Why States Save


1 Dec 2015 A report from Getty Images Why States Save Using Evidence to Inform How Large Rainy Day Funds Should Grow


3 Contents 1 Overview Most states lack a clear rationale for saving 2 2 How states define purposes of rainy day funds States struggle to determine how much to save 9 Most states’ savings targets do not reflect revenue volatility 11 Budgetary risk should inform policy 12 13 Recommendations Explicitly define, in law, the purpose of a rainy day fund 13 Align savings targets with the fund’s purpose as well as with the state’s tax volatility 13 Determine and clearly express the level of budgetary risk the state seeks to offset 14 14 Conclusion 15 Appendix A: Methodology Rainy day fund identification 15 Purpose and definition classification 15 19 Appendix B: State rainy day fund caps and targets 22 Endnotes

4 The Pew Charitable Trusts Susan K. Urahn, executive vice president vice president Thomas P. Conroy, Project team Stephen Bailey Brenna Erford Kil Huh Akshay Iyengar Jonathan Moody Ethan Pollack Robert Zahradnik External reviewers This report benefited from the insights and expertise of two external reviewers: Dan White, senior economist at Moody’s Analytics, and Fred Thompson, Ph.D., director of the Center for Governance and Public Policy Research at Willamette University. These experts have found the report’s approach and methodology sound. Although they have reviewed the report, neither they nor their organizations necessarily endorse its findings or conclusions. Acknowledgments We would like to thank the following colleagues for their assistance and guidance in the research process: Alex Booker, Brandon Brockmyer, Daniel Berger, Hassan Burke, Samantha Chao, Alan van der Hilst, Airlie Loiaconi, Mary Murphy, and Rica Santos. We also thank Catherine An, Kimberly Burge, Lauren Dickinson, Steve Howard, Sarah Leiseca, Katye Martens, Bernard Ohanian, Lisa Plotkin, Jeremy Ratner, Kate Starr, Liz Visser, and Laura Woods for their valuable editing and production assistance on this report. We would like to thank Diane Morris for her contributions as a contractor on this project. Finally, we thank the many state officials and other experts who were so generous with their time, knowledge, and expertise, in particular Matthew Schoeppner at Minnesota Management & Budget and Thomas Stinson, Ph.D., professor emeritus at the University of Minnesota. Contact: Catherine An, communications officer Email: [email protected] Project website: pewtrusts.org/en/projects/states-fiscal-health The Pew Charitable Trusts is driven by the power of knowledge to solve today’s most challenging problems. Pew applies a rigorous, analytical approach to improve public policy, inform the public, and invigorate civic life.

5 Overview In recent years, Texas’ Economic Stabilization Fund has been at the center of a heated debate. As of early 2015, the account balance stood at $7.5 billion, or 15 percent of the state’s General Fund expenditures, making Texas’ 1 rainy day fund the nation’s second-largest in dollar terms. Given the state’s other pressing budgetary priorities— particularly the need for improved water and transportation infrastructure and a desire to reduce the state’s total amount of outstanding debt—Texas lawmakers have been divided over whether the current level of reserves is sufficient or excessive. At the heart of this debate lies a basic disagreement over the intended purpose of the Economic Stabilization Fund. “It’s become a surprisingly emotional issue in the political debate,” said Dale Craymer, president of the nonprofit Texas Taxpayers and Research Association and a former legislative aide who helped House leaders draft the 1987 constitutional amendment that created the fund. “The last two sessions, the rainy day fund has 2 taken on this sacred nature that was never really intended. It was intended as a management tool.” As revenue and spending pressures shift along with the booms and busts of the economy, states stand to benefit from the additional flexibility provided by robust rainy day funds to smooth over unexpected bumps in the road. Despite having billions of dollars in its rainy day fund, Texas struggles to answer the question of how much is enough because the state lacks a clear consensus on why the fund exists in the first place. Absent a clear purpose for saving, other states also find it extremely difficult to set a meaningful savings target, which can confound their efforts to manage the budgetary ups and downs of economic activity. To help leaders craft effective policies for their states’ rainy day funds, The Pew Charitable Trusts examined the statutory or constitutional language governing these funds and the trends in their balances. The research found that: • Out of the 46 states with rainy day funds, more than half—27—do not clearly express in state law what they are seeking to achieve with them. Only one state—Minnesota—sets the level of budgetary risk it wishes to offset by having a fund. • During the growth years of the mid-2000s, rainy day funds in 21 states were prevented from growing larger because balances quickly swelled to their maximum levels, which resulted in most of those states relying more heavily on spending cuts and tax increases to balance their budgets during and after the Great Recession. Only five states—Connecticut, Minnesota, Nebraska, Oregon, and Utah—currently require by law regular, • periodic evaluations of revenue volatility patterns in order to determine a sufficient maximum or targeted balance for their funds. The remaining 41 states with rainy day funds do not have a process for re-examining the size of their funds in response to changing fiscal and economic conditions. In order to arrive at an optimal savings target, Pew recommends that state policymakers consider three factors: 1. In order to make evidence-based determinations about how much to save, policymakers The fund’s purpose. must first decide what they want to accomplish with the fund and how and when its balances should be drawn upon. To that end, the fund should have an explicit purpose that should be narrowly defined in law. 2. The volatility of the state’s revenue. States should study how their revenue systems react to the ups and downs of the business cycle so they can align their savings target with the state’s historical experience with volatility. If the purpose of the fund encompasses spending considerations such as maintaining program funding commitments or overall state spending at a certain level, the analysis should incorporate those factors as well. Rigorous examination of historical data on revenue volatility is essential to developing an evidence-based savings target. 1

6 3. The degree of risk the state wishes to offset. Some states use their savings to cushion the impact of budget cuts in response to a recession, while others strive to put away enough to avoid cuts altogether. Still others may want to save more to offset large, mandatory spending commitments on entitlements or other spending pressures that may arise. Clear parameters can provide guidance to policymakers as they determine how much a state needs to save in order to achieve its goals. This report highlights the challenges states face in determining how much to save in their rainy day funds, gives examples of states with strong policies and processes for setting their savings targets, and offers recommendations for how policymakers can strengthen their funds in order to better manage volatility and plan for the future. Most states lack a clear rationale for saving In many states, reserves have proved inadequate during recessions, in part because no clear purpose guides rainy day fund policies. When a state’s reasons for saving are either unstated or poorly defined, policymakers lack the information necessary to match savings goals to needs, making it difficult to determine how much their state should save. For example, a state that only intends to use reserves to fill midyear shortfalls in an already approved budget may need to save less than a state that wants to use reserves prospectively to smooth spending across 3 multiple budget cycles. In Wyoming, where lawmakers are debating the ideal savings target for the state’s Legislative Stabilization Reserve Account, the statute that created the fund provides no guidance on its intended use. As a result, Governor Matt Mead has said the debate has raised basic questions: “What’s the rainy day fund for? How much 4 should we have in savings?” Some Wyoming lawmakers would like the fund restricted to significant crises, such as a national recession. Others would like to see the account grow to a balance equivalent to a two-year budget for the state, providing a substantial insurance policy against scenarios such as a sustained fall in energy prices—a major risk given Wyoming’s reliance on severance tax revenue that is generated by natural resource extraction and energy production activities. The impact of the state’s reliance on severance revenue is illustrated by its 17-year revenue drought during the last sustained downturn in energy prices, when tax receipts did not 5 return to their inflation-adjusted 1983 levels until 2000. Still others argue that the fund, at $1.8 billion at the start of fiscal year 2016, has grown large enough to hedge against the state’s level of budgetary uncertainty and that 6 spending priorities such as infrastructure should take priority over further savings. How states define purposes of rainy day funds States do not share a common purpose for saving, nor do they define their rainy day funds in the same way. For this study, Pew divided state statutes defining the purpose of rainy day funds into two sets of categories: explicit or implied purposes, and narrow or broad definitions. These categories describe the circumstances the fund is intended to address (purpose) and the circumstances under which the fund can be used (definition). Pew classified states with distinct statutory or constitutional language describing the intended purpose for their rainy day fund—which is separate from language governing fund withdrawals—as having an explicit purpose. Of the 46 states with rainy day funds, 22 define an explicit purpose in statute for at least one of their rainy day funds. Explicit fund purpose: Indiana “A counter-cyclical revenue and economic stabilization fund is established to assist in stabilizing revenue 7 during periods of economic recession.” 2

7 In contrast, most states do not separately state in law a purpose for their fund. Instead, these states only provide statutory or constitutional language governing conditions under which withdrawals can be made. These conditions are identified as providing an implied purpose. Twenty-two states are categorized as having a rainy 8 day fund purpose that is implied. Implied fund purpose: New Jersey “Balances in the ’Surplus Revenue Fund’ may be appropriated by the Legislature only: a. upon separate certification by the Governor that anticipated revenues in the General Fund are estimated to be less than those certified by him upon approval of the annual appropriation act; or b. upon a finding by the Legislature, based on its research, that to offset revenue declines anticipated in the General Fund an appropriation from the ’Surplus Revenue Fund’ is a more prudent fiscal policy than imposing new taxes or increasing any rate of tax or otherwise modifying the tax structure, including elimination or modification of deductions, exclusions 9 or exemptions.” Figure 1 The Purpose of Most State Rainy Day Funds Is Implied, Not Explicit A W ME ND M T MN OR ID NY WI SD MI WY P A IA NE OH IN NV IL UT WV V A C O S K A C MO K Y NC TN OK C S AR AZ NM GA AL MS LA T X FL AK HI No purpose defined Implicit and explicit purposes (2 funds) Explicitly defined purpose No fund Implied purpose © 2015 The Pew Charitable Trusts 3

8 Pew also considered whether a fund’s rationale is narrowly or broadly defined. A state that sets forth a clear or measurable objective that leaves little doubt as to the circumstances under which the fund balance can be used is identified as having a narrow definition. Thirty-four states provide a narrow definition for at least one rainy day fund. Narrow definition: Michigan “A countercyclical budget and economic stabilization fund is created to assist in stabilizing revenue and 10 employment during periods of economic recession and high unemployment.” States that set forth expansive and nonspecific reasons for their rainy day funds are identified as having a broad 11 definition. Ten states have broad definitions for at least one rainy day fund. Broad definition: New Mexico Withdrawals can be made from the Tax Stabilization Reserve “if the governor declares that the expenditure is 12 necessary for the public peace, health and safety.” Figure 2 Narrowly Defined State Rainy Day Funds Help in Setting the Right S av i ngs Ta rget A W ME ND M T MN OR ID NY WI SD MI WY P A IA NE OH IN NV IL UT WV A V O C K S A C MO K Y NC TN OK S C AR AZ NM GA AL MS LA T X FL AK HI Narrow and broad purposes (2 funds) No purpose Broadly defined purpose Narrowly defined purpose No fund © 2015 The Pew Charitable Trusts 4

9 Lance King/Getty Images Minnesota’s evidence-based savings target draws on the explicit and narrowly defined objectives for the state’s rainy day fund. Although there are advantages and disadvantages with each approach to purpose and definition, states benefit from funds that are categorized as both explicit and narrow. For example, Maryland statute describes discrete objectives for the state’s rainy day fund, stipulating that it “is established to retain State revenues for future needs 13 All in all, 19 states describe their and reduce the need for future tax increases by moderating revenue growth.” funds in terms that are explicit and narrow, providing the clearest guidance to policymakers for determining an evidence-based savings target. Virginia and Minnesota offer two examples of states with strong savings determinations that draw on explicit and narrowly defined objectives for their rainy day funds. In Virginia, “the only use for the revenue stabilization fund in the constitution is [to fill] a shortfall in an enacted budget,” said Virginia Secretary of Finance Ric Brown, emphasizing that legislators cannot use money from the reserve fund prospectively (i.e., when building a budget 14 for the coming fiscal year). In contrast, Minnesota’s rainy day fund is intended to maintain a historically sustainable trend in state expenditures. By law, the state’s budget reserve “may be used when a negative budgetary balance is projected and when objective measures, such as reduced growth in total wages, retail sales, 15 Although they differ in how they use their funds, or employment, reflect downturns in the state’s economy.” both states find that decisions about how much to save have been relatively more straightforward compared with states that have less clearly defined objectives. 5

10 Table 1 Clarity of Rainy Day Fund Objectives Ranges Widely Definition Purpose Implied Explicit Arizona Connecticut Hawaii Arkansas California Idaho Indiana Delaware Maine Florida Maryland Georgia Massachusetts Iowa Michigan Louisiana Mississippi Minnesota Narrow definition New Mexico* Nebraska New York Nevada Pennsylvania New Hampshire Rhode Island North Dakota South Carolina* Oregon South Dakota Tennessee Utah Vermont* Virginia Wisconsin Alabama North Carolina Ohio Alaska Missouri West Virginia New Jersey Broad definition Oklahoma Te x a s Washington No purpose or definition Kentucky, Wyoming No fund Colorado, Illinois, Kansas, Montana *New Mexico, South Carolina, and Vermont each have additional rainy day funds that would fall into different categories. © 2015 The Pew Charitable Trusts 6

11 In states where funds are not both explicitly and narrowly defined, identifying parameters for a savings target can be less clear-cut. Delaware, for example, is classified as having an implied purpose, drawn from its withdrawal rule, rather than an explicit one. Yet the state is also classified as having a narrow definition, as the withdrawal statute makes apparent that Delaware’s rainy day fund should be used to fill a revenue shortfall: “The General Assembly by a three-fifths vote of the members elected to each House, may appropriate from the Budget Reserve Account such additional sums as may be necessary to fund any unanticipated deficit in any given fiscal year or to provide funds required as a result of any revenue reduction enacted by the General 16 Assembly.” West Virginia, however, has an explicit purpose but broad definition, allowing for withdrawals from its Revenue Shortfall Reserve Fund “for revenue shortfalls, for emergency revenue needs caused by acts of God or natural 17 disasters or for other fiscal needs as determined solely by the Legislature.” This language does not provide clearly measurable conditions for the fund’s use, making it more difficult to determine an adequate savings target. Whether a fund’s purpose is explicit or implicit, states have an easier time setting the right savings target if the definition is drawn narrowly; funds with multiple aims or no prioritization, on the other hand, can make it difficult for policymakers and analysts to ascertain what level of savings is required. States With More Than One Reason for Saving Twenty-five states designate multiple reasons for their funds, providing a variety of situations that reserves should address. Establishing more than one reason for saving can give states flexibility in using reserves; however, in order to best estimate an optimal savings target, states should strive to define these multiple reasons as narrowly as possible. Having more than one stated fund purpose can complicate the effort of estimating the right fund target, but it should be possible if those reasons for saving are narrowly defined. In Hawaii, for example, the Legislature may make appropriations for four reasons: “ (1) To maintain levels of programs determined to be essential to public health, safety, welfare, and education; “(2) To provide for counter cyclical economic and employment programs in periods of economic downturn; “(3) To restore facilities destroyed or damaged or services disrupted by disaster in any county; and “(4) To meet other emergencies when declared by the governor or determined to be urgent 18 by the legislature.” This provides a set of measurable, easily communicated conditions when rainy day fund reserves should be used. Similarly, California’s Budget Stabilization Account can be utilized Continued on next page 7

12 19 under two so-called “budget emergency” scenarios. One definition refers to man-made or natural disasters: “The existence, as declared by the Governor, of conditions of disaster or of extreme peril to the safety of persons and property within the State, or parts thereof, caused by such conditions as attack or probable or imminent attack by an enemy of the United States, fire, 20 flood, drought, storm, civil disorder, earthquake, or volcanic eruption.” The state also allows for a fiscal crisis to constitute a budget emergency: “A determination by the Governor that estimated resources are inadequate to fund General Fund expenditures for the current or ensuing fiscal year ... at a level equal to the highest amount of total General Fund expenditures estimated at the time of enactment of any of 21 the three most recent Budget Acts.” Despite the difference in these two purposes, each provides clear guidance regarding the conditions under which reserves can be spent. This allows the state to use a single fund to protect against genuine disasters and prospective budgetary shortfalls. Notably, one state that has struggled with fund clarity made significant progress this year. Connecticut lawmakers enacted substantial reforms to the state’s Budget Reserve Fund in the fiscal 2016-17 state budget, including a significant amendment to the fund’s statutory purpose. The state’s prior statutory language, which follows, did not explicitly define the fund’s aim or what kinds of deficit situations the fund was intended to address—for example, whether it could be used to address shortfalls resulting from forecasting errors, economic downturns, or both: “When in any fiscal year the Comptroller has determined the amount of a deficit applicable with respect to the immediately preceding fiscal year, to the extent necessary, the amount of funds credited to said Budget 22 Reserve Fund shall be deemed to be appropriated for purposes of funding such deficit.” By contrast, the budget bill signed into law in June 2015 establishes a clear, distinct statement of purpose for the Budget Reserve Fund: “Moneys in the Budget Reserve Fund shall be maintained and invested for the purpose of reducing revenue volatility in the General Fund and reducing the need for increases in tax revenue and reductions in state aid 23 due to economic changes.” Unlike the previous language, the new text explicitly tasks the Budget Reserve Fund with addressing fiscal imbalances caused by economic conditions. This change provides clearer guidelines to lawmakers about when they should withdraw reserves and just how large the fund should be. 8

13 For Rainy Day Funds, Consider Both Policy and Practice The purpose of a fund as defined in statute may not reflect how the fund is actually used. New York’s law says the state’s two funds—the Tax Stabilization Reserve Fund and the Rainy Day 24 in the case of the Reserve Fund—should be used primarily for the stabilization of tax revenue, 25 first fund, and during economic downturns or catastrophic events, in the case of the second. However, as highlighted by the Citizen’s Budget Commission of New York, an independent policy research and monitoring organization, the state can borrow money from either fund as long as the loan is repaid within the current fiscal year. In recent times, the state has therefore used both rainy day funds primarily for short-term cash flow needs, drawing down the entirety 26 As a result, New York’s reserves have not of the balances at the beginning of each fiscal year. been used to stabilize revenue during downturns in over two decades because when the state has needed to access the reserves during a downturn, no funds have been available. Arizona’s statute outlines a process for comparing current revenue to that of the previous seven years to determine when the state should deposit or withdraw funds from its Budget Stabilization Fund. However, that calculation is only a recommendation; the decision of whether and how much to deposit or withdraw is in the hands of the Legislature and the governor. “I think over the life of the program, only a few times have we ever followed the formula—I don’t know how many, maybe two, three times since 1992,” said Hans Olofsson, the chief economist 27 with the state’s Joint Legislative Budget Committee. With rainy day funds, both policy and practice matter. Multiple credit rating agencies have indicated to Pew that they consider both the legal guidance surrounding these funds as well as a 28 state’s individual histories of deposits and withdrawals when assigning debt ratings to a state. States struggle to determine how much to save All state tax revenue has some degree of sensitivity to the business cycle. As Pew has documented in “Managing Uncertainty” (2014) and in two joint reports with the Rockefeller Institute of Government, Cracks in the Crystal Ball (2011) and “Managing Volatile Tax Collections in State Revenue Forecasts” (2014), recent evidence suggests that state tax collections have grown more volatile over the past decade. Shifts in personal income toward capital gains, greater reliance on revenue from extractive industries, and a narrowing of the sales tax base due to online 29 sales and untaxed services all contribute to this increasing volatility. This uncertainty makes it a challenge for policymakers to determine what level of savings is necessary to effectively manage the ups and downs of the business cycle. For example, during the growth years of the mid- 2000s, the rainy day funds in 21 states hit their savings targets or caps—statutory or constitutional maximums 30 for the funds, often calculated as a percentage of revenue or appropriations. Pew’s examination of states’ revenue shows that many states could have saved more during this period and that these additional savings 31 would have aided them when the Great Recession hit. In the aftermath of the recession, 16 states, including 11 that hit their rainy day fund limits during the mid-2000s, increased their caps or savings targets in recognition of the fact that their reserves were inadequate for a significant economic downturn. 9

14 Table 2 16 States Increased Statutory Maximum or Target Balances After the Great Recession New maximum or Hit maximum balance State Previous maximum balance target balance in mid-200s 10% of current fiscal year’s 5% of current fiscal year’s * No California General Fund revenue General Fund revenue 15% of current fiscal year’s 10% of current fiscal year’s Connecticut No † General Fund appropriations General Fund appropriations 15% of previous fiscal year’s revenue Ye s Georgia 10% of previous fiscal year’s revenue Idaho Ye s 5% of General Fund revenue 10% of General Fund revenue 12% of General Fund revenue Maine No 18% of General Fund revenue ‡ $653 million $811 million Minnesota Ye s Nevada No 20% of General Fund appropriations 15% of General Fund appropriations 5% of projected General Fund 3% of projected General Fund * Ye s New York appropriations in next fiscal year appropriations in next fiscal year 5% of current General Fund 9.5% of current General Fund Ye s North Dakota appropriations appropriations 8.5% of previous fiscal year’s 5% of previous fiscal year’s Ohio No General Fund revenue General Fund revenue 15% of General Fund revenue Oklahoma 10% of General Fund revenue Ye s * South Carolina 3% of General Fund revenue Ye s 5% of General Fund revenue 8% of estimated tax revenue allocated to 5% of estimated tax revenue allocated to Ye s Tennessee General Fund and Education Trust Fund General Fund and Education Trust Fund 9% of General Fund appropriations Utah Ye s 6% of General Fund appropriations 1% of previous fiscal year’s 5% of previous fiscal year’s * Vermont Ye s General Fund appropriations General Fund appropriations 15% of average revenue collections for 10% of average revenue collections for Ye s Virginia preceding three fiscal years preceding three fiscal years * indicates states that have more than one rainy day fund. † Connecticut’s new maximum balance is effective in fiscal year 2020. ‡ Because Minnesota’s Budget Reserve Account was reformed in 2014, the figure cited no longer represents the maximum balance. Instead, $811 million represents a level up to which surplus state revenue should be automatically deposited in the Budget Reserve Account. The effective savings target for the account includes additional deposits and sits at a higher level determined by Minnesota Management & Continued on next page 10

15 Budget (MMB) and is updated periodically throughout the fiscal year. As of October 2015, the funded level for the account is $994 million. Further, in its September 2015 “Budget Reserve Report,” MMB recommends a combined $2.03 billion savings target for the Budget Reserve 32 Account and the separate Cash Flow Account in the fiscal 2016-17 biennium. Note: California increased the target for its Budget Stabilization Account but did not modify its Special Fund for Economic Uncertainties. New York raised the target for its Rainy Day Reserve Fund but did not modify the target for its Tax Stabilization Reserve Fund. South Carolina increased the target for its Capital Reserve Fund but did not change the target for the General Reserve Fund. Vermont raised the target for its General Fund Budget Stabilization Reserve but did not alter its Rainy Day Reserve’s target. Sources: California Const. Art. XVI, § 20(e) (2015), as amended by Proposition 2 (Legislative Constitutional Amendment), approved Nov. 4, 2014; Connecticut Gen. Stat. § 4-30a (2015), as amended by Connecticut Pub. L. No. 15-244 (2015); Georgia Code Ann. § 45-12-93 (2015) as amended by Senate Bill 421 (2010); Idaho Code § 57-814 (2015), as amended by Senate Bill 1408 (2014); 5 Maine Rev. Stat. § 1532(1) (2015), as amended by Maine Pub. L. 2015, Ch. 267; Minnesota Stat. § 16A.152 (2015), as amended by H.F. 1777 (2014); Nevada Rev. Stat. Ann. § 353.288 (2014), as amended by Assembly Bill No. 165 (2009); New York State Fin. Law § 92-cc (2015), as amended by Senate Bill 4610-A (2015); North Dakota Cent. Code, § 54-27.2-01 (2015), as amended by North Dakota Session Law 2007, ch. 26 and North Dakota Session Law 2011, ch. 483; Ohio Rev. Code Ann. § 131.44 (2015), as amended by House Bill 64, Main Operation Budget FY2016-FY2017 (2015); Oklahoma Const. Art. X, § 23 (2015), as amended by Enrolled Senate Joint Resolution No. 51 (2010); South Carolina Const. Ann. Art. III, § 36(A) (2015), as amended by S.0006 (Ratification No. 172, Act 152) (2012); Tennessee Code Ann. § 9-4-211 (a) (2) (2015), as amended by 2013 Tennessee Public Acts, ch. 175; Utah Code Ann. § 63J-1-312 (3) (a) (ii), as amended by H.B. 333 Budget Reserve Account Amendments (2015); Vermont Stat. Ann. tit. 32, § 308(b) (2015), as amended by Vermont H.781 (2012); and Virginia Const. Art. X, § 8 (2015), amended by Virginia Session Law 2010, ch. 606. © 2015 The Pew Charitable Trusts Whether a state has other reserve funds addressing specific programmatic areas also influences a rainy day fund balance’s ideal size. Many states, for example, have dedicated education reserve funds, and a few have funds directed to Medicaid spending or disaster relief. The existence of these additional funds may affect the overall scope of activities that a general rainy day fund is expected to address. If state leaders see their various reserve funds as complementary, they may prefer to consider all reserve fund balances in total when determining 33 a savings target, as is done in Minnesota. In other states, such as Utah, policymakers’ preference may be to assess funds separately, given restrictions on the withdrawal and use of fund balances. Most states’ savings targets do not reflect revenue volatility States often neglect to consider their level of revenue volatility when setting savings targets; Pew‘s analysis of the statutory or constitutional language governing rainy day funds found that few states mandate a process requiring that data on revenue and economic performance be used to determine how much the state saves. Furthermore, Pew researched whether states with higher levels of revenue volatility have larger savings targets or maximum 34 balances and found no meaningful connection. These pieces of evidence, along with conversations with state policymakers, indicate that most states base their caps on arbitrary benchmarks or what is politically palatable in lieu of empirical observations about their level of revenue volatility and budgetary risk. In Idaho, for example, lawmakers in 2014 increased the cap for the state’s rainy day fund from 5 percent to 10 percent. This new cap, however, was not the result of an evidence-based assessment of the state’s reserve needs but was instead a figure acceptable to policymakers across the political spectrum. “We knew that 5 [percent] wasn’t enough,” said Idaho Budget Director Jani Revier, “but 10 percent does not reflect any best management practice on the appropriate amount of money set aside. Rather, it is more 35 a number that there was consensus behind and we were comfortable with.” 11

16 Setting a Floor—but No Ceiling—for Texas’ Economic Stabilization Fund In November 2014, Texas voters approved a ballot proposition diverting a significant share of severance tax revenue in excess of historic collections that previously went to the Economic Stabilization Fund to highway spending. Legislation was then passed that requires a committee of 10 state legislators to determine the minimum balance of the stabilization fund, considering historic fund usage, highway budget pressures, and the state’s financial condition. The committee met for the first time in December 2014 and set a minimum balance of $7 billion 36 for fiscal 2015, 2016, and 2017. However, the maximum balance for the fund is not revisited periodically in a similar fashion. Since debate over how best to use Texas’ massive fund balance continues, the state stands to benefit from greater clarity about why it saves so successfully as well as how much budgetary risk it wishes to guard against. Budgetary risk should inform policy Understanding a state’s experience with revenue volatility is an important step in determining the right savings target. However, this determination should also consider what level of budgetary risk policymakers wish to offset—or how much of a hypothetical shortfall they intend to fill. In doing so, states should consider both their revenue volatility and their spending commitments, including mandatory spending on major programmatic areas such as Medicaid as well as discretionary spending on core functions such as education and public safety. States facing fast-growing mandatory commitments or unique fiscal pressures, such as rapid population growth, may want to set higher savings targets. Virginia and Minnesota offer two examples of states with robust reserve policies that exhibit very different levels of risk tolerance. Virginia’s constitution allows state leaders to use the state’s fund to cover no more than 50 percent of a shortfall in a fiscal year; as a result, the state must find programmatic cuts or tax changes to balance its budget during periods of revenue decline. The fund “provided time for the General Assembly to make meaningful adjustments, to structurally put the budget back into balance,” said Ric Brown, the finance secretary. “It does provide a transition period where you don’t quite have to cut as fast in attempting to make 37 those changes, and that, from a practical standpoint and a political standpoint, is very advantageous.” However, 38 Virginia has no evidence-driven process for determining how much to save. Minnesota, by contrast, has a rigorous two-part process, developed collaboratively by executive and legislative staffs, for setting its savings target. State economists perform an annual analysis of historic volatility in the parts of the state’s economy that are subject to taxation, and then update their savings target to provide full coverage—a much higher level than in Virginia—for an array of possible revenue downturns. The Minnesota methodology first uses statistical models to quantify the volatility of each of the state’s revenue streams. The resulting estimates are combined to form a model of overall volatility across all state revenue. Most importantly, this volatility is examined over time, meaning that the current estimate is informed by both previous volatility and recent conditions. 12

17 Next the state specifies the level of coverage it desires to provide with its reserves in the event of a revenue downturn. Similar to an insurance policy, where the price reflects statistical assumptions about the likelihood of an unwanted event, this approach allows policymakers to determine their desired failure rate—namely, the tolerance policymakers have for not fully covering a potential shortfall—which affects how much the state should 39 Currently, lawmakers have opted to save enough money to entirely cover the estimated revenue shortfalls save. 40 that would result in 9 out of 10 possible downturn scenarios. Since this policy was enacted in 2014, Minnesota Management & Budget has raised its recommended combined 41 savings target for the state’s Budget Reserve and Cash Flow accounts to $2.03 billion, doubling the $1 billion 42 the state was required to hold in the accounts prior to the reform. Other states can learn from these methods. Lawmakers in Wyoming, for example, are currently adapting Minnesota’s approach in order to insulate against their state’s exceptionally volatile revenue. Ultimately, there is no right or wrong level for what a state’s budgetary risk tolerance should be. States may opt to guard against more or less risk depending on their own spending priorities, obligations, and political cultures. What is most important for setting an appropriate optimal size is ensuring that a reserve fund provides a state’s government with its desired level of insurance against recession-driven budgetary risk. Recommendations For states seeking to improve their savings targets for rainy day funds, Pew recommends three best practices to better align targets with goals. Explicitly define, in law, the purpose of a rainy day fund Doing so allows policymakers to identify under what conditions a fund will be used and facilitates accurate estimates for the magnitude of the shortfalls the fund is expected to offset. This is easiest when fund purposes are both clearly defined and narrowly drawn. Limiting the purpose to a few key objectives, having a single purpose, or clearly communicating a primary purpose allows states to more closely align savings targets with measurable shortfall scenarios. Utah, for example, explicitly lists four conditions that the state’s Budget Reserve Account is intended to address. State statute provides for withdrawals in order to “(a) resolve a General Fund budget deficit, for the fiscal year in which the General Fund budget deficit occurs, (b) pay certain state settlements, (c) pay retroactive tax refunds, 43 or (d) resolve an Education Fund budget deficit.” Align savings targets with the fund’s purpose as well as with the state’s tax volatility Once questions about both the purpose of the fund and the volatility of state revenue are addressed, states can use the evidence to conclude how much, ideally, they should be saving. Minnesota follows the most rigorous process Pew found for determining the ideal level of rainy day fund savings. State policymakers analyze patterns in the state’s revenue volatility and use the fund’s statutory purpose as evidence to annually revise the size of the state’s savings target in an ever-changing economic and fiscal landscape. 13

18 LanceKing/Getty Images Since the Great Recession, New York—like 15 other states—has increased the savings target for its rainy day fund. Determine and clearly express the level of budgetary risk the state seeks to offset A maximum savings target or cap should be based on the level of budgetary risk a state intends to offset, which can be adjusted to reconcile policymakers’ preferences with other budget priorities and political sensitivities. States that struggle to decide how much to save should consider the promising practices of Virginia (which aims to offset just half of an unexpected current-year shortfall) and Minnesota (which aims for total coverage of 90 percent of expected shortfalls over a biennium), even if their budgetary circumstances are significantly different. Conclusion In recent years, many states have moved toward evidence-based processes for determining their rainy day funds’ optimal sizes. Several states, such as Illinois, Montana, and Wyoming, have conducted one-time volatility studies in order to better understand their economic and revenue fluctuations. When done on a recurring basis, Building State Rainy Day Funds , these studies can as recommended by The Pew Charitable Trusts in a 2014 report help inform savings policy. Connecticut’s reforms and Nebraska’s new requirement to conduct periodic volatility studies will put these states in a leading position on rainy day fund policy, alongside Minnesota and Utah. Without a stated reason for saving, states frequently struggle to determine how much they should save in their rainy day funds. Many states have historically saved too little, leaving them exposed to avoidable cuts and tax increases during downturns, while others have saved more than they actually need, forgoing other budgetary options. When setting rainy day fund policies, states should explicitly define the purpose of their fund in statute, study their tax volatility, and identify what level of budgetary risk they intend to offset. The result of these policy actions will be a fund that is the correct size to guard against the unexpected while enhancing states’ fiscal health over the long term. 14

19 Appendix A: Methodology For this report, Pew conducted two rounds of classification related to the scope of each fund’s purpose. This effort identified whether states’ funds had clearly and narrowly defined objectives that could provide guidance for how empirical evidence might be employed to inform a savings target. Rainy day fund identification In an earlier report, Building State Rainy Day Funds , Pew researchers identified and examined the statutory and constitutional guidelines in all 50 states pertaining to the mechanisms for depositing money into budget stabilization funds. States use a number of funds to set aside money for various purposes. To focus on the challenge of managing volatility, Pew narrowed the scope of this report to include only budget stabilization 44 funds, using the definition set forth by Yilin Hou in State Budget Stabilization Hou’s definition identifies three . key characteristics of these funds. First, there must be enabling legislation that establishes them. Second, they operate across fiscal years and over the whole economic cycle (i.e., rather than cash flow funds for use during the fiscal year or legacy funds like North Dakota’s). Third, they must serve as government-wide reserves for general purposes (i.e., not for Medicaid or education specifically). To assemble the list of qualifying funds, Pew built upon previous research examining these types of reserves, collecting data from three peer-reviewed academic sources as well as the National Conference of State Legislatures 45 and the Center on Budget and Policy Priorities. The researchers cross-referenced these five sources to develop a list of 52 budget stabilization funds across 46 states, then further verified them by identifying their enabling legislation. For each valid fund, Pew examined the enabling statute to detail the designated purpose and scope of the fund. Purpose and definition classification The first iteration of coding focused on whether the enabling text provided a distinct statement of purpose for the rainy day fund in state law. If a state provided statutory or constitutional language specifically designating the goal(s) for the fund, Pew categorized the fund as having an “explicit” purpose. Conversely, a fund was classified as having an “implied” purpose if the state constitution or statute did not provide any statement regarding the fund’s goals, leaving the purpose to be determined by the conditions for withdrawal. Two researchers separately examined and classified each fund to ensure accuracy. In the event that the coding was in disagreement, a team of four researchers discussed the statutory/constitutional language until it reached an agreement on the appropriate category. The second classification examined each fund’s purpose statement from the perspective of a state fiscal analyst charged with identifying an evidence-based savings target. This step was intended to determine which funds were adequately defined to assist in the state’s efforts to gauge how much to save. Researchers were asked to discern whether the stated objectives of the fund were clear and measurable so that they could be used to estimate a savings target. In the event that the fund’s objectives were drawn precisely enough to provide a potential reference point for a savings target, Pew classified the fund as having a “narrow” definition. However, if the objectives defined were vague, nonspecific, or too expansive to inform a savings target, Pew classified the fund as having a “broad” definition. Similar to the explicit/implied classification, each fund was examined and classified separately by two researchers to improve accuracy. If the coding was in disagreement, a team of four researchers discussed the statutory/constitutional language until it reached an agreement on the appropriate category. The following table provides a statutory citation for each rainy day fund, along with Pew’s classifications regarding whether the fund’s purpose is explicitly stated or implied, and whether the purpose is defined narrowly enough for an evidence-based savings target determination or too broadly to be informed by empirical evidence. 15

20 Table A . 1 Most States Do Not Explicitly and Narrowly Define a Purpose in State Law for Their Funds Purpose State Definition Fund Statute General Fund Rainy Day Ala. Const. Art. XIV, § 260.02 Broad Alabama Implied (2015) Account Constitutional Budget Alaska Const. Art. IX, § 17(c) Broad Alaska Implied (2015) Reserve Fund Alaska Stat. § 37.05.540(c) Statutory Budget Reserve Implied Broad Alaska Fund (2015) Ariz. Rev. Stat. § 35-144(C) Budget Stabilization Fund Implied Arizona Narrow (2015) Ark. Code Ann. § 19-6-486(d) Implied Narrow Arkansas Rainy Day Fund (2015) Budget Stabilization Implied Narrow Calif. Const. Art. XVI § 22 (2015) California Account Special Fund for Calif. Gov. Code § 16418(b) Implied Narrow California (2015) Economic Uncertainties No fund No fund N /A N/A Colorado Conn. Gen. Stat. § 4-30a(b) Connecticut Budget Reserve Fund Explicit Narrow (2015), as amended by Conn. Pub. L. No. 15-244 (2015)* Del. Const. Art. VIII, § 6(d) Budget Reserve Account Narrow Delaware Implied (2015) Fla. Stat. § 216.222 (2015) Implied Florida Budget Stabilization Fund Narrow Narrow Ga. Code Ann. § 45-12-93 (2015) Revenue Shortfall Reserve Georgia Implied Emergency and Budget Hawaii Rev. Stat. § 328L-3(d) Explicit Narrow Hawaii (2015) Reserve Fund Idaho Budget Stabilization Fund Idaho Code § 57-814(1) (2015) Explicit Narrow No fund N /A N/A Illinois No fund Countercyclical Ind. Code Ann. § 4-10-18-2(a) Revenue and Economic Explicit Narrow Indiana (2015) Stabilization Fund Economic Emergency Iowa Code § 8.55(3) (2015) Implied Narrow Iowa Fund No fund No fund N /A N/A Kansas Continued on next page 16

21 State Fund Purpose Definition Statute Budget Reserve Trust No purpose No definition Kentucky N /A Fund Account La. R.S. 39:94(C) (2015) Narrow Budget Stabilization Fund Louisiana Implied Maine Budget Stabilization Fund Maine Rev. Stat. § 1532 (2015) Explicit Narrow Md. State Fin. & Procurement Revenue Stabilization Explicit Narrow Maryland Code § 7-311(b) (2015) Account Commonwealth Ann. Law of Mass. Gen. Law ch. Massachusetts Explicit Narrow Stabilization Fund 29, § 2H (2015) Countercyclical Mich. Comp. L. Stat. § 18.1351 Budget and Economic Michigan Narrow Explicit (2015) Stabilization Fund Minn. Stat. § 16A.152, Subd. 3. Budget Reserve Account Explicit Narrow Minnesota (2015) Working Cash- Miss. Code Ann. § 27-103-203 Stabilization Reserve Mississippi Narrow Implied (2015) Fund Mo. Const. Art. IV, § 27(a) (5) Budget Reserve Fund Implied Broad Missouri (2015) Montana No fund No fund N /A N/A Nebraska Neb. Rev. Stat. § 84-612 (2015) Narrow Cash Reserve Fund Implied Account to Stabilize Nev. Rev. Stat. Ann. § 353.288 Operation of State Implied Narrow Nevada (2015) Government Revenue Stabilization N.H. Rev. Stat. Ann. § 9:13-e (III) Implied Narrow New Hampshire Reserve Account (2015) Surplus Revenue Fund N.J. Stat. § 52:9H-18 (2015) Implied Broad New Jersey General Fund Operating N.M. Stat. Ann. § 6-4-2.1(B) New Mexico Narrow Explicit (2015) Reserve General Fund Tax N.M. Stat. Ann. § 6-4-2.2 (2015) Implied Broad New Mexico Stabilization Reserve Tax Stabilization Reserve N.Y. State Fin. Law § 92(1) (2015) Explicit Narrow New York Fund N.Y. State Fin. Law § 92-cc(3) Rainy Day Reserve Fund Explicit Narrow New York (2015) N.C. Gen. Stat. § 143C-4-2(c) North Carolina Savings Reserve Account Explicit Broad (2015) N.D. Cent. Code, § 54-27.2-03 North Dakota Budget Stabilization Fund Implied Narrow (2015) Continued on next page 17

22 State Fund Purpose Definition Statute Ohio Rev. Code Ann. 131.43 Budget Stabilization Fund Explicit Broad Ohio (2015) Constitutional Reserve Okla. Const. Art. X, § 23(6-8) Oklahoma Implied Broad Fund (2015) Oregon Ore. Rev. Stat. § 293.144 (2015) Implied Narrow Rainy Day Fund Budget Stabilization Pa. Stat. tit. 72 § 1703-A(a) Narrow Pennsylvania Explicit (2015) Reserve Fund Budget Reserve and Cash Rhode Island Narrow R.I. Gen. L. § 35-3-20(a) (2015) Explicit Stabilization Account S.C. Const. Ann. Art. III, § 36(A) General Reserve Fund Explicit Narrow South Carolina (2015) S.C. Code Ann. § 11-11-320(C) South Carolina Capital Reserve Fund Implied Narrow (2015) S.D. Codified Laws § 4-7-32 South Dakota Budget Reserve Fund Implied Narrow (2015) Reserve for Revenue Tenn. Code Ann. § 9-4-211(a)(1) Narrow Tennessee Explicit (2015) Fluctuations Economic Stabilization Texas Const. Art. III, § 49-g(j) Implied Broad Te x a s Fund (2015) Utah Code Ann. § 63J-1-312(4) Utah Budget Reserve Account Narrow Explicit (2015) General Fund Budget Vt. Stat. Ann. tit. 32, § 308(a) Vermont Explicit Narrow (2015) Stabilization Reserve Vt. Stat. Ann. tit. 32, § 308c(b) Rainy Day Reserve Implied Narrow Vermont (2015) Revenue Stabilization Narrow Va. Code Ann. § 2.2-1828 (2015) Explicit Virginia Fund Budget Stabilization Wash. Const. Art. VII, § 12(d) Washington Broad Implied (2015) Account Revenue Shortfall Reserve W.Va. Code § 11B-2-20(d) (2015) Explicit Broad West Virginia Fund Wisconsin Budget Stabilization Fund Wis. Stat. § 25.60 (2015) Explicit Narrow Legislative Stabilization Enrolled Act No. 90, 2005 Wyo. Wyoming No purpose No definition Reserve Account Session Laws § 301-d * Effective July 1, 2019 © 2015 The Pew Charitable Trusts 18

23 Appendix B: State rainy day fund caps and targets The following table displays each state’s rainy day fund target or maximum balance as defined by state law as of October 2015, unless otherwise noted. In cases where a fund has both a savings target and a higher maximum balance defined in statute, the maximum balance is listed. Table B . 1 Statutory Caps and Targets for State Rainy Day Funds as a Percentage of FY 2015 General Fund Revenue State Cap or target Statute Fund name 10% of previous fiscal year's General Fund appropriations minus prior Ala. Const. Art. XIV, § 260.02(a) General Fund Rainy Day Account Alabama (2015) years' rainy day account withdrawals that have not been repaid Alaska Alaska Const. Art. IX, § 17 (2015) No cap Constitutional Budget Reserve Fund Alaska Stat. § 37.05.540 (2015) No cap Statutory Budget Reserve Fund Alaska 7% of current fiscal year’s General Arizona Budget Stabilization Fund Ariz. Rev. Stat. § 35-144(H) (2015) Fund revenue Ark. Code Ann. § 19-6-486(f) (2015) $125 million Rainy Day Fund Arkansas 10% of current fiscal year’s estimated Calif. Const., Art. XVI § 20(e) (2015) Budget Stabilization Account California General Fund revenue Special Fund for Economic California Calif. Gov. Code § 16418 (2015) No statutory cap or target Uncertainties N /A No fund N/A Colorado Conn. Gen. Stat. § 4-30a(a)(6) 15% of current fiscal year’s General Budget Reserve Fund Connecticut (2015) as amended by Conn. Pub. L. Fund appropriations No. 15-244 (2015)* 5% of current fiscal year’s estimated Delaware Budget Reserve Account Del. Const. Art. VIII, § 6 (d) (2015) General Fund revenue 10% of prior fiscal year’s General Fla. Stat. § 215.32(2)(c)(1) (2015) Florida Budget Stabilization Fund Fund revenue Ga. Code Ann. § 45-12-93(h) (2015) 15% of prior fiscal year’s net revenue Revenue Shortfall Reserve Georgia 10% of prior fiscal year’s General Hawaii Rev. Stat. § 328L-3(a)(3) Emergency and Budget Reserve Fund Hawaii Funds revenue (2015) 10% of prior fiscal year’s General † Budget Stabilization Fund Idaho Code § 57-814 (2)(b) (2015) Idaho Fund revenue N/A N /A No fund Illinois Continued on next page 19

24 State Fund name Statute Cap or target Countercyclical Revenue and 7% of current fiscal year’s General Ind. Code Ann. § 4-10-18-8 (2015) Indiana Fund revenue Economic Stabilization Fund 2.5% of current fiscal year’s Economic Emergency Fund Iowa Code § 8.55(2) (2015) Iowa estimated General Fund revenue N/A No fund Kansas N /A 5% of current fiscal year’s General Budget Reserve Trust Fund Account Ky. Rev. Stat. § 48.705(3) (2015) Kentucky Fund revenue 4% of prior fiscal year’s total state Budget Stabilization Fund La. Rev. Stat. 39:94(C)(4)(a) (2015) Louisiana revenue 5 Maine Rev. Stat. § 1532(1) (2015) 18% of prior fiscal year’s General Budget Stabilization Fund Maine as amended by Maine Pub. L. (2015), Fund revenue ‡ Ch. 267 7.5% of current fiscal year’s Md. State Fin. & Procurement Code § Maryland Revenue Stabilization Account estimated General Fund revenue 7-311(e)(2) (2015) Ann. Law of Mass. Gen. Law ch. 29, § 15% of prior fiscal year’s budgeted Commonwealth Stabilization Fund Massachusetts 2H (2015) revenue 10% of prior fiscal year’s combined Countercyclical Budget and Economic Michigan School Aid Fund and General Fund- Mich. Comp. L. Stat. § 18.1356 (2015) Stabilization Fund General Purpose revenue Minn. Stat. § 16A.152 Subd. 2(a)(2) § $810,992,000 Budget Reserve Account Minnesota (2015) Working Cash-Stabilization Reserve 7.5% of current fiscal year’s General Miss. Code Ann. § 27-103-213(3)(d) Mississippi Fund appropriations Fund (2015) 10% of current fiscal year’s net Mo. Const. Art. IV, § 27(a)(7) (2015) Budget Reserve Fund Missouri general revenue No fund N /A N/A Montana Cash Reserve Fund Neb. Rev. Stat. § 84-612 (2015) No statutory target or cap Nebraska Account to Stabilize Operation of 20% of current fiscal year’s General Nev. Rev. Stat. Ann. § 353.288(3) Nevada Fund appropriations (2015) State Government Revenue Stabilization Reserve N.H. Rev. Stat. Ann. § 9:13-e (V) 10% of prior fiscal year’s General New Hampshire Fund revenue Account (2015) 5% of current fiscal year’s estimated N.J. Stat. § 52:9H-21 (2015) General Fund and Property Tax Relief New Jersey Surplus Revenue Fund Fund revenue 8% of prior fiscal year’s New Mexico General Fund Operating Reserve aggregate recurring General Fund N.M. Stat. Ann. § 6-4-4 (2015) appropriations 6% of the prior fiscal year’s General Fund Tax Stabilization N.M. Stat. Ann. § 6-4-4 (2015) New Mexico aggregate recurring General Fund Reserve appropriations 2% of current fiscal year’s General New York Tax Stabilization Reserve Fund N.Y. State Fin. Law § 92(3) (2015) Fund expenditures Continued on next page 20

25 State Fund name Statute Cap or target 5% of next fiscal year’s projected Rainy Day Reserve Fund N.Y. State Fin. Law § 92-cc(1) (2015) New York General Fund expenditures 8% of the prior fiscal year's General Savings Reserve Account N.C. Gen. Stat. § 143C-4-2(c) (2015) North Carolina Fund operating budget 9.5% of current fiscal biennium’s North Dakota Budget Stabilization Fund N.D. Cent. Code, § 54-27.2-01 (2015) General Fund appropriations 8.5% of prior fiscal year’s General Ohio Rev. Code Ann. § 131.44(B)(1) Budget Stabilization Fund Ohio Fund revenue (a) (2015) 15% of prior fiscal year’s certified Okla. Const. Art. X, § 23(5) (2015) Oklahoma Constitutional Reserve Fund General Revenue 7.5% of prior fiscal biennium's Oregon Rainy Day Fund Ore. Rev. Stat. § 293.148 (1) (2015) General Fund revenue 6% of current fiscal year’s General Pennsylvania Pa. Stat. tit. 72 § 1702-A(b)(2) (2015) Budget Stabilization Reserve Fund Fund revenue Budget Reserve and Cash 5% of current fiscal year’s estimated Rhode Island R.I. Gen. Laws § 35-3-20.1(b) (2015) state general revenue Stabilization Account 5% of prior fiscal year’s General Fund S.C. Const. Ann. Art. III, § 36(A) General Reserve Fund South Carolina (2015) revenue 2% of prior fiscal year’s General Fund Capital Reserve Fund S.C. Code Ann. § 11-11-320(A) (2014) South Carolina revenue 10% of prior fiscal year’s General Budget Reserve Fund South Dakota S.D. Codified Laws § 4-7-32 (2015) Fund appropriations 8% of current fiscal year's estimated Tenn. Code Ann. § 9-4-211(a)(2) Tennessee sales tax revenue for the General Reserve for Revenue Fluctuations (2015) Fund and Education Trust Fund 10% of prior fiscal biennium’s general Texas Const. Art. III, § 49-g(g) (2014) Te x a s Economic Stabilization Fund revenue 9% of current fiscal year’s General Utah Code Ann. § 63J-1-312 (3)(a) Budget Reserve Account Utah (ii) (2015) Fund appropriations General Fund Budget Stabilization 5% of prior fiscal year’s General Fund Vt. Stat. Ann. tit. 32, § 308(b) (2015) Vermont Reserve appropriations Vt. Stat. Ann. tit. 32, § 308(c)(a) 5% of prior fiscal year’s General Fund Rainy Day Reserve Vermont (2015) appropriations 15% of prior three fiscal years’ Va. Const. Art. X, § 8 (2015) average annual income and retail Virginia Revenue Stabilization Fund sales tax revenue 10% of current fiscal year’s estimated Washington Budget Stabilization Account Wash. Const. Art. VII, § 12(e) (2015) general state revenue 13% of prior fiscal year’s State Fund- Revenue Shortfall Reserve Fund West Virginia W.Va. Code § 11B-2-20(b) (2015) General Revenue appropriations 5% of current fiscal year’s estimated Budget Stabilization Fund Wis. Stat. § 16.518(3)(1) (2015) Wisconsin General Fund expenditures Legislative Stabilization Reserve Wyo. Sess. Laws 191 section 301 Wyoming No cap Account (2005) Continued on next page 21

26 * Connecticut’s 15% cap is effective July 1, 2019. † Idaho’s 10% cap is effective May 31, 2017. ‡ The statutory text available through Maine’s Legislature does not yet reflect the changes from the 2015 legislative session. § This figure reflects current Minnesota statute and represents a level up to which surplus state revenue should be automatically deposited in the Budget Reserve Account. However, the effective savings target for the account includes additional deposits and sits at a higher level determined by Minnesota Management & Budget (MMB) and updated periodically throughout the fiscal year. As of October 2015, the funded level for the Budget Reserve Account was $994 million. In its September 2015 “Budget Reserve Report,” MMB recommended a combined $2.03 billion savings target for the Budget Reserve Account and the separate Cash Flow Account in the fiscal 2016-17 biennium. © 2015 The Pew Charitable Trusts Endnotes National Association of State Budget Officers, The Fiscal Survey of States: Spring 2015 1 (2015), http://www.nasbo.org/sites/default/files/ NASBO%20Spring%202015%20Fiscal%20Survey%20of%20States%20-%20S.pdf. The report provides an estimate of $48.4 billion for Texas General Fund expenditures in FY2015. 2 The Dallas Morning News , March 20, 2015, Robert T. Garrett, “Texas’ Rainy Day Fund Overflows—and Divides Legislators,” http://www.dallasnews.com/news/politics/state-politics/20150320-texas-rainy-day-fund-overflows--and-divides-legislators.ece. This exact situation was described by the Governor’s Office of Planning and Budget in Utah. In its 2011 report, it states that the maximum 3 balance it recommended for the state’s General Fund Budget Reserve Account would have been higher if the fund’s intent was to smooth multiple years of budget shortfalls rather than addressing singular, midyear shortfalls. The report states: “If the intent of Utah’s Budget Reserve Accounts is to cover losses from errors in the revenue forecast for the current budget, then the existing policy of capping reserves at 6% of General Fund Appropriations and 7% of Education Fund Appropriations is more than adequate. If the intent of these rainy day funds is to reduce the severity of budget cuts over multiple years, then optimal reserve size depends on the extent to which policymakers want to insulate spending priorities from economic downturns.” See Utah, Governor’s Office of Planning and Budget, “Joint Revenue Volatility Report” (December 2011), http://governor.utah.gov/DEA/Publications/07OtherPublications/2011RevenueVolatility.pdf. 4 Stephen C. Fehr and Jonathan Moody, “Wyoming Lawmakers Consider How to Use Rainy Day Fund,” Stateline , April 3, 2015, http://www. pewtrusts.org/en/research-and-analysis/blogs/stateline/2015/4/03/wyoming-lawmakers-consider-how-to-use-rainy-day-fund. 5 Wyoming Legislative Service Office, “Revenue Volatility and Savings Analysis,” memorandum from Don Richards to members of the Wyoming Joint Appropriations Committee, https://s3.amazonaws.com/s3.documentcloud.org/documents/1373348/201x-xlsox- xvolatilityxandxsavingsxx110414.pdf. Fehr and Moody, “Wyoming Lawmakers.” 6 7 Indiana Code § 4-10-18-2 (2015), http://codes.lp.findlaw.com/incode/4/10/18/4-10-18-2. The totals for explicit and implied purposes sum to 44 of the 46 states with rainy day funds—22 explicit and 22 implied. The remaining 8 two states, Kentucky and Wyoming, do not provide any purpose definition for their funds in statute. 9 New Jersey Stat. § 52:9H-18 (2015), http://law.justia.com/codes/new-jersey/2014/title-52/section-52-9h-18. 10 Michigan Comp. L. Stat. § 18.1351 (2015), http://legislature.mi.gov/doc.aspx?mcl-18-1351. 11 Similar to the explicit-implied classification, the sum of states with narrow and broad definitions totals 44 of the 46 states with rainy day funds—34 narrow and 10 broad. Kentucky and Wyoming are again classified as not having any fund definition. 12 New Mexico Stat. Ann. § 6-4-2.2 (C) (2014), http://law.justia.com/codes/new-mexico/2014/chapter-6/article-4/section-6-4-2.2. 13 Maryland State Finance and Procurement Code Ann. § 7-311 (2015), http://mgaleg.maryland.gov/webmga/frmStatutesText. aspx?article=gsf§ion=7-311&ext=html&session=2016RS&tab=subject5. 14 Ric Brown (Virginia secretary of finance), interview with The Pew Charitable Trusts, February 2014. 15 Minnesota Stat. § 16A.152 (3) (2015), https://www.revisor.leg.state.mn.us/statutes/?id=16A.152. 16 Delaware Const. Art. VIII, § 6 (d) (2015), http://delcode.delaware.gov/constitution/constitution-09.shtml. 17 West Virginia Code § 11B-2-20 (d) (2015), http://www.legis.state.wv.us/wvcode/ChapterEntire.cfm?chap=11b&art=2§ion=20. 18 Hawaii Rev. Stat. § 328L-3 (d) (2015), http://codes.lp.findlaw.com/histatutes/1/19/328L/328L-3. 19 Numerous states have legal definitions for budget or fiscal emergencies, which can be invoked by the executive, the legislature, or both, and which allow certain fiscal actions to be taken. These emergency declarations may refer to the aftermath of a natural or manmade disaster, conditions of fiscal crisis, or both, as in California’s case. 22

27 20 California Const. Art. XIII B § 3 (c) (2) (2015), http://leginfo.legislature.ca.gov/faces/codes_displaySection. xhtml?lawCode=CONS§ionNum=SEC.%203.&article=XIII%20B. 21 California Const. Art. XVI § 22 (b) (2) (A) (2015), http://leginfo.legislature.ca.gov/faces/codes_displaySection. xhtml?lawCode=CONS§ionNum=SEC.%2022.&article=XVI. Connecticut Gen. Stat. § 4-30a (b) (2013), http://law.justia.com/codes/connecticut/2013/title-4/chapter-47/section-4-30a. 22 Connecticut Public Act No. 15-244 § 164 (b) (2015), https://www.cga.ct.gov/2015/act/pa/pdf/2015PA-00244-R00HB-07061-PA.pdf. 23 24 New York State Fin. Law § 92 (1) (2014), http://law.justia.com/codes/new-york/2014/stf/article-6/92. 25 New York State Fin. Law § 92-cc (3) (2015), http://law.justia.com/codes/new-york/2014/stf/article-6/92-cc. Citizens Budget Commission of New York, “The Broken Umbrella: How to Make New York State’s Rainy Day Fund More Useful” (June 26 2011), http://www.cbcny.org/sites/default/files/REPORT_BrokenUmbrella_06062011.pdf. 27 Hans Olofsson (chief economist, Arizona Joint Legislative Budget Committee), interview with The Pew Charitable Trusts, December 2013. 28 From The Pew Charitable Trusts’ analysis of the following discussions: Gabriel Petek (managing director, U.S. Public Finance, Standard & Poor’s Financial Services), interview with The Pew Charitable Trusts, March 5, 2015; Laura Porter (managing director, Public Finance, Fitch Ratings), interview with The Pew Charitable Trusts, Feb. 9, 2015; Kate Hackett (managing director, Kroll Bond Rating Agency), interview with The Pew Charitable Trusts, May 29, 2015; Emily Raimes (vice president, senior credit officer, Public Finance Group, Moody’s Analytics), interview with The Pew Charitable Trusts, April 22, 2015. 29 The Pew Charitable Trusts, Managing Uncertainty: How State Budgeting Can Smooth Revenue Volatility (February 2014), http://www.pewtrusts.org/~/media/legacy/uploadedfiles/pcs_assets/2014/volatilitymanaginguncertaintypdf.pdf; The Pew Charitable Trusts and Nelson A. Rockefeller Institute of Government, “Managing Volatile Tax Collections in State Revenue Forecasts” (March 2015), http://www.pewtrusts.org/~/media/Assets/2015/03/StateRevenueForecastingReportARTFINALv4web.pdf; and The Pew Charitable Trusts and Nelson A. Rockefeller Institute of Government, States’ Revenue Estimating: Cracks in the Crystal Ball (March 2011), http://www.rockinst.org/pdf/government_finance/2011-03-01-States_Revenue_Estimating_Report.pdf. 30 Pew compiled a data set of all 46 states’ reserve fund usage, recording balances, withdrawals, and deposits from fiscal 1994 through fiscal 2014. Pew searched the data for instances in which state rainy day fund balances reached their caps during the growth years of the 2000s, between fiscal 2000 and 2008, and identified 21 states that reached their statutorily defined targets leading into the Great Recession. 31 Building State Rainy Day Funds (July 2014), 17-19, http://www.pewtrusts.org/~/media/assets/2014/07/sfh_ The Pew Charitable Trusts, rainy-day-fund-deposit-rules-report_artready_v9.pdf. 32 Matthew Schoeppner (economist, Minnesota Management & Budget), email communication with The Pew Charitable Trusts, Oct. 26, 2015; see also Minnesota Management & Budget, “Budget Reserve Report” (September 2015), https://mn.gov/mmb/images/BR-Report- Sept2015.pdf. 33 Progress toward the savings target established by Minnesota’s annual reserve fund study, which examines volatility in the state’s taxable economic base, is calculated by considering the sum of two state funds, the Budget Reserve Account and the Cash Flow Account. Balances in both funds are considered accessible for use in maintaining the level of continuation spending set forth in Minnesota statute. 34 Pew’s analysis compared state tax volatility levels to rainy day fund targets. Fund targets were standardized as a share of each state’s fiscal 2014 general fund revenue. Tax volatility is measured using volatility scores—a number showing how many percentage points above or below the state’s overall growth trend its revenue fluctuated from 1993 to 2013 after removing the estimated effects of tax policy changes. The relationship between volatility and fund targets was assessed through correlations and simple regression models. Pew’s analysis showed no relationship between tax volatility and statutory cap size. In addition, Pew performed a similar analysis comparing tax volatility and state reserves. State reserves are measured as the average number of days’ worth of operating expenses the state has available to fill budget gaps, inclusive of rainy day fund balances as well as general fund surpluses or other miscellaneous reserve funds from 1994 through 2013. States with volatility scores greater than 10—Alaska, Wyoming, and North Dakota—have unusually high reserve balances, which distort the relationship in a statistical analysis and were excluded from statistical models. For the 47 states with volatility scores less than 10, Pew found no statistical relationship between states’ levels of tax volatility and how much they had in savings. 35 Jani Revier (administrator, Idaho Division of Financial Management), interview with The Pew Charitable Trusts, Feb. 9, 2015. 36 Texas Department of Transportation, “Prop 1 Funding FAQ,” last modified Jan. 12, 2015, http://ftp.dot.state.tx.us/pub/txdot-info/sla/ transportation-funding/proposition-faq.pdf. 37 Brown, interview. 38 The Virginia Constitution dictates that the cap on the rainy day fund is 15 percent of the average annual tax revenue from the preceding three fiscal years. 23

28 39 For example, if policymakers want their rainy day fund to cover 75 percent of all recessions (which is a 25 percent failure rate) rather than the 90 percent of all recessions (which is a 10 percent failure rate) currently specified in Minnesota, this empirical approach can be adapted to fit that preference. A higher failure rate (25 percent) will result in a lower recommended savings target than a lower failure rate (10 percent); however, a higher failure rate and a smaller reserve fund will not provide as much insurance against recession-driven revenue shortfalls as the more costly, lower failure rate policy would provide. 40 Although the current savings target is the amount deemed necessary to cover 90 percent of all possible downturn scenarios in Minnesota, the state does not currently have that amount set aside in its two main savings accounts. Minnesota’s target is intended as a financial goal, not a requirement. In practice, the state makes progress toward the savings goal during times of growth. By not requiring a set rate of progress toward the savings target, the policy has the added benefit of not creating undue fiscal stress on the state’s budget during times of poor economic performance or other unforeseeable emergencies. 41 Minnesota Management & Budget, “Budget Reserve Report.” 42 Before the 2014 legislation, the Budget Reserve Account had a $653 million statutory cap, while the Cash Flow Account had (and continues to have) a $350 million statutory cap. See Minnesota H.F. 1777, Art. 6 (2014), http://wdoc.house.leg.state.mn.us/leg/LS88/ HF1777.4.pdf. 43 Utah Code Ann. § 63J-1-312 (4) (2015), http://le.utah.gov/xcode/Title63J/Chapter1/63J-1-S312.html?v=C63J- 1-S312_2015051220150512. Yilin Hou, State Government Budget Stabilization: Policy, Tools, and Impacts (Studies in Public Choice Series), (New York: Springer 44 Science+Business Media, 2013). 45 Yilin Hou, State Government Budget Stabilization ; Shanna Rose and Daniel L. Smith, “Budget Slack, Institutions, and Transparency,” Public Administration Review 72, no. 2 (2011): 187–95; Gary M. Wagner and Erick M. Elder, “The Role of Budget Stabilization Funds in Smoothing Government Expenditures Over the Business Cycle,” Public Finance Review 33, no. 4 (July 2005); Daniel G. Thatcher, “State Budget Stabilization Funds,” National Conference of State Legislatures (Sept. 26, 2008), http://www.ncsl.org/research/fiscal-policy/state-budget- stabilization-funds-spring-2008.aspx; and Elizabeth McNichol and Kwame Boadi, “Why and How States Should Strengthen Their Rainy Day Funds,” Center on Budget and Policy Priorities (Feb. 3, 2011), http://www.cbpp.org/sites/default/files/atoms/files/2-3-11sfp.pdf. 24




32 pewtrusts.org Philadelphia Washington

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