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HomeSpotlight Story | Bird’s Eye View | Budget & Taxes | Politics & Leadership | Governors | Hot Issues | Once Around the Statehouse Lightly
Most states will see improved fiscal conditions in 2015, but their economic growth rates remain below the levels they enjoyed before the Great Recession, according to a comprehensive new report. "Economically speaking, states are a mirror of the nation," said Scott D. Pattison, executive director of the National Association of State Budget Officers (NASBO). Using a phrase coined by the economist Larry Summers, Pattison said the "new normal" for state economic growth is an average of 3 percent a year. Before the Great Recession, which started in December 2007 and ended 18 months later in June 2009, states routinely had economic growth rates of 5 percent or higher. Forty-three of the 50 states will have higher general fund spending levels in 2015 than in 2014, but "for most states spending growth will be limited," according to the NASBO report. Voters sent their own message of fiscal restraint last November by electing a near-record number of Republican governors and state legislators. Several Democratic governors have also promised to keep a tight rein on spending. The NASBO report said that states "face rising costs in critical areas of the budget, such as Medicaid and higher education, which continue to outpace inflation as well as general fund revenue growth." The NASBO findings come on the heels of a report by the Pew Charitable Trusts which shows that tax revenues have yet to reach pre-recession heights in 29 states. Another report, by the credit rating agency Fitch, found the state fiscal situation "stable" but said many states face tough decisions on Medicaid, "the area of state budgets that is usually most difficult to control." Meanwhile, unfunded pension liabilities remain a "dark cloud on the horizon of state budgets," according to State Budget Solutions, a nonpartisan think tank. SBS estimates that this "cloud" totals $4.1 billion for state-administered pension plans. The bill to cover future retirements is far higher. Last month California Controller John Chiang, the state's paymaster, reported that the California State Employees Retirement System had $281 billion on hand to cover the benefits promised to 1.3 million workers and retirees but needed an additional $57 billion to meet future obligations. Overall, state and local government retirement systems cover more than 14 million workers, about a sixth of the U.S. work force, with 8 million beneficiaries. On fiscal performance, including pensions, there are enormous differences among individual states as well as regions of the country. States in the Midwest-with the conspicuous exception of Illinois-are doing well. Economic growth in the Northeast is slow. Most Southern states are holding their own. Energy-producing states such as Texas, North Dakota, and Wyoming are booming. California, not so long ago an economic basket case, has stabilized under Gov. Jerry Brown (D), soon to begin a fourth term. Pennsylvania and Illinois provide revealing case studies in fiscal adversity. In both states incumbent governors were overwhelmed by economic problems and lost to challengers of the other party in November. The winners are wealthy businessmen who must now work with hostile legislatures to reduce inherited deficits. Tom Wolf, soon to be the new governor of Pennsylvania, was the sole Democrat in 2014 to oust a Republican gubernatorial incumbent. He routed Gov. Tom Corbett but inherited a $2 billion deficit. As Wolf promised during the campaign, his key proposal for addressing this shortfall is a new severance tax on shale-oil drilling. But a GOP-controlled legislature with new, conservative leadership is wary of tax increases. Bruce Rauner, Republican governor-elect of Illinois, inherited a larger deficit — $4 billion — and has an even steeper political hill to climb. Rauner, a former private-equity investor, spent $26 million of his personal fortune and defeated Pat Quinn, the Democratic incumbent, in a mild upset. But Illinois Republicans fell one seat shy of breaking the Democrats' veto-proof hold of the House. Since Rauner campaigned against the Legislature — singling out the Democratic leaders of both chambers by name — he does not start out with much goodwill in Springfield. Illinois, in Pattison's words "the only state that does not pay its bills on time," has long been a poster child of public pension dysfunction with an estimated $111 billon in unfunded liabilities. As the New York Times put it recently: "Not only does the huge imbalance put workers' benefits in jeopardy, but as more and more are qualifying to retire and draw their benefits, the situation is also undermining the finances of the whole state." Outgoing Gov. Quinn sought pension reform against legislative skepticism in his own Democratic Party. The legislators eventually compromised on a mild reform bill over the opposition of public employee unions. But even this relatively weak measure was struck down in November by a state judge who found that the law, which reduced some benefits, violated a clause in the state constitution that makes pensions "an enforceable contractual relationship" that cannot be changed. This decision is now under appeal to the Illinois Supreme Court. Since many states have constitutional provisions or laws prohibiting pension reduction similar to the Illinois clause, pension analysts widely anticipate that the issue ultimately will be decided by the U.S. Supreme Court. Pension-reform advocates have been given hope by bankruptcy judges in Detroit, Michigan, and Stockton, California, who have ruled that public pensions are not necessarily inviolate. It's a big leap, however, from municipal bankruptcies to state pension laws. A more direct test is likely to come in Rhode Island, where a judge has scheduled an April 2015 jury trial on a union-backed lawsuit that seeks to strike down the state's far-reaching 2011 pension reform law. State Treasurer Gina Raimondo (D), who will take office as governor in January, tried earlier this year to strike a deal with firefighters, teachers and retirees, but the police union rejected the agreement. She continues to seek a settlement that would head off the scheduled trial. The Rhode Island law suspended cost-of-living adjustments, raised the retirement age, moved workers into a hybrid pension plan and reduced future benefits for current employees. It's become a model for other states and municipalities seeking to reduce pension liabilities. Every state except Idaho enacted some sort of pension reform in the wake of the Great Recession. Although most of these laws fell short of what reformers were seeking, Pattison believes they've bought time in most states, postponing any day of reckoning on unfunded pension liabilities. Some states are worse off than others. Most notable in the "worse off" category apart from Illinois is New Jersey, where in 2011 Republican Gov. Chris Christie agreed to put more state money into the pension system in exchange for union concessions. In June of this year, however, Christie infuriated the unions by saying he would forego $2.4 billion in payments into the pension fund during the next two years as he tries to close New Jersey's budget gap. Thomas Healey, a former Goldman Sachs partner who chairs Christie's pension commission, said that the suspension of payments had exacerbated the plight of the state's pension and health-benefits system, which is underfunded by $90 billion. "Every day you don't fund it, it just gets bigger," Healey said. The NASBO report said that state spending increases in 2015 most heavily target education and Medicaid. Thirty-nine states enacted general fund increases for K-12 education in the amount of $11.1 billion. Forty states increased spending for higher education, for a net increase of $4.4 billion. Thirty-six states increased spending for Medicaid, the federal-state program that provides health care for the poor, by $8.5 billion. In many states Medicaid provides mental health services for clients who are otherwise too poor to receive them. That's significant because a report by the National Alliance on Mental Illness (NAMI) warned that momentum to improve mental health services may be slowing. According to the report, 29 states plus the District of Columbia will increase mental-health spending in fiscal 2015. Thirty-seven states did so in fiscal 2014 in the wake of the massacre at Sandy Hook Elementary School in Newton, Connecticut. Overall, state spending will continue on an upward arc in the year ahead. But it will in many cases be cautious and restrained. The new economic normal does not allow much running room for overspending.