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February Forecast Underscores the Need for Revenue

March 05, 2013 By Jeff Van Wychen, Fellow and Director of Tax Policy & Analysis

Anti-tax legislators were singing “Happy Days are Here Again” in response to the 2013 February budget forecast. Certainly the small uptick in forecasted revenue was good news, but—if anything—the new forecast underscores rather than refutes the need for additional public revenue.

Despite the small revenue increase, last week's forecast indicates an “official” $628 million budget deficit for the upcoming FY 2014-15 biennium, down from November 2012's forecast of $1.1 billion. Even this official deficit understates our true fiscal hole by ignoring inflation's impact on most parts of the state budget. Consider the following advice from the state Council of Economic Advisors, the most widely respected and bi-partisan group of financial sages in the state, as summarized in the February forecast:

Council members continued to recommend that budget planning estimates for future biennia include an adjustment of future spending to reflect expected inflation. The current practice of including inflation in projected revenues but not in spending projections is misleading and not consistent with either sound business practice or the methods of the Congressional Budget Office… The Council has made a similar recommendation in each of its written statements since the current practice was required by statute in 2003.

Fortunately, Minnesota Management & Budget (MMB) includes information on the impact of inflation on state expenditures within each of its budget forecasts, although—unfortunately—this inflation-adjusted spending information receives relatively little attention in comparison to the official forecast that ignores inflation in most parts of the state budget. According to MMB, the size of the state budget deficit would be approximately $1.5 billion in each of the next two biennia (FY 2014-15 and FY 2016-17) after adjusting for inflation.

Minnesota 2020 has previously noted that MMB uses an abbreviated methodology for predicting the future effects of inflation on state spending. A more refined methodology would likely produce a somewhat lower level of state spending and a somewhat smaller inflation-adjusted state budget deficit. The graph below shows the projected deficit for FY 2014-15 and FY 2016-17 after adjusting for the effects of inflation on state expenditures using the abbreviated MMB approach and the more refined approach described in the recent Minnesota 2020 article.*

[ graph: click title to view in browser ]

While the more refined approach to incorporating the effects of inflation on state spending yields a projected budget deficit that is modestly smaller than the abbreviated MMB approach, the resulting deficit remains substantial—far exceeding $1 billion in both the FY 2014-15 and FY 2016-17 biennia.

Unfortunately, a $1 billion plus deficit in each of the next two biennia does not cover the full magnitude of the state’s need for revenue. Since FY 2003, the state has slashed expenditures for several critical public investments which—if not reversed—threatens Minnesota’s long-term economic health and quality of life. For example, since FY 2003 real (i.e., inflation-adjusted) per pupil state aid to Minnesota school districts has fallen by double digits, contributing to burgeoning class sizes and perennially strained K-12 budgets. Funding for higher education has also plummeted, leading to skyrocketing tuition and a reduction in the quality of the state college and university system. Deteriorating public infrastructure. Soaring property taxes. The needs of elderly and disabled Minnesotans going unmet. The list goes on.

Minnesota does not only need to resolve a budget deficit that will exceed a billion dollars in each of the next two biennia, but it also must address public expenditure needs that have been underfunded for a decade. Fortunately, Governor Dayton has put a budget on the table that generates the revenue necessary to balance the state budget in the next biennium while simultaneously addressing the need to restore critical public investments.

Anti-tax legislators will no doubt claim that Minnesota cannot afford the tax increases proposed by the Governor. These naysayers need to be reminded that total state and local government revenue as a percent of statewide personal income will decline over the next four years under the Dayton budget relative to what it was in the previous four years, based on Price of Government information from non-partisan staff at MMB. Furthermore, the level of real per capita public revenue will still be considerably less than it was a decade ago even after the Dayton tax increase.

The February forecast does not disprove the need for a state revenue increase, but rather reinforces it. Tax increases of the magnitude proposed in the Governor’s budget, combined with Dayton’s recommended reforms to state spending, should become state law during the 2013 legislative session.


*If state law were changed to require that the official state forecast fully incorporate the impact of inflation on state spending, it is likely that MMB would discontinue the abbreviated methodology currently being used in favor of a methodology along the lines of what was described in the recent Minnesota 2020 article.

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