State Budgets or Busts?
Three big funding challenges strain states: K-12 education, Medicaid, and pensions

Winter, 2008, Volume 30, Number 1

R. Eden Martin of the Commercial Club of Chicago discusses Illinois’ unfunded obligations

States have barely emerged from their fiscal recovery of the early 2000s, yet it looks like another budgetary crisis might already loom on the horizon. In Illinois alone, the state’s debt has been estimated at more than $100 billion by the Civic Committee of the Commercial Club of Chicago.

Any proposals for a fix must address three big pieces of state budgets: funding for elementary and secondary education, Medicaid, and state pension liabilities. At a June 6 IPR policy briefing, three academic experts each took on one of those items, and a representative of the business community offered concluding remarks.

Funding for Schools
While state responsibility for funding elementary and secondary education will continue to grow, IPR Faculty Fellow Therese McGuire said that it has limits. States already increased their funding for education substantially in recent decades and now shoulder about half the cost. During the same time, Medicaid has claimed a larger share of state budgets, and it will do so even more in the future.

What states can do, however, is “target resources where they’re most needed,” said McGuire, ConAgra Foods Research Professor in Strategic Management at Kellogg. Supporting this approach, court decisions in cases that challenge school funding have shifted from a standard of equity to one of adequacy. States with so-called “foundation aid” programs can target funds to districts that are most challenged to finance an adequate education and that require additional classroom resources.

Although Illinois has a foundation aid program, “we’re not funding it at the level we should,” McGuire said. On the plus side in Illinois, the state aid program reduces the disparities across districts by bringing the bottom up, and it recognizes that districts with higher concentrations of poor students need more resources per pupil.

	David Merriman and Sheila Weinberg of the Institute for Truth in Accounting talk about tax policy in Illinois.

Sharing Medicaid Costs
As for Medicaid, the social welfare program that eats the largest proportion of states’ budgets, David Merriman, an economist at the University of Illinois at Chicago, noted that “formidable budgetary challenges loom” because the federal government is pressuring states to pick up more of the program’s costs.

The federal government’s role in funding Medicaid has increased since 1960 when the burden was shared about equally between the states and Washington. If the federal government were to change the rules on practices where it suspects abuses, such as intergovernmental transfer and upper-payment limits and provider assessments, “suddenly there would be a big hole in [states’] budgets,” Merriman said.

Merriman noted that Illinois spending on Medicaid has not increased substantially in recent years and is less than the national average, but the state still faces challenges in financing Medicaid.

Solving Pension Funding Crisis
State pension funding is a major problem in Illinois but does not have to be a looming catastrophe, said J. Fred Giertz, professor of economics at the University of Illinois at Urbana-Champaign. “The problem is manageable, and it is one of will rather than of capacity,” Giertz said. “Illinois has a lot of capacity but not a lot of will to deal with these issues.”

Underfunding of state pension systems is not unique to Illinois, Giertz said, but this state is “egregious.” Rather than funding the pension programs adequately, politicians divert revenues to current programs, leaving the problem for those who will come after them in office.

“They’ve underfunded the pension programs because they haven’t been willing to step up to pay the full cost of government services,” Giertz said. “The problem is not that pensions are out of line but that state spending is out of line compared with our revenue. Pensions are in fact something we have to deal with, but we have to deal with them within the broader budget problem.”

Commercial Club Recommendations
In closing remarks, R. Eden Martin, president of the Civic Committee of the Commercial Club of Chicago, discussed the committee’s recent report on Illinois state finance. “Illinois incurs pension costs and healthcare obligations that are not reflected in the current fiscal-year budget,” Martin said.

The December 2006 report, “Facing Facts: A Report of the Civic Committee Task Force on Illinois State Finance,” recommended cutting expenses, reforming problematic programs, and increasing taxes to pay for the obligations the state has already incurred—rather than just shifting them forward to future taxpayers. But unfortunately, “There isn’t a chance that will happen,” Martin concluded. “It’s easier to put the problem off to the future when it’s some other governor’s or some other legislator’s problem.”

Please go to www.northwestern.edu/ipr/events/briefingJune07.html to view the presentations.