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It’s Too High Spending Expectations, Not Tax Cuts, That Will Get States in Trouble in the Coming Years

The views expressed are those of the author and do not necessarily reflect the views of ASPA as an organization.

By Thomas Young
January 8, 2023

Every year (or two), states get around to budgeting. State legislatures allocate money—mostly from taxpayers or feepayers, but also from debt-buying investors—for employee pay raises, building projects, new economic development projects and other priorities of (mostly) elected and unelected leadership. In 30 states, the budgeting is done annually. In the other 20 states, budgeting is generally done biennially.

What have our state legislators been up to in recent years? Well, they’ve been shelling out the bucks, and a lot of them. According to the National Association of State Budget Officers (NASBO), 2022 and 2023 budgets across all states grew by 16 percent in 2022 and 11.8 percent in 2023. That is the first time on record that state governments have allocated consecutive years of double-digit growth in spending—ever! (Of note: consistent data collection by NASBO for the State Expenditure Reportbegins in 1979).

Spending growth took a breather in the enacted fiscal year 2024 budgets, “only” growing 6.5 percent over the prior year. The historical average is 5.8 percent.

Figure 1: Year over year growth in general fund spending, all states. Source: NASBO, State Expenditure Report, Table 1

The explosion in state general fund spending growth (this does not include federal money within states’ budgets) begs the question: What’s on the horizon?

Unsurprisingly, that’s a tricky question to answer. In fiscal year 2024, 10 states expected spending growth of between 0 and 5 percent, three states expected spending to grow between 5 and 10 percent, 21 states expected spending to grow greater than 10 percent and 16 states expected spending to be flat or decline relative to 2023 spending.

Figure 2: Expectations of Spending for Fiscal Year 2024. Source: NASBO, State Expenditure Report, Page 3

The Brightest of Pictures in Some States

The incredible spending growth forecasts of many states suggests either that around half of states are behind the curve in their revenue expectations, or simply believe that “this time is different” when it comes to the economic cycle. Which one is it?

The answer is: we don’t know, yet, but economic conditions suggest that some states are being pretty foolish with their budgeting practices. Either that, or they simply don’t mind setting people up for more taxes off the top to continue to boost public spending.

The Coming Debate

In the not too distant future, states will be forced to make some tough budget decisions. Should they reduce programs or ask for tax increases or issue more debt?

History suggests that two common budget arguments will come to the forefront. The first will be whether states opted to cut taxes too much, and the second will be by how much should states raise revenue (the polite way of saying raising taxes). Of course, it is worth noting that some states actually will cut spending, but even in conservative states, cutting spending doesn’t get very far.  It’s just too politically painful to reduce spending in our current system that has socialized so much of today’s economic landscape.

Did States Cut Taxes Too Much?

Looking first at tax cuts, did states opt for tax cuts that were too large when they were flush with cash? The answer is clearly no. Of the $1.3 trillion in fiscal year 2024 forecasted general fund revenue, states enacted $13.3 billion in tax reductions, or around 1.1 percent of projected revenue. The small amount of tax reductions becomes even smaller going into 2025 considering that about 40 percent of the tax cuts were one-time/temporary tax cuts.

So, if you are one that despises tax cuts, you have better arguments to make than to simply say that your state cut taxes too much. The evidence suggests that states created too high spending expectations that will become problems in the coming years—not tax cuts that were too large.

By How Much Will States Raise Revenue?

With spending reductions difficult to accomplish and spending pressures high during times of economic stress, states will likely turn to the taxpayer. The question is—by how much? Well, if we use the 2008 and 2009 years as a guide, states will be adopting lots of revenue raisers. According to a report out of the left-leaning Center for Budget and Policy Priorities, 33 states adopted $30 billion in tax increases. The states that opted for the largest tax increases—revenue raising of five percent or more of projected revenue—included California, Delaware, Florida, Indiana, Massachusetts, Nevada, New Hampshire, New York, North Carolina and Oregon. Many of these states will likely show up on this list in the coming years unless they quickly dampen expectations and begin the difficult parts of public budgeting (clawing back some actual spending commitments).

What Can States Do Now to Prepare?

Given this backdrop, what can our policymakers be doing now to be prepared? One simple suggestion is that elected officials could be quietly looking for ways to reduce spending without causing panic among the administrative state. Elected officials could also adopt more conservative economic forecasts now to prepare for what’s ahead. This would give legislators cover to be much more careful with taxpayer dollars. These two options are, of course, no easy task.

Author: Thomas is a former legislative budget staffer who now splits his time between economic consulting (Econometric Studios and EconoWest), investing, and appraising. He holds a Ph.D. in business economics from the University of Utah. He can best be reached at his business email address: [email protected].

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