New Jersey Facing Major Fiscal Crisis in Years Ahead, Blue-Ribbon Panel Reports

Mark J. Magyar | December 14, 2012 | Budget
Budget expert: More revenue needed to meet pension, Medicaid, and infrastructure expenses

Credit: Tony Kurdzuk/Star-Ledger
Former Federal Reserve Bank Chairman Paul Volcker.
New Jersey faces staggering long-term fiscal problems, with pension and health benefit liabilities, infrastructure, and other budget needs adding up to more than $200 billion in future program costs, according to a blue-ribbon budget study released yesterday.

The State Budget Crisis Task Force, cochaired by former Federal Reserve Bank Chairman Paul Volcker and former New York City Deputy Mayor Richard Ravitch, was careful to emphasize that New Jersey’s pending fiscal cliff represented years of bipartisan failure to address the state’s long-term fiscal needs. The panel credited Gov. Chris Christie and Democratic legislative leaders with reducing the size of the state’s pension liability and did its best to avoid “political questions” about what New Jersey needed to do to solve its future fiscal problems.

But Ravitch finally acknowledged what the report’s data clearly indicated: “My guess is that there will have to be more revenue to meet the basic obligations the state has committed to.”

It was the R-word, not the T-word, but it still runs counter to Christie’s commitment to cutting taxes and his oft-repeated position that “New Jersey doesn’t have a revenue problem, it has a spending problem.”

Actually, in the view of the task force, the state has both a revenue problem and a spending problem, as Richard Keevey, the former director of the New Jersey Office of Management and Budget who was the principal author of the New Jersey study, laid out in Trenton yesterday.

As a result of the state’s failure to make required pension contributions for almost 15 years, New Jersey’s unfunded pension liability totals $25.6 billion. And that figure would be $37.1 billion if the state did not enact legislation last year that suspended cost-of-living adjustments for retirees and required government workers to contribute more toward their pensions.

However, the legislation requiring the state to ramp up to full funding of its pension liability within seven years means that the New Jersey budget will have to allocate an estimated $5.5 billion for pensions five years from now. That’s a $4.4 billion increase over the $1.027 billion dedicated to pensions in the current budget and would eat up much of the state’s expected revenue growth over the next five years.

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The pension liability actually pales in comparison with the $59.3 billion unfunded liability for retiree health benefits for teachers, police, firefighters, and state and local government workers. New Jersey put in $1.445 billion for retiree health benefits just to cover current costs in this year’s budget, when it should actually have put in $4.917 billion to prevent the future cost of the liability from ramping up exponentially.

Ravitch noted that New Jersey’s retiree healthcare liability would go up if the proposed increase in age from 65 to 67 for Medicare eligibility being discussed by President Obama and Republican congressional leaders as part of their fiscal cliff negotiations is approved. That decision would shift the cost of providing health care coverage for 65- and 66-year-old state and local government retirees from the federal to the state governments.

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Volcker, Ravitch, and Keevey all warned that the federal fiscal cliff negotiations could have major budgetary and economic consequences, particularly for New Jersey and other relatively high-tax states. Reducing or eliminating the deductibility of state and local taxes would result in a major tax increase for New Jerseyans, and a 10 percent cut in the $12 billion in federal aid now sent to the state would represent a $1.2 billion revenue loss.

Insupportable Spending

The task force report warns that “New Jersey’s eroding and volatile tax structure is ill able to support state spending.” State income and sales taxes account for 64 percent of state revenue, but “a mere 4.6 percent of income tax filers pay almost 52 percent of the revenue,” and when a recession slices into Wall Street and corporate revenues, income taxes paid by these wealthier individuals plummet, as was the case in 2008, when income tax collections dropped by 18 percent.

Meanwhile, New Jersey’s sales tax “has a very narrow and eroding base: food, clothing, and many services go untaxed, and tax revenue from expanding Internet sales is difficult to capture, damping revenue growth,” the report noted.

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However, income and sales taxes pale as an issue compared with New Jersey’s overreliance on local property taxes to fund schools, county, and municipal government. “New Jersey’s high property tax, which at approximately $25 billion is more than state income, sales, and corporation taxes combined, is a policy and political issue with no easy solution,” the report concluded.

Ravitch threw up his hands over the property tax issue during the panel discussion, asserting that the sheer size of the property tax made it impossible to replace. Keevey noted that the 2 percent cap on property tax increases exempts capital spending, pensions, and debt service costs.

New Jersey’s outstanding state debt has grown steadily, rising from $28.012 billion in fiscal year 2007 to $33.720 billion in fiscal year 2011. New Jersey actually ranks third in the nation in debt per person at $3,694, and fourth in both debt as a percentage of personal income and debt as a percentage of state Gross Domestic Product.

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That already high level of debt will not make it easier for the state to address its $133 billion in outstanding infrastructure needs over the next decade – a calculation that includes $80 billion for transportation; $44.4 billion for wastewater treatment, stormwater management, and drinking water protection; and $8 billion for public buildings, including higher education.

Shorting Higher Education

“Higher education is the largest discretionary program in the budget and usually gets short shrift” in the final budget deliberations, Keevey noted, because governors and legislators assume that state colleges can absorb the cost of state aid cuts through tuition increases — a policy that has resulted in New Jersey ranking near the top in in-state tuition charges every year.

The $11.7 billion in state aid for K-12 education is the largest single program in the budget, and the report warned that the 2 percent cap imposed on annual growth in school district spending would create pressure for increased state aid. The same also goes for challenges to New Jersey’s school-funding formula in the state Supreme Court, which most recently ordered Christie to add $450 million more for the poorer Abbott districts in fiscal year 2012.

Finally, state funding for Medicaid healthcare coverage for the poor and disabled has jumped from $6.1 billion in fiscal year 2000 to $12.1 billion in fiscal year 2012, although the rate of growth has slowed significantly under both Christie and his Democratic predecessor, Jon Corzine. The state needs to decide whether to take advantage of a provision in Obama’s Affordable Care Act that would allow New Jersey to add 234,000 working poor families to the Medicaid rolls, with the federal government picking up the full cost for the first three years and 90 percent of the cost in the future — a cost that would be offset in part by reducing the state’s uncompensated care payments to hospitals for caring for indigent patients without insurance.

The magnitude of New Jersey’s overall fiscal problem is second only to Illinois among the six states studied by the State Budget Crisis Task Force, a list that also includes New York, California, Virginia, and Texas. “In this case, you want to be Number 2,” Ravitch quipped.

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It is a crisis, the panel concluded, that is exacerbated by years of poor fiscal decision-making, including overreliance on one-shot nonrecurring revenues, the failure to adequately fund future pension and retiree health benefit costs, and years of politicians determinedly pushing off difficult decisions on revenue and spending issues.

While the panel report took pains not to cast blame, Ravitch acknowledged, “It is very tempting to respond to inevitable questions about politics. There were bad things done, dumb things done, and it was done on a bipartisan basis.”

The panel laid out a dozen examples of egregious fiscal gimmicks used throughout the years to keep the state budget in balance, including three cases in which the state issued long-term debt totaling almost $5 billion in 1997, 2004, and 2005 to pay for ongoing operating expenses — a practice that was finally outlawed by the state Supreme Court in 2006.

Other questionable practices included the transfer of dedicated fund balances to the general treasury, including the shift of funds set aside to cover retiree healthcare costs and transfers of unexpended Unemployment Insurance fund balances that later had to be made up by a tax levy of businesses.

The report also warned against the tendency of administrations to issue a “rosy revenue scenario” over the objection of the nonpartisan Office of Legislative Services. “In down economic times revenue estimates rarely achieve original estimates,” the report said, citing specifically the $1.6 billion shortfall in the income tax in Fiscal Year 2002.

Neither the report nor the panel mentioned the current $500 million shortfall in the Christie administration’s combined revenue projections for the past and current fiscal years prior to Hurricane Sandy, and in fact, the panel specifically avoided discussion of the current administration’s practices and policies, other than to praise the pension legislation that cut the size of the pension shortfall and the 2 percent cap on local government spending growth.

Volcker said “political decisions” on how to solve New Jersey’s long-range fiscal problems should be left up to elected officials and the voters.

Recommendations for Reform

But the panel did make a series of specific recommendations for fiscal policy reform, including:

  • Develop a five-year budget so that both officials and citizens can understand the long-term impact of budgetary decisions, such as how reliance on one-term nonrecurring revenues in the current year can create a built-in shortfall in the following year’s budget.
  • Find a way to fund the state’s Rainy Day Fund, a special surplus set aside for emergencies, whose $734 million balance came in handy during the last recession.
  • Include federal aid and dedicated funds such as the Transportation Trust Fund in the state budget, instead of listing them as “off-budget” items. Currently, the state budget only lists the two-thirds of state spending supported by state taxes and fees. “The real state budget is $49 billion, not $33 [billion],” Keevey said. “We should say so.”
  • Require the state Capital Planning Commission to develop a comprehensive long-term capital needs budget for the state, rather than simply a capital plan that reflects available funding for infrastructure in the current year’s budget. That would enable the state agency to develop a long-term plan for tackling some of the $133 billion in capital needs identified by the State Budget Crisis Task Force.
  • Review New Jersey’s state and local government tax and spending structure — a process that should include not only tax reform, but also government spending at the state and local level for potential efficiencies. The panel suggested a nonpartisan or bipartisan tax policy and spending commission, presumably along the lines of the State and Local Expenditures and Revenue Policy commission (SLERP) that was set up during former Republican Governor Tom Kean’s second term.
  • Meet the requirements of the pension law by building up to full funding of the pension system by fiscal year 2018, which will require the state to come up with an estimated $5.5 billion for pensions by that year. The report acknowledged that the state “will face difficult choices about spending priorities and taxes if it follows this payment schedule.”
  • Figure out ways to reduce the rising costs of retiree health benefits, which are expected to increase by $600 million to a total of $1.7 billion just for annual pay-as-you-go funding by fiscal year 2018.
  • The State Budget Crisis Task Force report on New Jersey was funded by the Community Foundation of New Jersey, The Fund for New Jersey, and the Geraldine R. Dodge Foundation. The panel was moderated by New Jersey Spotlight cofounder John Mooney.

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