Joseph Krist

Publisher

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CONNECTICUT BUDGET

With a new administration taking hold in the Nutmeg State, investors hope to see real action on the state’s budget and in particular on pensions. This week the Governor articulated his budget plans. They include revenue expansions and tolling on four of the state’s primary highways.

So how would the Governor raise revenues? The Governor proposed expanding the sales tax to include many new products and services, like tax preparation, haircuts, dry cleaning, veterinary services and newspapers. The 1% tax on digital downloads will be increased to the 6.35% sales tax rate and the sales tax on boats will be increased from 2.99% to the standard 6.35%. All together, Lamont’s budget counts on more than $1 billion in new sales tax revenue over two years.

Other tax increases include raising the hotel occupancy tax from 15% to 17%, with 10% of the total money going into a tourism account and raising the real estate conveyance tax on sales of more than $800,000 from 1.25 % to 1.5 %. To soften the blow of higher taxes, the Governor wants to restoration of the $200 property tax credit to all tax filers (it’s currently limited to the elderly and those with dependents) and the elimination of the $250 business entity tax that companies in Connecticut have to pay every other year. 

The proposal to toll the state’s highways has been a source of contention for some time. To address prior political opposition, the Governor’s plan includes two options. One is a trucks-only proposal. Rhode Island currently has such a scheme in place on its section of I 95. The second proposal would raise about $800 million a year once it was fully implemented in 2025. The Governor estimates that 40% of the revenue raised from the second option would be paid by out of states drivers.

The state’s pension underfunding position would rely on the use of current surplus while relying on the municipalities assuming 25%  of pension costs for their employees. This has always been a heavy political lift in the Legislature. Even harder is the Governor’s hope that state employee unions would voluntarily make changes to the way cost of living adjustments are handled for state retirees, tying them to the stock market rather than guaranteeing a certain percentage increase.

Other revenue adds would include a 10 cent tax on single-use plastic bags, a 75% on e-cigarettes, a 1.5 cent per ounce tax on sugar-sweetened beverages and new bottle deposits on wine bottles, liquor bottles and nips. According to the Governor’s estimates the plastic bag tax would raise $57 million over two years, taxing e-cigarettes would generate $16.4 million over two years and the tax on sugary drinks would raise $163.1 million in its first full year.

ILLINOIS BUDGET

Governor J.B. Pritzker presented his first budget proposal of his tenure. His words make clear the challenges facing the Governor and the Legislature. “Illinois is faced with a $3.2 billion budget deficit and a $15 billion debt from unpaid bills. Last year alone, the state paid out more than $700 million in late payment penalties. That’s enough to cover free four-year university tuition for more than 12,000 students.”  There is a structural deficit today of over $3 billion per year that if left unaddressed will continue to grow. There is a backlog of unpaid bills and debt associated with it that exceeds $15 billion.”

“Out of this year’s $39 billion budget, approximately $20 billion is required payments on our debt, on our pensions, on our court-ordered obligations or federally protected programs.  To balance the budget by simply cutting government, we would have to reduce discretionary spending on all these direct services our jobs, our families and our businesses rely on by approximately 15%.”

The Governor’s proposal includes legalizing and regulating adult-use cannabis in this legislative session. He estimates that it would bring in $170 million in licensing and other fees in fiscal year 2020. The budget also includes the legalization and taxation of sports betting.  He estimates that Illinois can realize more than $200 million from sports betting fees and taxes in FY 2020. 

Other revenue enhancements include a proposal to enact a tax on insurance companies, specifically a managed care organization assessment to help cover the costs of the State’s Medicaid program. It would be structured to generate approximately $390 million in revenue to cover a portion of the state’s Medicaid costs. This would be a way to increase Illinois’ federal match.

The Governor offered proposals to deal with the state’s well documented pension funding problem. His administration is offering a 5-point program. It revolves around the enactment of a graduated income tax versus the current flat rate regime. The Governor says that a portion of the proceeds from the graduated tax would be applied to the pension system, over and above the state’s required pension payments. 

Pension bonds are also part of the plan. in addition, it would make the optional retiree buyout program permanent and smooth the pension ramp by “modestly” extending it. The state’s university system would see an increase of 5% in funding from the state after years of cuts. This would be credit positive for the debt issued by those institutions.

The proposal is the easy part of this process. The state’s political atmosphere remains strained after four years of standoff between the legislature and the Governor.

NYC, AMAZON, AND JOBS

With so much attention focused on the City and State of New York’s failed effort to conclude an agreement with Amazon, it might seem as if NYC was a jobless desert reliant on tax handouts to sustain its economy. A recent report from NYC Controller puts those concerns to rest.

The City’s economy grew 3.9% in Q4 2018, the strongest growth since 4.0% in Q2 2017, driven by a surge in the labor market and modest wage growth (as measured by average hourly earnings). For the year, the gross city product grew 3.0%, the most robust year over year growth rate since 2015. The banking sector, a key driver of the City’s economy, continued to perform strongly as a result of higher interest rates, lower corporate tax rates, and deregulation. Net income after taxes for the top six banks in the U.S. rose to almost $30.0 billion in Q4 2018, compared to a loss of over $6.2 billion in Q4 2017 driven by robust growth (16.9%) in pre-tax income (mostly from higher interest rates) and a steep decline in taxes. (Taxes for the top six U.S. banks fell by 84.1 % in Q4 2018 from the prior year, following enactment of the Tax Cuts and Jobs Act (TCJA), which reduced the federal corporate income tax rate from 35% to 21%).

The City’s private sector added 34,000 jobs or 3.5% (SAAR) in Q4 2018, the highest gain since the 37,000 jobs created in Q3 2014. The public sector added 1,300 jobs in Q4 2018. National private-sector employment grew 2.1% (SAAR) in Q4 2018, the fastest since the 2.1% increase in Q1 2018 (Chart 2). This is amazingly strong growth for so late in a business cycle.

But the next comment reflects why the Amazon tax breaks were controversial. over half of the new private-sector jobs created were in low-wage industries. Low-wage industries added 21,100 jobs and accounted for 62.0 % of total private-sector jobs created in Q4 2018. Medium-wage industries accounted for 29.8 % of the new private-sector jobs as they added 10,100 jobs in Q4 2018 and high-wage sectors accounted for 8.2 % and added 2,800 jobs. In comparison, 63.3% of new private-sector jobs in the U.S. in the fourth quarter were in low-wage industries, while 20.4% were in medium-wage industries, and 16.3% were in high-wage industries.

Moody’s has expressed the view that the failure of the Amazon deal is credit negative for the city. That finding is interesting in light of the Controller’s comments. Moody’s acknowledges that New York City has a younger workforce than the US as a whole — almost 66% of the population is between 25 and 54 years old — and also a more educated one: 36% of New York City residents have a bachelor’s degree or higher, compared with 30% for the US overall. New York City also has one of the lowest crime rates among the big US cities. But interestingly, Moody’s also cites the city’s transportation system and access to the national transportation system. Given the public uproar over the condition and reliability of the city’s transit system, this is a bit puzzling. Especially, since the impact on transit was one of the foundations for local opposition to the deal.

Intentional or otherwise, Moody’s takes a fairly strong position in favor of tax breaks as an economic development tool. Effectively, they pit classes of the city’s population against each other. One of the issues which Amazon ran away from was how it could provide employment  to historically economically limited segments of the population – like the residents of the nation’s largest public housing facility located essentially across the street.

Moody’s undercuts is view by citing the fact that “companies such as Google and Facebook have expanded significantly in New York City without direct state or city support because they want access to its creative workforce. In addition, jobs and wages in New York City’s high-tech sector, while accounting for only 1% of total employment, are growing faster than every other industry, growth we expect will continue. ” One has to wonder why Amazon did not feel that it could compete on a level playing field with Amazon and Google.

BUDGET SEASON IS REGULATION SEASON

For those many states which conduct limited legislative sessions, the budget negotiations are often the site of significant new regulations. This year is no different with a variety of proposals being introduced as part of the budget process across the country.

In Oregon, a proposal for statewide rent control is headed for a vote on the Oregon House floor. Senate Bill 608 , is expected to be approved and sent to a supportive governor for her signature. The bill would limit annual rent increases to 7% plus inflation throughout the state. Annual increases in the Consumer Price Index, a measure of inflation, for Western states has ranged from just under 1% to 3.6% over the past five years. New construction would be exempt for 15 years and vacancy decontrol would apply after existing tenants leave.

Other components of the bill mimic those seen in other jurisdictions like New York. The bill would require most landlords to cite a cause, such as failure to pay rent or other lease violation, when evicting renters after the first year of tenancy. So-called “landlord-based” for-cause evictions would be allowed, including the landlord moving in or a major renovation. In those cases, landlords would have to provide 90 days’ notice and pay one month’s rent to the tenant, though landlords with four or fewer units would be exempt from the payment.

Oregon would become the first state to enact a statewide rent control program. In other states with rent control policies, cities enact and administer local programs. Oregon law provides that rent control is not a power granted to localities.

In addition to New Jersey, New York State is debating the legalization of recreational marijuana. It is likely that the debate will continue beyond the budget cycle. The debate in New York is complicated by the politics of criminal justice reform and economic development. The industry is looked to as a potential source of “reparations” to benefit historically disadvantaged individuals and groups.

In plain English, proponents of reparations want to see recreational licenses issued to formerly incarcerated individuals who were convicted under prior more strict drug enforcement practices. That debate will b complicated by positions of some Presidential candidates in support of reparations. We would not be surprised to see these concerns derail current efforts to establish legal recreational marijuana outlets.

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