Minnesota has recently turned the corner from more than a decade of frequent budget deficits to a $1.2 billion surplus. But unforeseen events and the inevitable ups and downs of the business cycle create volatility in state economies and state budgets. These events, like extreme weather or recessions, can’t be avoided, so it’s important for states to address volatility so they can meet the needs of their residents even in the face of the unexpected.
A recent report from The Pew Charitable Trusts, Managing Uncertainty: How State Budgeting Can Smooth Revenue Volatility, explores uncertainty and revenue volatility in state budgets. I recently had a chance to hear Pew’s research presented to the House Tax Committee.
Pew recommends three strategies for states to evaluate and strengthen their responses to volatility:
- Regularly study volatility in their budgets and make policy recommendations to manage uncertainty.
- Release budget forecasts as close as possible to the time budget decisions are made.
- Develop mechanisms to create a healthy budget reserve.
Minnesota already does well on some of these strategies, and has taken recent steps to improve how it deals with volatility.
Minnesota’s most recent “deep dive” into volatility was the 2008 Minnesota Budget Trends Commission report. The Commission made a number of recommendations in order to more adequately respond to the level of volatility in Minnesota’s state budget, including: a larger budget reserve, avoiding permanent tax or spending changes that would take the budget out of balance in the following biennium, and refilling a depleted reserve within two biennia. The state could benefit from comprehensively studying volatility more regularly.
Minnesota also does well on the strategy of releasing timely budget forecasts. Minnesota releases two economic forecasts each year, one in November and one in February. The November Forecast informs the development of the Governor’s budget, and the February Forecast provides more current data to policymakers as they make budget choices each spring.
Minnesota recently took some steps forward along the lines of Pew’s recommendation of building reserves that would better meet the needs of Minnesotans in the next economic downturn. The recently passed House File 1777adds $150 million to the reserve. It also requires that Management and Budget set a recommended reserve level each year, and requires that one-third of any positive balance in a November forecast go to the budget reserve until it reaches MMB’s recommended amount. In January, Minnesota Management and Budget recommended reserves of $1.9 billion. That figure is substantially higher than the prior budget reserve target of $653 million.
Volatility in state budgets is inevitable. But with careful planning, states can be better prepared and avoid drastic cuts to vital services when a downturn hits.