More About Elizabeth McNichol

Elizabeth McNichol

McNichol is a Senior Fellow specializing in state fiscal issues including methods of examining state budget processes and long-term structural reform of state budget and tax systems.

Full bio and recent public appearances | Research archive at CBPP.org


3 Steps States Can Take to Improve Their Rainy Day Funds Now

April 21, 2014 at 10:02 am

States can take concrete steps now to improve the structure of their rainy day funds, helping them to more effectively weather the impact of inevitable future downturns, as we explain in our new paper.

States used their rainy day funds to avert over $20 billion in cuts to services, tax increases, or both, in each of the last two recessions, highlighting the funds’ importance.  Yet these reserves filled only a modest share of states’ record-setting budget gaps; states would have weathered the storms better with bigger rainy day funds.

States shouldn’t make rapid replenishment of rainy day funds a priority until their revenues rise well above pre-recession levels, unemployment has declined further, and they have restored programs cut during the recession — and most states are not yet there.

But, when they are ready to replenish those funds, here are three steps they can take:

  1. Create a rainy day fund, if they don’t have one.  Four states — Colorado, Illinois, Kansas, and Montana — lack a designated rainy day fund.  The budgets of all of these states except Montana were hit hard by the economic downturn, and the lack of a rainy day fund left them more vulnerable to the recession’s effects.
  2. Loosen overly restrictive caps on the size of rainy day funds.  One reason rainy day funds weren’t even more effective in the most recent downturn is that 31 states and the District of Columbia cap them at inadequate levels, such as 10 percent of the budget or less.  States with overly restrictive caps could either remove the cap or raise it to a more adequate level, such as 15 percent of the budget.
  3. Ease rainy day fund rules that make it difficult to make deposits in good times.  Most states place a low priority on replenishing their funds, depositing only whatever surpluses are left over at the end of the year.  States could integrate rainy day fund transfers into the budget as part of an overall reserve policy that places a high priority on saving.

Click here to read the full paper.

States Are Starting to Save for Another Rainy Day

April 16, 2014 at 1:19 pm

With the budget challenges of the Great Recession and its aftermath still fresh in their minds, state policymakers are considering ways to strengthen their “rainy day funds” — budget reserves they can use when recessions or other unexpected events cause revenues to fall or spending to rise.  But, it’s still premature for most states to act aggressively to refill the funds until their revenues rise well above pre-recession levels, unemployment has declined further, and they have restored programs cut during the recession, as we explain in a new paper.

States used their rainy day funds to avert over $20 billion in cuts to services, tax increases, or both, in each of the last two recessions, highlighting the funds’ importance.  Since draining reserves to a low of 2.4 percent of spending in state fiscal year 2010, states have begun to refill them partly (see chart).

The decisions about when and how quickly to refill a rainy day fund will be different for each state.  Here are some questions that states should consider:

  • Have tax collections recovered from the recession?  One sign that a state has sufficient funds to begin refilling its rainy day fund is that both its annual tax collections and its annual growth in tax collections have returned to pre-recession levels, after accounting for inflation.  Fewer than half of the states have recovered to this extent.
  • Has the state’s economy recovered?  A return to pre-recession unemployment rates and personal income indicates that the state’s economy is on the mend.  Then the state can more likely meet the needs of its residents and also set funds aside for future downturns.  Most state economies have not yet fully recovered from the downturn.
  • How big is the rainy day fund?  Resuming fund deposits is a higher priority in states with little or no funds remaining.  These states may want to spread the replenishment over more years and should consider beginning sooner.  At the end of fiscal year 2013, 16 states had general fund reserves of less than 5 percent of the budget. 
  • What else might states do with available funds?  A rainy day fund’s ultimate goal is to help maintain state support for education, health care, transportation, and other services that promote economic growth and meet residents’ needs.  If depositing money in the fund would jeopardize a state’s ability to support these programs adequately — especially after years of funding cuts in an economic downturn — program funding should take priority. 
  • Is the state experiencing a revenue “windfall”?  Some states’ revenue collections are temporarily high as a result of a court settlement or other short-term reason.  For example, Connecticut received $175 million this year from a temporary tax amnesty program, and Louisiana is receiving payments from BP as a result of the 2010 oil spill.  States should use caution when deciding how to spend these temporary windfalls.  Shoring up a rainy day fund is a prudent use of one-time funds, while enacting ongoing program expansions or permanent tax cuts could contribute to future budget imbalances.

Click here to read the full paper.

New Report Highlights Need for States to Help Address Income Inequality

March 6, 2014 at 2:05 pm

An important new report documents rising inequality in states across the country.  As we outlined in our 2012 analysis of state-by-state income inequality, states can — and should — take certain steps to help alleviate these trends.

A study of IRS data by the Economic Analysis and Research Network found that:

  • The top 1 percent of taxpayers received the lion’s share of income growth across the country between 1979 and 2007, and its share of income grew in every state.
  • In 15 states, between half and 84 percent of all income growth over this period went to the top 1 percent.  In four states — Alaska, Michigan, Nevada, and Wyoming — incomes grew for only the top 1 percent while the incomes of the bottom 99 percent fell.
  • This lopsided income growth has continued after the recession.  The top 1 percent received at least half of the income growth in 33 states between 2009 and 2011 (the most recent year for which state data are available).

Governments at all levels can take steps to help alleviate these trends.  Specifically, states can:

Stop exacerbating inequality through the tax code.  In most states, low- and middle-income people pay a higher portion of their income in taxes than the wealthy.   States certainly should avoid worsening this trend with tax cuts that benefit the richest households and do little for poor and middle-income families.  For example, cutting progressive taxes like the income tax will benefit high-income families more than low-income families and will widen income gaps further.

Strengthen supports for low-income families.  States play a major role in delivering social safety net assistance.  State assistance with child care, job training, transportation, and health insurance helps poor families get and retain jobs and move up the income scale.  In addition, states can shield the nation’s most vulnerable citizens from poverty’s long-term effects by maintaining their pieces of the safety net.

Raise, and index, the minimum wage.  The purchasing power of the federal minimum wage is 22 percent lower than its late 1960s peak.  Its value falls well short of the amount needed to meet a family’s needs, especially in states with a high cost of living.  Federal action to raise the minimum wage is critical, but states don’t have to wait.  Any state can help raise wages for workers at the bottom by enacting a state minimum wage that is higher than the federal wage and indexing it to ensure continued growth.

Plenty of Room for Improvement in State Budget Planning

February 5, 2014 at 2:25 pm

Most states fall short on long-term budget planning (see map below) and would reap concrete benefits by adopting proven, non-partisan fiscal tools, according to our new report.  Oregon is a good example.

When Oregon created a state lottery in 1984, it exempted lottery winnings from the state income tax.  But policymakers and the public couldn’t be sure how much that tax break — or any other state tax credit, deduction, or exemption — actually cost until 1996, when Oregon produced its first “tax expenditure report” listing all of the tax breaks and their costs.  That report showed that the lottery exemption cost about $44 million over two years.  Armed with that information, policymakers scaled back the exemption in 1997 and again in 2001, saving more than $40 million over the same time frame.

States spend tens, maybe hundreds, of billions of dollars each year through tax expenditures, yet roughly a dozen states don’t publish regular tax expenditure reports, and almost every state that does issue them omits essential information.

Other areas where many states are deficient include the following:

  • Only ten states regularly produce multi-year “fiscal notes” projecting the cost or savings of policy proposals over the next five years or more.
  • Only 11 states prepare frequent, detailed mid-year reports comparing the amount spent thus far in the fiscal year to the amount budgeted.
  • Only 18 states regularly publish some form of “current services” projection of the cost of maintaining public services at current levels in the next budget period.

This fact sheet summarizes the report’s ten fiscal planning tools and how widely states use them.  As it and our report show, while all states budget for the future to some extent, no state does it nearly as well as it could.

The Best — and Worst — States at Long-Term Budget Planning

February 4, 2014 at 1:21 pm

Connecticut, Maryland, and Tennessee do the best job of factoring long-term issues into their budget decisions, according to our major new report (with state-by-state fact sheets), while New Jersey, Oklahoma, and South Dakota do the worst.

The report ranked states on their use of ten proven, common-sense budget tools, such as regularly estimating revenues and spending for the next five years (not just the budget year) and tracking the cost of individual tax breaks.  The results cut across regional and partisan divides.  (See table below.)

For example, New York (the prototypical liberal northern state) and Louisiana (a southern state with a much more conservative bent) both do relatively good jobs of planning ahead, while both Massachusetts and Alabama have much room for improvement.

Long-term budget planning doesn’t dictate particular policies, the report explains.  Rather, it helps policymakers understand the impact of whatever policy they’re considering, whether expanding help for low-income students or eliminating the income tax.

State budgets are still emerging from the worst recession in seven decades, and states face longer-term issues like an aging population and rising health care costs, both of which will increase the budgets of their health and other programs.  So policymakers need the best available information about the consequences of their budget decisions.  By laying out a clear roadmap of the longer-term implications of their budget decisions, states can improve their business climate, better cope with economic ups and downs, and make government more effective.