Friday, March 27, 2009

Are tax hikes the “last resort” to balance the state’s finances?

Adapted from a guest column by Farrell Quinlan provided to the six member chambers of the West Valley Chambers of Commerce Alliance in mid-March for publication in their April newsletters.

Arizona's deepening state budget crisis has revealed itself to be a black hole of dismal fiscal and political reality whose gravity is so overwhelming; normal political physics break down within it.

How else can we explain the once-unimaginable shift by new Governor Jan Brewer from champion of tax cuts to proponent of a billion dollar tax increase?

Everything about Gov. Brewer's 27-year political career screams opposition to tax hikes. Few Arizona political leaders have earned and have enjoyed such a firm anti-tax reputation. So what happened?

Gov. Brewer was sworn in as Arizona's twenty-second chief executive on January 21, 2009 after six-year incumbent Janet Napolitano resigned to become the nation's third Secretary of Homeland Security. Upon taking office, Gov. Brewer's lap had dropped into it a $1.6 billion current-year budget deficit. Without missing a beat, the veteran politico and her fellow Republicans in the Legislature remedied that shortfall with three roughly equal measures of program cuts, dedicated fund sweeps and federal assistance. They welcomed February with the uneasy belief that they had staunched the current-year bleeding and could turn their attention to surgery on next year’s budget. That wasn't to be.

State revenue collections continued their steady erosion necessitating the use of hundreds of millions of dollars in federal assistance funding assigned to next year's budget to finally(?) close this year's stubborn deficit. The bleeding truly hadn't stopped.

When Gov. Brewer delivered an address to a joint session of the Legislature on March 4th, next year's structural budget deficit stood at approximately $3.5 billion. That figure becomes even more alarming when you consider that the Arizona only expects to collect about $7.6 billion in revenues. Put more starkly, Arizona is due to spend 46 percent more than it takes in.

Why can't our political leaders simply cut state spending and institute across the board personnel layoffs and furloughs to balance the budget? The private sector makes drastic cuts along these lines, why not government too?

However much we'd like to view state government as just a really big business that can be run like a business, it turns out that it isn't and it can't.

What’s becoming very apparent is that balancing the budget solely through spending cuts is hamstrung by the Arizona Constitution (Prop. 105: The Voter Protection Act) and by an array of "strings" attached to federal funding.

Most of the billions in federal education, transportation and health care dollars that flow through state programs require a state match. In some cases it's a 3-to-1 match or even a 4-to-1 match. If the state zeroes-out a $25 million general fund expenditure tied to a 3-to-1 federal match, we are actually cutting $100 million in services to realize the $25 million general fund savings. That's not much gain when compared to the pain felt by legislators' constituents who use that heavily-subsidized program.

Exacerbating the meager fiscal payoff of such a slash-and-burn strategy are new requirements in the American Recovery and Reinvestment Act (popularly known as the Stimulus Bill.) Federal assistance (bailout) moneys will only be released to states that hold their health care and education spending to 2006 or 2008 levels. This "maintenance of effort" requirement effectively limits how deep legislators can cut from these programs even if we don't have the money to pay for them; and we don't. If we add in the state’s spending on corrections, more than 75 percent of the state budget may be effectively off limits to closing the gap. And the math only gets worse if Arizona decides to forgo the billions in federal assistance in order to avoid these conditions.

Does this mean we've objectively reached that mystical "last resort" point where spending-cutters become tax-increasers? Gov. Brewer clearly thinks so. In her March 4th address to the Legislature, Gov. Brewer laid out a five-point plan she styled a "path to prosperity" and program for "building a better Arizona":
  1. Structural Budget Reform – strengthen the Rainy Day Fund, restrict fund sweeps and require honest revenue estimates for budgeting. (Much of this is an academic exercise until we have "extra" revenues to fill a future Rainy Day Fund.)
  2. Weaken Prop. 105: The Voter Protection Act – allow the Legislature to cut voter-protected spending on education and health care programs during extraordinary times of crisis. (This constitutional reform requires passage of a ballot proposition.)
  3. Spending Cuts – $1 billion in further cuts in state spending programs. (That means hundreds of millions in further education and health care cuts.)
  4. Tax Reform and Modernization – structural changes beginning in 2012 to craft a more jobs-friendly tax code.
  5. Temporary Tax Increase – $1 billion per year in temporary tax increases to bridge the gap in our massive budget shortfall. (Gov. Brewer would prefer to sign a tax increase sent to her by the Legislature but would settle for a special election later this summer to get voter approval for the tax increase.)
Initial legislative reaction to Gov. Brewer's tax increase proposal was, to be charitable, unenthusiastic. Lawmakers from her own party hold to the belief that the Legislature can and will balance the budget without raising taxes. Gov. Brewer wishes them luck in their quest and said she would sign such legislation. But one gets the feeling from legislators' body language that they too see themselves ultimately arriving at that same "last resort" space that Gov. Brewer landed on in her March 4th address.

Does this mean Arizonans are in store for higher taxes at precisely the worst time to raise taxes – during a recession? And will voters, if asked, agree to raise their own taxes and return spending flexibility to legislators so they can cut sacrosanct education and health care programs?

Regardless of the answers to these questions, rest assured, our permanent budget crisis will continue through 2009, past 2010 and out to as far as we can see.