LANSING – Political leaders must be willing to muster the courage to confront four essential elements – two spending and two revenue issues – to help establish a stable long-term state budget, former top state budget officer Tom Clay said in an interview.
The willingness to confront spending in corrections and health care, along with establishing an income tax as well as a sales/use tax that does not run behind the economy in terms of providing revenue, are essential to creating a more functionally stable budget, he said.
Even with those changes, the state cannot escape budget difficulties when the economy is weak, but without those essential changes the state will be forced to endure ongoing major fiscal struggles, Clay said.
But if the politicians cannot generate the courage to make those changes – and he said they are changes that could threaten political careers – then they may be forced into making them by the growing pressure from outside groups such as the Center for Michigan, Detroit Renaissance and others, Clay said.
In confronting the budget issue, certain realities also have to be recognized. Clay said significantly cutting the budget has proven nearly impossible because no one is willing to eliminate areas all agree are critical, such as education and health care, and small programs won’t save enough money and have too vocal a constituency to eliminate.
And the argument that cutting taxes helps build demand, and eventually revenues, works at a national level, it does not a state level, he said. With tax cuts and no cuts in spending, which the federal government can do, demand is stimulated, which helps the economy, he said. But on the state level, cuts in revenues have to be matched with cuts in spending, which does not help push the local economy, he said.
Clay also said there are two areas where he would definitely spend more money: transportation and higher education.
Clay, who spent more than 40 years either working directly on the state budget or analyzing it, said the current economic and fiscal crisis the state is struggling through is unlike any he has known.
While the state still has not hit the unemployment levels it suffered in the early 1980s, that recession was a classic durable goods-based recession that the state would come out of, he said. “Nothing that I’ve seen would compare to the last couple years, because we were already in serious difficulties before the collapse of banking and real estate and all this other stuff that’s caused the national crisis.” That piled on top of a situation where the state saw double-digit declines in tax revenues, he said.
Another reason why this fiscal crisis is nearly unparalleled is because the state was able to outpace the nation in terms of recovering from the earlier recessions because of renewed demand for durable goods, he said. That seems improbable in this environment.
Clay spent more than 30 years working in finance and budgetary areas for the state, joining state government in 1966. In fact, he developed the first revenue estimates for the state on what the newly enacted income tax of 1967 could raise. After retiring from the state, he became an analyst for the Citizens Research Council before retiring from that post in 2008.
In all that time, he said, the state almost never had a year where there wasn’t some sort of budget problem. Even when the economy was good, the state found itself short because of projections on what programs would cost, he said.
Cutting corrections costs means getting into sentencing guidelines, Clay said. The state incarcerates a higher percentage of individuals for longer periods of time than its neighboring states. The state should look at how other states imprison individuals with the same characteristics as it develops new sentencing standards, he said.
Many critics have talked about the state looking to privatize more functions, such as food service, in the Department of Corrections, and Clay said he would not reject that approach. “Looking at lower cost ways to operate is a good business practice to go through,” he said.
But to achieve the major savings in corrections the state will need to look at sentencing procedures, he said.
The savings the state would realize in corrections could go into areas such as higher education or perhaps into funds for local police to help cut down on crime, he said.
Health care costs will actually be more difficult to control because they are so entwined throughout the state budget, especially in health care benefits for state workers, teachers and other public employees. As a state retiree who receives health benefits, Clay said state workers and retirees may have to accept that their benefits will have to be reduced because the state can no longer afford to offer the benefits it once provided.
In that light, the proposal from Speaker Andy Dillon (D-Redford Twp.) calling for all public employees to be part of one health insurance system should be considered, he said. If such a system were created “you would have a monopolistic purchaser to offset the monopolistic power of the seller,” he said.
Aside from dealing with benefits, the state is limited, compared to the federal government, in its ability to compel major changes to the medical care system that could cut costs, Clay said. But one area the state could look at is requiring centralizing patient information so patients do not have to keep repeating medical information between medical offices and hospitals, he said.
In terms of revenues, the state’s current taxes are unable to keep up with economic growth, he said. One of the few areas of the economy that has grown is services, and even after the state’s unsuccessful effort to institute a sales tax two years ago the state should look at extending the sales tax to services.
And that means more than taxidermists and the other limited services the state was going to tax before dropping the tax in favor of a surcharge on the Michigan Business Tax, he said. A tax on services should be broad-based and he was even willing to look at taxing medical services as part of the tax.
With such a broad-based tax, the state could consider cutting the sales/use tax rate to 3 percent from the current 6 percent. However, sales tax constitutional issues would have to be resolved to reduce the rate. Because of current constitutional requirements on how much of the sales tax must be dedicated to education, currently the sales tax could only be reduced to 4.4 percent, he said.
In terms of the income tax, if the state continues its flat rate tax then it needs to consider increasing both the personal exemption and the tax rate to keep revenues growing at the level of the economy. Increasing the current 4.35 percent rate to 5 percent and increasing the personal exemption to $5,000 would keep the tax revenue neutral for the first year, he said.
But the state should look at creating a graduated income tax that would provide a more progressive revenue stream for the state.
Doing so would require a constitutional amendment, and Clay said considering the Constitution is 46 years old, it may be time for a constitutional convention (the voters will have that opportunity in the 2010 election) though he recognized there could be risks in terms of what a new constitution says. Both revenue issues could also be dealt with through constitutional amendments, he said.
He also rejected the argument that enacting a graduated income tax would drive the wealthy out of the state. “Which wealthy?” he said. “The working wealthy are tied to their jobs.” He doubted many businesses would leave the state simply because of a graduated income tax.
He also said a proposal by Michigan State University economist Charles Ballard that the state swap a graduated income tax for eliminating th
