News

Plunge in state and local tax revenues restrains public construction in 2009-11

0 162 Market Intelligence

State governments are now experiencing the deepest drop in tax revenues in more than five decades. Year over year state tax revenues fell 4.0% last fall, 11.7% during the winter and 20.0% in the spring (April and May data only). Another decline, albeit smaller is likely in the summer, says Reed Construction Data chief economist Jim Haughey.

State governments are now experiencing the deepest drop in tax revenues in more than five decades. Year over year state tax revenues fell 4.0% last fall, 11.7% during the winter and 20.0% in the spring (April and May data only). Another decline, albeit smaller is likely in the summer. This is much worse than the declines recorded in the 2001-02. In this recession, tax revenues fell for three quarters. The drop began with a 1.1% decline in the final quarter of 2001 and reached a 9.4% drop in spring 2002 before revenues resumed expanding.

After the recession early in this decade public construction was steady in current dollars for two years which was a small decline in inflation adjusted spending. Reed Construction Data expects the same stall in nominal dollars in this recession. But the drop in inflation adjusted construction spending will be 4-6% more in the current recession because construction materials price inflation will be bear 5% this time compared to about 1% following the last recession. Without the stimulus plan and other new funding from Washington, the outlook for public construction would be worse. Caution: Some members of Congress are now calling for the balance of the stimulus plan to be cancelled and Obama’s request for added construction funding in the normal federal budget process has not yet been approved.

The relatively larger drop in state tax receipts in this recession is largely due to the deeper drop in the economy in the current recession. But the current plunge in receipts has been aggravated by the increasing reliance of states on more volatile income taxes and less reliance on the less volatile sales and property taxes. The Brookings Institute estimates (from 1980 to 2006) that the standard deviation on the annual percentage change in tax receipts for states was 9.4 for corporation income taxes, 4.6 for personal income taxes, 1.9 for sales taxes and 1.8 for property taxes.

A high reliance on income taxes is a gamble. Tax revenues jump 15% or more a year during boom times but plunge just as much during the tail end of a recession and a quarter or two into the recovery. The estimated 4.6 standard deviation for personal income taxes is an average of both flat rate and progressive rate state income taxes. The volatility of a very progressive income tax, such as in California and New York, is considerably more than 4.6.

The percentage drop in tax receipts varies considerably between states. This is due both to differing mixes of taxes used and the differing severity of the recession in each state based on its mix of industries. April and May tax receipts fell 37% in New York State compared to the same two months a year ago. The average for all states was 20%. New York has a very progressive income tax and a very large share of the very troubled finance industry. Oregon suffered a 36% loss. Oregon gets over 70% its tax receipts from in come taxes, by far the highest of any state. Other states with large tax receipt losses were Arizona (-39%), South Carolina (-31%) and California (-28%).

States with less reliance on income taxes and less exposure to the troubled housing, finance and manufacturing industries recorded much lower declines. Nonetheless, these declines are enough to force spending cutbacks. The loss was 5% in Michigan and Arkansas. Auto factory callbacks in May added to Michigan tax receipts. Kentucky had a 9% loss. Nebraska lost 10%. Missouri, Mississippi and Alabama had 11% losses.

Most states will have to make interim spending cuts or tax hikes to balance their 2010 budgets which end next June. A few of the most troubled states will get through 2010 with one time non-sustainable measures and still face budget shortfalls in FY 2011. This includes California, New York and Oregon. Each of these states relies heavily on progressive income taxes, had relatively deep recessions because of their mix of industries and entered the recession with very low budget reserves.

by Jim Haughey

Leave a comment

Or register to be able to comment.