1. M ISSOURI ’ S B UDGET I SSUES P RESENTED T O M ISSOURI P RESS A SSOCIATION February 2010 James R. Moody & Associates

2. W HAT W ILL T HE P RESENTATION C OVER ? What is happening with the federal stabilization dollars? What is happening to the state General Fund? The two questions most asked are (1) when do the federal stabilization funds run out, and (2) what happens when that occurs? What does Governor Nixon do next? 2

3. T HE S TATE OF THE S TATES The severe economic downturn has left many states with major fiscal problems. Missouri is no exception. States are using federal stabilization dollars to prop up general funds that are dramatically out of balance. Some states plan on exhausting two years of stabilization federal funds in one year. The revenue picture keeps getting worse for the Nixon administration. Will Missouri grow out of this fiscal crisis in the next few years?—There is only one answer-- No 3

4. H OW A RE T HINGS I N M ISSOURI R IGHT N OW ? Terrible!!! State revenues are down 12.5% after seven months of the fiscal year, after falling 7% last fiscal year. Conventional wisdom is Missouri follows the country into recession, and then follows it out. It appears that is happening in this recession. Don’t confuse the stock market with the economy. The stock market has bounced back some; the Missouri economy has not. Look for unemployment to stay high for the next year. 4

5. T HE D ISTURBING T REND IN S TATE G ENERAL R EVENUE C OLLECTIONS Number of negative revenue growth years for fiscal years from FY 1975 through FY 2001 Zero Number of negative revenue growth years for fiscal years from FY 2002 through FY 2010 (FY 2010 estimated) Four 5

6. FY 2010 G ENERAL R EVENUE P ICTURE 6 Individual Income Tax Withholdings -7.2% year to date Ind. Income Tax Estimated Filers -30.3% year to date Sales Tax-7.2% year to date Source: Missouri FY 2010 Revenue Report GR refunds up $63 million through January 2010 FY 2009 ended with -7% revenue growth. FY 2010 does not look much better—probably -8% to -10% GR growth. The Governor’s October budget withholdings were based on a -4% revenue estimate. Consensus revenue estimate now is -6.4% and that number is almost certainly wrong. Every 1% shortfall is equal to roughly $70 million. FY 2010--First 7 Months Revenue FY 2010 Outlook

7. G OVERNOR N IXON ’ S FY 2010 B UDGET A CTIONS T AKEN S INCE O CTOBER 28, 2009 Over $200 million of General Revenue budget reductions in October, another $200 million plus in January and February 2010. His 4% revenue growth rate in October was very optimistic. In the last five months of FY 2010 Missouri will begin to compare monthly growth rates with very bad revenue months from a year ago. Hopefully that will help in stalling the slide seen in the first quarter of FY 2010, but nothing like that has shown up yet. Our advice after October withholdings--Look for further budget reductions in January. We now have had two more rounds of withholdings. 7

8. F EDERAL S TABILIZATION D OLLARS The federal stabilization dollars have given the citizenry and the General Assembly the impression Missouri is doing just fine. Missouri is not doing just fine. But problem resolution only begins after problem identification. The level of understanding in the “rank and file” General Assembly of the relationship between ongoing revenues and stabilization dollars is not good. The date of reckoning for the state budget has just being pushed out 12 to 18 months by using stabilization dollars. 8

9. C OMMENTS F ROM F ORMER CBO D IRECTOR I N E ARLY O CTOBER The Obama administration is hoping unemployment bottoms out in June 2010. There is no real clarity on a second federal stabilization package in Washington right now. If one happens it would likely be late in calendar year 2010. 9

10. B ENJAMIN B ERNANKE, F EDERAL R ESERVE C HAIRMAN J UNE 3, 2009 From the Wall Street Journal, “Federal Reserve Chairman Benjamin Bernanke Wednesday urged lawmakers to commit to reducing the nearly $2 trillion budget deficit, warning that the government cannot borrow indefinitely to meet the growing demand on its resources.” A second federal stimulus package would require additional revenues or additional borrowing. Right now it appears no major second package for states will appear, for the reasons Bernanke indicated in June. 10

11. M ISSOURI P LANNED R ECEIPT AND E XPENDITURE OF F EDERAL S TABILIZATION D OLLARS Receipt (in millions) Expenditure (in millions) After Governor’s Reductions FY 2009$432.1$255.8 FY 2010$1,623.6$1,277.7 FY 2011 (or 2012)$637.2$1,159.4 Total$2,692.9 Source: Missouri Budget Office 11

12. T HE E NORMOUS I MBALANCE I N A PPROPRIATIONS VS. C OLLECTIONS 12 General Revenue Operating Expenditures $7.14 billion Net General Revenue Collections $7.33 billion GR Collections in excess of GR Expenditures $190 million General Revenue Operating Appropriations $8.58 billion Estimated Net General Revenue Collections $6.8 billion GR Appropriations in excess of GR Collections $1.78 billion Fiscal Year 2006Fiscal Year 2010

13. T HE N EAR F UTURE Withholdings will have to become core cuts. More core cuts will be necessary. Government as we know it is going to have to change. The money to support what we are doing is not there. Absent a second stabilization package, FY 2012 is an absolute disaster. 13

14. M AJOR T AX C HANGES T HAT I MPACTED I NDIVIDUAL I NCOME T AX ChangeForegone RevenueYear Increased personal exemption $155 million1999 State taxation of pensions $127 million 2007 Dependent deduction$68 million1998 Inheritance tax (federal law) $160 millionPhased out over four years in the early 2000’s Sources: Fiscal Note (HB 444), Moody 2001 Report 14

15. M AJOR F OREGONE S ALES T AX T O GR D UE T O E XEMPTIONS OR E ARMARKS Tax ExemptionForegone Revenues Year Prescription drugs$190.3 million1980 Motor vehicle sales tax $110 million2005 to 2009 Food$210.4 million1997 Domestic utilities$192.4 million1980 Manufacturing sales tax $70 million1998 Internet sales??? 15

16. T AX C REDITS T AKEN A GAINST V ARIOUS T AX C ATEGORIES —FY 2009 Individual Income Tax $371.6 million Corporate Income Tax $84.8 million Corporate Franchise Tax $7.8 million Insurance Premium Tax $72.2 million Fiduciary and Financial $33.6 million Withholding $17.6 million Source: Missouri Budget Office Total $587.7 million 16

17. T AX C REDITS R EDEEMED B Y P ROGRAM I N FY 2009 Historic Preservation $186.4 million Senior Citizen Property Tax $118.6 million Low Income Housing $106.0 million Brownfield Remediation $29.2 million Infrastructure Development $26.9 million Other $120.7 million Source: Missouri Budget Office Total $587.7 million 17

18. M ISSOURI M AJOR U NEARNED I NCOME ( IN THOUSANDS, CALENDAR YEARS ) 18

19. W HAT D O I NTEREST, D IVIDENDS, AND C APITAL G AINS L OOK L IKE FOR THE N EXT F EW Y EARS ? There is little reason for optimism. Dividends look slow to recover. Corporations are not doing well. Interest rates are still low from historic rates of return. They are inching up but not quickly. If interest rates rise rapidly, it could hurt the economic recovery when it occurs. Capital gains, if they mirror the early 2000’s, will take a few years to recover. Without a significant kick from these three sources, general revenue will depend on sales tax (terrible for a number of years) and individual income tax. 19

20. W HAT A BOUT B ORROWING F ROM T HE R AINY D AY F UND ? Any borrowing from the Rainy Day Fund has to be repaid with interest within three years. The Rainy Day Fund makes more sense in dealing with “emergencies” and is not well suited for a budget shortfall. Such borrowing would simply put off cuts for programs where there is not enough current revenue. This borrowing really does not address any long term solutions, but like the stabilization funding masks the underlying problem. The Rainy Day Fund is also the cash flow fund. It appears all of the funds will be need for cash flow. 20

21. T HE D ECADE OF THE 2000’ S N EGATIVE R EVENUE G ROWTH FY2002-2.8% FY 2003-4.5% FY 2009-7.0% FY 2010-6% to -8% (estimated) 21

22. T HE D ECADE OF THE 2000’ S P OSITIVE R EVENUE G ROWTH % Growth $ Growth FY 2004 7.08%$419 M FY 2005 5.76%$365 M FY 2006 9.25%$620 M FY 2007 5.24%$384 M 22

23. T HE R ELATIONSHIP OF P ERSONAL I NCOME AND G ENERAL F UND G ROWTH 23

24. I NCOME T AX W ITHHOLDING C OMPARED T O P ERSONAL I NCOME G ROWTH 24

25. T HE L ONGER T ERM F UTURE AND THE J OBS P ARADIGM The jobs market is suffering. Traditional manufacturing jobs that have been lost will be hard to replace. If state revenues are highly variable due to fluctuations in the stock market, the state general fund will swing wildly when there are volatile conditions in the stock market With a weak general revenue base, major growth will only come through capital gains, interest and dividend growth, or some strategy to create jobs. The decade of the 2000s has shown this to be true. Missouri’s future economic well-being will be tied to new jobs, and these jobs will be in bio-sciences and higher tech jobs. Attracting these jobs may require investment. What strategy do we use to invest when we have no revenues to support investment? 25

26. J OHNSON C ONTROLS I N J EFFERSON C ITY In September, James Moody noted that Johnson Controls, a long-standing employer in Jefferson City, had closed, losing between 100 and 125 jobs. Moody noted that it would be very difficult to replace Johnson Controls with a similar manufacturing concern. If no new manufacturing concern is found, Moody said the building might still be vacant in five years. 26

27. C OMMENTS ON J OHNSON C ONTROLS F ROM A J EFFERSON C ITY B USINESSMAN The Johnson Controls building may not be vacant in five years. It more likely will be a warehouse, housing goods that are manufactured elsewhere and shipped to buildings like that for distribution. Warehouses like that may employ five to ten people. 27

28. W HAT A BOUT A S TRATEGY T O S TIMULATE T HE E CONOMY O R H ELP C REATE J OBS ? 28

29. T HE E CONOMIC Q UESTION What makes us think jobs will suddenly reappear after the worst of the downturn is over? Missouri has been a major automotive production state. Changes in that industry have to impact Missouri. There are 77,000 fewer Missourians employed in October 2009 than in October 2008, and over 140,000 jobs have been lost in Missouri since peak employment. Why are we not similar to Michigan (15.1% unemployment in November 2009), which was the largest automotive manufacturing state? How do we create jobs to replace jobs lost in the automotive and other manufacturing sectors? 29

30. M ISSOURI H AS B EEN A C ONSERVATIVE AND F ISCALLY R ESPONSIBLE B ORROWER General obligation debt only for state building projects and water pollution and stormwater control projects with borrowing approved by voters Pledge of appropriation debt for certain state buildings and prisons, and revenue bonds issued by the Board of Public Buildings No bonds or notes used to pay normal operating costs of government, unlike other states GO bonds rated triple AAA, another indicator of good financial management Current on actuarially required contributions (ARC) for pension systems which are a state responsibility. 30

31. T HE I DEA Missouri would issue “pledge of appropriation” revenue bonds to free up stabilization funds to make strategic investments aimed at creating jobs. The bond proceeds would replace funds currently appropriated from stabilization funds for capital projects. The stabilization dollars would be utilized for the economic development activities. 31

32. D ON ’ T F OLLOW O THER S TATES Make sure bond proceeds are not used to subsidize the operating budget. Investments should be strategic and not mask the underlying budget problems. 32

33. T IMING OF B OND I SSUANCES AND B UDGET I MPACTS Any budgetary impact would be spread over a number of fiscal years. Debt service would only be necessary after the bonds are issued. Debt service would probably not begin for a few years, which might coincide with revenues growing again. For each $100 million in bond proceeds, future debt service would be about $6 million annually. 33

34. S UMMARY ON J OB C REATION I DEAS A non-G. O. bond issue could be done without voter approval. Available federal subsidies for bond issuances make this option very attractive from an interest rate perspective. Missouri has the capacity to do more debt without impacting its “triple AAA” rating status. Budgetary issues exist but could probably be managed. Increased debt service would be spread over a number of future operating budgets. Jobs are not going to magically reappear. The underlying job dynamics have changed. 34