Budget short but solution is incorrect

Posted on September 23, 2007 | Type: In the News | Author: Robert Robb
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Gov. Janet Napolitano is right that it is time to fix this year's state budget. She's proposing the wrong fix, however.

In economics, the pessimists are always ultimately right, at least momentarily. And with respect to state revenues, this appears to be their moment.

After several years of running substantially ahead of forecasts, state revenues are now lagging behind. As a result, there is already a $326 million hole in this year's budget, for a fiscal year that only began in July.

Whether the hole will get bigger or stabilize is highly uncertain. Some of the decline is understandable. The housing slowdown naturally has reduced revenues directly associated with it. The income tax cut has reduced income tax collections.

However, the notion that the entire state has caught the housing flu seems overwrought. Overall business activity and personal income growth remain pretty healthy. The largest reduction in retail sales tax activity is actually in new-car sales, part of a national phenomenon.

This year's budget was based upon below-average revenue growth to begin with. So, absent a national recession, the hole shouldn't grow exponentially.

Napolitano's fix-it plan assumes a hole of $600 million for the year. She proposes to fill it with $100 million in savings from deferred agency spending, $200 million from the state's rainy day fund, and $300 million in debt financing of school construction.

In other words, she's not really proposing to reduce spending much. Instead, she proposes to largely maintain spending by dipping into savings and borrowing.

This is an imprudent course of action. This year's budget already had a hole in it of a different sort. The state was already planning to spend $429 million more than it collected in taxes. The difference was to be made up through a surplus from last year's budget, which turned out to be less than expected.

This difference between same-year spending and revenue is often called a "structural deficit." Napolitano's proposed fix would grow the structural deficit to nearly a billion dollars with no anticipated surplus from this year to help fill it next year.

The state's rainy day fund isn't supposed to be dipped into unless the real growth in state personal income drops below 2 percent. The state is still a long way from that mark.

Debt financing of school construction may make fiscal sense. However, it is of doubtful legality, given the state's $350,000 constitutional debt limit.

In the past, this wasn't a problem, because there was no one around to make the constitutional challenge. That may have changed. The Goldwater Institute has a new litigation center and doesn't believe that debt-financing school construction is a good idea. And it has been looking into the debt-limit question.

A more prudent course would be for the Legislature to go into special session and actually cut spending by around $400 million. That would be a trim of less than 4 percent of the state's general fund.

That shouldn't be tough to come up with. Napolitano says she can cut $100 million just through such things as deferring some hiring, restricting travel and eliminating non-essential overtime.

Even with such a cut, state spending will have grown by about a 12 percent annual rate over the last four years. So it's hardly like state government would be on a starvation diet.

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