Local and State Government

US states make serious forecasting errors

Posted on Thursday, March 17, 2011

US states have been making serious errors in forecasting their revenues during economic downturns, saddling lawmakers with new budget shortfalls as they try to allocate fewer resources, new research shows.
According to a joint study by the Pew Center on the States and the Nelson A Rockefeller Institute of Government, two research groups, the main reason for the poor estimates is not the states’ forecasting process, but their reliance on volatile parts of the economy, such as the stock market.
In fiscal year 2009, the first year of the ongoing budget crisis for US states, half of them overestimated revenues from personal income, corporate income and sales tax revenues by at least 10.2 per cent.
Some states have grown to rely more on personal income taxes, particularly New York, Massachusetts and California, which levy highly fluctuating capital gains taxes. These taxes can surge when the stock market rallies, and then plummet in a sharp sell-off as they did at the end of the tech bubble or during the financial crisis that precipitated the last recession. A drop in employment also plays a large role in realising these revenues.
“Over the last 20 years, several states have added or increased their income taxes and, of course, capital gains have become a larger share of the base of the tax,” said Robert Ward, deputy director of the Rockefeller Institute of Government. “At the same time, the sales tax has not grown as sharply as the income tax.”
State sales tax revenues were historically more stable until the last recession when consumer spending dropped, posing problems for states like Florida, Nevada and Washington, which do not levy income taxes.
The study, which spans the period from 1987 to 2009, shows that forecasting has become progressively worse.
The structure of state tax revenues also have not kept pace with changes in the US economy, which has become more service-oriented versus the manufacturing economy of the 1950s.
“Compared to several decades ago, a greater proportion of retail sales are not taxable because they are services versus taxable goods,” Mr Ward said. “Services are much less likely to be subject to sales tax.”
By Nicole Bullock in New York, FINANCIAL TIMES

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