1. Connecticut’s Spending Cap: Where are We Now? March 10, 2005, Briefing Alison Johnson, Connecticut Health Foundation Consultant And Liz McNichol, Center on Budget & Policy Priorities Senior Fellow Commissioned By:

2. 1 How the Spending Cap Works Limits “general budget expenditures” to: 5-year average growth in personal income OR Annual growth of Consumer Price Index (inflation), whichever is greater

3. 2 Exemptions to the Cap Aid to distressed municipalities for grants in statute on July 1, 1991 (definition has changed over time) Payments of debt First-year costs of court orders or federal mandates

4. 3 Cap can be Exceeded If the Governor declares an emergency or the existence of extraordinary circumstances AND 3/5 of both houses of the General Assembly agree

5. 4 Connecticut’s Cap is Tougher Than Most 27 states have expenditure limitations Connecticut’s is one of toughest: - Covers 80 percent of state expenditures, including federal revenue - Connecticut is only 1 of 2 states using 5-year average personal income growth - Governor has to initiate exceeding the cap; requires 3/5 majority of legislature to override -Each year’s cap based on previous actual expenditures vs. allowable expenditures

6. 5 Current Tax and Spending Limit Activity in Other States Other states are considering caps Both proponents and opponents recognize problems with caps when coming out of economic downturn There are a number of proposals to create more room under Colorado’s cap – one often cited as a model

7. The Connecticut Experience: 14 Years Under the Cap

8. 7 State Spending Growth Declined

9. 8 Before adoption of cap, spending growth averaged 11.7 percent a year (FY 1987 – FY 1991) After cap, growth was 4.8 percent (FY 1995 – FY 2001) Due to economic downturn, growth slowed to 2 percent annually over the past 3 years

10. 9 Amount Actual Appropriations Were Below Cap (excluding surplus) Source: OFA data FY 1993 - $120.0 million FY 1994 - $ 39.1 million FY 1995 - $ 53.4 million FY 1996 - $ 20.1 million FY 1997 - $ 3.6 million FY 1998 - $ 0.4 million FY 1999 - $ 2.3 million FY 2000 - $ 0.4 million FY 2001 - $ 0.0 million FY 2002 - $ 78.2 million FY 2003 - $333.0 million FY 2004 - $122.9 million

11. 10 Cap has been Exceeded When There has been a Surplus $249 million in FY 1998 $591 million in FY 1999 $462 million in FY 2000 $292 million in FY 2001 Surplus spending minus debt reduction and transfers to budget reserve Source: CBPP calculations of OFA data

12. 11 Surplus Spending and the Cap Historically, surplus spending has not been added to the base (at Governor’s discretion) There is disagreement over how much the cap has been exceeded to fund ongoing expenditures

13. 12 What are the Unintended Consequences of the Spending Cap?

14. 13 Incentive to Borrow Debt service grew from 5.4 percent of all state spending in FY 1990 to 12 percent, or $1.3 billion in FY 2005 More than budgets of DMHAS, DMR, OHCA agencies combined in FY 2005 At $6,008 per capita, Connecticut’s debt was 3 rd highest in the nation, compared to national average of $2,234 in FY 2002

15. 14 Incentive to Use Tax Expenditures Not subject to the spending cap Targeted tax treatments such as exemptions, credits, deductions, etc. Reduce revenue collected by the state, creating built-in losses to revenue stream Example: $20 million tax exemption for advertising services

16. 15 Disincentive to Obtain New Federal Funds All federal dollars count toward cap (unless they are “federal mandates”) Currently at cap limit in FY 2005 An additional $10 million forces State to go over the cap (needs Governor’s declaration & 3/5 majority vote) Disincentive only happens when State near cap limit; will be true for at least the next few years Example: State has declined to pursue Medicaid Adult Rehabilitation Option; could bring in $10.5 million a year

17. 16 Governor Proposes to Exceed Cap Governor proposes nursing home provider tax to obtain $237.7 million in federal matching funds Would exceed the cap by $244 million; needs approval by 3/5 vote of General Assembly Would be $45.3 million under the cap in FY 2006, and $63.6 million in FY 2007 First time a Governor has proposed including excess spending in the base

18. 17 The Current Budget Situation For the last few years, revenues have been more of a constraint than the cap From 2002 to 2004, state spending was less than the amount allowed by the cap This has served to lower the spending base for future cap calculations

19. 18 Recession Squeezed State Budget Source: CBPP calculations of data from OFA, U.S. Census Bureau, U.S. Bureau of Labor Statistics, and Connecticut DPH

20. 19 Lower Base May Prevent Return to Normal Service Levels State budgets were tight during the economic downturn starting in 2001 Nominal spending increased an average of 2 percent a year, well below average and the amount that the cap would have allowed This results in a low base for FY 2005 — the starting point for allowable growth for FY 2006 and beyond

21. 20 Growth Allowed by Cap is Below Projected Economic Growth

22. 21 Cost of Maintaining Current Services will be Well Above Cap FY 06FY 07FY 08 Spending Cap $15,071$15,719$16,321 Current Services $15,894$16,669$17,419 Amount over/ Under cap $ 823 $ 949 $ 1,098

23. 22 Possible Adjustments to the Cap Exempt additional types of spending Rebase Change calculation of growth factor Revisit the cap

24. 23 Changes to the Base Base could be increased to amount allowed in prior year rather than amount actually spent to address ratcheting down problem Base could be adjusted upward to allow room for restoration of services cut during recession or for new initiatives

25. 24 Changes to Allowable Growth Factor Use more current measure of personal income growth Reduce number of years in growth factor calculation Add AGI as additional growth factor to account for growth in capital gains Adjust for growth in specific populations such as the elderly

26. 25 Changes to Growth Factor or Base (in millions) ChangeFY 06FY 07FY 08 Add 0.5 percent to growth factor + $57 + $120 + $186 Current Personal Income + $38 + $149 + $349 Allowable Spending as Base + $127 + $151 + $201 Source: CBPP calculations of Governor’s budget data

27. 26 Additional Types of Spending Could be Exempted Medicaid New federal programs All federal funds Education Equalization Grants

28. 27 Basic Principle for New Exemptions If fast growing programs are removed from the base, additional room under the cap will be created If slow growing programs are removed, the spending cap will be tightened

29. 28 Effects of Additional Exemptions (in millions) ExemptionFY 06FY 07FY 08 Medicaid + $111+ $157+ $279 Medicaid (with Medicare changes) + $81+ $62+ $178 All federal funds - $242- $293- $270 ECS + $5- $48- $94 Source: CBPP calculations of Governor’s budget data

30. 29 Could Eliminate Cap by Constitutional & Statutory Changes If General Assembly and voters agreed Eliminate incentives to borrow and use tax expenditures Remove disincentive to obtain federal funds Could tempt state to spend beyond its means Create opportunity to more closely match budget growth with state’s economic condition

31. 30 Where Are We Now? Cap is one of most restrictive in the nation Will be over cap limit for some time Current structure of cap will cause spending to lag behind economic growth Cap has unintended consequences State can cut programs or make cap adjustments to stay within spending limits

32. 31 For More Information Visit www.cthealth.orgwww.cthealth.org Email CHF’s Monette Goodrich at monette@cthealth.org or call 860.224.2200 to receive copies of the report and/or one-page highlight sheet monette@cthealth.org