Washington deadlocked? States lead in cutting deficits

New Jersey, Ohio, and others have tackled tough budget deficits. They're addressing deficits by cutting spending, not hiking taxes, and looking at the long term.

You might think that with all the deadlock and fiery rhetoric in Washington over the debt limit and budget deficit that Americans can't agree on how government should eliminate red ink. But as it turns out, they can.

Just look at the states.

Both red and blue states are rallying around the same fiscal mantra: Don't raise taxes, cut spending. By now, most states have squared away budgets for fiscal year 2012, and they've largely eschewed revenue-raising measures. The resulting fiscal climate, observers say, may signal how the majority of Americans will react to Washington's budget-cutting efforts.

"The states' budget actions this year represent a dramatic new direction, impossible for politicians to miss," says Bob Ward, deputy director at the Nelson A. Rockefeller Institute of Government in Albany, N.Y. Many states are tackling not only this year's shortfall but also anticipated long-term spending gaps, such as Medicaid payments, state employee benefits, and education costs.

Of the 32 states that had enacted their 2012 budgets by the end of June, three-quarters included major cuts to public services, according to a report by the Center on Budget and Policy Priorities, a liberal policy group in Washington. Some of the states with the worst debt problems, such as California, New Jersey, and Nevada are relying heavily, or entirely, on spending cuts instead of new revenue. For example:

•New Jersey: With revenues projected to fall short of 2012 spending by 36 percent – the third largest percentage shortfall among the states – the Garden State won't raise taxes, and may even cut them. Instead, it's tackling its projected $10.5 billion deficit by reducing payments to nursing homes, trimming aid to local municipalities, selling a government-owned hospital, and closing two residential treatment facilities for children.

•Ohio: Instead of raising revenues, the Buckeye State will eliminate its shortfall by cutting aid to local governments and school districts, selling state prisons, and leasing out the state's liquor enterprise.

•California: With the nation's second-biggest projected shortfall after Nevada, the Golden State plans to raise revenue a little – by $0.9 billion – and cut spending a lot – by $15 billion. It plans to slash state support for public universities, cut some 5,500 state jobs, and eliminate 20 boards, commissions, task forces, offices, and departments.

Such moves mark a big change. In 2009, when the Great Recession began seriously to erode the tax base, more than half the states raised taxes and other revenues. In their budget proposals for fiscal year 2012, only 12 governors planned to increase revenues. It's not at all certain that hawkish legislatures will go along.

"In 2009, there certainly wasn't public sentiment to raise taxes, but they had no other choice," says Mandy Rafool, head of fiscal affairs at the National Conference of State Legislatures in Denver. Now, "newly elected legislators who ran on a platform of cutting spending" are in charge.

State legislatures are still raising money without hiking taxes. Just as they did in 2001, when the bursting of the dot-com bubble caused a similar cash crunch, states are increasing fees, such as state park entrance fees, driving fines, and road tolls. Another moneymaking tactic that's gaining popularity: dusting off old laws that haven't always been enforced or relevant.

For example: At least eight states have enacted some form of legislation that requires out-of-state companies with an in-state presence to pay state sales taxes. At least seven more states have introduced legislation to do so. Dubbed the "Amazon tax," the states' main target is out-of-state online retailers.

"The taxes aren't new," says Shirley Sicilian, general counsel at the Multistate Tax Commission, an intergovernmental state tax agency based in Washington. "There's new attention. They're providing guidance through new legislation."

Another change: States aren't focused solely on short-term budget gaps. "There's an emergent consensus that states have very significant long-term problems," Mr. Ward says. "That's why we're seeing many attempts to enact long-lasting savings."

Those attempts include widespread changes to public employee compensation – including pension benefits and health-care costs – as well as Medicaid funding, Ward says.

In New York, for example, Gov. Andrew Cuomo is pushing through contracts with two of the states' largest unions that would have workers assume more of their health-care costs.

"We're seeing things a little more draconian than we have in the past," says Scott Pattison, executive director of the National Association of State Budget Officers, a professional membership group based in Washington.

A handful of states have raised taxes this year or implemented new ones. For instance, Illinois implemented a four-year hike midway through 2011 for personal and corporate income taxes.

But according to Ward, "Even the few who are pushing for new taxes are also forcing some politically tough spending reductions."

For the 2012 fiscal year, Connecticut raised levies across the board, including taxes on personal and corporate income, retail sales, and room occupancy. It also added taxes for a number of services, including valet parking, yoga instruction, pet grooming, and pedicures. But Gov. Dannel Malloy is also pushing for deep budget cuts that would eliminate more than 6,500 jobs in the state.

The way that states have handled their 2011 and 2012 budgets mirrors the sentiment that Americans have expressed about the federal budget. A recent Gallup poll showed that 50 percent of Americans would like to see the federal deficit reduced only or mostly with spending cuts. Only 11 percent would opt only or mostly for tax increases. Even Democrats – by a 33 percent to 20 percent margin, according to the poll – prefer to reduce the deficit mostly or completely through spending cuts rather than through tax increases.

Will spending cuts alone solve the problem? Time will tell. In a survey by the Center on Budget and Policy Priorities, 42 states had projected a budget shortfall for 2012, totaling some $102.9 billion.

But the focus on long-term challenges marks a new mood in the states. "This is not a matter of emerging from the recession and going back to normal," Ward says.