How To Balance A Budget

If you think it takes a long time now to get a new driver’s license, wait until next year. The line at your Department of Motor Vehicles (DMV) may well be out the door and around the corner–assuming the office is even open. And when it’s finally your turn at the counter, expect to pay more for that really bad mug shot taken by an especially grouchy DMV jock who has just been told not to plan on any pay raises before the kids leave home. You can only hope the experience doesn’t leave you with an ulcer, because if you’re on any kind of health-care assistance, you may find that you no longer qualify. Even if covered, you may find that the nearest hospital has been shut down, along with a wide range of state-funded facilities and services that will impose hardship on millions of Americans next year.

Though we hope nothing like this happens to you, get ready for the most severe state-budget crises since World War II. As Governors across the U.S.–24 of them newly elected–prepare to ring in 2003, the only thing they are celebrating is that they have lots of company in their fiscal misery. Laws in all states except Vermont require a balanced budget. To achieve that in the current fiscal year, which in most cases runs through June 30, states must slash spending and tack on fees and taxes. What they are pondering ranges from the relatively painless (new taxes on tobacco and expanding gaming and lotteries) to the inconvenient (shortening hours at DMV and welfare offices) to the positively painful (closing hospitals, parks-and-recreation departments and libraries, cutting Medicaid, raising college tuitions and laying off thousands of state employees).

The main source of the states’ budget distress is plunging tax revenue stemming from the economic and stock-market downturns. State receipts, largely from sales and capital-gains taxes, fell 6% last year, the first decline in more than 50 years. The states are running an aggregate deficit that is expected to reach $68 billion by June 30. Not even a sudden economic revival would mend what amounts to bad luck (the recession) teamed with years of poor planning and an ancient state-tax system that largely ignores the fastest growing part of the economy: services. You don’t pay tax to have a tooth pulled, your taxes done, your lawn mowed or a lawsuit filed. That may have to change. Goods bought over the Internet are often tax free, and that too might have to change.

In the meantime, the states have pressed Washington for money to pay for things it has demanded–among them, homeland-security initiatives, election reform and broader Medicaid benefits for the poor. Beset by federal deficits, the Bush Administration is unlikely to provide much help at a time when it is focused on tax cuts and a possible war with Iraq. The states are being left to deal with their crises pretty much alone, but they plan to share their burdens in any way possible. One area ripe for cuts is state aid to municipalities and local transit authorities, so the crises are going to spill into how often your trash gets collected and when the bus runs.

The plight of Harrison township in southeast Michigan is typical. Through the 1990s, local authorities did next to nothing to increase tax revenue, counting on bountiful state pass-throughs as a booming economy and stock market boosted the state’s sales-and capital-gains-tax revenues. Indeed, many states were able to support municipalities and cut tax rates at the same time, a strategy that critics say is backfiring and is more to blame than the recession for the states’ fiscal mess. Michigan is cutting revenue to townships like Harrison. Governor John Engler is expected to announce some $470 million in total budget cuts this week. Harrison township has already had to shut down its recreation department, sell 12 vehicles, slash $16,000 earmarked to clear seaweed that hampers boat traffic near the Lake St. Clair shoreline and cut $19,000 for improvements to dirt roads. The town board had to approve a special assessment last week to cover police and fire protection. “People still don’t have their eyes open,” says newly elected township supervisor Mark Knowles, the first Democrat voted into that office in 33 years. “They’re going around saying, ‘You’re raising taxes! You’re raising taxes!’ Yes. But they weren’t paying enough to begin with. They just got caught sneaking into the movie theater.”

The dire fiscal straits have been visible for some time, but state and local officials were able to paper over their problems by depleting rainy-day funds–surpluses built during boom years–and tapping other onetime sources of cash to keep the budget in balance without encroaching on the everyday lives of most people. But that tactic has been exhausted. Already, many states have broken a trend of tax cuts that began in 1994–raising taxes by an aggregate $9.1 billion last year.

A recent pair of bombshell reports has made clear the severity and scope of the crises. The National Governors Association said the states’ cash reserves as of June 30 had dropped to $14.5 billion, from $48.8 billion three years earlier. This new figure is 2.9% of total state spending–by that measure, the lowest cushion in a decade. Meanwhile, the National Conference of State Legislatures said two-thirds of states had collected revenue below forecasted levels through October of this year and that 26 states had lowered their revenue estimates for the rest of the fiscal year. “2003 will be a year of tough policy decisions,” says Bill Pound, the group’s executive director. The only states saying their budgets are on sounder footing are Florida, Hawaii, New Mexico, North Dakota, Rhode Island, Tennessee, Utah, Washington, West Virginia and Wyoming.

Everywhere else is a different story. In California, whose projected budget shortfall over the next 18 months is $21 billion–by far the largest in the land–a special session of the state legislature is set to begin Dec. 9. Governor Gray Davis has said he will give lawmakers a package of $5 billion in budget cuts to consider. Over the past few weeks, Davis has eliminated 12,000 state jobs. Contracts that have not been finalized have been canceled. New-furniture and -equipment purchases are on hold. Nonessential travel has been stopped. Showing the local impact of the state’s budget woes, it was disclosed last week that the agency that runs the Golden Gate Bridge is thinking about asking pedestrians who cross the bridge to make voluntary donations, a step that was derided as a humiliating, tin-cup approach to the crisis. Although California’s problems are unusually severe, the outcry is sure to build across the land. Here’s a preview:

Hurry Up and Wait

Visiting the DMV is rarely a pleasant experience anywhere. But in Virginia it has got far worse. Democratic Governor Mark Warner, who inherited a $5 billion shortfall from his Republican predecessor, closed 12 service centers and cut hours at others. Motorists stand in longer lines. State G.O.P. officers charge that the closings were politically motivated, given that 10 of the shuttered DMV offices are in districts represented by Republicans. But Warner denies it, and a DMV spokesman says only “absolute business reasons” were taken into account.

Longer lines and their accompanying political football will surface widely next year as officials cut hours at or close libraries, social-services agencies and state administrative offices. In Virginia, Warner moved the opening time at state-run liquor stores to 11 a.m. from 10 a.m. After nine caseworkers were cut from the welfare office in Holyoke, Mass., cases became so backlogged that employees posted a sign asking visitors to BE PATIENT: YOU MIGHT HAVE TO WAIT TO SEE YOUR WORKER.

Give Till It Hurts

Given the resistance to tax increases, look for states to raise revenue with sneaky fees and by further targeting such “sins” as alcohol, gambling and tobacco. In Virginia the DMV levies a service charge on credit-card payments. California is expected to triple motor-vehicle–license fees, adding nearly $4 billion a year to the state’s coffers. Higher income taxes for the wealthiest Californians are a possibility too, according to Democratic state senator John Burton. In New York City, Mayor Michael Bloomberg is weighing a surtax on those who earn more than $200,000 a year.

For the most part, elementary and high school programs won’t be touched, but state universities will see funding cuts, driving up tuition. Virginia Commonwealth University in Richmond just raised tuition for the spring semester by several hundred dollars, a rare midyear hike.

In Nebraska, during the most recent session of the legislature, lawmakers increased taxes on retail sales (to 5.5%, up from 5%), cigarettes (to 64¢, from 34¢ a pack) and income (a new average rate of 5.1%, up from 2.36%, starting in 2003). The hikes were vetoed by Republican Governor Mike Johanns, but the veto was overridden. The sales-tax increase targets some services, including software training, pest control, automobile cleaning and roadside assistance. That tax hike is expected to raise $100 million a year.

Coming Soon: More Casinos

More states are looking at starting or expanding betting–seen as an easy way to boost revenues–by adding new casinos, state lotteries and racetrack slot machines. In New York, Governor George Pataki signed contracts to permit three more Native American casinos in the western part of the state. He expects the 13-year deal to bring in $1 billion. Indiana and Illinois have raised taxes on riverboat casinos.

In the recent election, Arizona voters approved more slot machines, as well as tables for blackjack and poker. In Tennessee, one of only three states that had no legal gambling, voters overwhelmingly accepted a state lottery for next year. Critics have long argued that gambling revenues are a mixed blessing, increasing revenue but amounting to a tax on those who can least afford it.

Get Out of Jail Free

To balance their budgets, many states are going soft on crime. In Oregon, starting March 1 and continuing until at least June 30, courts will stop processing small-claims cases and certain misdemeanors including shoplifting, trespassing and prostitution. The state’s appellate, circuit and tax courts will be closed on Fridays. In all, the measures are expected to save $13.6 million.

A local prosecutor in Virginia Beach, Va., announced a similar plan: no new prosecutions of misdemeanor domestic-violence cases. “I deeply regret that the victims of domestic violence will not have a prosecutor on their side, while the defendants will be able to retain their own attorneys or have attorneys appointed for them if they are considered indigent,” said commonwealth attorney Harvey Bryant, a Republican. “I can’t afford to do everything.” A spokesman for Governor Warner called the move by Bryant, an elected official, unfortunate, adding that “to throw out the whole category of domestic-violence cases is irresponsible.”

Nebraska has cut spending for the 2003 budget three times over the past year, including closing a minimum-security prison in Hastings. It reopened the next day as a federal holding facility for people detained by the Immigration and Naturalization Service. Missouri is considering cutting the sentences of inmates to save money, and Illinois has closed prisons and mental-health facilities, prompting critics to warn of more crime.

Robbing Peter to Pay Paul

While states are salivating over the prospect of settlement payments stemming from the stock-research scandals on Wall Street, those probably won’t be forthcoming in time to save this year’s budget and won’t amount to that much on the whole. But the states have won a lucrative settlement from tobacco companies in a 1998 agreement that has been valued at more than $200 billion. Many states plan to borrow against those future receipts in a process known as securitization. The Oregon house just approved selling $400 million of so-called tobacco-settlement bonds.

This strategy has a downside. States are essentially stealing from future revenues and paying interest to do so, leaving less for spending in the long run. Many investors, in turn, have recognized this strategy as a sign of a state’s financial stress and have demanded even higher interest rates to buy any of the state’s bonds, which further erodes the value of the tobacco settlement.

Doctor in the House?

Health costs, first among them Medicaid for the poor, have been the biggest drivers on the cost side of state budgets, and that will be a difficult problem to solve. Medicaid costs rose 13.2% last year. The Senate approved assistance to the states worth $9 billion last summer, but the bill stalled. What could force the issue, says Joy Johnson Wilson, who covers health care–cost issues for the National Conference of State Legislatures, is the passage of time. “Medicaid programs will probably be in much worse shape by the time Congress comes back next year,” she says. “That may force them to act.” Meanwhile, surveys show many states are cutting payments to doctors and hospitals, requiring higher co-payments and taking steps to reduce Medicaid eligibility.

The Kids Aren’t All Right

With the popular and effective State Children’s Health Insurance Programs facing shortfalls, the states tried to get some $3 billion from Washington, but the effort failed. “There was no consensus on how to get that money to the states, so there was no action,” says Wilson. She is not hopeful that the new Congress will be able to come to an agreement either.

States are also cutting aid to people like Cindy Bishop, 33, of Kansas City, Mo., who has enjoyed being a foster parent for six years. These days she wonders if continuing to do so is economically viable, given her rising costs and falling state aid. “It isn’t that the state needs to be responsible for everything you need to do for a child, but there are basic things our kids won’t get because we can’t afford it,” says Bishop.

With elections having just taken place, the hard work is only getting started. Most state officials say they are steadfastly against raising taxes and that no program is safe from cuts. But they don’t say where the ax will fall. In most cases the states have until February to come up with a plan. That’s when Governors start offering their budgets for approval. As reality starts coming down to real numbers, you’re not going to like what you see. –Reported by Sally Donnelly/Washington, Karen Bouffard/Lansing, Sarah Sturmon Dale/Minneapolis and Laura A. Locke/San Francisco