IDAHO GENERAL FUND REVENUE – A PEEK BEHIND THE CURTAIN

One of the most anticipated parts of the Executive Budget each year is the General Fund revenue forecast. This is the set of numbers that establish, for budgeting purposes, how much money the state will have to support its spending priorities.

By convention, the revenue forecast is based on existing law and represents the amount the state’s economists believe will actually be collected and deposited into the General Fund. The key numbers in the recently released FY 2013 Executive Budget are $2.553 billion in FY 2012 (4.4% growth over FY 2011 actual revenue), and $2.700 billion in FY 2013 (5.8% growth over FY 2012 projected revenue).

These revenue numbers (at the time they are produced, in this case early December 2011) are the best estimate of what will actually be deposited in FY 2012 and FY 2013. These revenue numbers are usually the only numbers legislators, the media, and the public focus on when it comes to the revenue side of the budget.

There is much more information behind these revenue numbers that largely goes unnoticed. Some of that information would be very beneficial if it were taken into consideration when the state’s budget policies (i.e., spending priorities) are established.

Footnote 1 on page A-18 of the FY 2013 Executive Budget contains absolutely crucial information for understanding the General Fund revenue forecast. It breaks the revenue forecast down into three key components: the ongoing amount of revenue each fiscal year, the one-time amount of revenue each fiscal year, and the actual amount of revenue each fiscal year (in the footnote this last component is called Base General Fund revenue).

These three components of the General Fund revenue forecast are linked by the following identity: ongoing revenue plus one-time revenue equals actual revenue. Please note that in this case actual revenue does not mean historical actuals, it means the amount of revenue that is forecasted to actually be collected. It is the number that is highlighted as the revenue forecast in the budget documents, and it is often considered the limiting factor on how much the state can afford to spend in a particular fiscal year.

Given that the three components of the revenue forecast are linked by an identity, it only requires that two components be estimated – the third then comes out of the identity. That third component is known as a residual. In revenue forecasting the two components that are estimated are ongoing revenue and actual revenue. One-time revenue is the residual. Here’s the restated identity: actual revenue minus ongoing revenue equals one-time revenue.

In essence, the state’s economists are producing two revenue forecasts: a forecast of actual revenue, and a forecast of ongoing revenue. The forecast of actual revenue is produced using very detailed structural models of the U.S. and Idaho economies, and detailed components of the General Fund revenue stream. This forecast is intended to capture the cyclical dynamics of the economy and the revenue stream, i.e. the full implications of booms and busts.

The forecast of ongoing revenue is produced using a very simple model that relates total Idaho General Fund revenue to a very broad measure of Idaho’s economy – smoothed Idaho Personal Income. This forecast is intended to ignore the cyclical dynamics of the economy and revenue stream, and capture the long-term relationship between the size of Idaho’s economy and the amount of General Fund revenue the Idaho economy produces. Think of this forecast as the amount of revenue Idaho would collect if there were no business cycles.

Although the one-time revenue forecast is not produced directly, it is a direct measure of the amount that actual revenue (historical or forecasted) is above or below the ongoing revenue stream. In boom times the one-time revenue amount will be positive, and in bust times the one-time revenue amount will be negative. As a general rule, the revenue cycle tends to lag the economic cycle, so when the economy is in the early stages of a cyclical turning point the revenue stream will take some time to reach its own turning point.

Here is the current Idaho ongoing, one-time, and actual (Base) General Fund revenue forecasts from page A-18 of the FY 2013 Executive Budget:

 

General Fund Revenue, $m

FY 2012

FY 2013

FY 2014

FY 2015

FY 2016

Ongoing Revenue

$2,800.7

$2,856.9

$2,945.4

$3,070.0

$3,209.0

      % change

3.1%

2.0%

3.1%

4.2%

4.5%

One-Time Revenue

($248.0)

($156.6)

($68.8)

($16.8)

$8.6

Actual (Base) Revenue

$2,552.7

$2,700.3

$2,876.6

$3,053.2

$3,217.6

      % change

4.4%

5.8%

6.5%

6.1%

5.4%

 

There’s a lot going on in this table, and it makes a great deal of difference in how the revenue forecast is interpreted. Kudos to the Governor for including this important information in his budget documents.

One observation is the difference in the annual rate of change in ongoing versus actual revenue. Actual revenue is projected to grow 4.4% in FY 2012 and 5.8% in FY 2013, but ongoing revenue is projected to grow only 3.1% in FY 2012 then 2.0% in FY 2013. What gives?

Ongoing revenue growth reflects the overall weakness in the national and state economic recovery. In fact, although ongoing revenue growth is positive over the entire forecast horizon, ongoing revenue growth is projected to slow in FY 2013 before gradually strengthening in FY 2014 through FY 2016. This is a reflection of relatively modest gains projected for Idaho Personal Income over the immediate years ahead.

Actual revenue growth is stronger than ongoing revenue growth for one simple reason: the magnitude of the cyclical bust is diminishing. This is a process whereby the magnitude of the negative one-time revenue shrinks as the actual revenue stream recovers to its more normal relationship to the broader economy. As housing, business investment, consumer spending, and other cyclical components of the economy that were particularly hard hit by the Great Recession return to more normal levels, so does the level of actual revenue.

It’s not in the table above (or the FY 2013 Executive Budget), but the nadir of one-time revenue in the Great Recession occurred in FY 2010 at just over negative $400 million. As the recovery from that trough continues actual revenue growth will exceed ongoing revenue growth. That’s exactly what the table above quantifies.

An important aspect of this more detailed look at the Executive revenue forecast is things may not always be as they seem. When the Economic Outlook and Revenue Assessment Committee (EORAC) members made their individual projections of actual General Fund revenue for FY 2012 and FY 2013, they did not have the benefit of knowing the numbers and analysis produced by the Governor’s budget office. They did not know the ongoing revenue forecast for FY 2013 has a lower growth rate than FY 2012.

Concerns that 5.8% growth projected for actual FY 2013 revenue is too strong may be tempered when looked at with a full understanding of how the revenue forecast is produced. Of the $147.6 million in revenue increase from FY 2012 to FY 2013, only $56.2 million is due to strengthening of Idaho’s economy (the ongoing component). The other $91.4 million of revenue gain is due to the gradual return of revenue to more normal levels, a process that has been underway since FY 2010 and is expected to continue until FY 2016.

A second observation related to the distinction between ongoing and one-time revenue is what it says about spending policy. When one-time revenue is positive, it means actual revenue exceeds ongoing revenue. That’s a good indication ongoing spending should be held in check, so that unsustainable levels of spending are avoided. The magnitude of the one-time component of the revenue stream is a quantitative measure of how much ongoing spending should be either held back (say, deposited in reserve funds) or used for one-time purposes (say, building replacement or other forms of capital investment).

When one-time revenue is negative, as it is in FY 2012 and FY 2013, it means that actual revenue falls short of ongoing revenue. This is when one-time funds, if available, can and should be used to fill-in ongoing spending needs until actual revenue returns to the ongoing level. This is where idle balances, reserve fund balances, and yes, even temporary revenue increases come into play.

Today in Idaho the Executive Budget tells us the current fiscal year’s actual forecasted revenue is almost $250 million below its normal (i.e., ongoing) level. And while the gap improves in FY 2013, actual forecasted revenue in the budget year is still $156 million below the normal level. This means it is appropriate to spend up to that amount in one-time funds to support ongoing public services.

 

PDF of this post:  Idaho General Fund Revenue – A Peek Behind The Curtain

 

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