State credits stable in 2020 outlook

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Analysts predict states will be in stable condition this coming year with continued revenue growth, leading to more willingness to issue debt.

State revenues will continue to climb in fiscal 2020, though at a more moderate pace as national economic growth slows, according to a Moody’s Investor Service report released this week. Overall tax revenues will increase by about 4% in 2020, the agency projects.

States also have plans to spend more on education and contribute to record-high rainy day fund balances, analysts said. States have contributed more to rainy day funds recently, in part due to unexpectedly strong revenue growth.


“States really suffered in the last downturn and it underscored for state lawmakers and budget officers that it would be better to have more money tucked away,” said Marcia Van Wagner, vice president and senior credit officer at Moody’s. The 2008 recession led to difficult decisions to cut, which states hope to avoid if another recession occurs, Van Wagner added.

States are now in a position to weather a “moderate recession” without a significant adverse credit impact, Moody’s analysts said.

Revenue growth is due to employment and wage growth. Wages have accelerated over the past few years, contributing to personal income taxes and sales taxes. Capital gains revenue is likely to support state income tax collections as well, analysts said.

States, in turn, may be more willing to issue debt, but Van Wagner noted that states are more reliant on pay-as-you-go capital financing. That financing requires governments to save to pay for a project.

If a recession were to hit and a state issued a lot of debt, pay-as-you-go can help them delay projects and decide to issue debt later. .

Issuers have gone out to bond more since interest rates have continued to decrease over the years, leading issuers to possibly think that this may be the last time interest rates will be this low, said Patricia Healy, senior vice president of research and portfolio manager at Cumberland Advisors.

“Interest rates are still low,” Healy said. “They got so low, that issuers decided to go to market thinking that maybe this is the last low.”

However, an economic downturn could lead to less issuance.

States are seeing more money and specifically more money in education, but will face economic pressures going forward, said Joseph Krist, partner at Court Street Group Research LLC.

States will face policy risks if the results of the 2020 elections produce an environment that supports aspects like single-payer medical coverage. That could, in turn, affect state finances, Krist said.

“Other issues like transportation and resilience in the face of climate change will likely generate huge capital needs,” Krist said. “Those will likely require bonding but voter support for such borrowings is mixed. All of this points to higher state spending requirements. The question is can consistent levels of revenue growth be expected?”

Moody’s analysts say a national recession is unlikely in 2020. Risks remain such as an increased impact from trade tensions in agricultural and manufacturing states, changes to the Affordable Care Act and global risks that increases uncertainty, leading to more spending demands from states.

States are grappling with rising pension obligations, leading to underfunding in both pension and other post-employment benefits or OPEB plans, according to an S&P Global Report released this week.

S&P’s survey found that for most states, annual plan contributions do not keep up with growth in liabilities, and unfunded OPEB liabilities will likely escalate absent meaningful reform.

“States are even further away from making progress to reduce these unfunded liabilities,” S&P analysts said. “The already poor funded status of OPEBs will decline even more, as unfunded liabilities grow, unless effort is made to pre-fund or reduce these liabilities.”

It’s good news that rainy day funds are at their highest levels, said Leonard Gilroy, vice president of government reform at the libertarian think tank Reason Foundation. Public officials should be looking at financial risks that states are facing.

Unfunded pension liabilities add up to $1 trillion at the state and local level, Gilroy said.

While strong revenue and rainy day funds are good, states should be focused on paying down unfunded pension liabilities, Gilroy said. Moody’s analysts noted that revenue growth will help states meet rising costs of pensions and OPEBs.

“If policymakers are feeling like they’re sitting on revenue, there is going to be a strong temptation to start spending that on new programmatic spending whether that’s education or healthcare or parks, that’s politics,” Gilroy said. “Absolutely they should not be expanding programs until they really make a concerted effort to be focused on paying down those unfunded pension liabilities because that, in the long run, is a major hidden financial risk for a lot of different jurisdictions out there.”

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Bond ratings State budgets State tax revenues State and local finance Moody's S&P Washington DC
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