Economy may be rebounding, but state budgets are still hurting

All but one state (Vermont) saw tax collections and other funds fall for the second quarter in a row. Over the past year, they’ve lost more than they got in federal stimulus money.

This week’s welcome news that the Dow topped 10,000 for the first time in a year – alongside comments by many economists that the recession is over – does not spell quick relief in one key corner of the US economy: state budgets.

That’s the assessment of a new study, released Thursday by the Nelson A. Rockefeller Institute of Government, which shows that state revenues plummeted for the second quarter in a row – this time a record 16.6 percent.

Total state tax collections declined by $63 billion, or 8.2 percent, from the previous year, roughly twice the amount states gained in fiscal relief from the federal stimulus package. Forty-nine states saw total tax revenues fall during the quarter, with 36 states reporting double-digit declines.

Regionally, Alaska fared the worst with a drop-off of 86.5 percent, due to recent drops in oil prices. And Vermont fared the best with a 2.2 percent growth in tax revenues primarily due to a one-time estate-tax settlement.

“It’s really rough out there for states,” says Scott Pattison, executive director of the National Association of State Budget Officers. Part of the problem, he says, is the declines have come on top of declines in past years. [Editor's note: The original version misstated Mr. Pattison's first name.]

“Many of these states had to cut to the bone last year and then turn around and do it again,” he says. “That’s hard to do.”

There will be a long lag time between general signs of recovery, such as the return of consumer confidence, and the return of tax revenues that will help states get back on their feet, say Pattison and others.

“Some elements of the economy that are very important to state finances – particularly employment and wages – are likely to recover more slowly than gross domestic product,” say the authors of the Rockefeller Institute report, Lucy Dadayan and Donald J. Boyd.

“In addition, state tax revenue, when it does begin to recover, will be below its earlier peak for at least several years and will not be sufficient to support spending commitments that are now in place," they write. "Despite the recovery, most states will face budget gaps this fiscal year and next, and probably for at least one to two additional years.”

A typical case is Tennessee, according to Pattison. The state got through the past fiscal year with the help of $650 million in federal Recovery Act funds, but is now having to figure out what to do next year without those funds.

“Federal money allowed us to shift money around and at least take another year in thoughtfully reducing the budget instead of blanket, across-the-board decreases,” says Lola Potter, public information officer for the Tennessee Department of Finance and Administration. The state also had a hefty rainy-day fund of $750 million, which will be depleted by next year. One of the other ways Tennessee has been able to stay afloat is to offer employee buyouts, which began in August 2008.

“By offering voluntary buyouts, we were able to close 1,571 positions and save $50 million," says Potter.

Tennessee’s experience is evidence of the falloff in revenue that hits states when people stop buying goods and services, says Corina Eckl, director of the fiscal affairs program at the National Conference of State Legislatures. Most states get a hefty percentage of their state budget from sales tax – 30 to 45 percent. Tennessee has no income tax, so it gets 65 percent of its revenue from sales.

“When people aren’t buying, we start hurting more and more,” says Potter. “The return of the Dow could give them more confidence to return to stores. We’re hoping to get a bounce from pent-up demand.”

One bright spot in the bleak state picture is North Dakota, which has not had to cut budgets because of 20 percent growth in the past year and $1.2 billion in reserves. That has come with lots of planning over the past 10 years, including a diversification of the state economy from primarily agriculture into energy and manufacturing, according to Pam Sharp, director of the state office of management and budget.

She says North Dakota’s basic conservatism helped it avoid the foreclosure crisis because very few homes were purchased with subprime loans. Also, about a decade ago, North Dakota began significant investments in “centers of excellence” – partnerships between state universities and the private sector, to help grow the economy.

“We’ve got a very conservative population and state officials who really think things through carefully,” says Ms. Sharp.

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