State Deficit Crisis

Much attention has recently been paid to the out-of-control federal deficit.  But there has been a relative lack of focus on the crisis facing individual states, whose current enacted budgets account for almost $667 billion in general fund expenditures, with a collective $95 billion shortfall in 2013, as reported by the National Governors Association.

   In 2012, According to the Center for Fiscal Accountability:

   "As of March 2011, state and local government had an outstanding debt of $2.447 trillion.  Furthermore, state and local governments are facing a $3.1 trillion shortfall in projected pension spending-a shortfall of $21,500 for every U.S. household.  These liabilities are government worker pension promises that outpace the size of financial assets held by state and local governments.  State and local governments' unfunded liabilities comprise a massive 22 percent of GDP. However, the true $3.1 trillion cost of state and local government promises continues to be masked with accounting gimmicks."

   The American Legislative Exchange Council reaches a similar conclusion, stating that "Bloated state spending levels and trillions of dollars in unfunded government employee pension liabilities pose huge financial obstacles to economic recovery in the 50 states today...a vast majority of states have set themselves up to fail by spending beyond their means...Rapid growth in per capita spending, a lack of economic freedom, and weak balanced budget rules caused the budget gaps.  The recession just exposed these underlying problems...from 1985 to 2005, most state budgets doubled, and some tripled, in size. In the past decade alone, state and local budgets grew 90 percent faster than the private sector's Gross Domestic Product."

   The future for state budgets appears to be challenging. According to theStatelines report, "State of the States 2012," "As a result of last summer's deal to raise the federal debt ceiling, and the consequent failure of the Congressional 'super committee' to decide on budget cuts, states are bracing for automatic across-the-board cuts in education, social welfare and other programs for the upcoming 2013 fiscal year...More than 150 grant programs that send money to states could get cut...if...'sequestration' occurs...federal aid to states could drop by nearly $9 billion in fiscal 2013.' The Center on Budget and Policy Priorities is concerned that the conclusion of the federal stimulus program will place a heavy burden on state budgets.  A 2011 study entitled "Rich States, Poor States" stresses that "states that took federal stimulus money also agreed to 'maintenance of effort' provisions, which prohibit them from downsizing many programs going forward, compounding the problem." 

   Hovering all of the prospects for the future of state budgets is the specter of Obamacare.  The National Governor's Association believes that related unfunded mandates will impose new costs of $118 billion through the next decade.

   There are some bright spots. The National Conference of State legislaturesreports that fiscal conditions are improving at a slow pace, although tax collections remain well behind pre-recession levels. Four states, California, Missouri, New York and Washington, have reported budget gaps since the start of the prior fiscal year, an improvement over the 15 states with a similar issue the previous period.  The Rockefeller Institute reports that 45 states saw their revenues increase over the prior year.

Case Study:  New York State's 2012-2013 Budget

   In 2011, New York had the third highest cost of government per day in the nation, according to the Americans for Tax Reform Foundation.

   New York State's 2012-2013 $132.6 billion state budget, at first glance, appears to be a more rational approach to the "Empire State's" fiscal challenges than its predecessors.  It is, in fact, somewhat of an improvement, with a $135 million reduction from its immediate predecessor. A substantial part of that improvement results from the Governor's signature accomplishment, the elimination of automatic spending hikes.  And, for the second time in a row, it was completed in time, after years of embarrassment in which legislators in Albany (the state capital) couldn't come to terms until months after the legal deadline.    

   But a closer examination reveals that although some progress was made, the basic problems remain unaddressed.

   On the surface, (and widely reported in the media) the budget cuts spending.  In reality, however, the portion of spending paid for totally from instate revenue (that's state revenue minus federal aid) actually increased by 2%. 

   All parties to the agreement (and again, widely reported in the media) proudly proclaim that no new taxes are in the budget.  Unfortunately, that's inaccurate. 

   Last December, taxes on upper income earners were increased by a whopping $1.5 billion.  Even before that, New York was the worst state in the whole nation in terms of individual tax rates, and was also one of the five worst states for tax increases in the 2003-2010 period.   (New York already had the highest top marginal personal income tax rate in the nation, at 12.62%, and the worst economic outlook in the nation, as reported by the American Legislative Exchange Council) Its' major urban center, NYC, even has its own local personal income tax in addition to that imposed by the state.  There is, of course, a tendency to say that wealthier individuals can afford to pay the extra charge.  The problem is, they don't have to.  Many will "vote with their feet" and simply move to a lower tax state. From 2000-2009, it was the biggest loser in migration of all 50 states. As a result, New York has been losing Congressional representation.

  The state's onerous individual taxes are matched by the highest-in-the nation corporate tax rate of 15.95%, reports A.L.E.C.

  Political pandering is present in the budget.  One unacceptable gimmick relied on is the deferring of pension costs, in the indigestible amount of over $780 billion, for a decade.  This is an example of some Albany's most irresponsible practices.  It does, however, allow legislators to keep public service employee unions at bay-and not coincidentally, prevents those unions from attacking incumbent legislators.

   To gain the support of New York City's Mayor Michael Bloomberg, who has been generous with contributions to both Democrats and Republicans, funds are dedicated to a so-called "Close to home" initiative that allows NYC to take control of at-risk youth; currently, these young people are housed at less expensive upstate sites.  There is no convincing explanation of what benefits this provides, other than appeasing the mayor and other local NYC politicians.

  Education spending is increased, despite the fact that New York already spends far more per-pupil than any other American state.  According to the latest available statistics, Albany and local budgets provide $18,126 per student, dwarfing the national average of $10,499. Unfortunately, for all that extra funding (even accounting for the state's higher cost of living) there is no indication that New York students' dismal performance has benefited. One unacceptable gimmick the budget relies on is the deferring of pension costs, in the indigestible amount of over $780 billion, for a decade.  This is a throwback to the some of the worst practices Albany has used.

   

   Despite New York's precarious economic condition, Albany continues to use taxpayer dollars to fund "pork barrel" projects (as reported in The Wall street Journal) and legislators continue to use taxpayer dollars in "official" newsletters that amount to little more than thinly veiled campaign literature.

Remedies

   It is manifestly evident that states cannot continue on the path that led to their current precarious position.  The American Legislative Exchange Council notes that a number of states have "reset" their budgets to 2007 or 2008 levels to accommodate the new financial reality.  Both liberal and conservative legislators acknowledge that fiscal solvency cannot be achieved with business as usual spending, particularly in the area of state employee costs. 

   The Heartland Institute is advocating a 10 point program to address fiscal problems in the states:

1. 1.     Keep taxes low.  The evidence is clear and has been for many years: High taxes hinder economic growth and prosperity.
2. 2.     Don't penalize earnings and investment.  Taxes on earnings and investment income are particularly harmful to economic growth.
3. 3.     Avoid 'sin' taxes.  Taxes on specific goods and services are often unfair, unreliable and regressive.
4. 4.     Create a transparent and accountable budget.  Focus attention and resources on providing those services that are the core function of state government.
5. 5.     Privatize public services.  Privatization is a proven way to reduce government spending while preserving or improving the quality of core public services.
6. 6.     Avoid corporate subsidies.  Subsidies to corporations and selective tax abatement are questionable politics and bad economics.
7. 7.     Cap taxes and expenditures.  A tax and expenditure limitation protects elected officials from public pressure to spend surplus tax revenues during good economic times.
8. 8.     Fund students, not schools.  States and cities that have experimented with school choice have seen gains in academic achievement.
9. 9.     Reform Medicaid programs.  Spending on Medicaid can be brought under control without lowering the quality of care received by Medicaid patients.
10. 10.  Protect state employees from politics.  State and local government employees should be prohibited from deducting funds used for political purposes from the paychecks of public workers.

   For far too long, state governments have employed every accounting device to provide popular but unaffordable benefits and services.  Governors and legislators have placed their own careers over the fiscal health of their jurisdictions. Their ability to do so any longer has come to an end, and painful but practical steps must be taken.