Malloy may have to choose between spending cap and budget reforms

In a parting shot from the last recession, the state budget spending cap will clamp down tighter over the next few years than at any other time in its history, state fiscal analysts are warning.

But the cap no longer is the fiscal bogeyman it was when it was enacted two decades ago. And Gov. Dannel P. Malloy may have to choose between strict adherence to that arbitrary limit — a principle his Republican predecessor did not follow — and meeting other fiscal goals, particularly shoring up Connecticut’s severely depleted pension systems.

“We should absolutely constrain spending, and the spending cap can be a useful tool for accomplishing that,” Malloy’s budget chief, Office of Policy and Management Secretary Benjamin Barnes, said Monday. “But there are problems we are going to have to deal with.”

Both OPM and the legislature’s nonpartisan Office of Fiscal Analysis warned legislative budget panels last week that the cap will again become a factor in state budgeting — after taking a few years’ reprieve during the recession.

The 1991 legislature enacted the cap to temper public outrage over the new state income tax. Voters would add the cap as the 28th Amendment to the state Constitution one year later.

The cap is supposed to keep spending increases in line with the annual growth in personal income, taking an average of the prior five years.

That’s where Connecticut runs into deep trouble. Personal income, which had risen 5.1 percent in 2008, fell into negative numbers each of the next two years as the stock market tumbled, and Connecticut’s reliance on Wall Street-related earnings became evident. Under the cap system, the state budget will remain on a tight leash because of those income losses through 2015.

After limiting most of this fiscal year’s $20.14 billion state budget to an average growth of 3.4 percent, the cap would restrict growth to 3.1 percent in the year starting July 1 and to a record-low 1.9 percent 18 months from now.

That low-point comes at the same time the two-year wage freeze for state employees set out in the last summer’s union concessions deal expires. That alone should add more than $300 million to annual operating costs.

Both Barnes’ office and legislative analysts say the cost of maintaining current services could surpass cap limits by more than $600 million by 2013-14.

And that doesn’t even take into account the administration’s recently announced goal of gradually shoring up the long-neglected state employee pension fund. That prospect could add hundreds of millions of dollars in budget costs once fully implemented.

Options

So what are Malloy’s options?

He could follow the path of his Republican predecessors.

Former Govs. M. Jodi Rell and John G. Rowland routinely cooperated with Democratic-controlled legislatures to exceed the cap at the fiscal year’s end, either to cover cost overruns in agencies or to spend tens — or in some years hundreds — of millions of surplus dollars on “pork barrel” projects.

Rowland’s declarations in 1998 and 1999 were issued, in part, to allow funding of $100 million in income tax rebate checks each year.

The cap can be circumvented easily if the General Assembly and governor see eye-to-eye. If the governor signs a declaration of fiscal “exigency,” the legislature can expend dollars in excess of the cap with a 60 percent vote of approval in both chambers.

But Rell moved even further away from the cap system than Rowland did.

In her first full year in office 2005, Rell agreed to waive the cap before the fiscal year even began, signing a budget that spent $630 million more than normally allowed — a first in spending cap history.

Two years later she did it again, approving $690 million in extra spending. But this time it was the GOP governor, and not legislative Democrats, who first proposed exceeding the cap. Rell made her offer in the February 2007 budget plan she offered lawmakers.

Rell defended both exceptions, noting that part of the added state spending leveraged additional federal aid for nursing homes and other social services.

“I don’t think the cap is that much of an issue any more,” Sen. Gary D. LeBeau, a veteran lawmaker from East Hartford who served in the House during the landmark income tax and spending cap debates of 1991.

“We voted for the income tax and we knew people would be upset. The spending cap was our way of saying: ‘You’re going to get your money’s worth.'”

But LeBeau said that within the first decade it became clear that the cap didn’t ensure smart budgeting.

Rowland secured legislative approval in 2000 for an $85 million cut in hospital taxes, matched by an almost equal cut in state aid to the industry. This fiscal swap was arranged to keep the budget under the cap — a technicality created because lost tax revenues don’t count as spending under cap rules.

But what got less attention at the time was that the $85 million cut in state spending on hospital assistance disqualified Connecticut from about $40 million in federal reimbursements.

“That was penny wise and pound foolish,” said Rep. John W. Thompson, D-Manchester, another veteran of the 1991 income tax battle.

Thompson said that Connecticut’s best chance to secure the most federal aid is to maintain strong funding for health care programs. “You shouldn’t be implementing spending caps when you have the opportunity to expand a very vital service to our community, one that is fast-growing and making our economy more robust.”

Other exceptions

The cap also doesn’t apply to state aid to poor communities or to payments on bonded debt. And LeBeau said the latter only encourages a bonded debt here that already ranks fourth-highest per capita among all states, worth about $8,078 per person.

But Sen. Robert Kane, R-Watertown, ranking GOP senator on the Appropriations Committee, said the cap is the taxpayers’ best defense against Democrats who this year raised state taxes $1.5 billion.

And even though spending growth in areas subject to the cap was limited to 3.4 percent this year, hefty spending in exempt areas pushed the overall increase to 5 percent, Kane noted. “We still need the cap because the fact is we continue to spend more and more. It’s just a vicious cycle that never ends.”

“I think the cap should be a hard-and-fast rule up there,” added Susan Kniep, a former East Hartford mayor and current president of the Connecticut Federation of Taxpayer Organizations, a coalition of 30 community-based taxpayer groups. “It’s almost like a Ponzi scheme the way they manipulate the budget.”

Malloy had to do a little fiscal maneuvering himself to keep his first budget under the spending cap.

Rather than return $44 million unspent in last fiscal year’s Medicaid program to General Fund as surplus, the administration used its authority to “carry forward” the funds into the current budget.

But because of a legal technicality, the funds count toward last fiscal year’s spending cap calculations, not this year’s. Had the administration simply budgeted the funds in traditional fashion this year, Malloy’s first budget — which stood a razor-thin $1 million under the cap — would have exceeded that limit.

Barnes said Monday he’s far from ready to abandon the cap. “There’s no reason to change it now,” he said. “I think we will stay within the spending cap this year and ultimately we could be able to remain under the spending cap going into the future.”

But Barnes added that if state government is in a position in future years to invest more money in its pension program, should it have to strip money out of health care or other vital programs to do so simply to comply with the cap?

“We may want to explore carving out a new exception,” he said. “If we want to be responsible about our long-term liabilities, why should we be punished for that?”