Finance

Gaming The Budget

In the midst of a fiscal crisis, many states are betting on the legalization or expansion of gambling to boost their revenues.
by | March 2003

The sun is shining and the breeze is warm as the boat pulls away from the Florida coast, packed with people out for a pleasure cruise. But these passengers aren't planning to relax in deck chairs or watch dolphins leap from the waves. Rather, they have come aboard for the chance to feed money into loud-clanging, lights-flashing slot machines and, if they're lucky, win back their investment and more. These hours-long jaunts are called "cruises to nowhere," but they actually do have a destination. It's an invisible line in the ocean, where Florida waters become international waters, and the gambling that is illegal in the Sunshine State becomes a permissible activity. Once the boat crosses that spot, the fun begins.

It isn't much fun for the Florida treasury, however. With the state's 2004 fiscal year budget $2 billion in the red, the idea of all those dollars lost at sea does not sit well with state officials. The simple fact is that Floridians are gambling--not only on boats off shore but in nearby states as well. And the way it works now, Florida gets no financial benefit from it. Some state legislators are out to change that this year.

They'll have lots of company. In the midst of tough economic times, officials in many states that don't currently sanction gambling operations are increasingly concerned about their residents routinely augmenting the coffers of neighboring states. "Cross-border casino shopping is a catalyst for many states," says Andrew Zarnett, a gaming analyst and managing director of Deutsche Bank. "You can't say they're not playing, they are," he says. "So states think, 'Why don't we just capture our own revenue back?'"

Like swallows to Capistrano, states return to the idea of "easy money" from gambling whenever there is a major fiscal crisis. Yet with so many--and such large--budget shortfalls, some policy makers who opposed gambling in the past now feel under pressure to sing a different tune, particularly if they promised during campaigns not to raise taxes.

Although it's difficult to put an exact number on how many are seriously contemplating the issue, discussions are taking place in at least 18 states about allowing or adding new types of gambling, as well as increasing the number of electronic devices in existing venues. The only state actively considering a halt to the expansion of gambling this year is Connecticut, which already has two popular Indian casinos.

INTO THE MAINSTREAM

It's not hard to understand why gambling is a tempting budget fix: A lot of revenue flows from one of the country's highest-taxed industries. In Illinois, for example, the top tax rate on casino revenues now is 50 percent--and that's in addition to other corporate taxes. Rhode Island gets close to a 55 percent cut from jai alai and dog racing. "It certainly is a convenient way for people in politics to obtain revenue without seeming to impose higher taxes," says Bennett Liebman, coordinator of the racing and wagering law program at the Albany Law School.

Since the period between 1989 and 1993, when states last looked en masse to gambling as a budget savior, it has become more palatable and mainstream. In 2002, several gubernatorial candidates actively supported gambling. "Before, it was a political hot potato politicians tried to avoid," says Bill Eadington, professor of economics and director of the Institute for the Study of Gambling and Commercial Gaming. But this time, he notes, " 'If I get in it will be part of my program,' was the line."

Last year, gubernatorial candidates in several states ran successfully on the issue of gambling. Robert Ehrlich campaigned for slot machines at Maryland horse tracks, and Oklahoma's Brad Henry promoted a state lottery. In Pennsylvania, both new Governor Edward Rendell and his opponent, Attorney General Michael Fisher, backed putting slots at the state's four racetracks. New governors in Alabama, Arizona, Kansas, Massachusetts, New York and Wisconsin favor some form of gambling.

And despite continued vocal opposition from religious leaders and other anti-gambling groups, the general public has shown increasing acceptance of gambling as a legitimate form of entertainment. Idaho voters approved allowing Indian tribes to have 3,000 video lottery terminals. In Iowa, where gambling was an issue on the ballot in 11 counties, voters chose by a landslide to keep casinos and "racinos" (slot machines at racetracks) for eight more years.

Hawaii and Utah are the only states remaining that do not have some form of legalized gambling. Tennessee left the dwindling group last year after voters removed the constitutional ban on a state lottery with 58 percent of the vote. The legislature now is mulling how to structure a lottery.

Another difference in the gambling resurgence this time around is that few states are proposing casinos that would be owned by large private companies, the way it's done in Las Vegas, Atlantic City and Mississippi. Just about everything else is on the table, however, from Indian gambling to allowing electronic gaming devices at casinos to increasing taxes on existing gambling and renegotiating the state's share of what it takes from casinos.

California wants to allow an expansion of gambling devices at Indian casinos in exchange for a larger slice of the revenue pie. Missouri is looking at raising taxes on casinos. The Massachusetts legislature is considering allowing slots at the commonwealth's four horse and dog tracks. Ohio lawmakers also are mulling slot machines at horse tracks.

CASINO CANNIBALS

If the primary reason for choosing to go the gambling route is to repair budgets, then the obvious questions are how well does it do that and at what cost? Opponents are quick to point out that Nevada, despite being home to Sin City, has a huge budget hole, possibly as large as $700 million, according to recent estimates. "How can it have a budget crisis? It's got gambling," scoffs Tom Grey, executive director of the National Coalition Against Gambling Expansion. "Show me where states have gambled themselves rich."

Connecticut allowed Indian gambling back in 1991 as a solution for budget problems then. Yet, it is projecting a shortfall of between $1 billion and $2 billion for fiscal year 2004. "Initially, these things are a panacea for budget problems in the future," says Paul L. Dion, an economist in the budget office in Rhode Island, which is considering allowing casino gambling. "When money comes in, it gets spent, it's that simple. That's not a knock on Connecticut. Every government works that way."

With the exception of Nevada, gambling is never going to boost a state's general fund revenue by more than a few percentage points--and that won't happen overnight. "If this was really what they say it is, every state with a deficit should be jumping at it," Grey says. "That's not what's happening. The battle is still going on."

What's more, one state's revenue increase may be another state's loss. When new casinos are built, there is great potential for them to cannibalize other states' gambling revenues--as well as harm their home state's lottery. At the extreme end, if every state legalized gambling, markets would likely become saturated and profit margins squeezed.

In the Northeast, there appears to be a race to capture the hearts and pockets of gamblers. Last year, New York approved joining a multi- state lottery, tribal gambling and slots at racetracks and casinos. If slots are added in New York, Pennsylvania and Maryland, it could lessen anticipated revenues for all. And it likely would suck $750 million, or 14 percent, from Atlantic City's gambling revenues by 2006, according to a Bear, Stearns report. But as one Maryland racetrack owner told the Washington Post, "when one side has all the ammunition and the other side's got nothing, we can hardly spend time worrying about an arms race."

But what about shooting oneself in the foot? Last year, the Massachusetts State Lottery generated about $899 million in profits, which went to cities and towns. Tim Cahill, the new state treasurer, worries that this money would be at risk if the Bay State were to bring in casinos. In written testimony submitted to a gambling commission formed by then-Governor Jane Swift, Cahill pointed out that in Connecticut, the sales growth for the lottery for the years 1982 to 1991, before casinos were approved, was 212 percent. Since 1992, sales growth has been only 54 percent. "We cannot lose sight of these numbers when discussing the potential impact of casino gambling on our own lottery revenues," Cahill declared.

NERVOUS NEIGHBORS

States that already have gambling are apprehensive about the marked interest in expansion elsewhere and are watching to see what neighboring states do. "We have some concerns about Massachusetts adding video lottery terminals at the greyhound tracks," says Rhode Island's Dion. Currently, Rhode Island gets 52 percent of the adjusted gross revenue from its greyhound park and 57.5 percent from its Newport Grand Jai Alai Fronton, and those percentages are slated to increase each year, to 55 percent and 59 percent, respectively, by 2006. If a casino were to open on Massachusetts' southeastern border, as has been discussed, "it would clearly affect us," Dion adds.

It's not a given, however, that when one state opens the door to slots, neighboring states automatically start trying to generate such revenues for themselves. "There are too many political issues involved for there to be a direct effect," says Liebman. "We aren't going to find how this falls out until the first state moves ahead." But he also believes that thus far, the demand for gambling, especially slot machines, has generally exceeded the supply.

Raising taxes on existing gambling might seem like the least controversial option, but there are consequences to consider. Missouri is thinking about raising its flat 20 percent gross receipts tax levied on casinos. But Jim Oberkirsch, chief financial analyst for the Missouri Gaming Commission, suggests that a sharp increase in taxes may not be the best bet. He cites neighboring Illinois as an example.

When Illinois brought in gambling, there was a flat 20 percent tax rate and a $2 casino admission charge. Effective July 1, 2002, that changed to a graduated tax rate ranging from 15 percent on the first $25 million in gross receipts to 50 percent on takes of more than $200 million. That has had a negative economic effect on the communities where gambling is located, argues Tom Swoik, executive director of the Illinois Casino Gaming Association, who used to be deputy administrator of the Illinois Gaming Board, the state's regulatory agency.

To protect their bottom line, given the higher tax hit, Illinois casinos have reduced the giveaways and promotions at casinos that attract some customers and cut back on capital expenditures. Harrah's, located in Joliet and Metropolis, was going to expand one facility and build a hotel at the other but decided not to. Empress in Joliet reduced a $70 million planned renovation to $40 million. Another casino closed a restaurant and laid off staff.

Neighboring Indiana's graduated tax now tops out at 35 percent and Missouri's at 20 percent. "We're in competition with both of those states," Swoik says. "If you were a business, would you renovate where the taxes are 20 percent or 50 percent?"

REVENUE AND RESPONSIBILITY

While many states are still struggling with the gambling issue, others have made their peace with it. Not only has Oregon permitted slots for more than a decade, the state lottery actually runs the operation. By doing so, it gets at least 50 percent of the take from slot machines operating in bars, taverns, bowling alleys or other places that are licensed for liquor and have age-controlled areas where only those 21 years old and up are allowed. If a commercial outfit were involved, the take would be more like 35 percent.

A decade ago, Oregon conceded that people enjoyed playing slot machines. They played "gray machines" at arcades where they weren't supposed to win money, but some illegal machines were returning money. Rather than outlaw slots completely, Oregon decided to outlaw the gray machines and put in "real" ones it could regulate and get the financial benefit from.

While the state-run model does transfer more money from the machines to the state than if a commercial operator were running the games, the state also has added responsibility. "You do end up building up an entity of the state," says Don Robison, Oregon's video lottery product manager. "We have 417 employees throughout the state. There are operational issues associated with that."

How gambling might be instituted and who would run it are among the many facets that Florida lawmakers could debate in the coming months. In light of the state's budget woes and the need to fund a new class- size reduction initiative, gambling looks mighty enticing to some legislators. But others remain adamantly opposed.

Florida Senate President Jim King takes a dim view of full-blown casinos but wants to give citizens the choice whether to legalize video lottery terminals at ailing racetracks rather than raise taxes to fill the state's gaping budget hole. "I believe, and I haven't been proven wrong yet, that citizens would say let's go the VLT route with some guarantee there will be no expansion beyond that," King says. "It's not an expansion of gambling issue, it's a revenue-production issue."

His counterpart in the House, Speaker Johnnie Byrd, is dead set against gambling. So if the state doesn't have enough money to do everything it wants to do, then some hard choices will have to be made. "We should build on the strength of Floridians," he says, "rather than on their weaknesses through some expansion of gambling or get-rich scheme."

Ellen Perlman
Ellen Perlman  |  Former columnist
mailbox@governing.com  | 

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