Michigan’s Weakened Financial Position and the Problem of Dual Deficits
January 2009
State Budget Note 2009-01

In Brief

The incoming 95th Legislature will face the dual task of tackling a set of budget deficits brought about by the two primary forces: 1) a structural imbalance between on-going spending and revenues, and 2) the fiscal effects of the downturn in the national economy. While Michigan’s structural budget problems have been apparent for some time (the CRC was the first to highlight this problem in 2001), policymakers have been reticent to take the necessary steps to bring the two sides of the budget into alignment. Failure to do so in advance of the current economic recession makes the job of addressing the cyclical budget obstacles all the more difficult.

Michigan State government finances enter calendar year 2009 ill-prepared to deal with the upheaval that the current recession is bringing. Whereas the State had amassed over $3.9 billion in major fund cash reserves to deal with the 2001 recession, today it faces an accumulated cash deficit of approximately $400 million that it must finance through internal and external borrowings. The balance sheet of the State’s major funds has lost over $3 billion in fund equity since the end of FY00. Debt levels have nearly doubled during the same period, which adds to the annual interest costs of borrowing. State policymakers have three alternatives, or combinations thereof, to address the structural and cyclical budget deficits they face: Spending cuts, revenue increases, and one-time resources. It is critical that they select the appropriate method for each type of deficit.

The fiscal implications of each method must be evaluated in terms of their short- and long-term impacts on the three measures of Michigan’s financial condition: the budget deficits (structural and cyclical), the balance sheet, and the cash position. Actions taken to address one of these concerns will not necessarily produce similar outcomes for the others and, in some cases there may be a completely opposite result.

Policymakers must break with past practice and avoid using budget solutions designed and intended for one set of fiscal problems to respond to the other type. Further delaying efforts to address Michigan’s structural budget problems will compound these problems in future years. Strategies aimed only at achieving short-term budget balance in FY09 will add considerably to the longer-term, structural problems that will have to be confronted in FY10.

Introduction

In June of last year, the Citizens Research Council of Michigan projected the size of structural deficits affecting Michigan’s General and School Aid Funds (see Michigan’s Fiscal Future, Report 349). These deficits did not occur overnight, but developed over a period of time dating back to the late 1990s. State policymakers have done very little to correct for the structural imbalances present in the two major budgets (General Fund/General Purpose and School Aid) supported by revenue from these Funds. The Citizens Research Council of Michigan estimates that, absent policy changes to address these problems, the State will face structural budget deficits averaging a total of $840 million from Fiscal Year 2009 (FY09) to Fiscal Year 2017. While policymakers have focused their attention on addressing annual budget deficits over the past eight years brought about by these structural imbalances, they have done so without regard to the overall financial condition of the State’s finances. Many of the actions taken to achieve annual budget balance have contributed to ongoing deterioration of the State’s financial health.

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