Fiscal Woes of States: Maine’s budget problems not unique
(from Maine Townsman, December 2002)
by Michael Starn, Editor

        Maine is not alone when it comes to the fiscal woes of state government.  That statement is substantiated by two reports recently published by three prestigious national associations of state government officials.  These organizations gathered and analyzed data from state officials for fiscal years 2002 and 2003.

       In the Fiscal Survey of States, the National Governors Association (NGA) and the National Association of State Budget Officers (NASBO) reported that 41 states had collected less revenue in fiscal year 2002 than they had originally budgeted, and 37 states reported cutting their FY 02 budgets by a total of $12.6 billion.  In FY03, the Fiscal Survey says that state governments collectively increased taxes and fees by $8.3 billion and have made, or are planning to make, spending cuts of at least that much to enacted budgets.

       The National Conference of State Legislatures (NCSL) concurs that the majority of states have discovered gaps in their FY 03 budgets, and are revising revenue projections, making spending cuts, or preparing to take remedial budget action.  NCSL estimates the current (mid-November) FY 03 state budget gap at approximately $17.5 billion, nationwide.

       NGA’s and NASBO’s Fiscal Survey of States provides information from 49 states (Florida did not participate) and the NCSL State Budget Update: November 2002 analyzes data from 46 statesThe NGA and NASBO data comes from the administrative branch of state government, whereas NCSL’s State Budget Update is based on information collected from legislative fiscal directors.

       Both reports conclude that most states are indeed facing severe financial problems.  During the two most recent fiscal years, most states’ revenues failed to meet projections and expenditures exceeded budgeted amounts.

       On the revenue side much of the problem has to do with the sluggish national economy and plummeting stock market.  Income tax revenues, both individual and corporate, have been especially anemic.  Most state budget officials were blindsided by the sudden and steep drop in income tax revenue from capital gains (stock losses).

       At the same time, expenditures have been hard hit by rising health insurance costs for state employees and outlays for Medicaid. During the last couple of years, state expenditures for K-12 education, corrections, and most recently public safety have been significantly higher than the rate of inflation.

       Compounding the fiscal problems facing the states is that fact that most of them have used up their Rainy Day funds and one-time monies, such as the tobacco settlement funds.  The next round of budget-balancing choices will be much more painful for governors, legislators, state employees and citizens.

FY 02 Budget Fixes

       As happened in Maine, much of state governments’ fiscal woes started in FY 02 when revenues started coming in way under projections. According to the Fiscal Survey of States, the three primary sources of tax revenue for states – sales, individual income, and corporate income – were collectively 9.7 percent lower than what had been budgeted.  States that rely heavily on income taxes were hurt the most, with individual income tax collections missing their targets by 12.8 percent and corporate income tax collections coming in a whopping 21.5 percent below projections.

       Because states didn’t know about the revenue shortfalls until after budgets were adopted, most of the fixes in FY 02 were limited to spending cuts, drawing from one-time sources of money (Rainy Day funds, tobacco settlement monies), or expenditure "pushes" into the next fiscal year. 

       Across-the-board cuts in state agency spending and tapping into Rainy Day Funds were the most popular FY 02 budget fixes.  According to the Fiscal Survey, 26 states used one or both of these budget fixing approaches. Personnel cutbacks were less frequently used, but in some cases states did institute hiring freezes, furloughs, and layoffs.

       Some of the across-the-board cutting allowed certain programs to be exempted.  Debt service, K-12 education, Medicaid, public safety and aid to local governments were the least impacted areas for state spending cuts.

FY 03 Budget Fixes

       States had more time to prepare for budget problems in FY 03, but that didn’t make matters any easier.  Because the FY 02 budget fixes had exhausted state surpluses and most of the available, money-shifting gimmicks, state officials were forced to consider new taxes and serious program cutbacks.

       While new taxes and fees were on the table for FY 03, they clearly were not the first choice for state lawmakers. But, when faced with the inevitable – increasing taxes – state lawmakers invariably go toward the more politically-acceptable taxes.

       Cigarette and tobacco tax increases accounted for $2.9 billion (35 percent) of the $8.3 billion of new taxes in FY 03, according to the Fiscal Survey.  But, sales and income taxes were not spared entirely in FY 03.  Collectively, states increased sales taxes by $1.4 billion, corporate income taxes by $1.2 billion, and personal income taxes by $1 billion.  The remaining $1.8 billion (of the $8.3 billion) came from increases in alcohol, motor fuels and miscellaneous taxes and fees.

       A total of 24 states, according to the Fiscal Survey, enacted some type of tax or fee increase for FY 03.  Seventeen states increased sales taxes, 16 enacted personal income tax increases, and 15 changed corporate income taxes to generate more revenue.  The most states, 19, increased cigarette and tobacco taxes.

       New revenues alone have not been enough to fix the FY 03 state budget problems.  According to the NCSL report, the aggregate gap for FY 03 state budgets was $49.1 billion at the initial stages of development.  Using the Fiscal Survey’s $8.3 billion number for new taxes, it would mean that a structural gap of over $40 billion had to be filled with spending cuts between when the budgets were first being put together and now.

       Another way of looking at “structural gaps” is as a percentage of state budgets. Nationally, the FY 03 budget gap of $49.1 billion is about 10% of the aggregate amount of state budgets, approximately $500 billion.  In Maine, the “structural gap” for fiscal year 2003 was estimated at $240 million, which is roughly 10 percent of the annual state budget ($2.7 billion).

       The severity of state budget problems in FY 03 can be measured by comparing the “budget gap” to the General Fund budget. NCSL compared the budget gap to General Fund in two different ways: first, the initial, projected budget gap was compared; and then the most recent (November) budget gap was compared.  Initial budget gaps ranged from 0% to 35%.  The current budget gaps range from 0% to 20.6%.  The national average for the initial budget gaps was 10.1%; the average for the most current budget gaps was 3.6%.

       According to the NCSL analysis, Maine was at 9% on the initial budget gap and 5.8% with the latest reporting.  Alaska, Nevada and Colorado had the highest, recent budget gaps at 20.6%, 10.5% and 9.2%, respectively.

       From recent newspaper articles, it appears that the NCSL report may have understated the current budget gap.  California, for example, was listed by NCSL as having a current budget gap of $6.1 billion.  A December 6th article in the Orange County Register reported that Governor Gray Davis was proposing $10 billion in cuts to offset the state budget deficit.  Massachusetts news reports pegged the structural deficit in that state at $2 billion.  For the upcoming fiscal year, the state of New York is reportedly looking at a budget deficit in the $8 billion range (on a $90 billion budget).

Future Budget Crises

       Few observers of state government believe that when the FY 03 budgets are fixed, it will be the end of their budget problems.  In Maine, early projections are that the State is facing a structural budget gap of $800 million to $1 billion in the next budget cycle (FY 04-05), or roughly $400-500 million for each year. By comparison, this figure is more than twice what the budget gap was for FY 03.

       Respondents from 38 states in the NCSL survey said they were “pessimistic” or “concerned” in their outlook for General Fund revenues through the end of FY 03.  Neither of the reports cited in this article discussed economic conditions beyond FY 03; however, for the reasons outlined above, it would be safe to say that most state officials are also “pessimistic” or “concerned” with respect to their state’s financial situation in FY 04.

       Another factor thrown into the concern over state budgets is that the November 2002 election produced a number of new faces in the executive and legislative branches of state government.  Many of these new governors and legislators ran with a “no new taxes” pledge.

       At the same time, citizens are showing their disfavor regarding prospective tax increases. Forty-five percent of Massachusetts residents voted this November to eliminate the state’s individual income tax.  While the measure didn’t pass, the close vote clearly got the attention of the state’s political leaders. Also in November, voters in the states of Washington and Virginia rejected proposed sales tax increases to pay for road improvements.  In Oregon, after the legislature’s impasse on resolving the state’s budget problems, state lawmakers decided to put a referendum question before voters in January asking them to approve a temporary income tax hike – both personal and corporate.  In early polls, it appears that the majority of  Oregon voters have little interest in raising taxes, even temporary ones.

       “I thought we’d see a lot more movement toward tax increases once this election was over and legislatures convened in January,” said Scott Pattison, executive director of NASBO.  But, now I don’t know.”

       In the aftermath of FY 02 and 03 budget fixes, Governors and state legislators are also looking for non-tax remedies for future budgets.  Just like state-run lotteries in the early and mid-1980’s, many states are looking at expanding legalized gambling as a way to raise money without raising taxes.

       In Ohio, a proposal to allow slot machines at race tracks is drawing heated debate from the state’s political leaders.  One Ohio state legislator was reported to say, “Politicians want to do the easy thing (gambling)…  they don’t want to have to think about cutting spending and/or raising taxes.”

       The quote pretty much sums up how state legislatures have responded to the fiscal crises to date.  Unfortunately, there are few "easy things" left, so legislators will be forced to think about cutting spending and/or raising taxes.