Though revenues up, states stay thrifty

Oregon state employees will probably see a thaw in their multiyear salary freeze. California and New York will plug billion dollar holes left by depleted cash reserves since 9/11. New Jersey, Hawaii, and Oklahoma will sink big bucks into higher education facilities that have been neglected for five years.

Continued recovery of the US economy and more cautious budgeting by state officials - burned by overestimating revenues for several years - have brought about a rebound in the fiscal fortunes for 48 states that have been sagging since 2001. Personal and corporate income taxes, sales taxes, and capital gains on stock options are the sources of the newfound revenue.

But rather than rushing out to re-fund all the on-going programs they have had to slash over four years, or tackle long-term spending projects, most states are treating the current revenue boost as a momentary breath of fresh air rather than a new, prevailing wind.

Instead they plan funding for one-time-only projects like buildings or bridges, paying off debts or socking money away for anticipated shortfalls next year.

"The situation for the states right now is like a father who gets a long-awaited raise at the office, and then comes home and finds out his daughter just got accepted to Harvard," says Scott Pattison, executive director of the National Association of State Budget Officers.

Yet steady increases in costs of Medicaid, healthcare, education, and prisons continue to have states on edge. Many are also wary that some of the boosts that have helped fuel the current turnaround, such as booming housing markets in several states, will bottom out.

"Revenue has turned around, but expenses are still tight and getting tighter," says Mr. Pattison. "Finance people are welcoming it with open arms. At the same time they feel it is probably not sustainable, and so are acting accordingly."

The list of reasons that revenue increases are "probably not sustainable," analysts say, includes volatile energy prices, low consumer-spending confidence, the economic drain of the Iraq war, and worries about a possible drop in housing prices.

"Over the past few years we've seen such huge equity increases in home values that people have felt comfortable and wealthy ... and so they buy things, which has helped fuel sales taxes," says Nick Jenny, fiscal analyst for the Rockefeller Center for Study of the States. "If that wealth effect declines because the housing market softens, states might no longer enjoy the same indirect effect on sales-tax revenues."

Idaho is particularly concerned about a housing bubble burst, since revenues for the current fiscal year have exceeded estimates by 10 percent.

"A lot of what is fueling our economic turnaround right now is investment by nonresidents in housing ... buying up houses for rental," says Brad Foltman, spokesman for the Idaho Division of Financial Management. "We are concerned how long it lasts, and what if it doesn't ... and with the Federal Reserve raising the prime [lending] rate, it seems likely to soften."

States are also planning to discuss several rising expenses in 2006, according to a report released by the National Conference of State Legislatures (NCSL).

Budget pressures of Medicaid and other healthcare concerns are issues that at least 23 states are taking up. Many states say they have little control over the rising prices of nursing care and prescription drugs, in spite of attempts to rein them in.

"We have paid lots of attention to Medicaid and made substantial containment in the area of long-term care," says Tim Keen, assistant budget director for Ohio, one of 19 states reporting Medicaid cost overruns. "We are hoping to hold the line on growth in those costs, but the programs are growing much more dramatically than the state economy at large."

Ohio is also one of seven states that has cut its prison facilities - closing five institutions in five years - to halt overruns. Idaho prisons, meanwhile, are so crowded that the state is sending convicts to Minnesota.

As governors prepare state-of-the-state addresses, and state legislatures return to session in January, the report lists other top fiscal concerns that are on lawmakers' agendas: education (15 states), taxes (14 states), infrastructure/transportation (10 states), tax or expenditure limits (6 states).

"Given the situation of the past five years as legislators have faced mid-year cuts and dwindling revenues, this new situation is the kind they would rather face," says Arturo Perez, an NCSL analyst. "Your priorities have a much better chance of being addressed than when everything from parks to prisons to colleges had to be peeled back just to keep your budget in balance."

The positive news is not evenly dispersed geographically, note Mr. Perez and others. Michigan and Ohio are reeling from lost manufacturing jobs, most notably with the recent announcements that General Motors and Ford will lay off thousands of workers. In Louisiana, where many people left after the hurricanes, outlays to state employees are down, lightening the woes of America's most financially strapped state.

But some coastal states are breathing sighs of relief. New York is earmarking a $1 billion surplus to cover next year's anticipated deficit. California is applying a $4 billion surplus to its own giant deficit.

"We are finally going to make some inroads on infrastructure - roads, bridges - and free up more money for education," says H.D. Palmer, spokesman for the California State Department of Finance. Such money can spur the state's nascent recovery by helping add more jobs. "This is all stuff we haven't been able to focus on because of the fiscal crisis we inherited."