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Muddling through state fiscal problems

The budget problems of the state of Illinois are arguably the state's most pressing issue. For at least the last 15 years, the state of Illinois has been on a perilous fiscal course, plagued with annual deficits with no end in sight. The outlook is bleak even if the temporary income tax increases approved in 2011 are made permanent, but bleaker still if they are allowed to ratchet down in 2015 (as currently scheduled). Most experts believe that the state must undertake remedial actions including both enhancing future revenues and cutting the rate of growth of spending.

This warning, however, is not new. There have been predictions of impending doom for at least a decade. Not surprisingly, some people are asking how the state has been able to remain solvent and why we can't just continue on the same path while avoiding the pain of budget austerity. Are the experts crying wolf?

The state does have the option to do nothing, or "muddle through." In the past, the state has used a number of short-term expedients to manage the structural deficit, including speeding up revenue collections, slowing payments to state contractors, the diversion of non-general funds to bolster the general fund, pension underfunding and one-time revenues from asset sales and leasebacks.

These strategies allow the state to deal with cash flow issues and deficits without major structural changes. In the short term, these strategies may work to manage temporary problems, but they are likely to be counterproductive in dealing with longer-run, structural issues. In most cases, they have a one-time impact that does not carry over to succeeding years and, in some cases, they may actually make future problems more severe.

The state of Illinois has engaged in these fiscal tricks for more than a decade. The Illinois state government is not insolvent, and it can still borrow in financial markets (albeit at higher rates than more credit-worthy jurisdictions). Therefore, why not simply continue to muddle through?

First, barely avoiding insolvency is not a mark of success, not a goal to which we aspire. Illinois' economy is performing very poorly, with one of the highest unemployment rates in the country and one of the slowest growth rates. This underperformance cannot be attributed solely to the state's fiscal problems, but these problems clearly contribute to underperformance.

Second, financial problems may grow slowly for a time, but they can escalate out of control quickly and unexpectedly. One of the hallmarks of most financial crises is that they were not seen clearly in advance. This is illustrated by an exchange in Ernest Hemingway's "The Sun Also Rises": "How did you go bankrupt?" "Two ways, gradually and then suddenly." No one can say if or when Illinois' problems will lead to a catastrophic end, but it is clearly something to consider and to avoid.

Finally, the uncertainty created by a muddle-through strategy is in itself destructive. Citizens continually wonder when taxes will have to be raised, what programs will have to be cut, will the state be able to continue to borrow, and when state obligations will actually be paid. This uncertainty creates a poor environment for firms and other investors who are considering long-term commitments in the state.

In summary, at best, a muddle-through approach may allow the state to continue its activities for a fairly long period, but with a continuing and deepening pernicious impact on the state economy. At worst, and likely at some point, it can lead to more immediate and disastrous consequences. See Detroit.

Economist J. Fred Giertz is on the faculty of the University of Illinois' Institute of Government and Public Affairs. He can be reached at 217-244-4822 or jgiertz@uillinois.edu.

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