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April 22nd, 2009 - Mickey Hepner

So much for being recession-proof

Mickey Hepner, Director of UCO Policy Institute

While one year ago, it looked as if Oklahoma might avoid the fallout from a national recession, the last few months have reminded us we are not immune.

The U.S. Bureau of Labor Statistics reports that the state's unemployment rate has risen every month since February 2008. The Philadelphia Federal Reserve's index of economic activity for Oklahoma has declined for four straight months and now sits at its lowest level since December 2007. Finally, State Treasurer Scott Meacham reported recently that state tax revenues have declined for two straight months compared to a year ago, including a whopping 21.6% decline in February. Yes, the recession is here.

What is particularly troubling is not the reminder that Oklahoma, like every place, is susceptible to economic downturns. After all, no economic region is truly recession-proof. Recessions are an inevitable part of the business cycle - economies expand, reach a peak, contract, reach a trough, and then begin to expand anew. Anyone who even vaguely remembers the 1980s (or even earlier this decade) knows that Oklahoma follows this pattern, too. No, what is particularly troubling is that our state government was so unprepared for this event.

Generally, state tax revenues follow the business cycle. During economic expansions, rising incomes lead to higher state tax revenues, while during contractions, falling incomes generate the opposite result. Unfortunately, this means that government tends to grow too quickly during expansions, and shrink too quickly during contractions. This pattern is problematic for two reasons. First, too many resources are directed to the government sector during expansionary periods, which tends to slow economic growth. Second, during contractions, state government is forced to reduce government spending and even lay off workers, both of which tend to exacerbate the recession.

Ideally then, Oklahoma's state government would prepare for those bad times - and the falling revenues that result - by saving money during the good times. This approach keeps government from growing so quickly during expansions, yet provides stable funding for important government services during contractions. Of course, this is the rationale for the state's Rainy Day Fund. But the current $600 million balance of the fund is woefully inadequate.

The Oklahoma Policy Institute, a nonpartisan public policy organization that researches state budget issues, estimates that the last recession - by all accounts, a mild downturn - generated a cumulative $1.8 billion state revenue shortfall from FY02-FY04. In other words, a state Rainy Day Fund of $1.8 billion would have been needed to keep government spending constant at FY01 levels. Considering that the current recession is shaping up to be far more severe, it is likely that the cumulative revenue shortfall over the next few years will far surpass the $1.8 billion total. Unfortunately, the fund currently holds only $600 million - far short to avoid large cuts in government services.

It did not have to be this way. Even though the state Constitution limits the size of the Rainy Day Fund, the Legislature could have helped amend the Constitution. During the last few years, the Oklahoma Legislature failed to approve Constitutional amendments that would raise the limit on the state's Rainy Day Fund, choosing instead to approve large permanent tax cuts and large spending increases. Instead of helping prepare for the problems of today, legislative actions exacerbated them. While it is too late to prepare for this downturn, hopefully we can learn our lesson so our government will be prepared for the next one.

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