Governors Face a Taxing Dilemma; as State Budgets Continue to Founder in Seas of Red Ink, Lawmakers Want to Cut Spending and Increase Taxes - Placing a Further Drag on the Struggling U.S. Economy

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Byline: Jamie Dettmer, INSIGHT

They had hoped the April tax returns would provide some relief but that hasn't happened for America's hard-pressed state governments, which face revenue shortfalls totaling $21.5 billion this fiscal year 23 percent more than they had projected in November 2002. Thirty-seven states already have acknowledged that their revenue goals have not been met from tax returns, and the others are unlikely to see any boost. That leaves state governors and legislatures, many elected on pledges of "no new taxes," facing grim alternatives of cutting spending, imposing tax hikes or going for a mixture of the two. The latter seems the favored option.

With revenue growth falling in many states and flat in others, the National Conference of State Legislatures has warned that "precariously balanced budgets" are at risk of being thrown into a "tailspin." The one piece of good news the conference reported recently is that the overall gap between the money that states are bringing in and what they're spending has narrowed three months ago the total deficit was being projected at $25.7 billion.

Even so, no one is celebrating. The effort to narrow the gap was unpleasant enough. And, unless something dramatic happens, in the next fiscal year the states will be in the red even deeper by a likely $53.5 billion the consequence partly of spending pressures due to higher unemployment and new homeland-security and public-health demands. Ohio Republican Gov. Bob Taft said, "The fiscal situation looks dark for state governments across the country." The gloomiest prospects are for states of the Northeast and West.

Last year most states weathered the budgetary crisis by dipping into their reserves and introducing one-time measures to balance the books. They hoped the economic downturn would be short-lived. But as the budget crisis has continued states have started to cut, with nearly half considering significant reductions in K-12 education. More than half are looking for savings in higher education and most of them are weighing tuition hikes. Many states are seeking to curb Medicaid costs; 19 states are seeking cuts in their prison budgets.

So far most governors have insisted they will not raise personal income, corporate or sales taxes, but many have hinted including the governors of Connecticut and Kentucky that they have little choice. Already in at least 24 states either the governor or a state lawmaker has proposed or included tax increases in budget legislation.

The prospect of tax increases is straining the relationship between governors and the White House, which fears there will be a collision over fiscal policy between Washington and the states one that may offset the benefits of the Bush tax cuts that the administration claims will spur growth and job creation.

State governments insist many of their budgetary woes stem from the administration's demand that they pick up more of the tab for homeland security and federal programs such as Medicaid, which the administration is intent on reforming. They also point to other "unfunded mandates" such as the No Child Left Behind Act of 2001, which requires public schools to test students. The cost to the states for that legislation alone is $35 billion a year more than the act provides.

Administration officials dismiss charges they are to blame, maintaining that the states were profligate in the good times. "They lived high on the hog in the 1990s," said Republican Sen. Trent Lott of Mississippi. "And now they're asking us to solve their problem?" During the boom of the mid-to late 1990s, state treasuries overflowed with surpluses and state politicians acted as though the good times would last forever, critics say.

Either way, without a federal bailout of what Minnesota Republican Gov. …