A New Year’s resolution the states can’t afford to break

John Stephenson Contributor
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The month of January is almost gone, and with it more than a few Americans’ New Year’s resolutions to live healthier lifestyles through diet and exercise. Regrettable as this may be, newly-elected leaders face a different set of resolutions that they must make and cannot afford to break. Namely, they must resolve to live healthier financial lifestyles by consuming fewer tax dollars and more actively pursuing budget reform to address government’s growing waistline before it’s too late.

Like the numbers many Americans see when they step onto a scale, the states’ fiscal figures are eye-popping and frightening. In 2010, the states reported combined budget deficits of $83.9 billion, according to the National Conference of State Legislatures. Although tax revenue is starting to improve somewhat due to a still-fragile economic recovery, 15 states already face budget gaps totaling $26.7 billion midway through the 2011 fiscal year. The near future does not look any better; 35 states expect budget gaps next year.

In many cases, these fiscal woes defy the sluggish revenue, less-than-expected stimulus funds, and immediate demands for relief programs that are part of the current “cyclical” downturn. Twenty states expect “structural” budget deficits in 2013, born not out of those three conditions but rather out of policymakers’ chronic failure to prioritize budgets and avoid programs that are unsustainable. For example, California officials project that the Golden State will run structural deficits of between 18 and 20 percent of revenues in the next three years, amounting to nearly $62 billion.

One reason for the gloomy outlook is pension costs for public employees. According to Joshua Rauh, an assistant professor of finance at Northwestern University, the states have unfunded pension liabilities totaling $3 trillion. Medical insurance for these retirees only adds to the pile. Other cost drivers are education, general health programs like Medicaid, and public safety, especially corrections. In short, the states’ budgets are too big for their citizens to afford.

These deficits are already taking a toll on the states’ ability to function. Arizona sold its state capitol and stopped covering some organ transplants under Medicaid. California has furloughed state workers and its credit rating has fallen to near-junk bond status. Illinois had begun issuing IOUs to contractors and vendors until elected officials there found a “cure” that just might kill the patient: massive income tax hikes of 67 percent for individuals and 46 percent for businesses.

The fiscal health outlook for the states is dire and could get worse without action. During a recent interview on CBS’s “60 Minutes,” Meredith Whitney, the respected financial analyst who correctly predicted the housing market collapse, said, “I think next to housing this is the single most important issue in the United States, and certainly the largest threat to the U.S. economy.”

Like overweight Americans, states must diet and exercise with regard to their budgets for their own long-term survival. To do so, they must commit to three things.

First, states must stop rigging the scales. Much of their fiscal data, especially for pensions, is time-delayed, incomplete, and often difficult to access. The public needs full transparency so they can understand and help to remedy their governments’ weight problems.

Second, states must adopt more prudent spending habits. They should move away from borrowing and rosy economic assumptions, and toward priority-based budgeting and tax-and-expenditure limitations. Just as dieters must avoid deceptive weight-loss schemes, states should refrain from increasing taxes, especially the latest “fads” that target the so-called rich, out-of-state Internet retailers, smokers, and cellular customers. If anything, states should make their tax codes simpler, fairer, and more competitive to spur economic growth.

Third, states must exert more activity toward finding innovative solutions to untenable pension programs. Simply increasing the retirement age and limiting the growth in benefits will not be sufficient. States should follow the example set by Utah and transition government employees from defined-benefit plans to defined-contribution plans like those used in the private sector. It may also be necessary to consider a bankruptcy (or some other kind of organized financial restructuring) option, but certainly not before state governments and the federal government have exhausted their powers to reduce spending.

New Year’s resolutions are simple, and, unfortunately, not always easy to keep. Yet, given the states’ fiscal conditions and the small likelihood that even a robust economic recovery can solve their difficulties, the consequence of failure is a weight gain that taxpayers will find unbearable.

John Stephenson is State Government Affairs Manager for the National Taxpayers Union (ntu.org), a nonprofit, nonpartisan citizen group founded in 1969 to work for lower taxes, smaller government, and economic freedom at all levels. NTU has more than 362,000 members nationwide.