Wishing and Hoping Are Not Best Budget Practices

Charlie Arlinghaus

March 20, 2013

As originally published in the New Hampshire Union Leader

The state budget is a mess. So what’s new? House budget writers are working to make sense of that mess before Friday. Their budget will be different from the governor’s but likely leave a lot of work left to be done.

In New Hampshire, governors present a budget more or less fully formed to the legislature. Then the House of Representatives takes six weeks to develop their own draft, plug any holes in assumptions, and then pass that draft to the state senate for further work.

This year, the House had a little less time in some areas. The governor included quite a few policy choices in the narrative part of the budget. But while the spreadsheet part of the budget, the numbers, was released right on time, The narrative was not released until three weeks later on March 5 (oddly, the state website lists it as being introduced a week before that even though it wasn’t available to anyone).

That time lag left the House just three weeks to whip together its own draft of the budget which needs to be ready by Friday.

From the beginning, the House was in a difficult spot. The governor’s revenue estimates used to be balance her budget were a little beyond what Ways & Means (the tax committee) had been using for its own estimates. In addition, a few of the revenue sources were going to require some work even to get them through the House (which, unlike the Senate, has a majority from the governor’s own party).

Although the governor hopes for $80m for the general state operating budget from a casino, that bill started in the senate. It won’t be considered by the House before they have to pass a budget and the version that passed the Senate doesn’t allow any of the proceeds to be spent in the general fund. So the House wisely proceeded without it.

All in all, they will end up available revenues about $135 million below the governor’s level. That necessitates not spending in some areas or making very optimistic assumptions about spending.

Keep in mind, there are two different kinds of spending authority in the New Hampshire budget. One is a limit: for example, you may not, in this department, spend more than $1.4m on salaries. The second kind of spending is an estimate of an aid program. For example, people receive Medicaid so long as they qualify. We estimate the approximate caseload for budgeting. But if we have more people eligible than we estimated, that money is still spent. It becomes important to estimate accurately.

Current reports on assumption-making are troublesome. Budget writers projected early in the week that expanding Medicaid will save $500,000. By mid-week they found it will cost a few million. Instead they have decided to save money not with a change by projecting their will be fewer caseloads in Medicaid and other entitlement type programs. That hopeful assumption would “save” $12 million.

Sometimes, new information makes good things possible. But remember that we ran into trouble a half dozen years ago because budget writers in need of money produced optimistic and very unrealistic caseload estimates. Sometimes hope makes your job easier than realism and needs to be guarded against.

Also worrisome is a warning from veteran reporter Kevin Landrigan that some savings might be achieved through exaggerated lapse estimates. Every year, as part of the balancing process, we estimate how much money will remain unspent in each account – lapse in budget terms. Usually, it’s a couple percent but if you estimate that number very high, you can finance a few tens of millions of dollars and only be forced to pay the piper more than a year down the road when you can easily blame some economic scenario or another.

Sometimes new information changes numbers. The state’s Treasurer has aggressively refinanced the state’s general fund debt over the last six years getting New Hampshire rates that are not just low but even lower than our bond rating would suggest possible. Information based on the November offering which didn’t make it into the governor’s budget has allowed the House budget to assume we will spend about $8 million less on debt payments than the governor assumed.

Not that I’m opposed to keeping an eye on debt. I’ve been concerned for a few years about the massive run up of debt from 2007 through 2011 – an increase equal to that of the prior twenty years. While debt leveled off the last two years – increasing just 2% after a 22% increase the prior two years – we need to borrow less each year than we pay off to reduce debt service payments. While interest rates are at an all-time low, they won’t remain that way forever.

The House budget is only a first step. But even at this point, we need to be cautious, make realistic estimates, and not let hope keep us from making difficult but necessary decisions.

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The Highway Fund Diversion: What Does Safety’s Cut Pay For?

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March 2013

By Joshua Elliott-Traficante

As detailed in an earlier piece on the Highway Fund diversion[1], the Department of Safety receives a sizeable portion of the revenue raised by the state Highway Fund. Historically the Department has received roughly between 24% and 32% of the amount collected, net of block grants to the municipalities.

This diversion, however, is completely constitutional. In 1938, the New Hampshire Constitution was amended, requiring all taxes and fees related to roads, fuel, and motor vehicles be dedicated to highway construction and maintenance. It was passed after attempts were made in the previous session to divert highway taxes to other purposes. While the purpose of the amendment was to “prohibit the use of motor vehicle taxes and gasoline taxes being used for any purpose but for highways,” the language specifically allows funds to be spent for “the supervision of traffic thereon.” That carve out authorizes funds, now segregated in the dedicated Highway Fund, to pay for things such as the state troopers who patrol the highways.

Contrary to popular belief, it does not all go to the State Police, which accounts for just under half of the Highway Fund money spent at the Department. Rather, the diversion funds pay for a number of activities, which can be broken up into three categories: Administrative, Motor Vehicles and the Division of State Police.

Administrative: $21.26 Million

The largest single expense under the Administrative grouping is the transfer to the Department of Information Technology (DOIT). DOIT is unique in that rather than receiving appropriations directly, it is funded nearly entirely through transfers from other state agencies. The Department of Safety transferred $8.79 million in FY13 in Highway Funds to DOIT, which accounted for nearly 87% of the Department of Safety’s total transfer.

There are a number of back office functions performed by the Department of Safety that are paid for by the Highway Fund such as the Road Toll Collection and Audit and the Office of Policy and Planning among nearly a dozen others. Combined they total $7.83 million.

General Personnel Costs account for $4.2 million in Highway Funds, which goes largely to retiree health insurance and pension costs.

Motor Vehicles: $18.89 million

At $16.65 million, the largest piece of this category is the Division of Motor Vehicles itself, which handles automobile titles and registrations as well as driver licensing. Roughly 98% of the DMV’s total budget came from the Highway Fund. The Bureau of Hearings, which hears license suspension cases and appeals accounts for the remaining $2.2 million spent in this category.

State Police: $36.74

At $27.4 million, the vast majority of the Division of State Police’s portion of the Highway Fund revenue goes to pay for the Traffic Bureau which is tasked with policing the state’s highways and roads. An additional $5.11 million pays for Enforcement.

However, not all of the money spent at the Division of State Police pays for troopers on the road. Both the Forensic and Toxicology Labs receive 100% of their funding from the Highway Fund, at a cost of $3.45 million. Rounding out State Police is Administrative Expenses, coming in at $780,000.

Click here for a pdf version of this paper

[1] http://www.jbartlett.org/charting-the-highway-fund-diversion

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How will Gov. Hassan deal with the existing budget deficit?

Charlie Arlinghaus

March 13, 2013

As originally published in the New Hampshire Union Leader

New Hampshire’s budget often requires action to avoid a deficit. The budget ending this June 30 is no exception. We have a deficit, and the governor can and should act today in the same manner as all of her predecessors. Spending cuts now are both necessary and preferable to waiting and hoping.

New Hampshire’s last two-year budget is in its final four months. At this point we already know there is a revenue shortfall that would leave a deficit if unaddressed. The immediate culprit is the Medicaid enhancement tax. That tax on hospitals will raise $34 million less than the budget counted on. Other revenues are on track to be about $10 million less than budgeted.

The total shortfall amounts to only 2 percent of the operating revenues, but it has to be addressed. This isn’t Washington. By statute, we have no choice but to address the problem. Unlike what passes for a federal government, we aren’t allowed to ignore the laws of fiscal reality.

This sort of thing happens all the time, so there is ample precedent. In fact, over the last 30 years each of Gov. Hassan’s predecessors has dealt with budget difficulties. Each of them chose the prescription in state statute: curtailing current-year spending.

Each governor issues an executive order (most issue them multiple times) that cuts existing spending authorization. In the most analogous situation, Gov. Craig Benson took office and immediately found a potential deficit in the end of his predecessor’s budget. This is not unusual in a budget that estimates revenues two years in advance.

Benson acted immediately. On Jan. 15, 2003 (six days after being sworn into office), he froze certain categories of spending and state hiring. On April 16, he issued an executive order cutting $19 million from 31 agencies.

Benson’s action was not unusual. He did the same thing in each fiscal year he was in office. His predecessor, Jeanne Shaheen, issued similar orders in each of her final three fiscal years. Steve Merrill, Judd Gregg and John Sununu did so as well. John Lynch issued three such executive orders in a nine-month period in 2008.

The state law not only contemplates this, but seems to demand it. The state budget law says that if there is a revenue shortfall “the governor may, with prior approval of the fiscal committee, order reductions” necessary to balance the budget. Getting the approval of the Legislature’s fiscal committee helps serve as a check on capricious action, but in recent history no spending cut has been denied.

In the law and the common actions of her predecessors is a prescription for Gov. Hassan that is different from her early actions.

So far, the only action to close the deficit she has suggested is to take money from dedicated funds and use their fees for general purposes. In fact, her budget would grant her the authority to undedicate any fee and sweep the money into the general fund without any specific approval or oversight.

Her predecessor did this in 2010, sweeping 16 dedicated funds into the general fund. But Gov. Lynch proposed specific funds and specific amounts, which were then debated in a special legislative session and passed by the full Legislature. Bringing in the Legislature to debate which funds are to be used and give some sort of approval is somewhat better than granting the governor carte blanche to undedicated any fee she sees fit.

Some fees which might not otherwise be allowed by state law are passed because the funds are dedicated for the express purpose of implementing a regulation or paying for certain activities the fees cover, or they are used for enforcement. Legal theory suggests that many of these fees would be illegal if the funds weren’t used for the express regulatory purpose.

So, in general, undedicating dedicated funds is a bad idea. Doing so without oversight is worse.

The bigger problem is that a $30 million to $40 million deficit ought not be solved strictly on the revenue side. Every other governor has solved his or her problems on the spending side. Gov. Hassan should follow suit.

This isn’t a radical thought. It’s something Jeanne Shaheen and Steve Merrill both did for each of their final three years in office. It’s something Craig Benson did twice and John Lynch did four times, and how often did they agree?

There’s a real problem with the Medicaid enhancement tax. It is causing a $100 million to $120 million problem in the governor’s proposed budget and a $35 million deficit in the budget just ending.

The governor should call her department heads today and ask them to help find savings while there’s money left to save. Every governor does this. It’s the management part of executive branch management.

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Current Law Will Stop Diversion of $28 Million From Highways

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Charlie Arlinghaus

February 27, 2013

As originally published in the New Hampshire Union Leader

The state’s budget laws are often ignored. The general public knows this and so routinely believes that, no matter what they hear, some wool is being pulled over their eyes. This skepticism is strongest in the area of transportation where we presume diversions and shell games are routine. The details often prove the public right. This year’s budget includes a diversion of $28 million of supposedly dedicated highway fund revenue in violation of a law that is only a few years old and already being ignored.

It is commonly accepted wisdom among the public that dedicated highway funds are routinely diverted to non-highway purposes. The constitution was amended in 1938 to provide that taxes and fees related to motor vehicles be used for no purpose other than building and maintaining highways and supervising traffic thereon.

This ironclad dedication exists with no other tax. But for as long as it has existed, people have believed that gas taxes were being diverted like a slush fund to other purposes. It became commonplace to rail against raiding the highway fund (where the dedicated funds are meant to reside). Nonetheless as much as 40% of funds were diverted under vague rationale – if you try hard enough, almost anything can be described as sort of, tangentially related to taking care of roads.

In 2008, however, legislators acted. Republican Rep. Ken Weyler and Democratic Rep. Marjorie Smith, between them chair of the House Finance Committee for six years, sponsored a highway spending cap. A minimum percentage of total gas tax and other highway fees had to be spent within the department of transportation — phased in until the percentage reached 73%. A maximum of 26% could be spent at Safety (on state troopers to supervise traffic in theory) and just 1% could be spent anywhere else.

It was a sensible law which I described as the best piece of legislation of 2008. I was critical of the 2011 budget for suspending the law temporarily even though legislators came close to the target. I worried that suspending the law would send a message that ignoring it is common practice. Ignoring it once makes it easy for legislators to smile at you as if you’re naïve and say “oh that! No one ever does that.”

Sure enough, a tiny diversion becomes a big one. Rep. Lynne Ober, a member of the finance committee had the legislative budget office check on compliance with the law in the governor’s proposed budget. She found that far from reaching the 73% minimum threshold, the budget misses that target by $28 million over the biennium.

In other words, the budget diverts $28 million of dedicated highway taxes and fees to non-highway purposes. Ober is an opponent of the gas tax and contrasted the diversion with the state’s urgent infrastructure needs: “She [Gov. Hassan] should have obeyed state law and put those needed funds into DOT for roads instead of trying to raise the gas tax.”

Ober’s cynicism about the diversion of funds highlights the struggle lawmakers have to earn people’s trust. Gas tax supporters want to raise an additional $120 million each year in dedicated money. But if the $120 million is desperately needed and absolutely, positively won’t be diverted, why is $28 million being diverted with only Rep. Ober raising the alarm?

Gas tax opponents may want the law observed to limit the need for more revenue. But gas tax supporters should also want the law followed to ensure existing revenues are spent as they are supposed to be and thereby create trust.

This diversion may be the tip of the iceberg. The governor’s budget summary includes a line in a spreadsheet indicating the state will raise $29.5 million for its general fund from “dedicated funds/other initiatives.” Which dedicated funds will be undedicated? What other initiatives? We’re not sure yet.

That explanation will wait for the arrival of what’s called HB2, the appropriation language part of the budget. That language required by law by February 15 hasn’t come and is often many weeks late. The law is routinely ignored because other people ignored it first and so we wait for explanation. Similarly, dedicated funds are not supposed to be undedicated but they routinely are so we’re expected to turn a blind eye.

The highway spending protection law is in its infancy. Whether it will have the force of law or become routinely suspended is probably in the hands of the current legislature.

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The Governor’s Budget is Incomplete but Worrisome

Charlie Arlinghaus

February 20, 2013

As originally published in the New Hampshire Union Leader

The governor’s budget address last week, while surprisingly incomplete, did reveal some troubling trends as well as a few pieces of good news. There are a lot of details we can’t figure out until she finishes the budget detail (which was due last Friday) but we do have a sense of the priorities she has set.

The governor is required by law to present a budget no later than February 15 of her first year in office. The components of that budget are spelled out by law but they boil down to one document which is the numbers – a sort of giant spreadsheet – that becomes House Bill 1 and a second document which includes all the explanations and legal language – a narrative document that explains the spreadsheet – that becomes House Bill 2.

It was thought that both were required to be presented to the legislature by February 15. The current governor decided to break new ground and not deliver the narrative portion, House Bill 2. The lack of narrative means we can’t fully evaluate the details of many of her proposals until that part of the budget is complete. However, we can infer things from the numbers and her speech.

Budget analysts are most concerned with the money raised by state taxes and fees, the operating budget called the general fund. The governor appears to moving about $25 million in what’s called board and care revenue offline. It has been for decades counted as general fund and will no longer be listed that way. Relabeling it, whether a good or bad idea, has the effect of making the general fund appear smaller than it was and makes the percentage increase seem smaller

For comparison, if you account for that change, general fund increases over the two years of the budget by 10.2% rather than the 7% or so claimed.

The state’s general fund budget can be divided into two halves: everything that we do at Health and Human Services and everything else. Over the two years of the governor’s budget, general fund spending in the almost-half of the budget that is the department of Health and Human Services rises by just 1.3%. The other, slightly-larger half of the budget increases by 13.9%. Half of the increased spending is a larger grant to the community colleges and university.

Since Republicans cut HHS by dramatically less than they cut the rest of the budget last time, perhaps this is the governor’s way of evening things out. She promised to restore the spending cuts contained in the budget of 2011. Her budget ends up 6% higher than the year before that supposedly draconian budget. So at least in the aggregate she restored the spending and then some.

To pay for all that new spending, there is good news and bad news on the revenue front. The good news is that the base the governor uses for her revenue estimates, while optimistic about avoiding a recession, is reasonable and not wildly optimistic.

The bad revenue news is that the additional revenues the governor banks on getting are wildly speculative. She presumes casino gambling will pass though the bill won’t even have a hearing in the House before they must pass the budget. She counts on a bill passing bids being solicited, a winner selected, and receiving the first $40 million of an $80 million franchise fee being received all within twelve months of the budget passing.

All told, half the new spending in her budget is paid for with the casino revenues. Wherever you stand on gambling (and personally, I’m agnostic about it), we probably all agree that doing or not should be done for policy reasons not just because you don’t know where else to get the money.

The other big concern about the budget is what happens to the current year that ends June 30. As readers of this space know, we face a shortfall of $25 million that must be closed. I’ve advocated spending cuts for months now. We don’t have the language detail for this but a spreadsheet in the governor’s proposal calls for $29.5 million in dedicated funds/other initiatives. It sounds as if she intends to take dedicated money and spend it instead on the general fund. But we won’t know for sure until she details these proposals and completes her budget.

The budget is still, unfortunately incomplete. But the early signs are troubling.

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A state budget preview; revenue estimates key

Charlie Arlinghaus

February 13, 2013

As originally published in the New Hampshire Union Leader

Today, the governor presents her budget to the Legislature. Every program and priority of the administration is part of the budget. The discussions and negotiations over those priorities include dozens of decisions that must balance revenue estimates and spending priorities.

The most important and difficult debate will occur over revenue estimates. The federal government may have carte blanche to spend as much money as it can print or borrow, but spending at the state level is limited to the amount lawmakers estimate they will be able to raise. For decades, spending committees anxiously await the result of the Ways and Means Committee’s prognostication of how much each tax will raise.

Naturally, this places some undue pressure on the tax estimators to be optimistic and thereby allow more money to be spent. Yet if they are inaccurate then difficult emergency budget cuts have to be put together halfway through the budget process. Cuts will come not necessarily from lower priorities as much as what is easily cut regardless of importance.

The most important part of the governor’s address, then, will be her estimate of revenue. As a starting point, we have the official government estimates required by law to be compiled at the end of 2012. State officials at that time estimated that basic revenues (regular taxes exclusive of the Medicaid enhancement tax) for the fiscal year beginning July 1 would be almost identical to the current fiscal year, with an additional $21 million (on a base of $2 billion) in the second year.

Those estimates, like other estimates at the end of the year, presumed modest economic growth in the two years ahead. Since then, the federal government announced that GDP actually contracted at the end of 2012, raising significant fears of a recession.

If growth is flat or perhaps negative, then the end-of-the-year estimates are too high to use in the budget. Certainly to raise them higher than the original state estimates will require a great deal of explanation and generate a great deal of skepticism. Look for finalizing this number to be a central part of the budget debate for months.

Coupled with how cautious revenue estimates are is the question of whether the budget will include potential revenue from things like gambling. Gambling is likely to be among the most controversial issues debated this year. It probably can’t generate any revenue until the second year of the budget, and then only for franchise fees.

The gambling debate could go either way. So any programs funded with those receipts are on a shaky foundation. Any budget should make clear which specific line items are attached to that prospective funding. If gambling didn’t go through, those programs would not go forward.

Perhaps revenues will allow for slightly more than the $20 million in additional funding the end-of-the-year estimates call for. But it would have to be much higher for anything new to be funded.

Although debt flattened out over the last two years, the previous budget saw state general obligation debt increase more in four years than in the previous 20. The debt service on that higher number must be paid. That means an additional $17 million in the next biennium.

After that, simply doing exactly what we did last year will demand an additional $237 million according to department heads. Other priorities include special education aid, which is $20 million short of current law, and an additional $20 million or more in local aid programs that have been suspended. The education and hospital priorities many candidates talked about in the last election would cost an additional $21 million for the community colleges, $94 million for the university system, and perhaps $100 million for hospitals.

Those numbers add up to more than $500 million in additional spending when lawmakers probably only have $20-$30 million additional available.

So if your local state representative looks a little stressed, you’ll know why.

 

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State Should Beware of the Certainty of Federal Broken Promises

Charlie Arlinghaus

February 6, 2013

As originally published in the New Hampshire Union Leader

As the governor and legislature struggle to put together a balanced budget, regulators are consider two budget dangers: helping the federal government regulate the new federal health law (the health care exchange) and a costly expansion of Medicaid. Lawmakers should move cautiously and know that the federal government is eager to shift costs to New Hampshire taxpayers when it has the chance.

The centerpiece of the federal health care law (ObamaCare or PPACA depending on your mood) is the Exchange. An exchange is the structure used to enforce all the rules of the 2000 page law, regulate insurance carriers, and – perhaps – offer subsidies. In 2012, the state put into law a prohibition against New Hampshire operating the regulatory structure and assuming the financial risks of implementing federal regulations – essentially telling the feds: you’re writing the rules, you raise your own taxes and fund your own bureaucracy.

But the federal government was counting on us. It doesn’t want to implement the law itself. In fact, at this point it appears unable to do so. So they came up with a new scheme – a so-called partnership exchange. They’ll do some of the stuff and ask the state to do most of the public functions. In exchange, they absolutely, positively promise that they will pay for it. You guys do stuff and we’ll pay you for it – blank check, unlimited budget, really, we promise.

The governor and her regulators are going move on this without legislative approval. We need to be careful that whatever they do by executive fiat, the state treasury is not encumbered. The federal employees managed by state regulators should not be mixed into our pathetically funded retirement system as if they’re state workers, should not be promised employment beyond any federal funding, and we need to make sure we’re not stuck floating money that never gets reimbursed.

When the funding goes away, so should the task. Period. All departments used to have sunset clauses. Unfunded ones definitely need them. To be fair to the employees, they need to understand that this is a temp job so they aren’t misled.

A more dangerous situation is the potential and unaffordable expansion of Medicaid. A provision in the federal health care law had originally promised that the feds would pay 100% of the costs of expanding Medicaid for the first few years and then 90% after that.

If the feds kept their promise – and they are already retreating from it – that would cost the state $85 million by 2020 according to supporters of the expansion. Never mind that the state budget doesn’t have an extra $85 million.

One big concern is that the federal government can’t be trusted. After a year of everyone waxing poetic about what a great deal this was, the administration began a retreat. As part of an early budget submission, the Obama administration originally proposed switching to a “blended rate” as a cost savings mechanism.

The left-wing Center for Budget and Policy Priorities criticized the bland rate as an attempt to “shift significant costs to the states.” Well, of course. That’s how the feds work. Some more naïve policymakers actually believed the promise to “cover 100%” of the costs.

Federal budget writers often start off with good intentions. I think someone back in 1975 really, honestly thought they were going to pay 40% of special education costs. The fact that they never did is disheartening to that one idealist. The rest of us, however, have learned lessons.

Obama’s blended rate is not currently on the table. He beat a temporary retreat. But I’m not breaking news when I tell you that there is significant budget pressure in Washington. Shifting a little bit here and there is a federal goal.

They make nice promises on the exchange and on Medicaid Expansion. They even mean some of them. But reluctantly, with great sadness, they decide that they will fund most of but not all of what they promised. They tell themselves it’s still a good deal and that they had the best of intentions. Besides local taxpayers can afford it more than the nearly bankrupt federal government can.

It’s already started happening. The administration did us all a favor by floating a retreat trial balloon. It warned us. The money they’re promising? They can’t deliver even if they want to and they don’t exactly want to.

There are reasonable policy debates to have on both serving a contractor for the feds on an exchange and on expanding Medicaid coverage. But don’t pretend the money’s going to be there. We know it isn’t.

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IL Bond Rating Downgrade over Pensions should be a Warning to New Hampshire

Josh Elliott-Traficante

With Illinois preparing to go to market with $500 million in general obligation bonds, the big three bond rating agencies, Moody’s, Fitch, and S&P have all issued their ratings of the new debt. Moody’s ranked the bonds as A2, Fitch at A and S&P at A- with all three agencies rating the outlook on the state as negative. This downgrade put Illinois’ bond rating as the lowest in the country. In comparison, the ratings on New Hampshire’s last bond issue were Aa1, AA+ and AA respectively, each 5 notches higher than their Illinois counterpart.

While seemingly archaic financial scores, bond ratings have a large impact on how much the state has to spend in interest payments over the life of the loan. Illinois State Treasurer Dan Rutherford has estimated that Illinois’ poor rating on the latest tranche of bonds will cost the state nearly $95 million.

Much has been made in the past few years over the dysfunction of Illinois’ finances and the legislature’s inability to get the state’s fiscal house in order; however, rating agencies are taking a closer look at another factor that weighs heavily on state finances: pensions.

All three of the rating reports of Illinois latest bond issue underscore the desperate need for pension reform.

From Fitch:

The rating watch negative reflects the ongoing inability of the state to address its large and growing unfunded pension   liability…Fitch believes that the burden of large unfunded pension liabilities and growing annual pension expenses is unsustainable. This large unfunded pension liability is despite the issuance of pension obligation bonds and passage of bipartisan comprehensive pension reform affecting new employees.

Moody’s also highlights the issue in their rating:

Illinois’ rating and negative outlook are consistent with our view that the state’s pension funding pressures are likely to persist and perhaps worsen in the near term. Lawmakers’ repeated inability to reach consensus on retiree benefit measures last year underscored the task’s extreme difficulty…Illinois is heading towards an unsustainable combination of higher pension contribution needs and reduced tax revenues.

S&P pointedly states that:

(t)he downgrade reflects what we view as the state’s weakened pension funded ratios and lack of action on reform measures intended to improve funding levels and diminish cost pressures associated with annual contributions

So while this does not bode well for Illinois, what impact does this have on New Hampshire? No question, Illinois is in much worse financial shape than New Hampshire when it comes to both state finances and pension funding ratio. In New Hampshire’s last bond issue however, while all three agencies affirmed top ratings for the debt, they also highlighted the size of the pension unfunded liability as a concern going forward. (Fitch & Moody’s)

However, state pension systems that have higher funding ratios than New Hampshire, such as Pennsylvania, have seen debt downgraded in part due to pension liabilities. In Pennsylvania’s case, a combination of high debt and modest unfunded pension liabilities contributed to its downgrade. New Hampshire’s relatively light debt load so far has allowed the state to avoid costly downgrades despite a large unfunded pension liability.

To prevent New Hampshire from going down the path of Illinois or Pennsylvania, the state policy makers must keep bonding in check and not only hold the line on past pension reforms, but reform the system further by taking steps to spread the risk more equitably between the public employees and the taxpayers of the state.

[UPDATE: Illinois has postponed the bond issue mentioned below, citing “unfavorable market conditions”]

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The next state budget fight will be over revenue estimates

Charlie Arlinghaus

January 23, 2013

As originally published in the New Hampshire Union Leader

New Hampshire’s budget battles are always about revenue, and this year is no exception. Revenue estimates drive spending and make some decisions possible, others impossible. This year’s estimates will determine the path the budget takes.

During boom times, revenues flow freely into the state treasury and make the state budget about who gets more money. But an economic downturn or poor revenue estimate creates budget crises and constant pressure to cut.

This year, revenue estimates are likely to be cautious because of both the general economic outlook and the recent history of revenue estimating.

In general, New Hampshire’s revenues recover strongly from a recession. But while the recession is technically over according to economic data, the economy is relatively stagnant and the future is uncertain. Some observers worry that we are going to enter a second recession, others fear long-term stagnation on the Japanese model.

Whoever is right, budget writers being forced to project revenue for a period that doesn’t end until July 2015 are forced to budget cautiously, especially given the state’s recent history.

Recall that in the state’s budget, total spending is balanced by an estimate of how much each tax or fee will raise over the next two years. Estimating revenue more than two years in advance is necessarily imprecise. The best situation is to estimate cautiously. Having some money left allows lawmakers to pay for additional legislation passed after the budget, take care of some priorities or emergencies that they didn’t foresee, or save some money for a rainy day.

A small surplus is a benefit; a shortfall is a crisis. If revenues fall short, supplemental budgets and executive orders must remove spending from the budget long after many monies have been spent. Rather than programs competing against each other on a priority list, decisions tend to be distorted by what’s easier to cut. Generally it is easier to cut larger programs regardless of priority.

The budget passed in 2007 created disasters that are still being sorted out. Some of us warned that revenues were overestimated by several hundred million dollars. We were ridiculed for our pessimism. In fact, at the end of the two-year budget, revenues were $384 million short of the budgeted amount. The state finances were in crisis and odd decisions were made.

A shortfall of that size was unprecedented, and the governor looked to unique financial arrangements to borrow money to pay for operating expenses. The problem was not resolved, it was delayed. The next budget wasn’t much better. Operating expenses artificially propped up by money we didn’t have were again propped up with borrowing and a one-time federal bailout. Revenue estimates were again exaggerated to make the budget easier. The shortfall was smaller – a mere $87 million this time – but lawmakers were without a recession to blame for the error.

The next budget, in 2011, was characterized by cuts that had merely been delayed by artificial borrowing. The budget also saw a battle over revenue estimates.

Revenues are the basis of spending. Estimates are produced so finance committees know the limits on spending. The governor’s estimates were characterized by his opponents as “unrealistic.” The House estimates were much lower, and their opponents attacked the figure as artificially low. At the time, I described the legislative estimates as “pessimistic but not overly so.”

The final estimates were raised just a bit by the Senate and turned out to be remarkably accurate. In the aggregate, they were almost exactly correct for the first year. In the second year, regular taxes will come in about $25 million ahead of budget, but a $36 million shortfall in the Medicaid Enhancement Tax (MET) will leave revenues short by about $10 million.

Estimating cautiously allowed us to survive a significant MET shortfall without crisis. Not using any one-time windfalls ensured that no fiscal time bombs were delayed for the next Legislature. This year’s estimates must follow suit.

Any estimate that assumes significant economic recovery in the face of uncertain forecasts should be dismissed. If no one describes your estimate as pessimistic, it’s probably wrong. No regular state spending should be balanced with windfalls, borrowing, or wishful revenue estimates.

 

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The Governor Must Cut Spending Before She Delivers Budget

Charlie Arlinghaus

January 16, 2013

As originally published in the New Hampshire Union Leader

Every two years in New Hampshire we have a budget crisis. Some crises are worse than others but no budget seems to be easy. This year, a new governor has been welcomes to office with problems that demand she take action long before the official budget is even adopted. She has no choice but to take immediate executive action to cut the existing budget just winding down and then put on hold any new or increased spending for another two years.

The state budget law allows the governor to issue an executive order with the approval of the legislative fiscal committee in the event of a revenue shortfall and a likely deficit. This is not unusual. Every governor in the last thirty years has been required to do this.

New Hampshire’s two year budget will end in deficit if no action is taken. While revenue is coming in ahead of budget in general, there is a problem with the Medicaid Enhancement Tax (MET). The MET will likely end the year $36 million behind schedule. After accounting for a 2012 surplus, revenue ahead of projection in other categories, some spending savings, other savings that didn’t materialize, etc., the problem is a little smaller but the state still faces a $25 million deficit.

The MET was inaugurated as a sort of pass-through, pretend tax to dragoon more Medicaid money out of Washington. Hospitals paid the tax, the feds matched it as Medicaid spending, and hospitals received all of it back the same day as a grant that just happened to match what they paid.

Some changes were made because of Medicaid rules but then in the last budget the pretend tax was turned into a real tax. Hospitals didn’t get the money back. This created an incentive for them to actually care about how much they paid and to structure their finances – in the same manner as any other taxpayer might do – to minimize their liability and conduct business in a way to help their bottom line not the state’s bottom line.

This is perfectly rational and predictable behavior but it left the state with less revenue.

Fortunately, state law provides a solution. The governor can and should immediately issue an executive order curtailing $25 million worth of spending (about 2% of the annual general fund budget). Making adjustments to spending in the final six months of the two-year budget cycle is something every governor has to do. If she does not, those cuts must be part of the budget she proposes on February 15 by state law.

Whatever she chooses, we have long known that the Medicaid enhancement revenues are unreliable. When Governor Benson vetoed the budget ten years ago, one complaint in his veto message was that the state needed to reduce reliance on the MET for stability. Many people who disagreed with the veto itself agreed with his warning.

The state budget has problems when revenues are unreliable or vary a great deal. The MET is a problem especially now that hospitals can and should treat it as a normal tax. In addition, the federal government which keeps threatening to repeal the loophole that allows it is under great financial pressure.

Ideally, that revenue should be used not for general operating expenses but one-time non-recurring expenses. The state should wean itself, or at least its general operating expense budget, off the MET over the next four years.

It should also serve as a warning for other revenue enhancements being considered. One-time or otherwise unreliable revenue sources should not be spent on annual expenses like salaries or ongoing programs.

Lawsuit settlements are a good example. If the state settles a lawsuit for tens of millions of dollars, that money can not in good fiscal conscience be devoted to expenses which we then can’t fund in year two. Fix a bridge or pave a road perhaps but don’t use it to hire a permanent employee you can’t afford when the windfall isn’t there.

We had a huge deficit and therefore budget crisis two years ago because we borrowed to spend or spent money we hoped to get but didn’t (In 2010, we budgeted and spent $60 million from “sale of state assets.” Three years later, we’re still at zero). We have a smaller problem now because of an unreliable revenue source. Let’s avoid both mistakes.

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