Unhappy New Year: FY11 gets underway with no end in sight to the state fiscal blues

July 1st marks the start of the new state fiscal year in most of the country – but as glad as state Governors, fiscal directors and legislators will be to see the end of the annus horribilis of 2010,  don’t expect to hear the sound of Champagne bottles being uncorked or bands striking up “Happy Days Are Here Again” to usher in the new year.

As noted in a new report from the Center on Budget and Policy Priorities:

Dismal state revenue collections caused by the severe recession are setting the stage for a new round of state budget cuts as fiscal year 2011 begins in most states on July 1. The states’ cumulative budget shortfalls will likely reach $140 billion in the coming year, the largest shortfall yet in a string of huge annual gaps that date back to the beginning of the recession.

The first two years of the state fiscal crisis have already had an enormous impact on state budgets. The National Association of State Budget Officers reported in its most recent Fiscal Survey of the States that for the first time ever, state general fund spending declined for two consecutive years in 2009 and 2010.  The Center on Budget projects that while total state budget gaps will be slightly less in FY ’11 than in FY ’10, the availability of less federal Recovery Act funds this year means that states will see larger shortfalls.

Slow revenue recovery and the diminished availability of federal assistance and state reserve funds has left states cutting more deeply into budgets and services in FY ’11. The Center on Budget’s new report identifies the elimination or reduction of health care services to low-income residents, including those with physical disabilities or mental illness, in Arizona, Iowa, Kansas, Connecticut, Oregon and Washington. Here in Oklahoma, deeper cuts to health and social services were avoided by the FY ’11 budget agreement that included some $1.4 billion in federal funds, reserves, and assorted revenue enhancements. But the impact of an overall 6 percent decline in FY ’11 funding compared to two year ago is being felt across Oklahoma, taking such forms as lay-offs for hundreds of public school teachers, the elimination of educational programs, up to  bi-weekly furlough days for correctional officers, and college tuition increases, among many others.

As the state fiscal crisis extends longer and deeper, cuts are taking a growing toll on families, businesses, and communities.  To cite a new economic letter from the Federal Reserve Bank of San Francisco (FRBSF):

State budget crises are having and will continue to have very real and significant effects on residents and businesses. Cuts to public services, public safety, and education are severe and could potentially have lasting long-term consequences.

The Bank parts ways with other analysts, however, in suggesting that the contraction in state and local public spending is having only a modest impact on the economic recovery. By contrast, the Center on Budget notes that according to the federal government’s Bureau of Economic Analysis, state and local government cutbacks sliced a half of a percentage point off GDP growth in the first quarter of 2010.  According to Moody’s Analytics economist Mark Zandi, further cuts to state and local government jobs and services imperil a still-fragile economy and could trigger renewed recession. And yet Congress failed once again last week to approve an extension of assistance to the states in the form of enhanced federal Medicaid matching rates.

The good news, at least here in Oklahoma, is that revenue collections are finally trending up, which means that there is little likelihood that the state will again be forced to make mid-year budget cuts in FY ’11. Yet everyone agrees that states will not be out of the woods anytime soon. In the FRBSF’s assessment:

Federal stimulus support for state budgets is winding down in the next two years. Rainy-day funds are all but exhausted. Thus state fiscal crises aren’t likely to go away soon and will probably get worse before they get better.

This assessment certainly seems to apply to Oklahoma, where over $1.1 billion, or some 17 percent of this year’s budget is funded with non-recurring revenues.  This creates a hole, or perhaps a crater, for the FY ’12 budget that even robust revenue growth is unlikely to fill. Rather than looking at restoring funding levels to pre-downturn levels, the next year is likely to require continued tough discussions of what services and what revenues must be on the table to allow for sustainable funding of core government functions.

So farewell and good riddance to FY ’10, but hold that champagne and expect to hear the band keep playin’ the blues.