# Presentation: 421492

## State Finances: RecentTrends and Outlook

- Indianapolis, Indiana
- May 6, 2002
- Donald J. Boyd, Deputy Director
- Nelson A. Rockefeller Institute of Government
- _boydd@rockinst.org_ • 518-443-5284
- Richard P. Nathan, Director

**Notes:**
State Finances:  Recent Trends and Outlook, a presentation by Donald J. Boyd from the Nelson A. Rockefeller Institute of Government. Presented at the AHRQ-NGA meeting, State Long Term Care Systems: Reducing Cost, Quality and Access, held in Indianapolis, IN, May 6-8, 2002.
The public policy research arm of SUNY does research on welfare reform, new initiatives on social services reform, and tracking and analysis of fiscal issues and trends in States. Our website has our publications, and they are usually free for download.

## States in the federal, state, local fiscal system
State fiscal structure and fiscal performance
State finances boomed in the 1990’s
The boom was unsustainable
Recent economic and fiscal news
Will the boom resume?

- State fiscal structure and fiscal performance
- State finances boomed in the 1990’s
- The boom was unsustainable
- Recent economic and fiscal news
- Will the boom resume?

- Presentation Outline

**Notes:**
The issues I will cover are the relationships between fiscal structure and fiscal performance – the boom of the 90s and why it was unsustainable, and what will happen in next few years.

## 

States in theFederal, State, Local Fiscal System

- States in theFederal, State, Local Fiscal System

**Notes:**
States in the Federal, State, and Local Fiscal System

## States In The Federal-State-Local Fiscal System

- Federal government raises the most tax revenue, followed by states then localities
- Federal government makes large grants to states and localities
- States transfer more than $300 billion to locals (1999) – 60%+ for schools
- Net result: “Direct” spending by locals is larger than states (but states are larger when aid payments are counted)

**Notes:**
Where do states fit in the overall system?  In total, government raised $2.6 trillion in taxes in 1999, 19 percent by States, 12 percent by local government, and 68 percent by the federal government.  Direct spending, who does the spending?  Federal government raises 51% of the spending. States and local governments together account for practically the same percentage as the Federal government. State governments raise more money but transfers much of it to local governments.

## State and Local Governments Have Been Growing Substantially

**Notes:**
This slide shows real spending by State and local governments. You can see recession and property tax limitations shown in the dip.  This period was primarily a period of growth.

## Composition and Fundingof State Spending

**Notes:**
Composition and funding. $945 billion in total spending is close to the census numbers – and you can see that the big State spending programs are Medicaid, education and higher education.  The striking number on this table is that TANF and non-TANF equals 2 percent of State budgets. Medicaid spend $184 billion – 57 percent of that is Federal funds.

## “Typical” State Relies onDiversified Revenue Base

**Notes:**
This slide shows the distribution of State tax and non-tax revenue.  It shows that  State revenues on average are derived 26 percent from income taxes, 25 percent sales taxes, and 25 percent from all other taxes combined. The last 25% comes from sales, cigarette, alcohol, state and gift, lottery, investment income, and tuition. 

## There Is No Typical State – State Fiscal Structures Vary Widely

**Income tax:** 9 states do not have broad-based income tax (AK, FL, NH, NV, SD, TN, TX, WA, WY)
**Sales tax:** 5 states do not have broad-based sales tax (AK, DE, MT, NH, OR)
**K-12 Education:** State share of total K-12 financing varies from 88% in HI to only 9% in NH
**Medicaid:**  A few states require local sharing in Medicaid costs (e.g., NY)
- Many other examples – tax limits, rebate requirements, different sales tax bases, different state-local splits of responsibility

**Notes:**
Nine States have no income tax and did not benefit from 1990’s boom as others did.  Five States without a sales tax also did not benefit in the same way. Alaska and New Hampshire have no income and sales tax.  New Hampshire funds only 9 percent of K-12 education costs but will be changing this percentage due to litigation. In Hawaii 90 percent of education is State financed.  There are enormous differences and variations in structure of financing around the nation

## 

State Fiscal Structure andFiscal Performance

- State Fiscal Structure andFiscal Performance

**Notes:**
State Fiscal Structure and Fiscal Performance

## Income tax:
Generally grows faster than income in long run due to progressive structure
VOLATILE: may grow much faster, or much slower, than income in short run
States without income taxes, but with significant long-term spending pressure, often have fiscal difficulty (e.g., TN, NH)
States with heavy income tax reliance often are hit hard in recessions (e.g., CA, NJ, NY others)

- Generally grows faster than income in long run due to progressive structure
- VOLATILE: may grow much faster, or much slower, than income in short run
- States *without* income taxes, but with significant long-term spending pressure, often have fiscal difficulty (e.g., TN, NH)
- States *with* heavy income tax reliance often are hit hard in recessions (e.g., CA, NJ, NY others)

- Fiscal Structure and Fiscal Performance – Income Tax

**Notes:**
Fiscal structure and how it affects how you are doing.  Fiscal structure has an enormous influence on State finances. Income taxes grow faster than income due to progressive structures.  People automatically migrate from tax brackets. This generates proposals to cut taxes rather than index taxes. States without income tax policies can get into fiscal difficulty.  States with heavy reliance on income taxes get hit hard in a recession. 

## Sales tax:
Broad-based tax ought to grow near rate of income in long run, if no “leakages” – BUT: (1) services generally not taxed, and economy trending toward greater service consumption, and (2) hard to collect tax on Internet, mail-order transactions
VOLATILE: may grow much faster, or even slower, than income in short run
Manufacturing states reliant on sales tax were hit hard early in the recession (OH, PA, TN)

- Broad-based tax ought to grow near rate of income in long run, if no “leakages” – BUT: (1) services generally not taxed, and economy trending toward greater service consumption, and (2) hard to collect tax on Internet, mail-order transactions
- VOLATILE: may grow much faster, or even slower, than income in short run
- Manufacturing states reliant on sales tax were hit hard early in the recession (OH, PA, TN)

- Fiscal Structure and FiscalPerformance – Sales Tax

**Notes:**
Sales taxes should grow with the rate of income, but they are difficult to increase.  Services are generally not taxed and the economy as a whole is moving toward a service base.  Difficulties both politically and legally make sales tax hard to fix. Sales tax receipts are volatile in a recession when big-ticket purchases are slow, fewer meals at restaurants and grows quickly after a recession. 

## Miscellaneous other issues:
States that rely heavily on severance taxes can have sharp, irregular boom-and-bust cycles (e.g., AK, LA)
Most states don’t rely heavily on corporate taxes, but these, too, have sharp extreme revenue swings
Cigarette, motor fuel, and other excises don’t generally keep up with economy, often declining, except when states raise rates

- States that rely heavily on severance taxes can have sharp, irregular boom-and-bust cycles (e.g., AK, LA)
- Most states don’t rely heavily on corporate taxes, but these, too, have sharp extreme revenue swings
- Cigarette, motor fuel, and other excises don’t generally keep up with economy, often declining, except when states raise rates

- Fiscal Structure and FiscalPerformance – Other

**Notes:**
States that rely on severance taxes usually out of step with boom-bust cycles and revenues are driven by swings in oil and natural gas prices and consumption.  Corporate tax reliance is low and getting lower, but still subject to swings.  Cigarette, fuel and other excise taxes don’t keep up with economy except when States raise rates.  These taxes have to be raised to stay even, but income gets reduced when the tax rate increases.

## 

State FinancesBoomedIn The 1990’s

- State FinancesBoomedIn The 1990’s

**Notes:**
State Finances Boomed In The 1990’s

## Mid and late 1990’s may have been the best fiscal times ever for most states:
Income tax revenue soared due to a strong national economy and exuberant stock markets
Sales taxes were strong as consumption rose and the savings rate plummeted
Medicaid -- #2 spending item in most state budgets -- slowed from 20+% growth to low single digits
States had a welfare windfall, as federal revenue was “block granted” while caseloads shrank
Tobacco settlement
In fiscal year 2000 alone, states collected about $7 billion more in income, sales, and corporate taxes than budgeted

- Income tax revenue soared due to a strong national economy and exuberant stock markets
- Sales taxes were strong as consumption rose and the savings rate plummeted
- Medicaid -- #2 spending item in most state budgets -- slowed from 20+% growth to low single digits
- States had a welfare windfall, as federal revenue was “block granted” while caseloads shrank
- Tobacco settlement
- In fiscal year 2000 alone, states collected about $7 billion more in income, sales, and corporate taxes than budgeted

- Fiscal EnvironmentOf The 1990s

**Notes:**
Gov. O’Bannon (IN) described the current situation as The Perfect Storm. We had picnic weather in the last half of the 90’s as income taxes soared, sales taxes were strong, and savings plummeted.  Medicaid became the story of two half decades.  Medicaid had 20% growth in the first half of decade, slowed to a stop in the second half, but that is now changed. The tobacco settlement also had a big impact. On the whole, 7 billion dollars more in income, sales and corporate taxes were collected than budgeted.  

## States cut taxes for 7 consecutive years
States, in aggregate, increased rainy day reserve funds to a 20-year high of 10.1% of expenditures
States increased real per-capita spending by 28%. Medical vendor payments (essentially Medicaid) were up 79% and K-12 education was up 31%, consuming 54% of total real per-capita spending growth.
A governor’s (and legislator’s) dream

- States, in aggregate, increased rainy day reserve funds to a 20-year high of 10.1% of expenditures
- States increased real per-capita spending by 28%. Medical vendor payments (essentially Medicaid) were up 79% and K-12 education was up 31%, consuming 54% of total real per-capita spending growth.
- A governor’s (and legislator’s) dream

- How States UsedThe Good News

**Notes:**
States cut taxes for 7 years, and increased their rainy day reserve funds. States saw increased real per-capita spending. They cut taxes, raised spending, and put money away.. an unstable situation.

## 

 The Boom WasUnsustainable  

-  The Boom WasUnsustainable

**Notes:**
The Boom was Unsustainable

## Extraordinary Combination Of Forces Drove Income Tax Growth In 1990s

- Strong economic growth
- Financial markets and capital gains
- Bracket creep

**Notes:**
An extraordinary combination of forces drove income tax growth in the 1990’s. The economy was stronger than forecasters projected.  States saw both financial and market gains.

## Ever-Volatile Capital GainsGrew Much Faster Than Wages

**Notes:**
Ever volatile capital gains grew more quickly, as you can see on this graph.

## Shifts Over Time: Medicaid Dominated Early1990s, Then K-12 Was Dominant

- Shifts Over Time: Medicaid Dominated Early1990s, Then K-12 Was Dominant

**Notes:**
Medicaid which accounts for 20% of your budget can’t grow 9-10 percent a year. State revenues can’t grow that fast so States will be making changes.