What's the cause of Iowa's big budget pinch?

Branstad says sluggish farm economy; Democrats say too many tax credits

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DES MOINES — Just five years ago, Iowa’s state budget had nearly $1 billion to spare and its reserves were flush with another $600 million.

While money coming into the state continues to increase each year, the state budget has fallen into disrepair, with the cushion evaporating. This year, lawmakers have been forced to make $250 million in budget cuts. Next year’s budget looks to be tight as well.

It has been a fast fall from fiscal fitness to this beleaguered budget.

Gov. Terry Branstad, a Republican, regularly says a sluggish agricultural economy has slowed the expected growth of state revenue.

Capitol Democrats say the state has too many tax breaks that leave too much money in big businesses’ accounts rather than in the state’s.

Experts in state economics say the problem is more complicated.

Busted budget

Iowa’s budget was a picture of financial health in fiscal 2013. There was a $928 million surplus — unspent money in the general fund — and the two reserve accounts — a cash reserve and an emergency fund — held $622 million.

Fast-forward to fiscal 2017, which has roughly three months remaining. That surplus has been whittled to less than $50 million, and revenue came in nearly $250 million under projections.

So lawmakers cut and transferred $118 million from state departments and used another $130 million from the reserve accounts to make the budget whole.

And lawmakers just started work on the budget for fiscal 2018, which, likely for the first time in eight years, will spend less than the year before.

The amount of money coming into the state is not the issue; post-recession revenues have increased each year.

So what is the cause?

Farm economy

Branstad cites this as the main issue for the budget trouble. Prices for corn and soybeans, Iowa’s largest crops, have been low — lower than the cost of production for roughly a year. That puts a drag on farm incomes, and thus the state’s income tax collections.

It also impacts manufacturing, much of which is built around agriculture — and thus hinders sales tax collections.

“Agriculture in Iowa has changed so much,” said Pat Grassley, a Republican legislator who leads the Iowa House’s budget committee and is a farmer. “It isn’t just your corn and soybeans and your hogs and cattle and your chickens. It’s the fact then you have a plant that makes a tractor. If they lay off people, those layoffs impact you as well. And it’s not just those layoffs. Maybe there’s somebody that makes a headlight for them, and they lay off people. ...

“That, in my mind, is the agriculture economy because it ties to how agriculture goes. That’s kind of the anchor.”

David Roederer, Branstad’s budget director and a member of the three-member panel that makes future revenue projections, said the average total net farm income in Iowa from 2006 through 2010 was $3.7 billion. From 2011 through 2014 it exploded to an annual average of $7.6 billion. But in 2015, it dropped to $2.6 billion.

“Iowa still is very tied to agriculture, and generally that has served us well. But some years commodity prices are going to be better than others,” Roederer said. “So you can see that in (2011 through 2014) that those were extraordinary years. If you average it out, you’re going to be pretty close to what we normally have. The problem is life doesn’t work on averages. ... Some years are going to be better than others.”

Ernie Goss, an economics professor at Creighton University in Omaha, Neb., said the sluggish farm economy is impacting many Midwest states, leading to budget shortfalls in Nebraska and Kansas, too. Goss said net farm income has been falling since 2013, and that impact is felt in state tax collections.

“It really has to do with agriculture and those businesses tied to ag,” Goss said. “Farmers are just not purchasing, for example, heavy equipment, and that shows up in the economy in Iowa and across the United States.”

But not all economic experts agree the sluggish ag economy is driving Iowa’s budget woes.

Dave Swenson, an economics professor at Iowa State University, said the farm economy’s role in influencing the state budget often is overstated.

“The farm economy is not the main, nor a major cause of the current situation,” Swenson said by email. “Farmers do not contribute as much to the state’s coffers as many think, and the ebbs and flows of farmer incomes are spread out over years — both gains and losses — allowing farmers to truly minimize both their federal and state taxation bites.”

Holly Lyons, who works with the state’s non-partisan fiscal estimating agency and also serves on the budget estimating panel, said the farm economy is only a part of the equation that has led to the current budget situation.

Lyons said income tax revenues turned flat in spring 2016, and that can be explained in part by lower commodity prices and a decline in the manufacturing economy — again, which is heavily tied to agriculture.

But Lyons said other factors, such as slowed sales tax revenue, also impacted the budget.

“The farm economy is just one of the factors in the shortfall — it is by no means the primary cause,” Lyons wrote in an email to Democratic Rep. Cindy Winckler of Davenport, who asked for Lyons’ assessment of Branstad’s assertion.

Tax cuts and credits

Democratic legislators insist the biggest driver of budget issues is money not collected thanks to tax relief programs.

Iowa’s 67 tax credit programs will cost the state more than $1 billion in fiscal 2018.

Democrats take particular exception to the tax relief programs they say go to big businesses that don’t need the help.

The most expensive programs are for commercial and industrial property tax relief ($152.1 million), the homestead tax credit ($136 million), and a business property tax credit ($125 million).

“Farm prices certainly have affected Iowa’s economy, but our state budget is much more directly impacted by the cost of tax cuts and tax credits that have grown in the last four years at a rate that is just unsustainable,” said Chris Hall, a representative from Sioux City and the top Democrat on the House Budget Committee. “The areas of the budget that have been increasing in cost at the most rapid rate are tax cuts primarily to out-of-state corporations and also tax credits. Both of those numbers have increased exponentially over the last few years at a pace that is faster than the state’s economy is growing.”

ISU’s Swenson agrees. He said tax relief programs for businesses — including the commercial and industrial property tax relief program, another for companies that perform research and development, and a sales tax break on manufacturing sales — are the primary drivers of the state’s budget shortage.

Grassley said he is willing to examine the myriad tax credits and whether some could be reduced or eliminated. He has introduced legislation to start the process. However, Grassley said he would like any change in tax credits to be a part of a larger overhaul of state tax laws.

“I think the other party (Democrats) looks at the tax credits saying that money should go to be spent (in other areas of the budget). Philosophically, I would look at it as, can we do tax policy better in the state of Iowa than just doing a bunch of different tax credits. Could we do something that benefits all Iowans?” Grassley said. “But looking at the tax credits, I think, is healthy for us to do if the objective is how can we make Iowa’s tax climate more competitive with other states.”

Roederer said he thinks the impact of tax credits on the budget is overstated. He said two programs that have experienced some of the largest growth in the past half decade are two programs largely supported by Democrats: the earned income tax credit, which benefits low-income taxpayers, and a program that helps cities rebuild aging buildings.

“To say that is the reason (for the budget troubles), I don’t think the numbers support that,” Roederer said.

Missing the mark

Whatever factors may be influencing state revenues, those revenues still continue to increase.

One critical issue that led to this year’s budget cuts was a misjudgement by the budget estimating panel. The group lowered its projections three times, in October, December and January, and the state was forced to cut the current budget with only a few months remaining.

The panel meets quarterly to project the coming year’s revenue. Its December estimate is used by the governor and lawmakers to craft the next year’s budget.

This year, the panel reduced its estimate by more than $90 million in December, then by another $130 million in March.

The last time the estimating conference guessed too high by such a wide margin was in fiscal 2009 and 2010 in the wake of the recession.

“Based on indicators we saw at the time, we did our revenue estimate and it appeared, at least we thought, our estimates were going to be accurate. And obviously they were not,” Roederer said. “So you can still have a growing economy, but if your budget is based on an economy that is growing faster than it actually is, then you have a belt tightening, which is what we’re going through.”

Grassley also has introduced legislation he said would aim to help streamline the data collection process for the budget estimating panel and make it easier to perform its work. But Grassley conceded that legislators will always be working with estimates.

“That’s like playing the lottery. It’s hard when you’re estimating. There are so many moving parts,” Grassley said. “There is still growth. And that’s why we’ve tried to approach the budgeting process knowing that there’s going to be times when you don’t meet your growth level, and when you spend less you set yourself up in a position that you have a cash reserve or you have some other things that may help you take care of those situations.”

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