Capital Goods - January 2010

State pols can’t rescind recession
By Scott Mooneyham

As 2009 ends, economists forecast a mostly jobless recovery. That’s bad news for people out of work. It’s also not so good for anyone who pays taxes, drives on roads or sends their kids to public schools. State government’s revenue flow will keep trickling, even if consumer confidence and spending begin ticking upward.

The doom-and-gloom forecast is simple arithmetic. Personal-income-tax collections make up about 55% of North Carolina’s general operating revenue. When unemployment rolls grow, as they did in 2009, the largest part of the state’s income stream ebbs. The decline last fiscal year was precipitous, as personal-income tax collections fell $1.4 billion — about 13% — compared with the previous year.

State legislators responded by raising taxes $1 billion, closing prisons and laying off teachers. Could more of the same be in store this year? Economists who watch state government believe it’s possible. Corina Eckl, who heads the state-finances section at the National Conference of State Legislatures, says recovery of state governments almost always lags that of the larger economy.

What happened in the last recession, in 2001, backs her up. The economy contracted for eight months, with the recession ending in November. State governments, though, faced their largest budget gaps in 2003 and 2004, and real recovery for budget coffers didn’t happen until 2005. Eckl predicts that states will face gaps — where budgeted needs exceed revenue — for at least 12 months after this recession ends.

Many economists believe it has ended, citing rises in U.S. exports and business-equipment purchases. If the recovery holds, increasing business activity should translate into higher consumer confidence and more consumer spending. That will mean another big part of the state’s revenue flow — sales taxes — should improve. Last year, sales-tax collections dropped about $300 million — about 6%. In the first four months of the current fiscal year, they’ve continued to fall. “Is there any sign of recovery? Not yet, not here in North Carolina,” says Barry Boardman, chief economist for the General Assembly.

Even assuming that sales-tax collections pick up soon, they represent just 25% of the state’s general operating revenue. Real recovery for state government’s bottom line will mean jobs and the payroll taxes that they provide. Boardman notes one good sign — temporary employment is on the rise. Still, most economists believe that employment isn’t likely to pick up much until well into this year. Even then, they expect the economy to add jobs slowly. The Federal Reserve says unemployment nationally will continue at more than 8% into 2012.

What it means for the state ledger really won’t be known until the spring, when most people settle with North Carolina on income taxes owed for the previous year. “The real volatile stuff doesn’t hit until the second half of the [fiscal] year,” Boardman says. But some of the budget woes again will be mitigated by federal stimulus dollars.

Already, better than $2 billion from the American Recovery and Reinvestment Act has gone directly into helping the state balance its operating budget. Without that, last year’s sales-tax hikes and income-tax surcharges would have been larger and cuts in services more noticeable. The state should get a $1 billion infusion from the feds in the next budget year. But in 2011, state government will be forced to wean itself from this cash cow.

For some time, Republicans in the General Assembly have been asking a simple question: What happens if employment and income-tax collections haven’t recovered by the time the stimulus money runs dry? The short, not-so-sweet answer is that the budget hole gets a lot bigger. That pain, though, can be put off. This year, the taxpayer purse might be reasonably safe. It’s an election year, after all. A year removed from that $1 billion tax hike, and with the current state of the economy a drag on the prospects of anyone in power, Democrats who control the governor’s mansion and legislature will be loath to raise taxes again. The election takes on added significance because it determines who will draw congressional and legislative districts for the next decade, meaning Democrats will worry more than usual about losing majorities in the House and Senate.

The result might be more budget slashing. Those who believe state government still needs a good scrubbing might cheer. It’s interesting how, around Raleigh, those cheers always seem to be drowned out by the cries of teachers, advocates for the poor or doctors dependent on Medicaid payments.

Scott Mooneyham is the editor of The Insider,