August 7, 2013
As Democrats and Republicans debated North Carolina’s recently approved state budget, they devoted much of their attention to the income statement of state government.
They argued about next year’s revenues and expenditures. What didn’t get nearly as much attention was how the budget affected state government’s balance sheet of assets and liabilities.
The new 2013-14 budget put $150 million into the repair and renovation reserve for state facilities and another $233 million into the state’s rainy-day reserve, which covers unforeseen fiscal hits from recessions, lawsuits, and weather events. Going into this year, the rainy-day fund had only $419 million in it — meaning that the new budget increased the fund by 56 percent in the first year alone. A separate but invaluable piece of legislation limits the share of debt that can be issued without voter approval in the form of certificates of participation (COPs).
That these decisions got little attention this year is hardly surprising. Although you probably care about your net worth, don’t you spend more time worrying about what you will make or spend in the coming year? It’s human nature. Those who wish to prosper in the long run ought to save more and borrow less in the short run. But the temptation to spend instead of save today is strong when managing your own money. If you are managing someone else’s money instead of your own, that temptation gets even stronger.
To combat it, North Carolina and other states have adopted various institutional safeguards. They make lawmakers and governors enact balanced operating budgets rather than borrow to finance current operations, for example. When well designed and implemented, such safeguards tend to reduce fiscal turbulence and overspending.
Historically, North Carolina maintained low debt burdens and prudent fiscal practices. That began to change during the late 1980s as state lawmakers coped with burgeoning population and demand for services by issuing billions of dollars in bonds for schools, roads, prisons, transmission lines, and other infrastructure. At least they asked voters for approval during the first big round of borrowing. After the passage of a $3.1 billion higher-education bond in 2000, the state stopped holding public referenda altogether and issued special-obligation debt such as COPs. Technically, COPs don’t legally obligate taxpayers to pay debt service. In practice, taxpayers are still on the hook.
The combination of inadequate cash reserves and growing debt loads played an underappreciated role in the fiscal crisis North Carolina faced during the Great Recession. By 2008, the amount of state debt per North Carolinian was five times greater than in 1988. In that 2007-08 fiscal year, the state spent nearly $700 million just on General Fund debt service and held only $787 million in its rainy-day reserve, less than 4 percent of spending.
Over the next three years, the Great Recession tore huge holes in the budget. Investors holding state bonds still got paid. But public employees and vendors got pay freezes or laid off, and all North Carolinians got pay cuts in the form of tax hikes.
We may not have another Great Recession lurking around the corner, but the business cycle hasn’t been repealed. To reduce the risk of sudden budget shocks or tax increases during future economic downturns, state lawmakers should take precautions. The new budget bill is a start, nothing more. By the end of the 2014-15 fiscal year, it will have rebuilt state cash reserves (rainy-day fund plus other fund balances) to about $1 billion, or 5 percent of General Fund spending. Lawmakers should push that proportion up to least 8 percent as soon as possible.
I know it’s not exactly flashy for politicians to save money or reduce debt loads. You get more attention by creating new programs. Still, fiscal restraint is the smarter course. Think of it as a hedge against future public employees, retirees, and taxpayers coming after you with the political equivalent of pitchforks. As former Gov. Bev Perdue can tell you, that’s no fun.
Hood is president of the John Locke Foundation and author of Our Best Foot Forward: An Investment Strategy for North Carolina’s Economic Recovery. It is available at JohnLockeStore.com.