25 States Start the Year Off With a Shortfall
As state legislatures convene this month, half of them will likely have to add fixing a budget shortfall to their to-do lists. An analysis by the government relations firm MultiState reports that 25 states are facing budget shortfalls this month. That’s better than the 31 shortfalls the firm found last January.
The size of the deficits vary widely. In some places -- such as Rhode Island and Vermont -- it's small enough that very little legislative action will be needed to resolve it, writes MultiState Analyst Ryan Maness. Other states may have to consider significant changes to solve their fiscal problems. Notably, New York is facing its biggest budget gap -- $1.7 billion -- in more than half a decade.
The states with shortfalls are mostly concentrated in oil and natural resource states, the Midwest and the Northeast.
The Takeaway: Tax reform and the changes it will have on state revenue could play a big role in whatever solution states come up with. Because federal tax reform eliminates many itemized deductions, a fair number of states will see an increase in revenue unless they decide to break from the federal government and keep those income deductions for taxpayers. For example, Oregon, which is facing a $1.7 billion deficit over two years, is expecting up to a $200 million windfall this year.
History has shown that tax reform windfalls can be tempting in places that are short on revenue. Three decades ago when federal changes scaled back tax benefits, such as eliminating the deduction for credit card debt interest, states had to decide whether they would do the same. While many sought full or partial revenue offsets, nine -- all with weak revenue conditions in 1986 and 1987 -- decided to keep the windfall from the federal reforms.
Exxon Uses Governments’ Financial Reports Against Them
ExxonMobil countersued California municipalities this week -- using the governments’ own bond documents as evidence.
The move is in response to a September suit filed by a handful of local governments against Exxon and 17 other energy companies. The governments are seeking billions of dollars in damages to pay for infrastructure to protect coastal cities from potential damages caused by rising sea levels, which studies have linked to the burning of fossil fuels and rising global temperatures.
Exxon alleges that the municipalities’ own bond documents don’t back up their claims that combating the effects of climate change will be a drain on their finances because the issue isn't included as part of their fiscal pictures. So, Exxon argues, municipalities have either committed securities fraud by keeping this information from investors, or adapting to climate change isn't really the big fiscal albatross the governments claim it is.
The Takeaway: Increasingly, governments’ financial statements -- even verbal ones -- have been used against them. In 2013, the Securities and Exchange Commission (SEC) charged the state of Illinois with securities fraud for not divulging the severity of its underfunded pensions to investors. It also sued Harrisburg, Pa., for securities fraud, citing a former mayor’s State of the City address, which called the debts of the city’s waste treatment facility an “issue that can be resolved.”
For what it's worth, Moody’s Investors Service warns in a recent report that climate change could increasingly stress the credit of localities, particularly for coastal cities. "While we anticipate states and municipalities will adopt mitigation strategies for these events, costs to employ them could also become an ongoing credit challenge," says Michael Wertz, a Moody's vice president.
Is the New Jersey Lottery a Fix-All?
After a successful bond refinancing last week that netted New Jersey $15 million in savings, State Treasurer Ford M. Scudder took the occasion to highlight the state's bipartisan Lottery Enterprise Contribution Act (LECA). Scudder credits the act, which pledged the $13.5 billion state lottery enterprise as an asset to state pension funds, with reducing the pension system's $49 billion unfunded liability and providing the system with a $1 billion annual funding stream.
Scudder notes that last month's bond refinancing generated a huge response from investors: The state was only offering $170.5 million in bonds; it received orders totaling more than twice that amount. "The strong response by investors to New Jersey's most recent bond issuances," he said in a press release, "is proof that New Jersey's fiscal future is brighter today following LECA's enactment."
The Takeaway: The lottery act is certainly creating more funding stability for New Jersey pensions than they’ve since the last century. But it’s a stretch to credit LECA with saving taxpayer dollars on bond refinancings. A far more plausible reason is historically low interest rates.
Regardless, New Jersey’s pension situation is still very much a drain on how it is perceived in the municipal market. Moody’s Investors Service rated the bonds in the recent sale one notch below the state’s A3 rating. Moody’s said its rating for New Jersey -- which is much lower than the average state rating -- was weighed down by “its significant pension underfunding [and] large and rising long-term liabilities.”
That lower rating also generates a cost to taxpayers. A look at the yield on New Jersey’s bond sale compared with an Aa2-rated children’s health system in Texas last month shows that the New Jersey bonds gave investors anywhere from a half percentage point to nearly a full point higher return than the Texas ones.
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