How do you solve a problem like an extra $7.75 billion? 

Minnesota officials were expecting the latest forecast would produce a large revenue surplus for the state.

None were expecting what the number revealed during the twice-yearly economic forecast Tuesday: For the remaining 19 months of the current two-year budget, the office of Minnesota Management and Budget now expects current taxes to bring in $7.75 billion more than projected.

For perspective, the budget that was adopted last June was for $52 billion to be spent over two years. And yes, $7.75 billion is a record surplus for the state of Minnesota. Jim Schowalter, the commissioner of MMB called the surplus “out of the ordinary.” 

It gets even better when the economists and budget writers look out over the next two and four years and see only budget surpluses. “A four-year planning horizon is especially risky,” he said. “But at this point, this budget improvement continues throughout the four-year budget horizon.”

That money, with much of it already collected, is in addition to the $1 billion that lawmakers left on the table from the cash sent by the federal government in the American Rescue Plan. And it does not count the $2.656 billion that is now deposited in the state’s rainy day savings account.

As might be expected, Gov. Tim Walz was in a good mood at an event announcing the surplus. “This is what responsible policies look like,” the DFL governor said. “This is what happens when you invest in people.” 

And he said the notion that he had to decide between protecting public health and protecting the economy early in the pandemic was a false choice. “It’s now been proven that that was a fallacy,” he said. “We could do both and come out stronger than we were before.”

The DFL governor also hinted at a supplemental budget he will release before the Jan. 31 start of the legislative session. 

“We’re going to lower costs for Minnesotans on the things that impact their lives,” he said. “And we’re going to lend a hand to those who haven’t recovered, who are disproportionately hit by COVID. It’s something we have done throughout this whole time. That could include paid family leave, lower-cost health coverage, affordable housing, lower-cost energy and public safety.”

But Walz didn’t rule out some tax relief or using a source other than payroll taxes on employers to repay federal loans for the state’s unemployment insurance — both GOP priorities.

“Now the conversations begin,” he said.

Investments vs. tax relief

DFLers and Republicans spent the noon hour Tuesday doing what is typical for these events, laying out seemingly contradictory plans. The DFL said the money gives the state the opportunity to invest in programs that help those who haven’t benefited from the economic recovery: child care affordability, health care costs, education boosts for those who fell behind, paid family leave. The GOP said money should relieve the tax burden on families, help them pay energy costs and deal with inflation.

But the size of the current surplus compared to those in the past — which were in the $1.3 billion to $1.6 billion range — could allow both parties and Walz to address some of both agendas.

“We have a generational opportunity to have a Minnesota economy that works for all Minnesotans,” said House Majority Leader Ryan Winkler, DFL-Golden Valley. He voiced some of the spending requests that have been quickly advocated for by interest groups, from affordable housing to schools to child care.

House Ways and Means Committee Chair Rena Moran, DFL-St. Paul, warned that COVID-19 is still a problem. “We still have the pandemic to navigate,” she said. “The health and welfare of people of our state remains at risk.” 

After accusing Republicans of supporting corporate tax cuts, which the GOP has not proposed, Winkler said there is a recent history of bipartisan agreement if both sides are willing to work with each other — despite 2022 being an election year for governor and all 201 seats in the Legislature.

Sen. Julie Rosen, the Fairmont Republican who chairs the Senate Finance Committee, said her caucus will likely support some tax relief but was cautious about predicting where her GOP colleagues who control the Senate might go next session. 

Rosen called the size of the surplus “staggering.”

“To stand here with a $7.7 billion surplus … why do I feel so bad,” Rosen said. What Democrats call investment she sees as investment in government programs. “We want to give relief back to everyday citizens of Minnesota,” she said. “They deserve it because the cost of living is increasing in Minnesota.”

But she pledged that while Republicans would “roll up our sleeves,” they wouldn’t act to grow state government.

Collections up in all categories

Minnesota’s budget situation has been unpredictable and confusing, something forecasts are meant to reduce if not totally eliminate. 

Since budgets are drafted to cover two years into the future, governors and lawmakers need accurate estimates on how much things will cost and how much money will be available.

Deficits lead to mid-course spending cuts or tax hikes, surpluses — though politically preferable — can create unsustainable spending and raise expectations among interest groups.

So while the ups and downs of the last two years may seem like a bureaucratic exercise or even a parlor game for political observers, they have real world implications for policymakers. Rosen said that she learned when she first arrived at the Legislature that there is more danger —and more argument — when there was a surplus than when there is a deficit.

Schowalter acknowledged the roller coaster of numbers since the pandemic struck. “We all expect the volatility will settle out, that some of the significant changes created by the pandemic are starting to play out in the economy,” he said. “We’re starting to understand a little bit more about what to expect, both in economic activities and in the revenues it generates for the state.”

Starting in December of 2019, when COVID-19 was not yet front-page fodder, the MMB forecast said the state would have a surplus of $1.33 billion, based on a state budget that was spending about $2 billion a month.

By February of 2020, in a forecast that first mentioned the pandemic as a possible worry, that surplus had grown to $1.51 billion. Then came a special forecast pushed by GOP lawmakers who wanted an early snapshot on the economic impacts of COVID, which had begun two months earlier with the closure of many restaurants and stores. It was that forecast that set off alarms at the statehouse; the surplus, it reported, had fallen into a $2.42 billion deficit.

Had that special forecast not been done, Minnesota would never have shown a deficit. That’s because by the time the next official forecast was released — in November, 2020, officials were once again projecting a surplus. It was lower than when the pandemic started, but it was still $641 million more than had been expected. 

Then, in February, 2021, more-robust-than-expected tax collection pushed that number higher. By then, the state’s tax collections had returned to pre-pandemic levels, and lawmakers were able to write the state’s 2021-22 budget with a $1.6 billion surplus. That — and billions of dollars in federal pandemic relief — made the two-year, $52 billion budget adopted last June easier than any in a decade or more.

But tax collections weren’t done being unpredictable. Within months of that February forecast that was meant to give some certainty to budgeting, the state’s taxes had produced $2.67 billion in actual collections, what state economists call “collections in excess of forecast.”

Ever  since that money was booked — when state accountants closed out the 2021 fiscal year as well as the 2020-21 budget — collections have grown by another $744 million over that seemingly long-ago February forecast.

Laura Kalambokidis, the state’s economist, said the economic numbers are solid just about everywhere she looks. Spending by Minnesotans on durable goods other than cars and medical devices, a common economic measure, is expected to increase 23 percent this year. That’s double what was estimated in February. Growth in wages and salaries is now estimated to be 8 percent this year and 7.9 percent next year. And corporate profits are now estimated to increase 19 percent this year — four times what was guessed in February.

As a result of all that, tax collections are up in all categories: individual incomes taxes, sales taxes and corporate profits taxes.

The two less-encouraging numbers are inflation and employment. Inflation is projected to be 4.5 percent this year and 3.3 percent next year before going back to the 2 percent range. And while the state has regained 296,000 of the jobs lost during the pandemic-caused recession, it still is 121,000 jobs below pre-pandemic employment levels. That gap should close by mid-2022, Kalambokidis said.

As much as Minnesota likes to feel unique (or superior) among states, Kalambokidis acknowledged that most states will show similar revenue numbers. 

“The extraordinary revenue growth that we saw in fiscal year 2021 and the improved forecasts for years ‘22 and ‘23, that’s consistent with what we are seeing in other states,” she said. “It’s a consistent story all around.” 

She did assert, however, that the state’s balanced tax system, with progressive income taxes, corporate taxes and sales taxes, “allowed us to capture tax receipts from the extraordinary growth that we’ve seen.”