Government often takes with one hand what it gives with the other. That’s particularly notable in this current Great Recession, where the federal government is pouring money into hard-pressed state and local governments, which in turn are reducing work forces and raising taxes to make up for plummeting revenues. In most cases they have no alternative, since all states except Vermont are legally required to balance their budgets. Nonetheless, tax increases and layoffs reduce purchasing power, which undermines the Obama administration’s effort to alleviate the recession with a massive increase of government spending.
California provides an extreme example. Gov. Arnold Schwarzenegger and legislative leaders recently ended months of fiscal crisis with a plan — “either a grand compromise or a Faustian bargain,” as a state official said anonymously — to resolve a two-year, $42 billion deficit with a mix of spending cuts, tax increases and borrowing. The plan includes a one-cent increase in state sales taxes and income tax surcharges that could bring in as much as $3.6 billion. In New York City, Mayor Michael Bloomberg wants to boost the sales tax by a half-cent to raise $900 million. In New Jersey, Gov. John Corzine has proposed an added wrinkle in so-called “sin” taxes — increases on liquor, wine and cigarettes — and the income of residents earning more than $500,000. Things are so bad in Illinois that Gov. Pat Quinn quipped that he was hoping for “divine intervention” but is proposing budget cuts and a 50 percent income tax increase instead.
Such measures, when added to hefty job layoffs in state and local government, will offset some of the benefits of the American Recovery and Reinvestment Act of 2009, the formal name of the $787 billion stimulus bill that is the centerpiece of President Obama’s economic plan.
In many states, the belt-tightening has just begun. The National Conference of State Legislatures estimates the unresolved budget gaps for 2010 fiscal year at $84 billion, nearly a third of the $250 billion that states will receive from the Recovery Act. Raymond Scheppach, executive director of the National Governors Association, predicts most states will struggle to make ends meet through 2011.
“The year after the recession ends is usually the most difficult for states,” he said in an interview. Scheppach, who holds a doctorate in economics, observed that state revenues are closely tied to jobless rates, which usually continue to rise even after an economic recovery begins.
Nonetheless, Scheppach believes the glass is half-full, rather than half-empty. Scott Pattison, executive director of the National Association of State Budget Officers, echoes his optimism.
“The federal stimulus is really a good short-term solution to prevent Draconian tax increases,” Pattison said in an interview.
Maybe so, but the magnitude of the tax increases in the pipeline is not trivial and any action depresses purchasing power in an economy in which the gross national product has shrunk by more than 6 percent could be harmful. (The federal stimulus bill will increase spending by an estimated 2 percent.)
Economists are all over the map on the merits of Obama proposals on housing, education and health care. There is general agreement, however, that the nation will not emerge from the recession until the administration successfully tackles the banking crisis so that the credit crunch eases and consumers regain confidence and increase their spending. That is an ironic goal, inasmuch as Americans have long been criticized for spending too much and saving too little. Not now. When, in Warren Buffet’s phrase, the economy “fell off a cliff,” even Americans who had well-paying jobs and secure mortgages became fearful and spent less. This was an understandable reaction. The Federal Reserve recently reported that U.S. household wealth fell by $5.1 trillion, or 9 percent, in the last quarter of 2008, the largest drop in the 57 years of record keeping by the nation’s central bank. It has fallen trillions more in the early months of 2009 despite the mid-March surge in the stock market. The largest losers have been ultra-wealthy investors such as Buffett, who lost $25 billion, but the losses had more emotional impact on ordinary Americans, fully half of whom are invested in the stock market through retirement accounts. Their confidence will not be easily restored despite the optimism of Fed Chairman Benjamin Bernanke that the economy will turn around by the end of this year.
The human story of this recession is expressed in vivid photographs reminiscent of the 1930s: a tent city in Sacramento; hundreds of persons queuing up to apply for a few jobs at a new Target store in Paramus, N.J; rows of “For Sale” signs dotting the front yards of abandoned houses like cemetery markers in a Phoenix suburb. Millions of Americans have lost their homes and a fifth of homeowners are “under water,” meaning they owe more on their mortgages than their homes are worth. The percentage of such homeowners is 30 percent in California, Arizona and Florida and 40 percent in Michigan. In Nevada, 55 percent of homeowners are under water.
Of all the numbers, the unemployment statistics are most compelling. The Obama administration’s budget — perhaps the rosiest since White House budget director David Stockman was doing fanciful forecasts for the Reagan administration three decades ago — projects 8.1 percent unemployment for all of 2009. It’s already at that level and climbing. The United States has lost 4.4 million jobs since 2007 and 600,000 jobs a month for the past three months. Unemployment is likely to exceed 10 percent this year; a study by Carmen Reinhart of the University of Maryland and Ken Rogoff of Harvard suggests the jobless rate could eventually reach 12 percent.
In this context, as states struggle to balance their budgets, some of them are also seeking to broaden the ground rules of the Recovery Act. The $250 billion for the states includes $87 billion that increases for two years the federal share of Medicaid, which provides health care for the poor and tends to rise in tandem with unemployment. The Recovery Act contains a provision requiring that the level of Medicaid aid be maintained at the level of July 1, 2008, but states are searching for loopholes that could in fact dilute it. Some states such as Kentucky and Virginia plan to use the Medicaid funds to balance their budgets and prevent layoffs in other areas. Kansas is considering setting aside a portion of this money in a “rainy day” fund, an action that could provoke a legal challenge.
As for the use of the rest of the Recovery Act money, apart from $48 billion earmarked for transportation, states have been given considerable flexibility in how they will spend it. About the only thing that’s certain at this point is that all but a handful of well-off states will need to revise their budgets in 2009 and probably in 2010 as well. In the process it’s important that they strive to avoid taking away — through tax increases and excessive layoffs — what the federal government has given.
— Summerland resident Lou Cannon is a longtime national political writer and acclaimed presidential biographer. His most recent book — co-authored with his son, Carl — is Reagan’s Disciple: George W. Bush’s Troubled Quest for a Presidential Legacy. Cannon also is an editorial adviser to State Net Capitol Journal, which published this column originally.