Given one more bust, Wyoming may get it right

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Given one more bust, Wyoming may get it right

By Gregory Nickerson
WyoFile.com

Wyoming’s revenue growth has slowed down, and Senate Majority Floor Leader Phil Nicholas (R-Laramie) says if the state doesn’t do something soon to adjust our spending expectations, we’ll be in trouble.

Armed with oversize graphs and a laser pointer, Nicholas spoke to a group of reporters and separately to the Senate last week, telling the story of the lean years for the state budget from 1986 to 2000, when spending sometimes outpaced slow-growing revenues. But they also illustrate the boom that began in 2000, when Wyoming’s revenue took off like a rocket as natural gas and coal development brought billions to the state.

Annual state expenditures (not including education) climbed up to around $500 million before 1999. During the boom that number surged to $1.7 billion.

Wyoming experienced slow budget growth inthe 1980s and 1990s, followed by a boom from 2000-2008. The red line show Wyoming's spending has tapered off from its 2007 peak.

Wyoming experienced slow budget growth in the 1980s and 1990s, followed by a boom from 2000-2008. The red line shows Wyoming’s spending has tapered off from its 2007 peak. Abbreviations include GF=General Fund, PMTF=Permanent Mineral Trust Fund, BRA=Budget Reserve Account, FY=Fiscal Year. (Courtesy of Sen. Nicholas — click to view)

The times were good. But now at the beginning of 2013, Nicholas and other state leaders and budgeting experts see signs that Wyoming’s revenues are growing at a modest rate — one quite similar to that seen in the 1980s and 1990s.

Revenue watchers expect a slow growth curve in natural gas prices will make Wyoming’s revenue profile from now until 2023 look a lot like 1986 to 1999.

As early as 2018, a very conservative projection of state government growth would result in Wyoming’s spending outpacing its revenue. That possibility comes up against the constitutional requirement that Wyoming lawmakers maintain a balanced budget.

And that has Sen. Nicholas touting the wisdom of the Tax Reform 2000 study, a comprehensive revenue-planning document to revamp Wyoming’s tax structure that went out the window as soon as the natural gas boom arrived in full force.

Nicholas says its time to dust off the Tax 2000 report and learn from its lessons so Wyoming can find its way forward in an era of modest or even flat growth in revenue.

A projection of growth in revenue (blue) versus spending (red) shows Wyoming may encounter a fiscal crisis when the lines cross in the year 2018. Sen. Nicholas is using this chart to persuade legislators to boost savings and cut spending.

A projection shows that Wyoming’s growth in spending (red) may outpace revenue (blue) in the year 2018. Sen. Nicholas is using this chart to persuade legislators to boost savings and cut spending. (Courtesy of Sen. Nicholas — click to view)

In one sense, it’s surprising that Nicholas would be telling his fellow lawmakers to read Tax 2000; On the first page of the introduction, the report recommends that Wyoming adopt — brace yourself — A STATE INCOME TAX.

To be clear, WyoFile hasn’t heard anyone in Cheyenne proposing that Wyoming needs an income tax today — not Sen. Nicholas, Gov. Mead, or anyone else. Any legislator wanting to tax income would most likely get the boot from angry voters in the next election.

Nicholas is pointing to Tax 2000 as a tax-raising scenario that lawmakers can avoid, if they take proper action to cut spending and boost savings right now (more on that later).

When the Tax 2000 report was written in 1998-1999, the idea of adding more sources to Wyoming’s revenue stream seemed logical, even necessary.

Just before the boom hit, lawmakers were looking at a $130 million deficit for the 2001-2002 biennium. For more than a decade the state had drained all of its savings accounts to piece together the budget. Wyoming had raised revenue by diverting contributions to the Permanent Mineral Trust Fund, changing accounting procedures, and raising certain taxes. But it wasn’t enough to cover spending.

“We’d used all the coffee cans that had been hidden around,” said Sen. John Hines (R-Gillette). “Something had to change.”

Hines served on the House Revenue Committee from 1991-2000, culminating with his work as chairman of the committee working on the Tax 2000 document. The group met two days a month for 18 months in 1998 and 1999, and looked at the tax structures of nearly every state.

In the end, eight out of 11 committee members endorsed  the Tax Reform 2000 report, which included saving more money in the Permanent Mineral Trust Fund and raising taxes on sales and use, real-estate transfers, and income. (To read the report, click here.)

“What we didn’t know at the time was we were going to have massive development of natural gas,” Hines said. Starting slowly in the year 2000, mineral revenues picked up due to the coal-bed methane boom, making many of the revenue-raising measures presented in Tax 2000 unnecessary.

“I always took credit for the boom because the minute I proposed an income tax, mineral (revenues) improved and we had a lot of money. We didn’t need my recommendations,” Hines said.

The influx of revenue ended Wyoming’s long period of rationed spending, and lawmakers began reinvesting in state infrastructure and growing agencies and programs. Agencies saw increases in ongoing spending, while the state undertook massive one-time spending projects like investing $1 billion in the university. “We’ve been spending money and we’ve done a good job of it,” Hines said.

The revenue raising ideas in Tax 2000 may have been irrelevant during the boom, but many of the taxation dynamics identified by Tax 2000 remain unchanged. Wyoming taxes are imbalanced, meaning that energy companies carry the majority of the tax burden, while private residents get off relatively easily.

“In a real environment you go out and tax your citizens to pay for government. Wyoming doesn’t do that,” Nicholas said. “On a tax basis, nothing has changed in terms of dependency on minerals.”

It’s difficult to quantify what percentage of Wyoming’s taxes are derived from the mineral industry, but it certainly makes up the lion’s share of revenue. The state’s raw undeveloped minerals account for 62 percent of the state’s assessed valuation.

A slide distributed by Sen. Nicholas summarizes the findings of the Tax 2000 study.

A slide distributed by Sen. Nicholas summarizes the findings of the Tax 2000 study. (Click to view)

That makes Wyoming’s revenue unpredictable and unstable because severance tax collections and Federal Mineral Royalties rise and fall based on markets for fossil fuel commodities.

The presence of mineral revenues encourages Wyoming to grow state infrastructure and services larger than if taxes on residents paid for everything. “The average family of four in Wyoming that pays $1,500 in taxes gets about $7,800 in services,” said Gov. Matt Mead (R). “As citizens we are not paying for the services we get because the mineral industry pays for so much.”

Those services may suffer with depressed mineral prices that dropped due to the glut of domestic natural gas produced by fracking technology. Wyoming is expecting natural gas to hover in the neighborhood of $4 per thousand cubic feet (mcf) of gas for the foreseeable future, which is not enough to cover government growth at current rates for the next few years.

Suddenly the questions addressed by Tax 2000 seem applicable again. How will Wyoming weather a long period of flat mineral prices? Will Wyoming face austerity measures that cause it to fall behind its neighbors?

That brings us back to the issue of Wyoming leaders calling to cut spending and boost savings. “We need to look at what experts are saying,” said Nicholas. “Revenue is projected to grow only very slowly over the next 10 years.”

The good news is that if Wyoming makes hard decisions to flatten budget growth and increase reserves now, and revenue climbs more than expected, we’ll be in a good position, Nicholas said.

But if state leaders don’t take precautions now, Nicholas says we’ll likely end up in a situation similar to the late 1980s and 1990s, when the state’s salaries were not competitive and infrastructure went without maintenance. Wyoming doesn’t have another source of revenue that can easily make up for  losses in mineral severance taxes. The state would have to resort to spending down its “coffee cans” of savings without any obvious way of building them back up, Nicholas said.

Without putting enough in savings right now, Wyoming could end up considering the ideas in Tax 2000, including instituting a sales tax, income tax, or real estate transfer tax to keep government going.

How much savings is enough? Nicholas says the state ran through about $1 billion in savings from 1986 to 2000, an amount equal to one biennium of spending during that period. With inflation and the near tripling of the state budget since then, Wyoming would need about $3 billion in its Legislative Stabilization Reserve Account to cover a two-year General Fund/Budget Reserve Account budget cycle. Currently the state has $1.6 billion in the account.

“I think a lot of people in the legislature believe that $3 billion is roughly right because that’s about what it takes to run our state for a couple years,” said Gov. Mead. Of course, that money wouldn’t be spent all at once. Mead and others say the state could spend about $300 million a year, which should be enough to cover annual budget shortfalls for a decade.

The $3 billion figure for savings seems to have traction — at least among Republicans leadership — so the debate now turns on how quickly the state should build up savings in its “Rainy Day Account,” and whether to do so by diverting money away from the Permanent Mineral Trust Fund (PMTF).

The state contributes 2.5 percent of annual severance tax revenues to the PMTF, which now stands at more than $5.8 billion. Of that amount 1.5 percent is mandated by the constitution, while another 1 percent is contributed by statute, which lawmakers can change.

Gov. Mead has proposed to divert the statutory 1 percent of severance taxes from the PMTF to the Legislative Stabilization Reserve Account (LSRA), also known as the “rainy day account.” (Mead also proposes to build the LSRA using coal lease bonus money, which currently goes to the School Capital Construction Account.)

A slide distributed by Sen. Nicholas summarizes one view of the prupose of the Legislative Stabilization Reserve Account, which currently stands at $1.6 billion

A slide distributed by Sen. Nicholas summarizes one view of the purpose of the Legislative Stabilization Reserve Account, which currently stands at $1.6 billion. (Courtesy of Sen. Nicholas — click to view)

The LSRA acts as short-term liquid savings, which lawmakers can draw on to meet unexpected shortfalls, such as last year’s notably bad fire season, and anticipated drops in natural gas prices that did not materialize. By contrast, lawmakers cannot touch the corpus of the state’s Permanent Mineral Trust Fund, though they can spend its interest and income.

“My point on building the LSRA is that it provides us an opportunity for a smoothing effect,” Gov. Mead said. “Build it now, fast. It’s not like it is sitting there doing nothing — it builds interest for the state just like the Permanent Fund.” Mead’s 1 percent diversion plus the addition of coal lease bonuses could build the LSRA to nearly $3 billion by the end of the 2015-16 biennium in summer 2016.

Gov. Mead says putting more money into the LSRA would streamline fiscal planning for the Joint Appropriations Committee, the Governor’s office, and state agencies. By consolidating most savings into one account, it could alleviate the complexity of the multiple “coffee cans” approach that Mead says causes confusion for lawmakers and the public.

“It’s important for us to look at our fiscal policy in the state to see if we can add clarity, transparency, and security for the future, and that’s why I propose what I do,” Mead said.

Gov. Mead says a larger LSRA balance could allow Wyoming to build the budget based on cash on hand, rather than on projected revenue. Currently the state uses forecasts from the Consensus Revenue Estimating Group to budget state agencies.

But those projections regularly fall short of actual revenue because of a forecasting approach that doesn’t take into account capital gains income on investments. Last year the gap was $186 million.

Mead acknowledged that a bill to divert money from the permanent fund to the LSRA might face an uphill battle today. One opponent to the diversion approach is Sen. Nicholas, who would prefer the state to grow the LSRA more slowly and without, “starving the permanent fund.”

Nicholas is considering an approach that would increase the amount of investment income flowing from the PMTF to the General Fund, which covers the regular operating expenses of Wyoming government.

Currently the General Fund receives PMTF investment income valued at 5 percent of the five-year running average of the PMTF corpus. Nicholas is considering a proposal to boost that 5 percent number — called the Spending Policy Amount — to 8 percent.

The boost would mean more money flowing into the General Fund, and a slower flow of money into the “Spending Policy Reserve Account” or SPRA (one of those coffee cans the Governor was talking about).

The SPRA is built up when investment income to the PMTF exceeds the 5 percent Spending Policy Amount that normally flows to the General Fund. That money builds up in the SPRA account until it reaches a tripping point — 75 percent of the Spending Policy Amount — which automatically sends the money back to the PMTF, where legislators can’t touch it

The SPRA is built up when investment income to the PMTF exceeds the 5 percent Spending Policy Amount that normally flows to the General Fund. That money builds up in the SPRA account until it reaches a tripping point — 75 percent of the Spending Policy Amount — which automatically sends the money back to the PMTF, where legislators can’t touch it. (Courtesy of Sen. Nicholas — click to view)

The SPRA acts as a holding account for excess PMTF investment income above what gets contributed to the General Fund. When the SPRA balance reaches a certain value, it sends money back to the PMTF.  (See graphic.)

The bottom line is that Nicholas’ proposal would boost the PMTF contribution to the General Fund. The added revenue could be spent or used to build up the LSRA.

The proposal is a less direct way for lawmakers to build up the rainy day account, but it would allow for more flexible spending out of the General Fund.

Democratic lawmakers have another plan to directly divert 1 percent of severance taxes from the PMTF, but directly to the General Fund instead of the LSRA, as in the Governor’s proposal. Rep. Patrick Goggles (D-Ethete) has been working on the proposal since November. Such a bill would allow even more flexible spending out of the General Fund, which could go to programs, or presumably to the LSRA.

So far the discussion about how to build the LSRA hasn’t resulted in any introduced bills based on the proposals from Mead, Nicholas, or Goggles. But something should materialize in the coming weeks.

In the meantime, the Joint Appropriations Committee is holding supplemental budget meetings with state agencies, working to implement the 6.5 percent cut to the state budget that Gov. Mead proposed last November. This will trim about $60 million from the General Fund budget for fiscal year 2014. Those cuts will be made permanent, to be followed by another possible round of budget cuts for the 2015-16 biennium that could amount to about $156 million.

Graphs of recent appropriations show that Wyoming government has essentially arrested spending growth that occurred from 2000 to 2008 (see red line in top chart). But with inflation and rising costs for major programs like health care and higher education, the state will still see an upward creep in spending.

It remains to be seen whether the budget cuts, plus a potential plan to build the LSRA, will be enough to stave off  a potential revenue crisis that Nicholas projected could hit Wyoming by 2018 (see chart #2). Certainly the desire for lawmakers to avoid the revenue-raising proposals from Tax 2000 provides a strong motivation.

“What Tax 2000 teaches us is (Wyoming’s budget) is commodity based, and you have to prepare for (boom and bust) cycles, and they may be long — 10 to 15 years,” Nicholas said.

For now, Nicholas will continue spreading his message to fellow lawmakers. He hopes that they’ll take to heart the lessons learned by a previous generation of lawmakers that weathered a long period of almost flat growth.

“Tax 2000 said put more money in permanent savings, (and) find an alternative tax source. It was doing it at a point when we were starved. We are not starved now,” Nicholas said. His preferred approach for keeping the state afloat would start with spending from the SPRA account, then diverting severance taxes from the PMTF to the General Fund. Only after that would he support spending money from the LSRA.

“With $3 billion (in the LSRA) and two life lines, we can get through the next 10 years without raising income taxes,” Nicholas said. “History says we’re going to need to take all of that.”

Gregory Nickerson is the government and policy reporter for WyoFile. He is based in Cheyenne during the 2013 legislative session. Contact him at greg@wyofile.com.

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