Where does the CT budget crisis come from? (II) : 20th century spending in a new economy

Last week we gave a brief overview of the fiscal challenges that Connecticut is facing, with a focus on the revenue side. We concluded that although Connecticut is not really a high-tax, big spending state if we take into account its wealth, we do raise revenue in very ineffective, outdated ways. The state has a sales tax riddled with loopholes, an income tax that leaves a lot of income untaxed, business taxes that penalize the service economy, and a property tax that steers development out of urban areas while undertaxing wealth. If we want to get Connecticut out of the current state of endless fiscal crisis, tax reform is both necessary and long overdue.

Of course, revenue is only half of the equation when talking about the budget – spending also plays an equal part. As with revenue, Connecticut has some spending practices that are both inefficient and outdated, creating a state and local government structure that is often not up to current challenges. In many areas, we just spend money in a lousy way.

1. An outdated state structure

Connecticut has a lot of departments and agencies. By our count, the state has 24 departments, 14 offices, 12 commissions, and 10 quasi-public agencies. The numbers, by themselves, are not all that meaningful, but how they share infrastructure and data is.

CT Stock instagrams (8)For instance, consider how Connecticut provides services to a family in need. These programs might be housed in several different agencies, like the Department of Social Services, Children and Families, Rehabilitation Services, Corrections, Public Health, Labor, Developmental Services, Access Health CT or the Office of Early Childhood.  Not many families need to access all services at the same time, but many will require the support of more than one agency. A recently laid off worker would likely need health insurance (either through the Department of Social Services or Access Health CT) and unemployment benefits (Department of Labor). If he has a disability, the Department of Rehabilitation Services would be providing support; if he has children, he should seek support from the Office of Early Childhood.

Trouble is, none of these state agencies share any kind of infrastructure or data in any meaningful way. Each department has its own information technology and databases, and have set up their systems separately. This means that state agencies spend considerable time and resources either reinventing the wheel or building specific tools for themselves, even when another agency already has one in place. As each department has to work with its own separate, dwindling pot of money, crucial IT upgrades are postponed until systems are well beyond obsolete. The Department of Social Services, for instance, is in the (long) process to replace its 1989-vintage EMS mainframe, which was slowly falling apart. The roll out of ConneCT/ImpaCT, the new system, has been extraordinarily difficult in no small part because barely anyone still uses Cobol in their applications like EMS does.

In addition to barely functional, outdated technology, state departments often serve the same clients but rarely, if ever, share data or coordinate services in any meaningful way – sometimes they are even barred by contract from doing so. This means that the state spends a considerable amount of resources doing intakes, over and over again, and providing services in a fragmented, uncomfortable and ineffective manner. This issue, by the way, is not limited to social services; economic development agencies are often hampered along similar lines.

Reorganizing bureaucracies is not exactly flashy, glamorous or popular, but it can improve services, and it can save money. It is not easy, either, but it needs to be done.

2. Local government and economies of scale

It is easy to fixate on state services and their problems, but it is important to keep in mind that Connecticut relies in local governments for about half of its public spending. Education, public safety and housing are largely in municipal hands, and but cities and towns are often ill-equipped to do the job well.

The issue, in this case, is economies of scale, or lack thereof. When providing services, the cost per client often goes down the more clients you are serving. Connecticut has 169 towns, and this fragmentation means that a lot of municipalities are paying more for less because of their small size. To make things worse, the larger cities (which are not that large to begin with) concentrate most of the poor and low-income families in the state. The result is small towns with high overhead costs, and cities with a bigger need for services but lacking the tax base to deliver them.

The answer to this issue is obviously some form of regionalization, but the steps Connecticut has taken in this direction are quite uneven. For instance, the boundaries of many regional organizations do not match; workforce development boards serve different groups of towns than the regional councils of governments, which in turn differ from the health districts, which happen to be different from the 911 call centers, and so on. These call centers are probably one of the clearest examples on what we are doing wrong: Connecticut has 107 public safety answering points, all fully staffed. Suffice it to say, economies of scale can be found there, as well as in many other places.

Again, it is often easier to spend money than to sit down and work to change institutions, especially when those changes might get people upset. We are at a point, however, when the legislature and municipal leaders should really look at these issues, and go beyond tinkering around the edges. This might mean seriously looking into shared insurance pools for municipal workers, integrating transportation departments and road repairs, and regional purchasing plans. If we want to really solve the issues at hand, regional education districts that cover both cities and suburbs, and larger, regional, police and fire departments should also be on the table.

3. Hidden subsidies: tax expenditures

Last week we mentioned how the sales tax is riddled with carve outs and exemptions, meaning that a large (and growing) portion of our economy is left untaxed. The sales tax is our biggest money sink, but as CT Voices points out in a report it just released, it is far from being the only tax riddled with holes. Connecticut foregoes $7.2 billion in taxes every year this way.

In a sense, this is also state spending, though hidden in the tax code. Instead of giving a certain company or business a direct subsidy through an appropriation, the state increasingly relies on all kinds of exemptions, credits and targeted cuts to do the same. Some of these expenditures make sense (not charging sales tax on food, for instance), but many are just pointless giveaways. It is better to have a lower overall tax rate without exemptions than a higher rate on a tax riddled with loopholes; unfortunately, we have preferred complexity to fairness for many years, spending billions of dollars in the process.

4. Public education and human services

Social services and public education comprise a large part of the state budget.  Connecticut, as a state, provides more social services than the national average. We have a generous (and very effective!) Earned Income Tax Credit, we expanded Medicaid, spend a good amount of money per student in K-12 and higher education, and have an extensive, if underfunded, pre-K and early care system. Because of all that, we also have lower levels of adult and child poverty than most states, which saves money in the long run.

One smart idea the Connecticut General Assembly has adopted is the use of “results based accountability” (RBA) to examine the effectiveness of safety net and other programs.  Social service and other state spending should be driven by improving outcomes: are people better off? Connecticut should deepen its commitment to program evaluation, using data to assess which programs are really effective, and which are not.

We should bear in mind, however, that although our safety net services and costs are above average, they are not an outlier among blue states. Minnesota, Massachusetts, Washington, Maryland, California and Oregon offer comparable services. The thing is, those states aren’t on a never-ending fiscal crisis treadmill as Connecticut is, so the source of our problems is not really spending on social programs. Again, we are a really wealthy place with modest spending and taxation levels; the problem is less on the size of the state budget, but on how we raise and spend it.

5. Not paying the bills on time: pensions

CT Stock instagrams (5)In the late nineties, Connecticut politicians came up with a very clever way to balance the state budget: they stopped putting away money in the public employees´ pension fund while giving early retirement incentives to a whole bunch of state workers. This made paying for state services much easier, but also opened an ever-deepening hole in the pension fund that eventually had to be paid.

The good news is that Governor Malloy and the Legislature are now paying into the fund, and the state is working hard to catch up with the overdue payments. The bad news is that it is eating up the budget.

How much? The figures come from this study from the Comptroller’s office:  in 2016, Connecticut’s contribution to its pension fund was about $1.5 billion. This will climb to about $1.8 billion in 2017, $2 billion in 2019 and will keep climbing non-stop all the way to 2032, when it will get close to $4 billion. Adjusting for inflation, the numbers are a bit less daunting (up to $2.5 billion), but the problem remains – in a roughly $20 billion budget, rising pension costs are a challenge.

This is not sustainable, but it doesn´t mean that it cannot be fixed. Kevin Lembo, the Comptroller, presented a proposal on how to do it (PPT ), giving a good overview of the challenges the state faces. His plan tweaks the amortization method and extends its schedule (translation: changes how inflation is calculated and adds more years to pay for the liabilities) to change the payment structure. The result would be a payment of $1.5B in 2016, $2B in 2017, $2.15B in 2018 and then remain pretty much flat in nominal terms until 2032 (that is, dropping, inflation-adjusted), when they would drop to $1.5 billion. This still would require more money up front (to be raised either from new revenue, cuts, changes on how benefits are calculated, or a mix of all three), but at least would make the state´s obligations more manageable.

The main point, however, is that this problem is not new, but the result of past budget sins. Two-thirds of state pension fund payments go to cover past unfunded obligations. For close to two decades, Connecticut just did not budget to cover its retirement bill. We are paying the price now.

6. Workforce challenges

This does not mean, however, that the state spends the money wisely in regards to staffing – we both spend too much and too little.

For starters, Connecticut has a relatively small state and local labor force, well below the national average if we look at workers per capita. In addition, employment levels have been largely stable since the late nineties. We are a small, densely populated state, meaning that it is fairly easy to offer services. In addition, population growth has been largely flat. Many state agencies, however, remain understaffed with long waiting times, and poor service. Areas like tax enforcement do not have enough personnel, despite the fact that adding more workers would actually save money by collecting additional tax revenue.

Employee compensation, however, is also a factor. We want public employees to be well compensated; having a strong, motivated and well qualified labor force is what enables Connecticut to offer the strong public services that are one of the main competitive advantages of the state. We must keep in mind, however, that labor costs do not happen in a vacuum, but are part of a broader budget.  Public employee salaries are, on average, comparable to private sector positions. As is common in the public sector, wages are higher than the private sector for entry-level positions, and lower for more experienced workers. The main difference, however, comes from benefits, and more specifically pensions (largely due to the state’s past mismanagement) and health care.

For many years, the main driver for cost increases was retiree and employee health care, following a trend of increasing health care costs in the private sector. Health care costs climbed from 2.9% of the general fund in 1990 to 6.2% in 2011.  Following the 2011 contract agreement, which included some important changes, health inflation has stabilized, although health care costs still takes a considerable percentage of the state budget (5.8% last year). Connecticut should consider adopting further cost control measures, ranging from payment advisory boards, narrower provider networks or more cost sharing. Health care reforms are not easy, and would need to be negotiated with state employee unions, but this is an area where costs potentially could be reduced.


 

CT Stock instagrams (3)

To sum up, Connecticut could be quite a bit more effective using its resources, although doing so would require bold institutional reforms that truly change how the state operates. This rethinking also has to include finding a way to pay for past budgetary sins, one way or another, especially regarding state pensions.

Above all, the state´s economic and financial doldrums leave little room to leave any reform stones unturned; we all need to share this burden. Everyone–government, unions, businesses, nonprofits, municipalities–needs to be at the table, and everyone should be willing to contribute to move the state forward, one way or another.

Connecticut has been the land of steady habits for too long. It is time for real change.



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