3 States On The Edge Of The Financial Cliff

By Geoffrey Michael | January 27, 2011 AAA
3 States On The Edge Of The Financial Cliff

The financial crisis that shook the world in 2008 is far from over. In fact, some might say it's just beginning in the United States. Government funded bailouts, takeovers and stimulus spending have temporarily kept the U.S. economy afloat, but there is trouble brewing in many states. Unlike the federal government, the states can't print money and there are limits to how much they can borrow. (For related reading, also take a look at 7 States With No Income Tax.)

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States face a variety of problems that can't be ignored. Among them are under-funded pension plans, joblessness, falling property tax revenues and budget shortfalls caused by unfunded federal mandates. Here are three states that now find themselves in the most financial trouble.

1. California
The land of the Beach Boys, Beverly Hills mansions and perfect weather has turned into the poster child for fiscal mismanagement. The Golden State's problems didn't happen overnight. More than any other state, California is a victim of its own success. For years it attracted people from other parts of the country as the last great frontier of opportunity and endless summers. It also lived far beyond its means as real estate values skyrocketed as a result of easy money and low interest rates.

California consistently borrowed against future revenues in order to avoid spending cuts. This was accomplished through the sale of short-term notes for cash, a legal way of gambling that the good times would last forever. They didn't. As real estate values crashed and buyers for the notes vanished, state tax revenues plummeted as consumers retrenched and businesses fled the state.

California is projected to face a $25.4 billion budget shortfall through June 2012. Worse still, the state's Legislative Analyst's Office predicts additional deficits of $20 billion each year through 2015. To combat the problems, the state furloughed state employees, increased vehicle license fees, raised the sales tax by 1%, cut public education and health care funding, issued IOUs for state tax refunds and is considering closing many state parks. The dire fiscal situation is compounded by an unemployment rate that has hovered around 12%.

2. Illinois
The Prairie State is vying with California in the race for fiscal insolvency. According to a study by the National Conference of State Legislatures, the financial crisis in Illinois may be the worst in the nation. Citing the budget situation as tenuous at best, the state's general fund balance has sunk to an all-time low of negative $4.9 billion.

Newly-elected governor Pat Quinn is facing a $12.8 billion deficit for fiscal years 2010-11, the biggest ever. The new $25 billion budget signed on July 1, 2010, doesn't do much to erase the vast majority of the shortfall. In December, the governor proposed borrowing up to $15 billion to cover unpaid bills.

In a controversial move, the legislature narrowly passed a bill to raise the state income tax by two-thirds, from 3% to 5%. While the state will receive about $1 billion in Medicaid and education funding from the federal government, it barely dents the huge deficit. When the outstanding debt and unemployment loans are combined with unfunded pension and other post-employment benefits, the total estimated debt is about $120 billion.

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3. New York
While it's easy to blame the Empire State's financial problems on the great recession, New York's spending has been growing faster than its income for the past 25 years. As a result, tax revenues haven't kept up with Albany's penchant for spending more money every year.

The projected deficit for the next fiscal year is $9-$10 billion against proposed spending of $137 billion. About a third of that amount comes from the federal government which is already running a $1.5 trillion deficit itself. While there have been budget shortfalls in the past, they were dealt with by tapping into reserves, instituting temporary tax increases on high earners, moving special fees and assessments into the general fund and other one-time fixes. None of these actions was targeted at correcting the underlying structural deficit and things have only gotten worse.

While many other states cut spending as the recession intensified, New York maintained one of the highest per capita spending rates in the country. With federal stimulus money running out and saddled with a sluggish economy, the state will have to make cuts to some of its biggest programs to survive.

The Bottom Line
These states aren't the only ones facing budget deficits that threaten their solvency. New Jersey Governor Chris Christie inherited a state government that has run consecutive annual budget deficits for the past ten years. He has vowed to balance the budget without raising taxes by cutting education, state pensions and other government benefits. Massachusetts, Alabama and Pennsylvania are facing similar budget dilemmas.

Research by State Budget Solutions reveals that the fifty states accumulated $1.7 trillion in traceable debt by the end of 2009. That equates to about $16,600 in debt for each of the 107 million private sector workers in the country. The federal government has said there will be no further bailouts for the states, so how these states will dig themselves out of debt remains to be seen. (For more reading, check out Breaking Down The US Budget Deficit.)

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