S&P: One-Time Fixes Not Good Enough

WASHINGTON  — Rating analysts are closely watching to see if states make structural changes in their finances to avoid their current fiscal problems as opposed to making one-time fixes that will not solve their underlying imbalances, a Standard & Poor’s analyst said Tuesday.

Speaking at a Governing Magazine conference here, Robin Prunty, managing director at Standard & Poor’s, said that fiscal 2012 “will be the most challenging year” that states have faced in terms of balancing their budgets, most of which are still being developed. For most states, fiscal 2012 begins July 1.

Historically, state and local governments have responded well to swings in revenue, Prunty said. They have had ample time to prepare for the phase-out of stimulus money that was used primarily to pay for their shares of Medicaid, the health care program for the poor and disabled that is funded jointly by the federal government and the states, she said.

But many states may turn to the debt markets to balance their budgets, and those actions are unlikely to resolve their long-term imbalances, according to Prunty.

“If they are using less structural solutions in terms of expenditure or revenue items, the future budget imbalance will continue and continue to be a pressure point,” she said.

Prunty’s comments come about two weeks after the Center on Budget and Policy Priorities released a report warning about the need for states to overhaul out-of-date tax systems and make other structural changes.

The report said these needs have been overshadowed by a mistaken belief that longer term issues like unfunded pension liabilities and health care costs will lead to bond defaults and bankruptcy filings.

Similarly, Prunty said the rating agency sees the crisis that many states find themselves in as a policy crisis, not a debt crisis, echoing a report Standard & Poor’s released in November.

However, she noted that cash-flow concerns are “front and center.” For states like California and Illinois that rely on short-term cash-flow borrowing, alarmist headlines about the state of the muni market “haven’t helped” and could result in higher borrowing costs, she said.

Prunty also said that states and localities have drawn down their rainy-day funds to historically low levels amid the protracted recession and slow recovery, another cash-flow factor the rating agency monitors.

Scott Pattison, executive director of the National Association of State Budget Officers, who spoke on the same panel, said that rainy-day funds have on average declined to about 2.8% of state expenditures in enacted fiscal 2011 budgets. That is down from about 8.2% in fiscal 2007, and excludes two outlier states, Alaska and Texas, with large historic balances fueled by oil extraction industries.

However, Pattison said that the data on state rainy-day funds show “a good story” — that states acted responsibly by saving money during the good times and drew down on their reserves during difficult times.

“We’re a little uncomfortable with the level of aggregate balances,” he said. “We really do hope from a fiscal management perspective that states over the next few years begin to build those up again. If the economic recovery is sustained, you will see that.”

Meanwhile, Stephen Fehr, a project director at the Pew Charitable Trusts who spoke on an earlier panel, said Pew plans to soon update a study it released last year that found a $1 trillion funding gap in state pension and retiree health care liabilities. 

That report, which was based on comprehensive annual financial reports from fiscal 2008, will be updated with CAFRs from fiscal 2009. 

Pew also will examine the funding of city pensions — the largest city in each state plus 10 other large cities — and expects to see similar high levels of underfunding.

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