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ONE-ON-ONE - September
2002
by Ed G. Lane
Webmaster's Note:
This is the unedited version of Ed Lane's interview with Dr. James Ramsey.
The interview printed in the September issue of The Lane Report
was edited due to space limitations.
'It's a Difficult Economic Time
for Kentucky
A candid discussion of how Kentucky is handling state budget woes and
what lies ahead
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Dr. James R. Ramsey
Economist and Director of Kentucky’s state budget James
R. Ramsey earned his B.S. in business administration from Western
Kentucky University. He was awarded a Ph.D. in Economics at
the University of Kentucky in 1974. Ramsey has a distinguished
record as an academic, having taught economics at several institutions,
including the University of Kentucky, the University of Louisville,
Middle Tennessee State University and Loyola University of New
Orleans. In public life, Ramsey assumed the executive directorship
of the Kentucky Infrastructure Authority Secretary and the state’s
Office for Investment and Debt Management in 1981. He was the
Commonwealth’s Chief state economist from 1988 to 1992
and has held other important positions within state government
since. Currently, Ramsey is also interim president of the University
of Louisville.
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Ed Lane: How much does state government spend each year?
James Ramsey: The annual budget
for the state from all sources is about $16.0 billion.
EL: The general fund collects
about $6.5 billion in tax revenues. Where do these taxes originate?
JR: The primary revenue source
is the individual income tax. The second largest source is sales tax.
The third largest source is property tax. Kentucky’s a little
bit different than most states; it has a state property tax on real
estate. Property taxes on intangibles and some other areas have been
reduced, but the state still gets over $400 million a year from property
tax. The next major revenue source is corporate income tax and license
fees.
EL: Has the recession affected
corporate taxes?
JR: Corporate income tax,
of course, is directly tied to profitability. The other characteristic
of our corporate income tax laws is a net operating loss carry back
provision. If a company loses money this year, it can take that loss
against prior years’ payments. This past year, Kentucky had an
all time record corporate refund request.
EL: Another source of revenues
is the road fund. Describe that briefly.
JR: The road fund collects
a little over $1 billion in taxes each year. The biggest source is
the motor fuels tax you pay when you buy a gallon of gasoline. The
second biggest component is an automobile sales tax. Those two taxes
are about 70 percent of the road fund’s revenues.
EL: Another source of revenue
– about $5.3 billion – is Federal funds.
JR: Medicaid is a program
run by the Commonwealth but jointly financed by the Federal government
and the state. The financing of Medicaid is a function of Kentucky’s
overall relative wealth or poverty. For every dollar of Medicaid spent,
70 cents comes from the Federal government, 30 cents comes from the
state. Medicaid is about a $3 billion program and the Federal government
provides about $2 billion.
The Federal Highway Trust
Fund is major player with the state road fund. Kentucky receives a
wide variety of Federal funds for workforce development, education,
temporary assistance for needy families, etc. Almost all state programs
or cabinets receive some Federal dollars.
EL: Please explain about how
restricted funds are allocated.
JR: The state’s fourth
major income category is funds collected from a variety of sources,
such as tuition at universities. If you go to one of our public universities
and pay tuition, it goes into a restricted fund for use by the university
that collects the money.
Other restricted funds include
revenues from state facilities (such as state parks) and licensing
fees – from real estate, banking, insurance, hair dressers, all
of our boards and commissions. In fact, most of Kentucky’s regulatory
entities are financed in part or in whole by fees generated from users
of their services.
EL: What is the
status of the budget for Fiscal Year 2003?
JR: The state
just closed out Fiscal Year 2002 – (on June 30), and we’ve
got a spending plan for ’03. As you know, the General Assembly
didn’t adopt a budget for’03 or ’04.
EL: So the spending
plan for 2003 (July 1, 2002 through June 30, 2003) authorized by Gov.
Paul Patton is the budget not approved by the General Assembly. Is the
state spending at 100 percent of the proposed budget, or just spending
for essentials?
JR: The governor’s
office recommended a budget during the regular session. The budget
was adopted by the House. A separate budget was adopted by the Senate.
The process broke down in committee over the issue of public financing
of gubernatorial elections.
 EL:
As a point of clarification, did not the governor state that if the
General Assembly passed a bill without public financing of gubernatorial
candidates, he would veto it?
JR: He may have.
At the same time, there were very strong differences of opinion between
the House and the Senate. That money for public financing was in the
House passed version, it was not in the Senate’s. The governor’s
office doesn’t get a vote. We’re not active participants
in the conference committee. It was the committee between the House
and the Senate that broke down on this issue. We had looked at the
differences between what the governor recommended, what the House
adopted, and what the Senate adopted. And from a financial perspective,
the differences were less than one percent. When the legislative process
broke down at the end of the regular session, Gov. Patton waited a
week and called a special session. The process broke down during the
special session. We did not know if the House and Senate leadership
would come together with any kind of an agreement before the start
of the 2003 Fiscal Year. So, the governor immediately began plans
to figure out what to do on July 1st.
EL: What options
were available?
JR: There is no
constitutional or statutory guidance as to what happens in this situation.
It’s never happened before in Kentucky. We did research in many
states. In most states there is some guidance – if there is not
a legislatively enacted budget, a continuation budget becomes effective.
Spending at the same level as last year until a new budget is adopted.
Another common
provision, in other states, was that only “essential” government
services be funded. Services have never been specified in Kentucky
as to what is “essential” and what is “non-essential”
in any systematic way. So, Kentucky’s options were to try to
identify essential services, to fund programs going forward at the
same level they were funded in ’02, or to work off of some version
or hybrid of the 2003 budget. Since there was so much agreement in
the base budgets between the House and the Senate, that is what the
executive branch recommended.
The governor felt
very strongly that our school teachers need a pay raise. If they had
been funded at the same rate as last year, there would not be any
new funds for that. State employees need a pay raise. It was a very
tight budget and a difficult economic time for Kentucky. It was a
lean budget in terms of funding. The governor made the decision that
in those areas where we could fund new initiatives or salary increases
for our teachers and where those things had been reviewed and accepted
by both the House and Senate, we would put together a spending plan
that incorporated those elements. So, that’s what we did.
EL: This next question
may sound simplistic. The state budget is $16 billion. Depending upon
whom you talk to in the legislature, public financing will cost between
$8 and $30 million. Considering the serious financial issues facing
Kentucky, would it not have been more practical to have taken public
finance out of the process so the budget could be finalized and the
constitutional issues regarding interim financing could be eliminated?
JR: As you know,
everybody involved in the political process has very strong views
one way or the other. One of the people who supported public financing
objected to the fact that the Senate did not raise this issue until
the 54th day of the legislative session. So through the budget process,
an effort was made to change a substantive law enacted in 1992. So
I think some of the people would argue that we need a full debate
on the law, but we need to do it the context of when we have time
and can address the issues, have hearings, get input and so forth.
That it happened so late in the session and through the budget process
– when the Senate adopted its budget – did not provide a
window of opportunity for full debate and discussion. You’re
absolutely right, the amount we recommended in the first year of the
biennium for public financing was $7 million. We did have some provision
that if the expenses appeared to be more than $7 million – based
on the number of candidates that filed, qualified, and ran in the
primaries – that the expenditure would be classified as a “necessary
government expense.” So, that means the state has got to do whatever,
even cut other budgets to come up with the money. So, when you look
at it in the context as you do, it’s $7 million of a $16 billion
total budget. The overall scheme of things the amount of money was
not that significant.
EL: The state spends
about $7,500 per Kentuckian. If those expenditures are delayed, could
that have a significant impact on Kentucky’s economy?
JR: The governor’s
objective was to continue to operate government. He did not want to
see Kentucky experience a shut down, a slow down, have the experience
that Tennessee had where there was a short period of time people could
not get driver’s licenses, rest areas were closed, and so forth.
The governor made the decision that there would be no layoffs, we
are going to continue to operate state government. People will question
our legal, constitutional, and statutory authority to operate government
without a budget approved by the General Assembly. The governor is
certain he would be challenged and that the courts ultimately will
make that decision.
EL: On January 22,
Edward Hatchett, the auditor of public accounts, advised the General
Assembly that the Kentucky General Fund’s estimated revenue for
the Fiscal Year ending June 30, 2002 would be $362.5 million less than
originally estimated by the Consensus Forecasting Group (CFG). The actual
revenue for this period was $6.560 billion, which is a $518 million
shortfall from the initial $7.078 billion CFG estimate.
JR: When we go
all the way back to the original budget estimate, the actual shortfall
for 2002 was $617 million or about 9 percent of the general fund.
EL: Kentucky’s
employment levels during 1999 and 2000 were at record highs, Kentucky’s
growth in per capita income was extremely robust; and capital gains
taxes from the stock market boom boosted taxable incomes. Kentucky tax
receipts from 1995 to 2000 increased by 25.7 percent. In lieu of these
data, 9/11, and a recession, wouldn’t forecasting a dip in the
revenue estimate seem to be appropriate?
JR: A couple of
points. It is difficult to predict two years into the future. At the
time CFG finalized its predictions, the national forecasting services
were not calling for a recession. The national forecasting services
and CFG did see a slowdown in the state economy and built that into
the forecast – but not nearly enough. There’s no other way
to describe it, other than we missed it.
As I look at other
states, I can easily count 48 others in the same boat as Kentucky.
So, nobody saw it.
EL: Kentucky’s
unemployment rate is only two tenths of one percent from where it was
a year ago.
JR: People like
to look at the unemployment rate and it’s a good statistic. The
state focuses more on employment than unemployment. So, because we
look more at employment, this was a difficult recession to see coming.
EL: The Bureau of
Labor Statistics’ June ‘02 report indicates that Kentucky
had 28,000 more jobs than one year ago.
JR: The first
thing that went was overtime. The work week was reduced some. Another
phenomenon – bonus payments were cut out. Some high-tech firms
that told us that 100 percent of an employee’s base salary could
be paid out at the end of the year as an additional bonus – if
they’ve had a good year. They weren’t paying any bonuses.
Kentucky didn’t really lose any jobs. We just lost our best paying
jobs and exchanged those for lower paying jobs in services, retail
trade and wholesale.
EL: Since tax collections
are lagging indicators and economic data for the last 12 months have
been revised downward, how concerned are you regarding the revenue estimates
for FY 2003? Is a further dip in actual general fund revenues a high
probability?
JR: Sequentially,
we have been working hard to face two issues relating to the Fiscal
Year 2002 shortfall in revenue. Once we closed the books on 2002 revenue,
the budget was $156 million out of balance (in revenues versus expenditures).
EL: Does that mean
the state had to draw the remaining balance of the rainy day fund to
end 2002 without not being in a deficit?
JR: The rainy
day fund was the biggest piece of it – $120 million.
EL: Is the rainy
day fund down to a zero balance?
JR: It’s
at zero. The second thing the state had to worry about was paying
bills in ’03. The state didn’t have a legislatively enacted
budget. We were preparing a spending plan. We were working with lawyers,
we had conversations with bond rating companies and so forth. But,
we waited as long as we could wait to see if the General Assembly
would come together and enact the budget. When it was obvious they
wouldn’t, the governor announced the spending plan.
The state’s
first payroll for the new fiscal year was July 31st. People got paid.
The lights were on. August 1st was a big milestone. Kentucky had $55
million in debt service payments due to our creditors. We made those
payments. And that is what is what prompted Moody’s to take Kentucky
off the credit watch.
 EL:
What is the plan to improve the budget forecasts?
JR: We’re
doing a complete review of our estimating process.
Kentucky is an
integral part of the international and national economy. Kentucky’s
economy is driven by what happens internationally and nationally.
So, Kentucky, like 70 percent of the states, subscribes to the National
Forecasting Service Data Resources Inc. We are dependent on national
data to run our economic models.
Estimating and
understanding national economic data is complex. If the data are off,
but you know the economy is in a boom period, it doesn’t matter
quite as much. If the economy is going down, you’re interested
in having the most reliable data you can get. Kentucky works closely
with some of the federal agencies to make sure we understand their
data.
EL: Is there political
pressure, indirect or implied, for the Consensus Forecasting Group not
to estimate less revenue than was actually received in the previous
fiscal year?
JR: CFG is a completely
independent group. Their judgement is in play. But, we’re reviewing
our whole process. We’ve had in two national experts evaluate
this and have two more coming in to look at our models. We’ve
now decided to subscribe to two national forecasting services.
EL: Kentucky recently
began promoting a tax amnesty program. Will this program accelerate
the collection of past due taxes without a penalty to the taxpayer?
JR: Kentucky had
an amnesty program in the late ‘80’s. It was very successful.
So, certainly our current plan is driven by the need for money.
EL: Corporate income
taxes for 2002 declined and you mentioned that carry forward losses
may have reduced tax revenues. Kentucky passed some recent laws that
created LLC’s that are taxed similar to S corporations. The member
either pays the taxes on LLC income or receives a tax credit for LLC
losses against personal income. Do you think that corporate income tax
will continue to decline as more businesses operate as LLC’s?
JR: Clearly we’ve
seen that trend. Kentucky has a dramatic increase in the number of
companies who’ve reorganized as LLC’s. In Kentucky, those
organizational structures are not subject to the corporate license
tax. So, there have been a number of proposals floated around that
LLC’s should be subject to the corporate license tax and that
would close the tax loophole.
EL: Actual general
fund revenue in 2002 declined 1.4 percent ($93.6 million) compared to
2001 ($6.654 billion versus $6.560 billion). What was the last time
that the state’s actual revenue declined?
JR: On a nominal
dollar, 1954. There have been some periods where revenue would have
declined if adjusted for inflation. In the early ‘80’s,
Kentucky had massive layoffs, plant closings. 50,000 jobs were lost.
But, state revenues were going up because we had such high inflation.
If inflation was 15 percent and state revenues went up five percent,
then one could argue on a real basis you had a tax decline in the
early ‘80’s. But in terms of the actual money put in the
bank, the only year was 1954.
EL: Recently released,
July, 2002 actual monthly general fund revenues compared to July, 2001
declined about $14.0 million or 3 percent. Do these data indicate that
general fund revenues for 2003 are going to be less than in 2002?
JR: You have to
look at each month and then look at what happened the month before
and the month after. There are payment timing differences. People
knew Kentucky was doing an amnesty program and may have taken advantage
of it. Last year was a record in both corporate and individual income
tax refunds. All refunds were paid by the state on a timely basis.
But we did have a large number of late filed individual income tax
refunds and returns with errors or problems.
We are still very
concerned about July tax revenues.
EL: Because of the
continuing revenue declines, do you think that the budget issue should
be a real high priority with the legislature?
JR: Absolutely.
We need a legislatively enacted budget.
EL: Well in order
to do that, will the governor have to call another special session?
JR: The governor
has said that when there is an agreement on the impasse regarding
campaign financing, he would do that.
EL: In other words
$8 to $30 million in public financing of political campaigns is holding
up finalization of a $16 billion budget. If tax revenue trends continue
to decline and the legislature is not in session, no new tax bills or
bonding can be approved. What options does the governor have to put
the budget in balance?
JR: Well, cut
programs. We have pulled every rabbit out of the hat in the last rounds
of budget adjustments to keep from making Draconian program cuts that
have occurred in other states where state employees have been laid
off, prisons in some cases closed, education cut, so forth and so
on.
EL: Will the General
Assembly pass this year’s budget before the November election?
JR: I think it
would be no sooner than November and maybe even during regular session
in January before a budget is finalized.
The governor’s
spending plan is working its way through the courts to determine what
his legal authority is. Our lawyers have told us that we probably
won’t hear anything from Judge William L. Graham, Second Division
Circuit Judge (48th), until November. I doubt the legislators want
to come to Frankfort before the November election and vote on budget
cuts or tax increases.
EL: Gov. Patton
appointed you to serve as interim president of the University of Louisville
until a new president is selected. Who will manage budget issues while
you are on loan to U of L?
JR: We’ve
got a great staff and leadership team here. They’ll be doing
the day-to-day work. The governor asked the U of L Board and they
agreed to allow me to stay involved in selected projects. So, there
will be some policy issues I’ll still focus on, but our staff
here will be responsible for daily operations.
EL: So you’ll
still be involved in the budget issues over here?
JR: Yes, I’m
expecting and hoping that the U of L Board follows through on their
commitment to find a permanent replacement ASAP, which interpret as
the start of the spring semester in January. It’s my intent to
be back in Frankfort for the regular session.
EL: President Shumaker
was paid about $500,000 a year. What’s your U of L salary going
to be?
JR: The board
hasn’t set it yet. They have a compensation committee, but I
don’t think it’s going to be…(laughs). I do not know.
U of L lost its president John Shumaker, and its provost – Carol
Garrison. And very candidly, at first my reactions about the U of
L job were – “Why would I want to do this?” It’s
high risk. I enjoy what I’m doing here. But, as I thought more
about it, I was worried that there would be a leadership void. U of
L and the Louisville community are critical to Kentucky’s higher-ed
reform. There’s a great partnership taking place between the
university and the business community. So my hope is to provide some
continuity and stability to help maintain the momentum. Those were
my reasons. They certainly were not financial.
EL: Currently, you
are a professor at U of L. Will your knowledge about U of L be a real
plus?
JR: I was scheduled
to teach a course at U of L this fall. I know some of the people.
There are a lot of constituents and a lot of issues on a college campus.
When the governor was trying to recruit me back to Kentucky, he put
together the package that resulted in me being a professor at U of
L and then, being loaned from U of L to the state. That’s been
the arrangement. So in a sense, the state is sort of loaning me back
to my employer.
EL: Does Kentucky
have activity based cost accounting and as budget director do you have
adequate cost detail or is it “big budget”?
JR: Most of it’s
big budget. Kentucky has been moving to more of what is called a “performance
based budget.” In the last budget, we did a pilot program in
four or five cabinets where we set performance bench marks and then
measured ourselves against them.
EL: Kentucky has
a two party system for the first time in a long time. Now, with two
parties, there are more political negotiations. Have there been benefits
to having a two party system?
JR: There’s
no question that Senate Republicans have wanted to ask a lot of questions
and scrutinize things. That’s very valid and important. All of
our dealings have been very professional. We understand this is a
political environment. Universities are a political environment. Everything’s
political. There are political issues that impact things. But, I’ve
got to be candid, the last nine months have been as difficult and
as stressful a period as I have been through. Because we prepared
a budget, we were in regular session, then in special session and
during all that time we were dealing with budget cuts. Then we get
to year end, and we’re trying to figure out how to balance the
’02 budget, as well as move forward with the spending plan for
’03.
Ed G. Lane is chief executive of Lane Consultants Inc. and publisher
of The Lane Report.
edlane@lanereport.com
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