zedillo, is inaugurated December 1? The draft budget for 1995 -- the last prepared by Aspe's finance ministry -- does not seem at all promising. When its contents were rumored Monday, the Bolsa fell 2% and when the press confirmed the rumors yesterday, the Bolsa fell another 2%, led by a fall at Telmex. This last Salinas budget would increase social spending and pork, but would do nothing to change the tax system in the ways we've recommended to invite capital formation from the bottom up. Yes, Aspe boasts he has balanced the budget for the first time in 30 years, but he's also leaving behind serious problems due to his failure to fix a tax system he knows is a burden to growth at the bottom -- along with a peso policy also designed to produce cheap labor. According to El Financiero, the minimum wage has lost 58.9% of its purchasing power since 1991 and real wages have lost 20%. The Bank of Mexico reports a 150% rise in overdue consumer credit payments, reflecting this decline in purchasing power. The political tensions that arise because of these failures cause not only emigration, but violence against those at the top by those at the bottom.

Zedillo could, of course, surprise us by appointing a finance minister who appreciates these concerns, one who would amend the draft budget after the December 1 inauguration, but before the December 15 deadline, when it must be presented to the Chamber of Deputies. We are doing everything we can to get that message to Zedillo. If there's no change, the political and economic risks of investing in Mexico will rise and so will the outflow of migrants to California and the Southwest. Proposition 187 at least forces us to realize how all these factors are intertwined.