Cautious optimism: the verdict is still out on whether states are on track to make a full fiscal recovery.

• Author: Haggerty, Todd
• Position: STATE BUDGETS

Driven by improving revenues and on-target expenditures, states entered fiscal year 2014 in better economic shape than they have been in years. Despite this good news, lawmakers remain cautious about the budget outlook for the year ahead, unconvinced the stronger revenue growth rates of last year are sustainable.

Revenue forecasts for this year reflect this concern and indicate that states are likely to continue along a path of slow and steady revenue growth that has distinguished the current economic recovery from previous ones. And with spending needs expected to continue to outpace revenue growth, lawmakers will receive little relief from the many fiscal challenges states face.

The Real Thing?

Partway into FY 2013, lawmakers learned that tax collections were outpacing projections, in some cases by substantial amounts. This was due in large part to a healthy performance by the personal income tax that, by March 2013, had met or exceeded the forecast in nearly every state. The reports were even better after the April personal income tax receipts were tallied.

Although stronger revenue collections were a welcome relief from the financial drought of recent years, they were somewhat unexpected. When states developed their FY 2013 budgets, total revenues were estimated to grow 3.7 percent from FY 2012. But actual growth reached 5.3 percent, and 41 states, the District of Columbia and Puerto Rico reported year-over-year general fund revenue growth. In nearly half these states, revenues grew by more than 5 percent, and in five, growth exceeded 10 percent. Many states used the unexpected excess to supplement appropriations or fortify their rainy day funds.

Revenue growth is not always what it appears to be, however. It can result from several factors. The strong revenue growth in FY 2013 was partially a result of taxpayers pushing as much of their income into tax year 2012 as they could to avoid an anticipated increase in federal tax rates in 2013. Lucy Dadayan, a researcher with the Rockefeller Institute of Government, remarked that this "bubble in personal income tax receipts would most certainly burst. Fortunately, forecasters in many states did not treat the growth as recurring money and instead projected much slower growth in income tax receipts in fiscal 2014 and beyond."

State fiscal officials projected general fund revenues to grow, on average, by only 1.3 percent in FY 2014. (Although officials in New Jersey, North Dakota, Oklahoma, the...