State and local governments’ financial stewards are taking a level-headed, too-early-to-tell approach to the nation’s financial crisis, but that doesn’t mean they’re not watching every tick and kick of the market.
Any little hiccup, they know, could potentially cause a financial upset for any state or municipal budget on all sorts of money matters, including sales tax revenues, highway funding, pension funds and bonding issues.
“There’s a lot we don’t know,” state economist Tom Stinson said this week. “In broad terms, what’s it going to do for the budget outlook in 2010 and 2011? That the economy will be weakened doesn’t necessarily mean there will be a shortfall.” In other words, budgeting forecasting may win out over a volatile market that no one seems to grasp entirely.
That’s the simple answer, even if Stinson quickly adds that the state doesn’t have to issue a budget forecast until November. (The state’s 2008-2009 budget has been set for some time, and a $935 million shortfall was circumvented at the end of the last legislative session, but more on that later.)
But in truth, even if a state doesn’t have any direct business with firms and companies like Merrill Lynch and AIG — and Minnesota does not — a fiscal crisis of this proportion reaches far and wide.
Minneapolis, for example, does have dealings with Merrill Lynch and AIG but seems comfortable for now with its limited exposure.
“We’ve been following events in the economy closely, since August 2007, when the foreclosure crisis hit,” Pat Born, the city’s CFO, said last week. “I think what we see at this moment is pretty manageable. But the bigger concern is how long it takes for the markets to be stable again. Then there could be financial repercussions.”
Gary Carlson, a lobbyist for the League of Minnesota Cities, is not quite as assured as Stinson and Born.
“On the issue of precise impacts, it’s a little bit hard to decipher what it all means,” Carlson said, adding that he and the league have not heard much from municipalities having direct interactions with any failed firms. “But our broader concern is what’s going on with the state’s economy. That’s a more acute concern.”
For the state, Stinson noted, the main impact indeed is not from direct dealings with Wall Street, but what all this news does to the average Joe. “Consumer confidence is very important,” Stinson said about the chain of events states face. “People work less, people buy less and that has an effect on our revenue.”
And what kind of hit the state’s coffers will take is anyone’s guess.
Soft Minnesota economy is nothing new
Even with the situation changing day to day, if not hourly, Stinson can point to some basics that he already is taking into account.
“When the U.S. economy weakens, that means in the future, less jobs are created, and people purchase less,” Stinson said. “It first displaces discretionary spending. There’s less spent on entertainment and eating, and then there’s less need for employees in places that offer that.”
All of which may be basic economics, but it’s where Stinson has trained his eye, mainly because there’s so much state revenue at stake. Minnesota’s budget revenues are largely generated from jobs and consumer spending. “Our big revenue sources are income tax and sales tax,” he said, adding that part-time and overtime shifts for the average worker are the first to go in times like this.
And it’s no secret that the state’s been hurting anyway — there was that matter of cleaning up the $935 million shortfall in May, something that is still contingent on 2008-2009 revenues the state has yet to see. But Stinson and other state financial stewards prepared for a less-than-best-case scenario: They accounted for what Stinson calls a “$400 million cushion” if expected revenues don’t come through.
But there’s not much bright news: The last budget forecast in February predicted a shortfall of more than $1 billion — not accounting for inflation — for the 2010-11 biennium, and certainly the current economy gives no reason to expect that to be wiped away by a sudden Wall Street recovery.
(Stinson noted that the state currently has $150 million in reserves, down from a preferred figure of $653 million.)
Carlson, from the league of cities, also noted that while revenues for the first half of the current biennium — which ended June 30 — were up some $389 million beyond projections, he worries what the picture will be when the biennium ends next June.
“There’s a serious economic challenge,” Carlson said, adding that municipalities across Minnesota depend on such state programs as Local Government Aid. “And that trickles down to cities, counties, school districts and property taxes.”
The problem, as Stinson sees it, is jobs, jobs, jobs. And Minnesota isn’t seeing many new ones. Stinson and other economists look back at what the economy has done since we last came out of a recession in February 2001 and the dip that happened after 9/11. Cyclically, things were looking up from the end of 2004, Stinson said, until the beginning of 2006. Since then, job growth in Minnesota has been what Stinson called “flat.”
“We have 30,000 less jobs in that period than if we had grown at the national rate,” Stinson said. What’s more, Stinson figures we’re on pace to lose 30,000 jobs this year, when usually there would be 40,000 added. Fewer jobs mean fewer people moving to the state, which means diminishing returns for general fund revenue.
“We’ve predicted no growth in sales tax revenue,” Stinson added. “It’s a really difficult time for the economy, and the latest news doesn’t help.”
State avoided failed firms, but Minneapolis has ties
On the bright side, the state has no direct business dealings with Merrill Lynch, Lehman Brothers or AIG — though many state and local governments deal with the agencies on any number of matters.
“We’ve been conservative,” Kathy Kardell, an assistant commissioner for the treasury in the state’s finance department, said Tuesday. “We have no swaps, no variable rate loans, no ties to pensions.”
Still, the state is seeing a hit on bidding for general obligation bonds, which can be used for any general capital purposes, from buildings at state parks, colleges and universities, or for trunk highway funds. Financial houses, banks and insurance companies all compete to get investors on board to underwrite bonds for any number of projects.
Although Kardell said she “can’t believe the bond market will ever collapse,” she sees something of a ghost town in that little-known end of the market that issues general obligation bonds. She and her colleagues noticed a change as they were prepping this summer for some $400 million in bond sales this fall.
“All three were regular and aggressive bidders in bonds for us,” Kardell said of Merrill Lynch, Lehman and AIG. “What we are seeing is banks and brokerage dealers very unwilling to commit capital to anything, including bonds. We’re used to seeing bids from four, five or six of these places, now we’re seeing one or two. It damages the competitive process.”
What does this mean for projects and roads? “Worst case is, you’ll still get your highway in Ely, it just might be delayed a bit,” Kardell said.
But she is optimistic, mostly because the state’s bond rating is generally very good — triple A from Fitch and Standard and Poor’s, and a “double A positive” from Moody’s.
Minneapolis, like the state, has a good bond rating. But unlike Minnesota, the City of Lakes does have some business with AIG and Merrill Lynch.
The city does have some insurance policies with AIG, most notably with the convention center, according to Born. And the city, like many others, does have some “commercial paper” with Merrill Lynch and AIG — money-market notes that are used to manage short-term capital.
“Short of flat-out bankruptcy, I’m confident we’ll weather this,” Born said. The biggest problem, he said, is wild fluctuations on the variable interest rate on those transactions and policies, which Born noted had jumped to 4.6 percent last week, up from 1.7 percent the week before.
It might surprise some folks familiar with the city’s budget management of the 1980s and 1990s, but Born said Minneapolis is rather “conservative” in budgeting for these things, and that a variable rate of 5 percent is in the city’s budget as cushion.
The biggest problem, Born said, is that three pension funds for the city are funded in part by the stock market — and if there’s a long-term plunge there, the city will have to contribute to those pensions.
Still, Born is sanguine. “I suspect what I’ve just described to you is a short-term condition measured in days or weeks,” he said. “What happens down the road, I don’t know.”
And that seems to be the consensus in government financial circles. “We don’t know if these remedies will be sufficient to solve these problems,” state economist Stinson said of the buyouts and bailouts, careful not to sound any alarm. “It might be some time before the impact of all this is visible.”
“I try to be very careful and stand on the sidelines and wait for the market to feel good,” Kardell said. “Right now, it doesn’t feel very good.”
Anderson covers issues related to public safety and the state Capitol. Anderson can be reached at granderson [at] minnpost [dot] com.