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GAO: State Budget Outlooks Are Grim
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The U.S. Government Accountability Office (GAO) predicts a stormy fiscal future for state and local governments, with expenses expected to outpace revenues during the next five decades.

The GAO report released Dec. 13 said that both expenditures and revenues are likely to increase as a percentage of gross domestic product, but the money going out will increase at a faster rate between now and 2067.

The main culprit is health-care spending, namely Medicaid expenses and spending on the heath benefits of government employees and retirees. Fiscal hawks across the U.S. have warned that government debt is growing across the country not only because of underfunded pensions, but also due to the increased cost to provide these medical benefits to retired government workers.

The simulations by the GAO indicate that the growing expenses will be somewhat offset by increased revenue from personal income taxes as well as federal grants to state and local governments (which comes out of the pockets of taxpayers).

“GAO also identified federal policy changes that could affect the state and local government sector’s fiscal outlook,” the report says. “For example, the effects of the recently-enacted Tax Cuts and Jobs Act will likely depend on how states incorporate the Act into their state income tax rules. In addition, other factors, such as economic growth and rates of return on pension assets, could shift future fiscal outcomes for the sector.”

GAO noted it completed the study because “fiscal sustainability presents a national challenge shared by all levels of government” and it wished to show the “long-term fiscal pressures” faced by the government sector.

“While most states have requirements related to balancing their budgets, deficits can arise because the planned annual revenues are not generated at the expected rate, demand for services exceeds planned expenditures, or both, resulting in a near-term operating deficit,” the GAO added.

Critics like Chicago-based Truth in Accounting would point out that states also skirt their balanced-budget laws by listing the benefits they owe retirees only when those benefits are paid.

The GAO came to similar conclusions as a recently released study from The Volcker Alliance, a nonpartisan group that promotes effective governance. Its second annual study on state budgeting found that despite the strong economy, states struggle to balance their budgets “in the face of mounting obligations for health care, infrastructure, education, and public employee retirement costs.”

The Volcker Alliance used five metrics to score states on their budgeting, using financial figures for the past three fiscal years in the evaluations. The metrics included budget forecasting, budget maneuvers, budget transparency, legacy costs, and reserve funds. Only California, Idaho, and Utah merited a satisfactory number of A grades, according to The Volcker Alliance’s scale.

The group points out that the Great Recession of a decade ago put great pressure on state governments due to lagging revenue and balanced-budget requirements.

“A large number of states have been forced to reduce or reallocate spending,” the study says. “The potential to defer or obfuscate in making these adjustments is very real.”

The Volcker report said the pressured from the recession continue, and urged states to develop more sustainable policies during more comfortably economic times “rather than wait until the next downturn forces them to struggle to stay afloat.”

Those pressures led states to adopt accrual styles of accounting instead of using cash-based accounting that is standard in business.

“This permits a government to commit to significant spending in one year but not reflect that decision until future years, when the payments are actually made,” the alliance noted.

William Glasgall, program director of The Volcker Alliance’s State and Local Program, told Fortune that states have been receptive to the feedback. After the first annual report criticized Vermont for insufficient reserves, the state put more money in a rainy day fund and its pension programs. Utah was docked for a lack of long-term forecasting and decided in the past year to institute such forecasting, as well as stress testing.

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