The Squeeze on the States Just Got Worse

The reverberations from September 11 didn't take long to hit state capitals from Florida to Michigan to Hawaii. Plans for opulent new sports arenas or airport upgrades are being shoved aside as officials try to cope with rising unemployment claims, mounting Medicaid payouts, shrinking hotel-tax collections, and pension funds jeopardized by a volatile stock market. "We are now in an incredible period of uncertainty," says Scott D. Pattison, executive director of the National Association of State Budget Officers.

Even before the attacks, state worries were growing. A yearlong recession in manufacturing and a slowing services economy were threatening balance sheets. States had chopped projected revenue growth for the fiscal year, which had just begun, to an average of 2.4%--the lowest rate in a decade, according to the National Conference of State Legislatures. By the end of August, seven states were already planning to cut back on spending to balance their budgets, even though their fiscal years had only started on July 1. The culprit: plummeting income- and sales-tax receipts, combined with Medicaid spending running at 10% over budget.

SWELLING WELFARE ROLLS. Now the outlook is even more dismal. As layoffs mount in the airline and tourist industries, the rolls of those eligible for jobless benefits, welfare, and Medicaid will swell. Airlines alone announced more than 100,000 layoffs in the weeks following the terrorist attacks. Nevada lost the revenue from some 78,000 visitors when hundreds of conventions scheduled through the end of October were canceled. The state, which collects no income tax, relies on taxing tourists for 75% of its general revenue. In Hawaii, Governor Benjamin J. Cayetano is convening a special session of the legislature on Oct. 15 to consider dipping into tobacco-settlement and hurricane-relief funds.

It's not just tourist destinations that will be hurt. Manufacturing layoffs in the big states have put a dent in unemployment fund surpluses (table). Michigan is facing budget problems "similar to the situation in the early l980s and 1990s, when there were recessions," says Mitchell E. Bean, director of Michigan House Fiscal Agency, a legislative budget bureau. The auto industry has already trimmed employment rolls there by 11%, or 34,000 jobs. Welfare caseloads are climbing at a rate of 7%. Michigan may tap its $1 billion rainy-day fund and make emergency budget cuts.

The state of Washington has been hit particularly hard by the fading fortunes of its largest employer, Boeing Co. (BA ) With 30,000 layoffs at Boeing due to declining sales of passenger jets, state officials expect the current budget shortfall of $101 million to reach nearly $900 million.

States such as Illinois are looking to defer spending. Chicago had planned to reconstruct Soldier Field, home of the NFL's Chicago Bears, with $399 million in bonds backed by a 2% hotel tax. But the occupancy rates of downtown hotels have dropped to 50%--from 70% to 90%--since September 11. At Chicago's O'Hare International Airport, a planned $6 billion, 15-year expansion of six runways to relieve congestion is in doubt. Income generated by taxes, takeoff and landing fees, and concessions will likely be far below last year's $511 million.

Airports are crucial to many local economies. In Washington, where Reagan National Airport was closed for three weeks and only just reopened on an abbreviated schedule, a $100 million bailout for the local travel industry is in the planning stages.

The situation is also dire in Florida: Tourism, the largest industry, supplies 25% of taxable income. At Chef Allen's, an upscale restaurant in Aventura that suffered more than $10,000 in cancellations in the first week, bookkeeper Susan Leerstang laments: "People who live here aren't coming, either. We've been shaken to our very core." As a result, Governor Jeb Bush says Florida's current budget shortfall may grow to $1 billion.

No one expects that state budgets will be permanently downsized, but the current fiscal year will likely be a rough one as legislatures either cut spending or raise taxes. Neither option is likely to improve local economies.

By Paul Magnusson in Washington, with Ann Therese Palmer in Chicago, Christopher Palmeri in Los Angeles, and bureau reports

    Before it's here, it's on the Bloomberg Terminal.