Shifting Economy Keeps States Guessing

By: - December 4, 2008 12:00 am

As the stock market fluctuates and the unemployment rate rises, state economists are unable to give governors and legislative leaders reliable budget projections for the coming year because the numbers keep changing.

In state after state, economists have been frantically revising their forecasts of falling tax revenue and budget shortfalls to reflect their most up-to-date interpretation of the financial crisis. More revisions are likely after the holiday season, which state budget officials say could show a further decline in sales tax receipts because consumers are cutting back this year.

“The depth and length of the current recession is very difficult to forecast,” Oregon economist Tom Potiowsky told lawmakers Nov. 18 as he reported that the state would have about $1 billion less to spend over the next two years. Oregon ‘s wood products and computer and electronic industries are slumping and losing jobs.

The uncertainty about the projections means that state leaders don’t know how much money they will have to cut from budgets as they near the start of their legislative sessions in January. Usually by this time of year, governors know such fiscal information so they can prepare their budget proposals.

“We all have been through shortfalls before, but this seems a little more extreme,” said Scott Pattison, executive director of the National Association of State Budget Officers.

What is clear is that the cuts will be deeper than many state officials had assumed earlier in the year. It is also obvious, economists say, that the recession could last longer than originally predicted. A year from now, states may not be much better off than they are today.

“The recession isn’t going anywhere soon,” said John Irons, an economist at the Economic Policy Institute , a think tank in Washington , D.C.

Fall is the time of the year when state economists routinely appear before panels of lawmakers to outline their expectations for the year ahead on such indicators as tax revenue, employment and housing starts. But 2008 has been anything but routine.

Wisconsin is typical of what many states have been going through since the Sept. 15 financial meltdown on Wall Street. Gov. Jim Doyle (D) said in mid-October that the state’s budget shortfall would be about $3 billion by the middle of 2011. A month later, economists revised the gap to about $5 billion because of further declines in tax revenue. Days later, on Nov. 20, Doyle said the shortfall had risen to $5.4 billion.

A week ago, Connecticut lawmakers thought they had resolved their budget problem for the current fiscal year by slashing $72 million in spending, only to learn Dec. 1 that they would have to cut another $300 million by the end of June because of changes to tax revenue forecasts.

On Oct. 30, Kentucky budget officials pegged the state’s budget gap at $294 million for the fiscal year ending June 30. Three weeks later, the figure swelled to $456 million. Economist Lawrence Lynch, chairman of a panel of Kentucky economists who estimate tax revenue, said unlike previous recessions, there was not enough accurate information about this downturn to predict the future.

In Tennessee , Gov. Phil Bredesen (D) ordered state agencies in August to trim 3 percent from their budgets for the fiscal year that begins July 1. By November, because of revised revenue estimates, finance officials said the cuts could now be as high as 15 percent. “We’re cutting meat, not bone” said state Rep. Mark Maddox, a Democrat from Dresden .

Perhaps no state’s budget forecasts are more of a moving target than Nevada ‘s. The state, which has the nation’s highest foreclosure rate, is facing cuts exceeding $1 billion, its worst economic crisis since the Depression.

On Nov. 13, state budget director Andrew Clinger told state agencies they would have to cut spending by an additional 11 percent from this year’s budget, on top of a 14 percent cut Gov. Jim Gibbons ordered in July. The very next day, Nov. 14, Clinger told state agencies that they would have to slash spending 20 percent in the coming two-year budget cycle. And this week, state officials presented new revenue figures that may require even deeper cuts.

One reason state officials don’t know what changes to expect from week to week is the erratic nature of this downturn. In the summer, consumers were socked by high energy prices. Then came the AIG bailout, the stock market collapse and the credit crunch. Meantime, energy prices have fallen.

“While economists and budget analysts develop revenue estimates as accurately as possible, they cannot anticipate many kinds of shocks, such as the recent run-up in motor fuel prices, rapid decline in the stock market and lack of liquidity in the credit markets,”

Clemson University economists Holley Ulbrich and Ellen Saltzman told South Carolina leaders Nov. 20.

The shifting forecasts are so staggering that analysts such as Pattison, himself a former budget director in Virginia , said, “I almost wonder now if they might slightly overcorrect. Maybe it won’t turn out to be that bad.”

All the evidence points to a prolonged slump, state economists have been warning lawmakers. California economists were among the first to deliver pessimistic news to lawmakers. A week after the Wall Street financial meltdown in September, state economists cautioned California leaders to dig in for a downturn lasting as long as two years as unemployment continues rising and consumer spending and tax revenues decline.

“Our forecast for California has unemployment continuing to rise before it starts falling,” said Jerry Nickelsburg, a UCLA economist.

Massachusetts has withstood the downturn for much of the year because of its relatively strong technology and health science industries. No more.

“Is Massachusetts in a recession, or about to enter one? Almost certainly,” University of Massachusetts economist Alan Clayton-Matthews recently wrote.

The economists’ predictions of a two-year stall have to do with the lag time in states. A recession’s greatest impact on states occurs the year after the recession is over because the increased spending from Medicaid claims happens late in the downturn and the growth in jobs, which boosts state revenue, lags the recovery. Medicaid is the national health insurance program serving low-income Americans.

South Carolina economists say the state could be grappling with a budget shortfall as high as $2 billion by 2013 if lawmakers don’t take action. The state could experience three straight years of falling revenue, suggesting a long recovery.

Michigan economists told lawmakers that even if Congress approves a second economic stimulus package, the recession gripping the state will last into early 2010.

Hawaii ‘s economy is dependent on tourists from the mainland but vacations are often the first item people trim during a downturn. State economist Carl Bonham said the state, which is suffering from a drop in tourists, “is now in recession” and won’t start to see a turnaround until the last quarter of 2009. But it still won’t be until 2011 that the state economy is healthy again.

Economists support their gloomy outlook with predictions of high unemployment, which reduces tax revenue and increases spending on programs such as Medicaid.

Rhode Island ‘s jobless rate of 8.8 percent could rise as high as 9.5 percent in the next nine months, say state economists. Average income in Rhode Island is lower than the national average, and many residents took out subprime loans to finance their first homes.

Georgia economist Rajeev Dhawan said job losses will be deeper than he first thought because of “significant layoffs” next year in part because two of the state’s largest employers are merging. Delta is merging with Northwest and Wachovia with Wells Fargo. The unemployment rate could rise from 6 percent now to 8 percent in 2010, he said.

It was fitting, perhaps, that Tennessee economists gave their scary forecast to lawmakers on Halloween. They said the plunge in home values was the deepest since the Depression, and predicted that unemployment would keep rising until next fall. In a word, said economist Matt Murray of the University of Tennessee , the outlook was “grim.”

“My mother often told me that if I did not have anything good to say I should say nothing at all,” Murray continued. “If I followed my mother’s advice, this would be a very brief narrative.”

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Stephen Fehr

Stephen Fehr is a senior officer with Pew’s government performance portfolio. He is a lead writer on many of the products generated by the portfolio, specializing in state and local fiscal health.