Tough Choices for Governors

Tough Choice for Governors

Given the economic downturn, and requirement that states have to balance their budgets, the next 4 years of state budgets across the country will feature belt tightening, program reductions (and outright elimination) and challenging labor negotiations.

Here are the areas of debate, beginning with “what is the appropriate role of government in the first place?”    The big four pillars in state government are education (usually biggest slice of budget), health services, transportation and corrections.    And underlying all of these is state worker labor costs (direct pay, retirement and benefits), which are increasing much faster that state government revenues.   

The debate in Wisconsin on state and local employees and their public union representation is just the tip of the iceberg, as all 50 states and countless municipalities are struggling with their labor costs.     Should the Governor (of any given state) reduce the burden and cost of state employees (their compensation & benefits) by adjusting benefits and retirement costs or just lay state workers off (and not change benefits)?    In the example of Camden, NJ, the public employees wouldn’t negotiate a less pay and benefit package and set the stage for a 50% layoff.   

Other Governors are looking to sell state assets, privatize highways (convert to toll roads), privatize higher education (reduce subsidies and convert to enterprises).  Some Governors of deep blue states (such as Illinois) decided to raise taxes during an economic downturn.    It is unclear how increasing taxes will actually generate additional revenues, if the overall business climate and tax base is adversely impacted.   Many companies are moving their headquarters and manufacturing locations from high tax states (Michigan, New York, California and Illinois) to lower tax states such as Texas.   Thus simply raising taxes may not work.  Now that the Federal stimulus dollars are waning and spent out (a large portion of Fed dollars were used to prop up state budget shortfalls, particularly in pro-union high labor cost states), states are having to make additional cuts in spending to balance their budgets.

By John F. Cape
Senior Fellow, the Rockefeller Institute of Government 11.2010

Against this bleak background, in most areas of the country, state government has effectively lost its pricing power. In race after race, gubernatorial candidates — Republicans and Democrats alike — have rushed to assure voters that they have no intention of raising taxes. As a result, given the inherent lag between economic recovery and state revenue growth, it is likely that many states will be mired in difficult fiscal conditions until 2013 or 2014.

So, what should state leaders do? From my experience over the past 35 years working as a state budget official and consulting for state fiscal managers across the country, I would offer new governors two simple suggestions:

1) Define fundamental goals for your major programs and revenue sources to be achieved by your fourth year in office.

             2) Have your budget staff do a “back of the envelope” calculation of the Year Four costs of those spending goals and the monies potentially generated by your Year Four tax goals, and see how closely they match. These are estimates, so they don’t have to balance perfectly — they just have to be close.

If you want to be the “tax-cutting education governor” (and who doesn’t?), this exercise should be eye-opening. Unless you’re in North Dakota (which has been spared most of the current economic pain), it will likely require you to repeat step one. Once affordable long-range strategic objectives are defined, then you should begin work on the upcoming fiscal plan. Simply put, the fiscal stress in the coming years will make state budgets very unforgiving of mistakes. Embarking on spending or tax strategies that are unsustainable can result in painful course-reversals later.  This planning will not be easy or pretty. Suffice it to say that the next few years will see a greater debate about the fundamental role of government — at all levels — than we have had in 50 years. State programs and agencies that have survived untouched for years could face elimination or consolidation. Non-core assets such as real estate or liquor stores could be put on the sales block. Surely, we will see a restructuring of state and state-subsidized employee benefit programs to realign with broader labor market norms. And the result of those debates will color state fiscal plans going forward for at least a decade.

In short, successful governors will have to make hamburger out of what have previously been sacred cows, or risk seeing their agendas trampled by the herd.   John F. Cape

See the Rockefeller Institute web site http://www.rockinst.org 

Unlike the Federal Government, the state governments must balance their budgets.  May the great debates continue in all 50 capitals of the United States.   And the great American democratic experiment will unfold and we’ll see who can figure out how to navigate some of the roughest financial seas in the past 50 years.   

© Jasper Welch, Four Corners Media, www.jasperwelch.org   

Challenges in Funding State Government

Challenges in Funding State Governments

It is the economy…still the biggest challenges facing state and local governments.    State and local tax revenues have been declining since 4^th quarter 2008, and corporate income taxes have been declining since 3^rd quarter 2007.   The recession impact was felt at the state and local government tax receipts for 5 quarters (4^th Qtr 2008 through 4^th Qtr 2009).    Year over year for 2010 inched up at about 2% rate (1^st and 2^nd quarter 2010 compared to 2009) state tax revenues.     This according to the Rockefeller Institute recent report on state and local government finances.   www.rockinst.org   

             However, state revenues took a major hit as tax collections were off about 20% below expectations over a 2-year period of economic slowdown (late 2008 through early 2009).   Planning for FY 2011 budgets will be a challenge, as all of the stopgap measures have been exhausted and some real budget cuts will still be required to balance state budgets.    In Colorado, the FY 2011 budget shortfall is estimated to be $1.5 billion, as compared to a $19 billion state budget.   In New Mexico, another $250 to $400 million needs to be cut from this FY budget, and it is likely that more reductions will be needed for FY 2012 (that starts July 1, 2011).

The Southeast and Rocky Mountain regions reported the largest declines in personal income tax collections at 9.6 and 6.3 percent, respectively. In fact, each single state in both regions reported declines in personal income tax collections.    In Colorado, personal income tax withholding was down about 4% in late 2009, but had slightly increased to about 3% (increase) in 2^nd Quarter 2010.   According to the Rockefeller Institute, Colorado and New Mexico were experiencing declining economic activity in August 2010, as compared to the rest of the United States.   Texas continued to maintain economic growth, although is has slipped from 7^th in FY06 to 13^th in FY11 on the Tax Foundation state business tax climate index.   www.taxfoundation.org 

The Rocky Mountain States are slipping on the Tax Foundation index, with New Mexico falling 10 slots from FY10 (#23) to FY11 (#33).   Under 4 years of a Democrat majority in both legislative assemblies and a Democrat Governor in Colorado, the state fell from FY08 (#10) to FY11 (#15) in the Tax Climate index.    Whereas the state of Utah as steadily moved from FY06 (#15) into the top ten FY11 (#9) in the Tax Climate index.  Arizona dropped one notch below New Mexico to FY11 (#34) after several years in the high 20’s in the Index.

Bring up the rear in FY11 are New York (#50), California (#49), New Jersey (#48), Connecticut (#47) and Ohio (#46).     Each of these state are characterized by high tax rates, significant public labor unions, and significant taxes on capital (such as California with almost 10% state tax on capital gains).

As various states struggle with a weak economy, it is likely that those states that reduce public spending and reduce dependence on government programs (and thus are able to reduce tax rates), but at the same time create a business friendly environment, are more likely to succeed economically going forward.   Clearly, as California and New York have experienced, their model is not working.  Whereas the Texas model and the Florida model are enhancing economic growth due to a better tax climate and business friendly state policies.     In the United States we have 50 models of state level democracy and free market capitalism underway.    The high tax, high regulation and high public union states are not competitive (nor financially sound), whereas the lower tax, lower regulation and less public union states are more competitive and fiscally sound.

© 2010, Jasper Welch, Four Corners Media, www.jasperwelch.org  

States Face Fiscal Reality

States Face Fiscal Reality

California's income tax is the most progressive of all 50 states, with the second highest top rate (10.55%) after New York City's 12.62%. The Governor's revenue office calculates that between 50% and 55% of the income tax in the state comes from Kobe Bryant and the rest of the richest 1% of taxpayers.

This sounds like a liberal's tax paradise, but the "soak the rich" system has imploded on itself. As tax rates keep rising, more Californians move to places like Nevada and Texas where they can pay zero income tax, leaving Sacramento with fewer revenue sources. Moreover, the progressive rate structure means that California experiences more extreme gyrations in its revenues than any other state.

According to the finance & economics blog CalculatedRisk www.calculatedriskblog.com  data from the Nelson Rockerfeller Institute of Government indicated that state government income tax collections for the first 4 months of 2009 is down by 26% as compared to 2008.    At the NR Institute site www.rockinst.org  you can click through to the full report on state income tax collections.  Some highlights of the “Change in Personal Income Tax FY 2008 compared FY 2009” :    The largest drop in Personal Income Tax (PIT) collections is Arizona at -54.9%.     States with Personal Income Tax (PIT) that is more than 45% of the state tax base:  New York (down 31.8%), California (down 33.8%), Massachusetts (down 28.5%), Oregon (down 27.0%), Connecticut (down 25.9%), Colorado (down 25.4%), Virginia (down 17%), and Georgia (down 20.9%).    According to the NR Institute, estimated tax payments (first quarter 2009) were down by 30.4% (January through April), and these estimated tax payments were down by 41% in April 2009 (as compared to 2008).   Arizona, Colorado, Indiana and New York had drops of 37% or more (comparing Jan to April 2009 to 2008 period).  

According to a recent report by the National Conference of State Legislatures, “In comparing personal income tax collections through April 2009 to the latest estimate, more than half the states were below target.”3 This is particularly bad news for the states that rely most heavily on personal income tax. A number of states already have enacted or recommended increases in personal income tax rates and other revenue-raising steps such as reductions in tax credits. Such proposals would increase personal income tax collections by more than $7 billion in two states alone: $4.7 billion in California and $2.9 billion in Illinois. 

So just how bad are the revenue shortfalls?    Let’s look at Colorado, whose new budget year begins on July 1, 2009: The forecast, released Monday, showed the state with a budget deficit of $249 million for fiscal 2009, which ends June 30. State officials will need to borrow that much from the 2009-1010 budget, which will push the fiscal 2010 deficit to $384 million, according to the state forecast.  www.gjsentinal.com   Republican Minority Leaders Josh Penry predicted that the new FY 2010 budget would only be in balance for 45 days (based on May 6^th legislative session ending, until the new budget year begins).   The Democrat majority legislature in Colorado passed new taxes on hospitials (provider fee), transporations (vehicle registration) and revoked a seniors property tax exemption.    But these tax increases will not be able to balance the Colorado budget.   Only budget cuts will balance the budget.

In Arizona, the FY 2010 budget shortfall is estimated at $4 Billion, with the Democrat Governor’s office presently in at an impasse with the Republican controlled legislature over the FY 2010 budget.     The GOP passed a FY 2010 budget on June 4^th, but has delayed sending it to the Governor, who  has said she’d veto it (and ask the voters to raise taxes).    With the Governor asking the Arizona Supreme Court to intervene, the state may shut down state offices on next week, due to no budget for the next Fiscal Year.

How is your state doing?    For a review of various states and their tax rates (personal income, property, sales tax, etc), the Retirement Living Information Center has a good summary plus “state by state” information: http://www.retirementliving.com/RLtaxes.html

In the meantime, the fiscal reality of an economic downturn is hitting the state governments (and local governments) hard.  About the only answer left is to cut spending and programs, as raising taxes (which a number of states have enacted or will try to enact) may just contribute to additional taxpayers moving to more favorable states. You may want to consider Wyoming:   No personal income tax, fuel taxes on 14 per gallon (New York is 42 cents!), a 1% sales tax and low property taxes.

© 2009, Jasper Welch, Four Corners Media. www.jasperwelch.org