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Press Release

    North Carolina: Don't Bet on a Lottery

    01/25/2001

    South Carolina’s recent vote to allow a state lottery has renewed pressure on the Tar Heel State to introduce a lottery. Proponents claim a lottery is necessary to improve education, pointing to lottery programs in nearby Virginia and Georgia as models. Hopefully, North Carolinians will see this latest lottery proposal for what it is – a bait-and-switch proposal that allegedly will improve education. In fact, a North Carolina lottery is simply an expansion of government. Traditionally, North Carolina lottery proposals have been defeated by a left-right coalition rallying behind the detrimental social ills linked to gambling. But there also exists a strong economic argument against the proposed lottery. Contrary to popular myths, lotteries are not stable sources of revenue, there is no link between lotteries and school funding, and a lottery is not likely to reduce political pressure to raise taxes.

    North Carolinians will soon decide whether to join 37 other states and the District of Columbia and introduce a state-run lottery. Lottery proponents argue for introducing a lottery and using proceeds for educational funding. Such an arrangement is nothing new; many of the first lotteries held in the 19th century were also introduced to fund educational institutions. Unlike lotteries today, however, they were temporary, project-related ventures that appealed solely to wealthy individuals due to the extreme price of each ticket.[1]

    Lottery proponents estimate, after expenses, a new lottery would generate $300 million, or about 2.3 percent of North Carolina’s budget.[2] This figure is in line with the 1997 national average of 2.2 percent for all jurisdictions sponsoring lotteries at that time.[3] However, it does not account for any state sales tax lost as non-taxed lottery tickets are substituted for other taxable items such as soda, junk food, or alcohol at the point of sale. Nor is there any mention of other costs associated with the introduction of state-sponsored gambling.

    Although it is impossible to know the final financial structure of the proposed lottery, a rough estimate of expected revenue, administrative costs, and prize payouts can be calculated using the cost structure put forward as part of H. 46, North Carolina’s 1999 Lottery for Education legislation, and the oft-cited $300 million net revenue figure lottery proponents proclaim. Figure 1 shows the results of such an analysis.

    Figure 1: Breakdown of Lottery Sales[4]

    Allocation Requirements under H. 46 Estimated Amount
    Total Sales $882 million
    Prizes
    At least 50 percent of gross revenue $441 million

    Administration*
    No more than 16 percent of gross revenue $141 million

    State Revenue At least 34 percent of gross revenue $300 million

    * Includes retailer’s 5 percent commission and 2 percent performance incentive.
    Source: H. 46, The 1999 Lottery for Education and CSE Foundation calculations.

    Unfortunately, the numbers in Figure 1 do not account for tax revenue lost as non-taxed lottery tickets are substituted for other, taxable items. The North Carolina Budget and Tax Center calculated that on estimated sales of $882 million, the state would lose $23.6 million in sales tax revenue and local governments would lose $12.7 million in local sales tax revenue.[5] The detrimental effects would be greatest for local governments because lottery revenue ends up in state, not local, coffers.

    In addition, evidence shows that as gambling becomes more common, the incidence of problem gambling increases. According to Dr. Robert Goodman, the director of the United States Gambling Research Institute, problem gamblers cost the economy of the average state millions of dollars each year.[6] The costs are not borne by the state directly, but rather by average citizens due to increased bankruptcy, theft, insurance fraud and other white-collar crimes committed by problem gamblers. It is estimated that a problem gambler costs society between $715 and $52,000 per year.[7] These estimates vary because they cover different scopes, but the two estimates considered most accurate are $13,200 per year (Dr. Goodman’s Testimony before the National Gambling Impact Study Commission) and a $10,000 per year figure calculated by Bill Thompson of the University of Nevada.[8] Estimates place the number of problem gamblers at 3 percent to 5 percent of the population.[9] Although it is impossible to calculate the effect that the introduction of a lottery will have, to the extent that a state-run lottery expands the number of problem gamblers, the state’s quest for additional revenue through a lottery may be a zero-sum gain.

    Of course, the $300 million figure is not guaranteed to last. National trends show lottery sales slipping nationwide from 3.5 percent of states’ revenues in 1989 to 1.9 percent (of those same 29 states) or 2.2 percent of all states having lotteries in 1997.[10] Factors of the decline include the novelty of a lottery wearing off as well as states spending more on prizes and marketing as they find themselves competing with other states.[11] A recent report reveals that Texas, New York, Ohio, Kentucky, New Mexico, Wisconsin, Virginia, and Iowa have all experienced or are expecting a decline in lottery revenue. In addition, the same report reveals that Florida and Georgia are experiencing problems meeting their commitments to education funding.[12]

    On average, states with lotteries spend a smaller proportion of their budgets on education than states that do not have a lottery.[13] The authors of a 1996 Money magazine article point to several states that earmark lottery funds for education, but actually mix lottery revenue in with general funds, making it harder to track the funds.[14] Revenue that does go toward education often is not spent well. Georgia’s HOPE scholarship program, funded by the state lottery and often cited as a possible model for a North Carolina “Education Improvement Scholarship Fund” is criticized for reliance on poor consumers (who spend a larger proportion of their income in lotteries) in order to help subsidize college education for the more affluent.[15]

    The lottery is often touted as a source for educational funding, but other uses have also been suggested. History shows that North Carolina policymakers have serious spending problems. Over the past few years, North Carolina’s budget has grown by an average of almost 8.4 percent, outpacing the growth rates of population, inflation, and tax revenues.[16] Although the lottery is touted as an earmarked source of educational funding, the aforementioned 1999 Lottery for Education Act sets out the following priorities: 25 percent for a “Education Improvement Scholarship Fund”; 25 percent for public education technology needs; 25 percent distributed to counties to fund water and sewer infrastructure improvements; and, 25 percent transferred to the General Fund in order to reduce the state’s bond debt.[17] Others have suggested funding the state’s Clean Water Fund.[18] North Carolinians must wonder if they are not looking at a classic bait-and-switch; the lottery is being sold as a means to benefit education, but in effect it would also expand the state’s budget in other areas.

    Collecting revenue through a lottery is essentially a voluntary tax. Yes, but a look at who spends money on lotteries reveals that it hits poor consumers the hardest. Numerous studies that compare education levels, ethnic background, age, and income levels show that the amount of money spent does not significantly vary among these factors. But the poor shoulder a greater burden than the more affluent because they spend a greater proportion of their income playing the lottery.[19] The voluntary nature of a citizen’s payment to the state coffers in no way ameliorates the regressive nature of its effects. The lottery debate is incomplete without addressing this fact, considering the widespread support for a tax system that is low, flat, fair and honest and provides relief for those at the bottom of the income scale.

    Lotteries generally do not lead to lower taxes; in fact the evidence shows that the opposite is often the case. Money magazine investigated lotteries and discovered that state lotteries have neither lowered taxes for residents nor have they boosted funding for education.[20] The provision in the 1999 Lottery for Education that earmarks 50 percent of state revenue for infrastructure and bond debt casts serious doubt that North Carolinians will see their state taxes shrink anytime soon. In fact, it could lead to higher taxes if lottery revenues prove unreliable.

    Not every lottery dollar spent across the border in a neighboring state is guaranteed to “come home” if a lottery is introduced in North Carolina. It has been estimated that during the 1998-1999 fiscal year, North Carolinians spent $86.5 million on Virginia lottery tickets.[21] Pro-lottery voices claim North Carolinians are helping to build schools for Virginia’s students (Virginia’s lottery revenue goes toward education). But even if North Carolina introduces a lottery, some players close to the border will spend money in both states, based on the assumption that doing so greatly increases their chances of winning.[22] And while some Virginians will play North Carolina’s lottery, there exists enough ambiguity to question arguments using the $86.5 million figure as evidence.

    A lottery may harm rather than help retailers. Another misperception about the lottery is that it will benefit the retailers who decide to sell lottery tickets by bringing more customers into stores. But these retailers lose when customers replace high-margin products such as soda and candy with a low-margin lottery ticket. The North Carolina Association of Convenience Stores opposes a lottery if the commission is less than 7 percent. At a 5 percent commission level, the average convenience store would generate $250,000 in lottery ticket sales annually, but would need to generate $400,000 a year in sales to break even.[23]

    Thus, North Carolinians are faced with a choice. It is unquestionable that the educational system needs funding to build new schools and repair those that have fallen into disrepair. A reduction in excessive and wasteful government spending would be the easiest, if not the most popular, way to free state funds. Knowing this, numerous politicians are pushing to get government into the gambling business. This is an easy, if inefficient way for the state to raise money without raising taxes or reducing spending. Still, important questions about the true economic impact of the lottery need to be asked.

    Most North Carolinians would agree that education must be improved while holding the line on new taxes. But is there a better way to achieve the noble educational goals of the lottery? Certainly, the answer to the dilemma is two-fold: Hold the line on spending, and give North Carolina’s parents the freedom to choose. The push for a lottery indicates that government is hooked on spending. Unexpected costs have created extra burdens for North Carolina’s budget, but surely could have been avoided had politicians demonstrated restraint during the mid 1990s when tax receipts grew at rates between 9 percent and 10 percent.[24] No doubt there are wasteful government programs being funded that can either be downsized or eliminated. The old adage “it’s not how much you make, but rather how much you spend” applies to government as well.

    [1] Manuel Wallace, “13 Ways of Looking at a State Lottery,” North Carolina Insight, Vol. 19, No. 1-2, October 2000, pp. 3, 9.
    [2] Ibid., p. 48.
    [3] Clotfelter, Charles T., Cook, Philip J., Edell, Julie A., and Moore, Marian, “State Lotteries at the Turn of the Century: Report to the National Gambling Impact Study Commission,” Duke University, June 1, 1999, p. 7.
    [4] The calculations in Figure 1 were derived from the $300 million figure and based on the ratios set out in H. 46, the 1999 Lottery for Education, calculations exclude the 7 percent state income tax applicable to certain prizes, http://www.ncleg.net/html1999/bills/CurrertVersion/
    house/hbil0046.full.html (accessed January 4, 2001).
    [5] Dan Gerlach, Ed., “The Lottery Tax: Still a Bad Idea for North Carolina,” North Carolina Budget and Tax Center BTC Reports, Vol. 5 No. 3, February 1999.
    [6] Dr. Robert Goodman, telephone interview, January 24, 2001.
    [7] National Gambling Impact Study Commission, Final Report, see also Ronald Reno, “You Bet Your Life: The Dangerous Repercussions of America's Gambling Addiction,” Focus on the Family, October 1, 1998. http://www.family.org/cforum/research/papers/
    a0002954.html.
    [8] Goodman.
    [9] Dr. Valerie Lorenz, Quoted in “Hooked on a Dream: America’s Lotteries,” A&E Investigative Reports, A&E Network, 1996.
    [10] Wallace, p. 20.
    [11] Dan Gerlach, Ed., “Lotteries: Don’t Bet on Their Revenue,” North Carolina Budget and Tax Center BTC Reports, Vol. 6 No. 6, May 2000.
    [12] Gerry Dickinson, Ed., John R. Hill, Ph.D., and Gary Palmer, “Going For Broke – The Economic and Social Impact of a South Carolina Lottery,” the South Carolina Policy Council Education Foundation, March 2000, pp. 10-11.
    [13] Peter Keating with Joan Caplin and Karyn McCormack, “Lotto Fever: We All Lose!” Money, May 1996, see also Manuel Wallace, “13 Ways of Looking at a State Lottery,” North Carolina Insight, Vol. 19, No. 1-2, October 2000, p. 11.
    [14] Keating et. al.
    [15] Wallace, p. 13.
    [16] Scott Hodge, “A Tax Hike is Bad Medicine for North Carolina’s Economy,” Capitol Comment 278, Citizens for a Sound Economy Foundation, June 5, 2000.
    [17] H. 46, the 1999 Lottery for Education.
    [18] Wallace, p. 48.
    [19] Clotfelter, Charles T., “Do Lotteries Hurt the Poor? Well, Yes and No – Summary of Testimony before the House Select Committee on a State Lottery, April 19, 2000,” Duke University, April 28, 2000, see also Wallace, pp. 29-30.
    [20] Keating et al.
    [21] Wallace, p. 3.
    [22] Dan Gerlach, “Lottery Numbers Already Look Bad,” North Carolina Budget and Tax Center Commentary, March 30, 2000.
    [23] Wallace, p. 33.
    [24] Hodge.