The SOS proposal is in large part a response to several state budget trends. Four of these trends are reviewed below, and an analysis of the proposal follows after.
The State Budget: 1995-2007
This discussion of the state budget begins with fiscal 1995. Starting with an earlier year would likely produce similar observations, but comparisons of the pre- and post-1995 state budgets involve serious practical difficulties because of the significant constitutional changes created by the passage of Proposal A of 1994 (a landmark state constitutional amendment involving public school finance). In adopting fiscal 1995 as a starting point, this study is following the example of the Michigan Senate Fiscal Agency, which likewise chose fiscal 1995 as the starting point for its analysis of the SOS proposal.
State spending in Michigan since fiscal 1995 can be separated into two distinct phases, with fiscal 2001 serving as a watershed. The first phase occurred during a time of rising state tax revenues and economic strength; the second phase occurred during a time of falling tax revenue and economic decline.
From fiscal 1995 through fiscal 2001, state spending grew along with rapidly rising state tax revenues and a strong Michigan economy. According to the Michigan Senate Fiscal Agency, total state spending from state resources (as opposed to, for instance, federal government resources) was about $19.3 billion in fiscal 1995 and more than $25.2 billion in fiscal 2001, a total growth of more than 30 percent. During the same period, the sum of the inflation rate and the state’s population growth rate was less than 20 percent. Thus, if the SOS proposal had been in effect in fiscal 1995, the fiscal 2001 state budget would have been more than $2.2 billion smaller, or about 9 percent less, than it actually was (see Graphic 2).
State government spending changed with the national recession in 2001. Michigan jobs and capital declined, and state government tax revenue fell as well. This problem has persisted since fiscal 2001. State spending from state resources declined significantly against inflation over the next six years, growing less than 10 percent from fiscal 2001 to the recently approved budget for fiscal 2007, while total inflation and population growth for the period was 20 percent. In fiscal 2004, state revenue collection lagged so much that total state spending from state resources fell more than $250 million from what had been spent the year before.
The Michigan Senate Fiscal Agency estimates that implementing the SOS proposal’s state spending cap in fiscal 1995 would have produced a fiscal 2007 state spending limit of $27,674,900,000. The actual spending level appropriated for fiscal 2007 is $27,743,200,000.
Hence, if the SOS proposal had been in effect, fiscal 2007 state spending from state resources would have been just one-quarter of one-percent less than spending in fiscal 2007 is currently budgeted to be. At the same time, with the upward spike in annual state spending from fiscal 1995 to fiscal 2001 prohibited by the SOS spending cap, state government would ultimately have spent approximately $9.6 billion less in total from fiscal 1995 to fiscal 2007 under the SOS proposal. The proposal would have required this $9.6 billion surplus to be divided between taxpayer refunds and deposits into the budget stabilization fund.
The Budget Stabilization Fund: 1995-2007
The budget stabilization fund had a balance of almost $1.3 billion in fiscal 2000. The fund is effectively empty today, the money having been spent from fiscal 2001 through 2003 when state tax collections were no longer keeping up with the spending pace that had been established in the late 1990s. As noted above, the actual total state spending from state resources for fiscal 2001 was more than $2.2 billion higher than it would have been if the SOS cap had been placed on state spending in fiscal 1995.
Assuming the fiscal 1995 enactment date for the SOS proposal hypothesized by the Michigan Senate Fiscal Agency, and assuming that all historical economic and tax collection facts remained constant, the SOS proposal’s spending limits from fiscal 1995 through fiscal 2000 would have led to almost $4.3 billion less state spending from state resources. The rules of the SOS proposal would have required that portions of this surplus be deposited annually into the budget stabilization fund until the fund level reached 10 percent of the annual state spending limit. The maximum 10 percent balance would have been achieved by at least 1999 with a total of just over $2.2 billion; the fund’s balance then would have grown with inflation and population each year to mirror the growth of the SOS spending limit. By fiscal 2001, under a hypothetical SOS proposal, the budget stabilization fund would have contained about $2.3 billion — more than $1 billion higher than the fund’s actual balance.††
This trend of producing a slow increase in the fund’s balance would have continued in every year to the present except for fiscal 2005, the only year when the tax money collected would have failed to equal the spending limit. In fiscal 2005, state revenues from state resources would have dipped below the allowable spending limit by $31.2 million, about one-tenth of one percent less than that year’s hypothetical SOS cap. The state treasurer would have made an automatic withdrawal to supplement spending. After this withdrawal, the budget stabilization fund would have contained almost $2.5 billion. Thus, if all other factors had remained constant, and if the SOS proposal had been implemented in fiscal 1995, it appears that after 2001, state government would have had a larger budget stabilization fund and experienced diminished surpluses, rather than larger deficits.
†† There are several assumptions that make this a conservative estimate of the outcome. The budget stabilization fund balance was calculated only as direct deposits based upon the surplus figures reported by the Michigan Senate Fiscal Agency. Obviously, the fund is invested and earns interest, but these gains — while likely significant — were not calculated into the size of the hypothetical fund balance following fiscal 1995. Adding these monies would have led to a budget stabilization fund that achieved its maximum amount much sooner and required smaller annual deposits to maintain the fund balance year to year. As such, the portion of the surplus dedicated to taxpayer refunds would have likely been larger.