Presented by: Jim Muschinske, Revenue Manager Commission on Government Forecasting and Accountability 703 Stratton Office Building; Springfield, Illinois 62706 Presented to: Budgeting for Results Commission FY 2012 Economic Forecast and Revenue Estimate FY 2011 Revenue Review September 7, 2011
CGFA Commission Members http://www.ilga.gov/commission/cgfa2006/home.aspx Senate Senator Jeffrey M. Schoenberg Co-Chair Senator Michael Frerichs Senator Matt Murphy Senator Suzi Schmidt Senator Dave Syverson Senator Donne Trotter Dan R. Long Executive Director Jim Muschinske Revenue Manager House of Representatives Representative Patricia R. Bellock Co-Chair Representative Kevin McCarthy Representative Elaine Nekritz Representative Raymond Poe Representative Al Riley Representative Mike Tryon Trevor J. Clatfelter Deputy Director Edward H. Boss, Jr. Chief Economist Dan Hankiewicz Pension Manager
CGFA Background & Responsibilities • Bi-Partisan, joint legislative commission, provides the General Assembly with information relevant to the Illinois economy, taxes and other sources of revenue and debt obligations of the State. • Preparation of annual revenue estimates with periodic updates; • Analysis of the fiscal impact of revenue bills; • Preparation of State Debt Impact Notes; • Periodic assessment of capital facility plans; • Annual estimates of the liabilities of the State’s group health insurance program and approval of contract renewals promulgated by the Department of Central Management Services; • Implement the provisions of the State Facility Closure Act; • Annual estimates of public pension funding requirements and preparation of pension impact notes.
CHART 1 CHANGE IN REAL GDP Fiscal Years Percent 10 5 Est. 0 -5 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 02 03 04 05 06 07 08 09 '10 '11 '12 CGFA CHANGE IN REAL GDP • As shown in Chart 1, economic activity continued to grow throughout the four quarters of FY 2011, albeit at modest pace for this stage in an economic recovery, with weakening in the latest two quarters. • This followed modest growth in each quarter of FY 2010 with the nation now completing 24 months of expansion following the longest recession in the post-WWII period.
CHART 2 CONSUMER ATTITUDES Index 130 Consumer Confidence 1985 = 100 Conference Board 110 90 70 Consumer Sentiment 1966 = 100 University of Michigan 50 30 10 Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 CGFA CONSUMER ATTITUDES • The sector, which generally accounts for two-thirds or more of total spending in the economy, has shown modest improvement. • Retail sales rose for the tenth consecutive month in April, before falling in May. As auto production improved in June following improvement in the delivery of Japanese auto parts following the severe earthquakes, sales rose modestly again in June. • As shown in Chart 2, consumer attitudes as measured by either the University of Michigan’s Consumer Sentiment Index or the Conference Board’s Consumer Confidence Index have improved from the lows reached in early in 2009. • Consumer Sentiment (1966=100), while initially showing signs of erratic improvement reached 77.5 in January, its highest rate in three years, but since has traded lower. The preliminary reading in July showed an index of 63.8 to the lowest level since early 2009. • At the same time the Conference Board Index (1985 = 100) registered a reading of 70.4 in February, its best showing since February 2008, but also softened, trading at 58.5 in June. • It is important to note their levels remain well below those seen during the first seven years of this decade.
CHART 3 U.S. NEW HOME PRICES Thousands of dollars 350 300 Average Price 250 200 150 Median Price 100 50 0 1970 75 80 85 90 95 '00 05 2011 CGFA *data are yearly average except 2011 which is May NEW HOME PRICES • One of the major factors behind the lack of confidence is the sharp decline in home prices during the recession that started at the end of 2007 and the softness that has continued through the first two years of the current recovery. • To most consumers the value of their home is the most important asset, and the sharp falloff in value, many to levels below what they owe, indeed is depressing their outlook of events. • About the best that can be said from the chart is that at least the price data appear to be leveling out so that the worst of the decline may be behind us.
CHART 4 ILLINOIS BUILDING PERMITS Single-Family Thousands 6 Seasonally-Adjusted 5 4 3 trends 2 1 0 '00 '02 '04 '06 '08 '10 '11 CGFA ILLINOIS BUILDING PERMITS • The depressed level of new home prices not only erodes confidence, but also has been a major factor in the rising level of unemployment in the construction industry. • A precursor to what may lay ahead can be found in the level of new building permits, which are issued before construction begins. • As illustrated in Chart 4, while new building permits in Illinois appear to have bottomed, they are at extremely low levels with no signs of any near-term improvement.
CHART 5 PURCHASING MANAGERS INDEX 50% = Expansion 80 75 70 65 CHICAGO 60 55 50 45 U.S. 40 35 30 25 20 Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan 00 01 02 03 04 05 06 07 08 09 '10 '11 SOURCE: Institute for Supply Management CGFA PURCHASING MANAGERS INDEX • While the consumer accounts for the majority of spending in the economy and has shown modest improvement, business spending has been gaining strength for some time. This has been helped in part by the continuing rise in corporate profits. • There has been significant improvement in both the national and Chicago rate. As Chart 5 shows, the index of manufacturing has expanded now for 20 consecutive months after 12 consecutive months of contraction that ended in mid-2009. • Unlike consumer attitudes that, while rising, remains at lower levels than earlier in the decade, manufacturing activity has traded around its high, although it weakened this summer, contributing to the soft patch the economy currently appears to be in.
CHART 6 NON-MANUFACTURING INDEX 50% = Expansion 75 70 65 60 55 50 45 40 35 30 25 . Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 SOURCE: Institute for Supply Management CGFA NON-MANUFACTURING INDEX • A growing share of business is in the non-manufacturing, or service sector. Chart 6 takes a look at this growing sector of the economy. • Economic activity in the non-manufacturing sector which had declined for 11 straight months through October 2009, steadily worked its way back to neutral, or the 50% level, by January 2010. • The index continued to expand, hitting 59.7 in February 2011, the highest level since mid 2007. Since then its strength has weakened, reaching 53.4 in June. Nevertheless, it still represents 19 months of continuous expansion.
CHART 7 ILLINOIS EXPORTS Billions of Dollars 6 5 TRENDS 4 3 2 1 . Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan 99 00 01 02 03 04 05 06 07 08 09 10 11 CGFA ILLINOIS EXPORTS • As major uplift to the Illinois economy had been its renewed growth in exports. Illinois ranks fifth in the nation in terms of exports. • As shown in Chart 7, as the worldwide recession took hold, demand for U.S. goods plunged to levels not seen since the fall of 2006. • However, with recovery now well underway exports have rebounded and are up 75% from the recent low in April 2009 and 16.5% above the previous peak reached 3 years earlier.
CHART 8 ILLINOIS EMPLOYMENT Seasonally-Adjusted 6500 6300 Household Survey 6100 5900 Establishment Survey 5700 5500 Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan 00 01 02 03 04 05 06 07 08 09 10 11 CGFA ILLINOIS EMPLOYMENT • Illinois employment, like the U.S., is also showing some gains as illustrated in Chart 8. • Payroll employment in Illinois is up a slight 2.3% from its late 2009 low and the household series, which often leads, is up 2.0% over the same time period. • Comparing Illinois to the nation, however, the more comprehensive establishment, or payroll, employment data for the nation had recovered its pre-recession level following the 2001 recession by early 2005. In contrast, Illinois never did recoup all the jobs lost during the recession before the next recession began, making the gap to reach a new high much more difficult.
CHART 9 UNEMPLOYMENT RATES Percent 12 ILLINOIS 10 8 6 UNITED STATES 4 2 Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan 00 01 02 03 04 05 06 07 08 09 10 11 CGFA UNEMPLOYMENT RATES • As shown in Chart 9, as a result of job losses during the recession, the unemployment rate rose from a low of 4.4% in early 2007 to a high of 10.1% by October 2009. • The recovery that began in mid-2009 has shown only a modest reduction in the unemployment rate some 2 years into a economic recovery and the unemployment rate remains exceptionally high. • In April, the national rate rose to 9% and again to 9.1% in May and 9.2% in June whereas the rate in Illinois dropped to 8.7% in April before rising to 8.9% in May and matching the nation by at 9.2% in June. • With economy hitting a soft patch there is little doubt that unemployment will continue to be a major concern for some time.
CHART 10 CONSUMER PRICE INDEX Change from a year ago Percent 6 CPI 4 2 CORE 0 -2 Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 CGFA CONSUME PRICE INDEX • While monetary policy is in position to stimulate the economy, there remains the potential that inflationary pressures could reemerge. Too often in the past the Federal Reserve has overstayed its easy policy stance only to have to make severe corrections later. • As shown in Chart 10, inflation concerns have been on the back burner. Even so, in June, consumer prices were 3.6% higher than a year earlier while the core rate, which excludes the volatile food and energy sectors, was up a lesser1.6%. • Even so, the Federal Reserve is unlikely to veer away from an overall stimulative policy. While the economy has been recovering for two years now it has hit a soft patch and unemployment has risen again and remains extremely high. At the same time housing has yet to recover from severe retrenchment, and many currency uncertainties both in the U.S. and abroad remain.
CHART 11 MISERY INDEX Unemployment Rate Plus Inflation Percent 13 11 9 7 5 3 Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan '03 2001 '02 '04 '05 '06 '07 '08 '09 '10 '11 MISERY INDEX • The disappointing economic data being released recently has caused the Federal Reserve to lower its forecast for both 2011 and 2012. While most forecasters would agree with the latest data revisions that project somewhat slower growth and higher unemployment, fewer would likely agree with the projected significant slowing in inflation. • In June consumer prices were 3.6 % higher than a year earlier. It has been the combination of a rising unemployment rate and higher prices that has revived the concept of the “Misery Index”. • As shown in Chart 11, the Misery Index was at a reading of 12.8 in June, with a 3.6% inflation rate and 9.2% unemployment rate. This was higher than the peak of 12.6 during the last recession and in a range of 6-7 prior to the last recession.
CHART 12 CHANGE IN REAL GDP Fiscal Years Percent 10 5 0 -5 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 06 07 08 09 10 11 12 13 actual baseline pessimistic optimistic CGFA CHANGE IN REAL GDP • Chart 12 shows three alternative forecasts of the U.S. economy in the years FY 2011 through FY 2013. The BASELINE shows the most likely solution with a 55% chance of occurrence. This forecast has the economy continuing to rise but only at a modest pace. • A more OPTIMISTIC scenario, with a 20% chance of happening, shows stronger gains in FY 2012 and continuing through FY 2013. (A so-called V shaped recovery). • Finally a PESSIMISTIC alternative is provided, with a 25% chance, whereby the economy slows and briefly turns negative again by the first quarter of FY 2012, followed by modest growth in FY 2013. (A so-called W shaped recovery).
CHART 15 STATE TAX RECEIPTS SURVEY (Index based on inflow of income and sales taxes) 80 60 40 20 0 Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan 98 99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 SOURCE: ISI (International Strategy & Investment) CGFA CHART 15: STATE TAX RECEIPTS SURVEY • As shown in Chart 15, State revenues have improved sharply in recent months following an all time low Index number of 9 reached in July 2009. • The Index is based upon data from 16 states, including Illinois, that have diverse geographic and population characteristics. • In April the Index reached 53.5, the highest level since September 2007, the peak just prior to the last recession. Even so, these levels are still well below those reached at this stage of expansion following the previous recession. Moreover, the Index leveled out in June at 55.6, virtually unchanged from May’s level of 55.7.
REVIEW OF FY 2011 REVENUES • For the fiscal year, base revenues grew $3.398 billion. Obviously, the tax changes enacted halfway through the fiscal year played the key role in the increase, as did the tax amnesty program which occurred in the fall. The magnitude of the effect of those items often served to mask the underlying improvements in the economic sources that was happening simultaneously with the tax changes.
REVIEW OF FY 2011 REVENUE ASSUMPTIONS The accompanying table illustrates that total general funds revenues in FY 2011 grew $1.903 billion over the initial assumptions used to craft the enacted FY 2011 budget approximately one year ago. Obviously, the changes made in the income tax rates mid-fiscal year comprise the bulk of the differences. Those gains were able to offset significant variance in federal sources expected in FY 2011. However, some of that shortage has been made up with non-general funds reimbursable spending and related receipts.
REVIEW OF MOST RECENT REVENUE ESTIMATES The table below demonstrates how the February/March estimates of CGFA and GOMB performed relative to actuals. As shown, actual base revenues ended up being only $7 million higher than the CGFA’s March estimate, or a difference of only .02 percent. Net income taxes fell just $35 million short of expectations, a feat made all the more impressive given the magnitude of tax changes made midyear. Sale taxes finished $137 million higher than expected, while other receipts also overachieved by $61 million. However, all news wasn’t positive, as overall transfers fell short of estimates by $36 million, and federal sources were off by $120 million. Overall, actual FY 2011 revenues performed remarkably similar to CGFA expectations. The lack of any significant variance reinforces that views presented in the March estimate remained largely relevant. In comparison, actual revenues fell $125 million short of GOMB estimates presented in February. Net income taxes failed to reach expectations by a combined $275 million. However, sales tax revenues exceeded GOMB estimates by $319 million. Other tax receipts overachieved by $77 million, while overall transfers fell short of estimates by $126 million. GOMB was expecting $120 more in federal sources than what eventually occurred.
FY 2012 REVENUE RELATED BUDGET HIGHLIGHTS In early March, the House passed HR 110 which essentially established the estimate of general revenues that was to be utilized in crafting the spending plan for FY 2012. As shown, HR 110 which was developed by the House Revenue and Finance Committee, estimates FY 2012 revenues to be $33.173 billion. That figure represents an increase of $2.685 billion over FY 2011, primarily reflecting growth associated with the annualizing of the January 2011 income tax increase. The accompanying table compares CGFA’s July 2011 estimate and that assumed under HR 110. As shown, CGFA estimates that FY 2012 revenues will exceed HR 110 projections by $764 million. CGFA’s projections of the economically related sources are measurably higher due to the incorporation of actual FY 2011 receipts into the estimate and slightly updated growth expectations. However, CGFA’s estimate of federal sources is significantly lower, reflecting the final reimbursable spending limits which were reduced by the General Assembly during the appropriation process and again by the Governor via amendatory veto. It should be noted that the House also approved HR 158 which states that any revenues in excess of those adopted under HR110, should be applied towards the payment of overdue bills.
FY 2012 CGFA and GOMB FORECASTS On August 10th, GOMB published a FY 2012 Budget Review document that contained updated revenue figures. The accompanying table illustrates the differences between it and CGFA’s July forecast. As shown, CGFA’s estimate is $813 million higher than that of GOMB, with the bulk of the differences being found in personal income tax and sales tax. It is likely that the difference in personal income tax stem from CGFA’s view that due to a natural implementation delay of the January 2011 tax increase, FY 2012 should benefit by approximately $500 million in higher final payments as a result of that timing. This view is reinforced by the performance of CGFA’s FY 2011 estimate which was only 0.7% less than actuals [compared with GOMB’s FY’11 estimate that was 2.1% higher than actuals]. In terms of sales taxes, CGFA’s higher estimate is more a function of what appears to be a dated GOMB estimate. Sales tax did surprisingly well during the second half of FY’11. In fact, actuals surpassed CGFA’s estimate by 2%, and the GOMB’s estimate by 4.7%. While the impact of tax amnesty will serve to significantly lower overall sales tax growth in FY’12, it doesn’t appear that the August GOMB estimate incorporated FY’11 actuals. In fact, to reach the GOMB estimate, receipts would have to fall 3.3% for the year. Further, since sales tax has continued to perform well early this fiscal year, sales tax receipts would have to fall 6.1% over the remaining ten months. Even factoring in the impact of last year’s amnesty program, that rate of decline seems unlikely.
FY 2012 REVENUE ASSUMPTION Full-year of Tax Increase Enough to Offset Falloff in Federal Sources Economic Sources While a full year of the higher personal income tax rate will significantly boost receipts, so too will a timing element valued at over $500 million related to the mid-year implementation of the new rate. Those items, combined with a modest base growth estimate of approximately 2.1%, gross personal income tax is estimated to grow $4.696 billion or $4.285 billion, net of refunds. In the case of corporate income tax, a full year of the higher tax rate as well as suspension of the net operating loss deduction coupled with base growth expected to be over 7%, is expected to result in gross receipting rising $597 million or $520 million, net of refunds. It should be noted that the estimates of personal and corporate income tax have been decreased a net $600 million [approximately 46% personal and 54% corporate] due to federal depreciation provisions that the State elected not to decouple from. It should be noted that the impact of last year’s tax amnesty program has also been incorporated into the estimates of income tax. Base sale taxes, after experiencing higher than expected growth in FY 2011, is expected to return to more modest levels of approximately 2.5%. However, the accelerated effects of the FY 2011 tax amnesty program will result in sales tax only growing $7 million in FY 2012. Transfers Overall transfers are expected to fall a net $344 million. While a gain is expected from Lottery and riverboat related transfers, a significant drop off in other transfers due to last year’s $496 million of interfund borrowing will cause a significant year over year decline. Federal Sources As mentioned earlier, reimbursable spending was a focus of the General Assembly and the Governor during the appropriation process. While provider rates have not yet been changed, the decision to extend the payment cycle essentially translates into less reimbursable spending and subsequent federal source receipts. Couple the lower spending with a return to a lower match rate on what spending does take place, and federal sources are expected to fall $1.036 billion from last year’s levels.
HIGHLIGHTS OF 96-1496 (INCOME TAX INCREASE) In January 2011, P.A. 96-1496 was signed into law creating the first significant revenue-producing enactment in many years. Highlights of the new public act are as follows: • Increase Individual Income Tax Rate. Increases the personal income tax rate from 3% to 5% in tax year 2011; to 3.75% in tax year 2015; and, to 3.25% in tax year 2025. • Increase Corporate Income Tax Rate. Increases the corporate income tax rate from 4.8% to 7% in tax year 2011; to 5.25% in tax year 2015; and, to 4.8% in tax year 2025. • Reinstates Estate Tax. There was no federal or State estate tax during calendar year 2010. P.A. 96-1496 reinstates the Illinois estate tax for calendar 2011 and thereafter. The Illinois estate tax exempts the first $2 million of an estate, which is less than the current $5 million federal exemption. • Temporarily Eliminate Net Operating Loss Deduction. In the case of a corporation (other than a Subchapter S corporation), P.A. 96-1496 provides that no carryover deduction shall be allowed for tax years 2011, 2012, and 2013; provided that, for purposes of determining the taxable years to which a net loss may be carried, no taxable year for which a deduction is disallowed shall be counted.