State Budget Deficits

State governments, unlike the federal government, have to balance their budgets according to law. A tough task in normal times, but after the Great Recession it became much more difficult for many states as economies around the nation suffered. Here is a list of the state’s entire projected deficit for the fiscal year of 2012.It also orders the states in terms of the projected deficit as a percent of 2011 total spending. For 2012, there are only six states that are not projected to have a budget shortfall: Alaska, Arkansas, Montana, North Dakota, West Virginia and Wyoming. 

The state budget crisis got to such critical levels that a task force was created to examine the problem of fiscal sustainability more closely in six states: California, Illinois, New Jersey, New York, Texas and Virginia. The report found there are six major threats hindering the states abilities to balance their budgets, and fiscal stability. 

(1) Medicaid spending growth- Escalating health care costs and increasing enrollments will cause state Medicaid spending growth (at recent rates) to surpass revenue growth by a considerable margin, at least $22 billion annually within five years.

(2) Federal deficit reductions- As the Federal government tries to remedy its own budget crisis, fewer government dollars in terms of grants or other federal spending might decrease, putting states in a fiscally unstable situation. Federal grants accounted for 32 percent of state’s revenues in 2009. 

(3) Underfunded retirement promises- Pension funds for state and local government workers are underfunded by $1 trillion dollars (or up to $3 trillion if more conservative investment assumptions are used. Health care liabilities are also underfunded by over $1 trillion dollars across the nation. 

(4) Decreasing tax bases and Volatile tax revenues- Income taxes have become increasingly volatile, especially since the economic crisis. Sales tax bases are eroding due to untaxed transactions; gasoline taxes are also eroding causing less money for transportation infrastructure.

(5) Local Government fiscal stress- The weak economy and reductions in intergovernmental transfers have put a lot of pressure on local governments. As a result spending on education, law enforcement and welfare programs have decreased. This threatens the overall economic and social status of the states. 

(6) State budget laws and practices- Lack of transparency and reporting have made it difficult for the public to gauge the critical nature of the budget situation. Using borrowed funds or other temporary ‘one-shot’ measures to balance the budget are not uncommon. These practices make fiscal stability extremely difficult. 

A summary of the main report may be found here. Links to the individual state reports and the full main report may be found in the previous link.

State budget crises have led to some serious consequences for the states’ residents. At least 46 states have decreased services provided, including some to the most vulnerable families, while more than 30 states have raised taxes to some degree and some quite significantly. During the recent economic downturn, when residents expected and needed services and benefits from states, they were unable to sufficiently provide them. Raising taxes to help balance the budget also puts the economic recovery at risk. 

Many states have to make some difficult decisions when trying to balance the annual budgets. In Texas, the state government cut $5.4 billion dollars in spending on education statewide. Part of the cuts involve having to lay off 25,000 public education workers, including 11,000 teachers. These cuts are occurring while student enrollment is increasing, by more than 80,000 per year. Texas is facing a two-year budget shortfall of $27 billion.

California last election passed new regulations raising the income tax rates for the wealthy, 10.3% for those earning over $250,000 and 13.3% for those earning over $1 million. The increases are expected to lower the budget shortfall, a projected $16 billion in 2012, down to $1.9 billion by the end of summer in 2013. But the tax hikes might cause an exodus of the wealthy from the state, who do not wish to pay the higher tax. The wealthy already feel they carry enough of the burden. The top 2 percent of earners, those over $450,000, pay 46 percent of the state’s taxes. Those earning over $1 million account for 25 percent of the entire state’s taxes.

This link shows all 50 states, estimated budget shortfalls, tax change percentages, and cuts to various programs. Minnesota from Jan 2010-March 2011: personal income tax increased 17%, corporate income tax increased 30.6%, and sales taxes increased 3.6%. 

The states unlike the Federal government cannot borrow large sums of money to balance their budget. This creates a difficult situation, especially after an economic downturn, where states scramble to find revenues or cut spending in order to avoid a shortfall. Citizens want states to have balanced budgets, but they might not always agree with the path taken to get to a balanced budget especially if services are cut or taxes are raised. Today many states are put in the seemingly impossible position of determining how to reduce deficits and without cutting too many services to residents or raising taxes too high.

Minnesota considers expanding state sales tax

If you haven't heard, Minnesota is confronting a major budget shortfall. Legislators are debating how to restructure revenue and expenditures to balance the state budget.

28.6% of Minnesota's general fund tax revenue comes from the state sales tax. This morning's Star Tribune included a lengthy article about the potential expansion of the state sales tax. Talk is about expanding the reach of sales tax, not raising the sales tax rate. Currently, food, clothing, and most services are exempt from sales tax.

Interestingly, expanding the sales tax to food, clothing, and services could raise enough revenue to cover the state's $6.2 billion budget deficit. The MN Department of Revenue estimates the potential sales tax revenue to be $7.5 billion for FY 2012-2013. This breaks down to:

• Groceries: $1.5 billion
• Clothing: $639 million
• Services: $5.4 billion

Problem solved, right? But as we discussed in class, sales tax is considered a regressive tax. Low and middle income households spend a higher proportion of their income on goods and services. Also, many of the services that would be taxed are legal and professional services provided to businesses as inputs to their final products (which are then taxed again when purchased by the consumer).

Naturally, grocers, the Mall of America, lawyers, and advertising agencies are opposed to sales tax expansion. What do you think?

Promo for PAYGO

We had a great discussion last night about the federal budget, especially around the Washington Post chart that showed the 2010 federal budget income and expenditures. There was a general sense of astonishment when it was clear that the amount of revenue coming in was only enough to cover the mandatory spending portion of expenditures. “How did we get here?” one of my classmates asked.

On the Washington Post website I found an additional chart that shows a historical look at federal deficits. According to the text on the chart, 2010 marked the highest annual gap between spending and revenue since WWII (as a percentage of the overall economy). Notice the trend in the deficit from 1980–1992, during the era when conservative political rhetoric began promoting tax cuts as a better way of life. Tax cuts may make for good campaign fodder, but it’s clear by looking at the chart that if you don’t take in as much as you spend, you’re going to get into trouble.

The first "pay-as-you-go" rule was enacted in 1990 (cbpp.org). "The pay-as-you-go rule, also known as PAYGO, is designed to encourage Congress to offset the cost of any legislation that increases spending on entitlement programs or reduces revenues so it doesn't expand the deficit. Under PAYGO, Congress must pay for such legislation by reducing other entitlement spending or increasing other revenues" (cbpp.org).

As you can see by the chart included in Professor Zhao's deck for week 2 (slide 18), this rule began to reduce the annual deficit beginning in 1993. From 1997-2001 we enjoyed annual budget surpluses. PAYGO was allowed to expire in 2002, and we've had a deficit each year since then. Although a new version of PAYGO was enacted in 2007, it doesn't have the same restrictions as the 1990 law. "PAYGO doesn't force lawmakers to make the tough decisions needed to reduce the deficit, but it restrains them from making deficits worse or undercutting deficit-reduction efforts they have already enacted" (cbpp.org). When added together, all the annual deficits make for a mountain of national debt. The so-called Great Recession and the cost of bailouts compound the problem.

I believe it is imperative for the federal government and the American people to come to terms with the fact that there is no free lunch. We need to pay today for the programs and services we need, value and use, and stop borrowing from future generations.

Budget Deficits and Educational Reform

In February of 2010 the Governor of Minnesota, Tim Pawlenty, submitted a supplementary budget proposal to the state legislature that, amongst other things, cut higher education spending by $47 million dollars. Faced with a $994 million budget deficitfor the current budget biennium , and massive $5.8 billion dollar projected deficit for the 2012-13 biennium, the Governor used his budgetary authority to take steps to solve the budget crisis. These budget cuts will result in tuition increases, layoffs of college and university employees, and even the discontinuation of some programs by a few institutions across the state. Cuts to higher education can be considered short-sighted when considering the already rising cost of tuition, which puts at risk both the competitiveness of Minnesota’s workforce in the coming years, as well as the state’s reputation as a leader in education.

Standing by his pledge to not raise taxes Pawlenty instead made cuts to higher education which were was shared between the University of Minnesota system that incurred a $36 million dollar cut, and the Minnesota State Colleges and Universities system (MnSCU) which had $10.5 million slashed from the budget. A year earlier Pawlenty cut $63 million dollars for higher ed., and also used the now unconstitutional power of unallotment to cut it further. Just a month after Pawlenty’s announcement, Minnesota State Mankato announced that 28 programs and 13 percent of the full-time faculty would be cut. St. Cloud State University also reacted by cutting 23 programs because “the state has limited the school's ability to raise tuition while at the same time cut money for higher education.” The University of Minnesota has been forced to respond with yet another tuition increase. These funding cuts and tuition increases come at a time that has already seen a historic rise in the cost of college tuition. The increase in tuition costs rose by 439 percent from 1982 to 2007 for a four year public institution. Meanwhile, state grants are close to running dry and unless more money is found “students who received an average of $1,700 last year will see a roughly $300 cut when they return to class this fall”.

All of these factors converge toward an uncomfortable, but seemingly unavoidable reality – college is becoming too expensive for everyone to have the opportunity to go. This hurts Minnesota both from an equity standpoint and also has long-term economic consequences as well. Minnesota has always valued educational opportunity for everyone that wants to go, and this has pushed Minnesota to become of the most economically developed states in the country. In a global economy, the demand for highly skilled, highly educated workers is higher than ever. Competing in the global market place requires a skill set for workers that is attractive for investment, and also one that increases the entrepreneurial capacity of the populace.

One possible solution would be to introduce a flexible tuition system, which alters tuition cost depending on the field of study. The proposed reform would seek to expand enrollment in programs – like math, engineering, finance and the sciences - that produced higher economic outputs by reducing tuition costs for these programs. The effects would be two-fold; first it would make college affordable for groups of socioeconomic classes have been increasingly excluded, and would also provide a pathway to success in a high demand field. Second, reform would expand future economic opportunity by training a new generation of highly skilled workers. Investing in human capital with a higher potential for long-term economic payout would improve MN budget outlook and increase entrepreneurial activity in the state.