Based on the November 2007 forecast, a state general fund budget deficit of $373 million is projected for the current FY 2008-2009 biennium. While this deficit represents only slightly more than one percent of the entire state general fund, the state’s fiscal situation gets considerably worse upon closer scrutiny.
The news of a deficit becomes more distressing when we consider that it reverses what had been a projected surplus. The graph above illustrates how a projected surplus of $294 million became a deficit of $373 million. In a typical graph, each bar begins at zero. In this graph, only the first bar begins at zero; all subsequent bars begin where the previous bar left off.
The first bar shows the $294 million surplus that was projected at the end of the 2007 legislative session. State spending in the November forecast is projected to be $66 million higher during the FY 2008-09 biennium than what was projected at the end of the 2007 session, which reduces the anticipated surplus to $227 million (the second bar). On the positive side, the balance carried forward from the previous biennium turned out to be $139 million more than what was anticipated at the end of the 2007 session, which increased the surplus to $366 million (the third bar).
The major factor which brought the projected budget balance from positive to negative territory was a decline in projected state revenues of $739 million (the fourth bar). This decline represents a decline of 2.2 percent in anticipated general fund revenue for the FY 2008-09 biennium. This significant drop in revenue, combined with the other changes, explains how a projected surplus at the end of the legislative session became a $373 million deficit.
Minnesota’s long-term fiscal situation is even gloomier. The “structural balance” refers to revenues generated within a biennium minus expenditures made within the same biennium, ignoring the balance carried forward from the previous biennium. Based on the November forecast, the official structural deficit for the FY 2010-11 biennium is $211 million.
However, official state projections ignore the impact of inflation, thereby understating future expenditures. The graph below shows the structural balance for the FY 2010-11 biennium in three ways: (1) ignoring most inflation, (2) measuring inflation using the consumer price index (CPI), and (3) measuring inflation using the implicit price deflator (IPD) for state and local government purchases.
Minnesota’s Council of Economic Advisors has recognized the necessity of adjusting for inflation when projecting state expenditures. As noted in the November 2006 forecast: “The Council continues to believe that projecting future expenditures without making any allowance for inflation except where required under current law understates the severity of the financial problems the state will face in future biennia.” The Council has further recognized that the CPI does not adequately measure inflation in government costs, recommending instead the use of the state and local IPD: “Council members also noted that use of the CPI understates the effect of inflation on the cost of providing state government services. The Council suggested that the price deflator for state and local government services [i.e., the state and local IPD] was the appropriate price index to use.”
When we recognize the impact of inflation using the appropriate inflation index, the FY 2010-11 structural deficit mushrooms from a modest $211 million to nearly $1.5 billion or almost four percent of projected total general fund expenditures.
The state’s general fund deficit is not the result of spending growth. In real (i.e., inflation-adjusted) dollars per capita, state general fund spending has been declining since the FY 2000-01 biennium, as demonstrated in the graph below.
General fund spending grew from FY 2000-01 to FY 2002-03 due primarily to the state buy-down of education and transit property taxes. Since FY 2002-03, real per capita state general fund spending has fallen steadily. Real per capita state general fund spending will be 5.2 percent less in FY 2008-09 than in FY 2000-01 and will drop by another 2.7 percent by FY 2010-11 based on November forecast planning estimates.
The decline in state general fund spending becomes even more pronounced after adjusting for the state property tax buy-downs that occurred during the FY 2002-03 biennium. It is appropriate to adjust for these buy-downs since they do not represent an increase government spending, but rather a change in how existing government expenses are paid for. After adjusting for the state buy-down of general education and transit property taxes, real per capita state general fund spending will be 12.6 percent less in FY 2008-09 than in FY 2000-01 and will drop by another 2.5 percent by FY 2010-11 based on planning estimates.
This analysis demonstrates that Minnesota’s budget will be experiencing significant deficits despite a steady decline in real per capita state general fund spending over the course of this decade.
“No new tax” adherents are fond of saying that “we do not have a revenue problem, we have a spending problem.” If Minnesota has a spending problem, it is because our state spending has fallen below the rate of inflation, causing state investments in transportation, education, and health care to dwindle at the same that more public costs are being shifted on to local property taxes.
In truth, Minnesota has a revenue problem–a problem compounded by the fact that the Governor and other state leaders are wearing ideological blinders that only allow them to consider only one possible solution: deeper and deeper spending cuts. In order to address the state’s budget problems, both tax increases and greater efficiency in the use of public dollars need to be on the table.