Beware of fiscal storms
Published March 25, 2015
By John Hood
by John Hood, John Locke Foundation and NC SPIN panelist, March 25, 2015.
When I tell audiences that I have always been a committed Marxist, I usually get a combination of disbelieving snorts and knowing chuckles. The cleverest response goes something like this: “I can believe you’ve been a committed Marxist, but I can’t believe they’d ever let you out!”
The Marx I revere is, of course, not named Karl. He was a fool, albeit a dangerous one. The Marx who possessed true insight was none other than Groucho, who once observed that “politics is the art of looking for trouble, finding it everywhere, diagnosing it incorrectly and applying the wrong remedies.”
North Carolina policymakers should take another Groucho Marx insight to heart. “Money frees you from doing things you dislike, “ he quipped. “Since I dislike doing nearly everything, money is handy.” As state legislators fashion a budget for the 2015-17 biennium, some are urging them to spend more money than Gov. Pat McCrory has proposed. Others, including some business lobbies and state senators, are advocating another large round of cuts in personal and corporate income taxes.
While I recognize both the case for more spending in some areas (particularly the court system) and the growth-enhancing benefits of further tax relief, I must say that neither would be my top priority this year. Before taking any other fiscal action, the General Assembly ought to take immediate steps to shore up the state’s savings reserves.
According to the latest report by the state controller’s office, North Carolina’s “rainy day” reserve contains $652 million. That may sound like a lot of money. But it’s only 3.2 percent of the state’s General Fund operating budget for 2014-15. Even adding in the $186 million Medicaid contingency fund established last year would raise the ratio of unencumbered reserves to spending to just 4.1 percent.
That’s inadequate. The state currently requires localities to maintain reserves equal to 8 percent of their annual budgets. Indeed, current law also establishes 8 percent as the official goal for the state budget. For the current year, that would translate into about $1.6 billion. We’re nearly a billion dollars short of it.
There is no obvious political constituency for saving money, I admit. Spending lobbies want higher appropriations. Taxpayers want higher take-home pay. But as Groucho might remind us, a very good reason to accumulate money — to deny ourselves immediate gratification, in other words — is to free us from the need to make more painful choices in the future.
Although the nation’s current economic recovery has been weak by historical standards, it has also been a relatively long one. It would be highly surprising, in fact, if America did not experience a recession within the next two or three years. Even a modest one would likely throw North Carolina’s state budget out of whack by between $1 billion and $2 billion, due to slower-than-projected revenues and higher-than-projected expenditures on items such as Medicaid.
Without adequate reserves to fall back on, the governor and General Assembly would either have to raise taxes or cut spending to make up the difference. To jack up tax rates so soon after North Carolina’s historic tax reforms and reductions of 2013 would be politically disastrous and economically unwise. Pro-growth tax policies only work when households and businesses have good reason to believe they’ll stick around. And while I still believe there are significant efficiencies to be realized in the state budget, I don’t think a recessionary fiscal crisis is the best setting for identifying and implementing them.
Separate from the risk of recession — or a literal “rainy day” such as a hurricane — there’s another compelling reason to build up North Carolina’s reserves. The state employee health plan is already underfunded by some $23 billion. The pension fund for teachers and state employees, while one of the healthiest in the nation, still has an unfunded liability in the billions of dollars according to models with more pessimistic assumptions than the state currently uses.
Under these scenarios, having more money in the bank sure would come in handy.
