Monday, January 19, 2009

More on the fourth horseman

Another blogger did a great job quantifying part of the fourth horseman this week, thanks for saving me the work:

Fiscal Situation of 50 States: Combined Budget Gaps Estimated at $350 Billion for 2010 and 2011


Unfortunately, this summary only covers state budget shortfalls, which amounts to a whopping $414 Billion over the next three years (2009-2011), at $89B, $145B, and $180B, but does not include municipal budget shortfalls.

Taxation at the state level is responsible for your sales tax and income tax.
Taxation at the municipal level is responsible for your property tax and municipal income tax (e.g. NYC).

Does anyone have municipal budget shortfall figures? Conference of mayors perhaps?

New York City alone has had its Independent Budget Office projecting a budget shortfall of $4 Billion for 2010, and $7 Billion for each of 2011 and 2012, or a gap of approximately 7% and 12% respectively.

With municipal bond markets still in the crapper, how oh how will municipalities and states meet their budget shortfalls? They can't borrow against future income without paying much higher interest rates than usual and risking their credit ratings given their reduced ability to service existing debt, much less new debt. Surely they will try to do some of that. But with so many bonds chasing so little capital, can we say higher income, property, and sales taxes, anyone?

Let's perform a quick thought exercise. State and local tax burdens amount to approximately 10% of GDP, or approximately 1.4 trillion.

Roughly speaking, state budgets total ~$800B for FY 2009, and for purposes of this exercise and guesstimation, let's assume inflows roughly equal outflows, leaving approximately $600B of municipal budgets. With best, intermediate, worst case budget gaps of 5%, 10%, 15%, the total municipal 3 year budget gap run $90B, $180B, $270B. So taking the intermediate case, we're looking at a budget shortfall of around $200B in municipal budgets over the next three years.

With state and municipal budget shortfalls running over $500B in the next three years, it seems like that is where the stimulus should be placed, the programs are already established, and it would be a much simpler exercise than 'infrastructure' spending. Also, I would expect it would reduce the impact of government spending crowding out new private spending as the funds would simply support programs and projects already in place at the state and municipal level. Last, but not least, state and municipal taxation tends to be extremely regressive, with little, if any, income banding/marginality and sales taxes are naturally regressive. By placing stimulus funds into infrastructure projects or other projects rather than providing funds to states and municipalities for existing projects or locked-in expenditures, the states and municipalities will have to respond by raising their tax rates, with the regressive nature of their taxes resulting in the middle class Americans that Obama says he is trying to protect, being the hardest hit.

Thus, given the nature of the currently proposed stimulus package, I expect any stimulus received by taxpayers on the Federal level to be negated by increased taxation at the state and municipal level, with middle income Americans hit the worst.

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