Rally ‘round the Family: The Potential Economic Impact of Governor-Elect Katie Hobbs’ Tax Exemption Policies

By Kyle Rose

With the 2022 election finally over, we now have a clear idea of the political headwinds in Arizona going into 2023 and beyond. With the election of Katie Hobbs as governor, Arizonans have chosen a democrat for the office for the first time in over a decade. Although the state legislature remains in Republican hands, their slim majority and bipartisan members will likely allow a significant amount of Hobbs’ agenda to pass into law. While much media scrutiny of Hobbs has focused on her social policies and character, her economic policies have been largely glossed over save for cutting and pasting a few lines from her website. Considering the divided and divisive state of Arizona politics, her economic proposals are the most likely to pass and it is prudent that we examine them in detail.

On the surface, Hobbs tax policies reflect her campaign’s emphasis on family, women, and disadvantaged Arizonans. Her economic policies consist primarily of tax code changes, specifically introducing tax credits for childcare and continuing education, elimination of sales tax on family and female-specific items such as diapers, baby formula and female hygiene products, and a child care tax credit. While these might not seem like far-reaching changes, their impact on Arizona families and women is likely to have many indirect benefits for all Arizonans. As the impact of tax exemptions are comparatively straightforward compared to tax credits, this analysis will focus on her proposed tax exemptions.

First, taxes are traditionally thought of in a negative light because they distort what would otherwise be an efficient market outcome. All else being equal, in equilibrium, the price for a good will be at its lowest possible value and no more or no less of the good than necessary will be produced. Any outside factors changing either will immediately reflect in the other and automatically produce another stable equilibrium. Taxes distort this by raising the price of a good. Because its price is higher, people buy less of it than they would otherwise and those that do buy it pay a higher price than what they think it is actually worth. In other words, taxes reduce economic efficiency and from that harm both producers and consumers of that good. 

In the real world, the impact of a tax extends far beyond its economic impact on a good’s price and quantity. How the tax is structured and who shoulders the tax’s financial burden also play important roles. For example, regressive taxes place the tax burden on low-income individuals instead of high-income individuals. Sales taxes are an example of this, as they charge the same rate regardless of the characteristics of the individual paying. However, poorer individuals suffer a much higher relative cost from the tax as their budgets are smaller to begin with. $1,000 in tax is a larger burden to bear for someone who makes $20,000 per year than someone who makes $200,000. This contrasts with progressive taxes such as federal income tax, where higher income individuals pay more in income taxes than those with lower incomes. In other words, although the removal of sales taxes on family care and female hygiene products nominally helps all Arizonans purchasing these products, the tax’s regressive nature means most of the benefits of its removal will go towards poorer Arizonans. It also indirectly helps Arizonan minorities, because over a quarter of Latino and African American and almost half of Native American children live below the poverty line.

Another important factor is that the products that Hobbs wants to exempt from sales taxes are relatively inelastic, meaning that changes in their prices will have little impact on the demand for them. Women are going to need tampons and babies are going to need diapers and formula, and it is very likely that individuals will forgo other purchases in order to pay for them. People are also likely to use a constant amount of this good, whether that means buying a fixed amount of the good or stretching out its use in some way. For instance, formula can be diluted with water to make it last longer. In either scenario, Arizona families and women benefit, either from having more money in their pocket or by allowing them to forgo stretching. 

To give a more concrete example of the potential savings, consider the following back-of-the-envelope calculations. As of 2023, the current combined rate for Retail Sales Tax and Use Tax in the city of Tempe is 3.6%. Assuming that a mother who exclusively uses formula spends around $1,346.80 annually on it, exempting it from taxation would save the mother $46.80 a year. Expanding on this, if we assume that a mother spends around $1,000 annually on diapers, exempting them from taxation would save the mother $36 a year. While these may not sound like large amounts, the combined amounts from these exemptions as well as from all the other products not included in these calculations will likely translate to hundreds of dollars in savings annually. Also keep in mind the proportion of these taxes in relation to a household's income. For example, for a two-person household making the 2021 federal poverty line, which is $17,420 a year, the savings just from exempting diapers and formula alone is $82.80, or just under half a percent of that household’s annual budget.

However, these benefits are only realized if the consumer is directly paying the tax. Due to a quirk in Arizona’s tax code, sales taxes are not paid by the consumer directly but are instead paid by businesses via a so-called Transaction Privilege Tax. While this is not a bad outcome per-say, it does mean that any economic and societal benefits in this scenario would come from increased reinvestment by businesses instead of financial savings for women and families.

Finally, the tax exemptions also directly impact the finances of the state and local governments. For instance, sales and use taxes are usually levied at the state and local levels, meaning that the proceeds from them are paid directly into state and local budgets. For instance, 36% of Phoenix’s 2020-2021 general fund revenue came from local sales tax, while almost 60% of Arizona’s revenue in 2022 comes from its various transaction privilege taxes. However, the sheer specificity of Hobbs’ tax proposals and the breadth of items covered by sales tax make it unlikely that exempting these items will make or break city budgets. 

Ultimately, the final impact on families, women, and Arizona in general depends on how these factors interplay. If the savings are passed on by businesses to consumers, families and women will see real savings, especially those with lower incomes and for ethnic minorities. In economic hard times such as the current inflationary period, those savings could mean the difference between a family’s finances being in the black or the red. Large and small retail businesses would also likely see an uptake in sales for these products as consumers switch from stretching their supply to buying more of it. 

The increased savings will reduce financial inequality in general and boost savings rates for women and families. In addition, local economies would probably grow through increased demand for other goods. Finally, local and state government finances will take a hit but will unlikely be large enough to warrant tax increases on other goods or cuts to services. If the savings are not passed on, large and small retail businesses will likely either reap the increased profits or reinvest the extra revenue back into their stores. In this case, there would be an uptick in job openings as businesses expand. In either scenario, Hobbs’ proposed policies are a great example of the good that can be achieved by targeted tax cuts, both for the people targeted and for all of Arizona.

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