Fiscal cliff stalemate spurs anxiety in states

JEFFERSON CITY, Mo. -- A plunge over the federal "fiscal cliff" may sound like a terrifying risk for many state officials anxiously watching as Washington struggles to avert automatic tax hikes and spending cuts set to start with the new year. Yet their greatest angst may stem not from the potential loss of billions of dollars, but the confusion surrounding it all.

The longer the White House and Congress remain at odds, the more difficult it becomes for governors and lawmakers who are trying to piece together their own budgets. Many states depend on federal grants to help finance education, environmental and community programs that are on the chopping block. Their economies are powered by military bases and defense contractors that could get whacked. And their state income tax revenue could rise or fall as a direct result of federal tax hikes.

All of that is to say that states have a lot riding on the strained negotiations between national Democrats and Republicans over some way of raising revenue and reducing spending that would avoid a more drastic deficit-reduction plan, known as the "fiscal cliff" because it could send the country back into an economic recession.

"From a general economic standpoint, the sooner they could do something the better," said Missouri budget director Linda Luebbering.

Even if there is no agreement in Washington by January, a deal still could be struck later to lessen the effect of the automatic spending cuts and tax hikes. But some states are bracing for the most ominous of outcomes.

If nothing is done, states stand to lose $7.5 billion in federal funding in 2013 for 161 grant programs subject to automatic spending cuts, according to the Federal Funds Information for States, a Washington-based organization that tracks the effects of policy decisions on states. The biggest of those cuts could come to federal aid for schools that teach large numbers of low-income students. Funding for special education, early childhood programs and food subsidies for women and children also could take sizable cuts.

If nothing is done, state economies could get jolted by an automatic $33.6 billion of spending cuts for defense contracting and military wages -- hitting especially hard in places such as Virginia, California and Texas, according to the FFIS report.

If nothing is done, state budgets also would feel the ramifications of federal tax increases, though not necessarily in a negative way. Because of how their tax codes are linked to federal regulations, more than half the states could see an increase in state income tax collections if cuts are made to federal income tax deductions and credits.

But that potential boost in state revenue could be wiped out if the plunge over the fiscal cliff were to result in another recession, said Ingrid Schroeder, a research director at the Pew Center on the States. Rising unemployment could mean more people qualifying for Medicaid and other government services, costing states additional money.

This past week, bipartisan groups of governors and state lawmakers met with President Barack Obama to urge a solution that doesn't pass the buck to local governments.

"Don't make the states pay the lion's share of whatever this medicine is that we've all got to swallow," said Arkansas Gov. Mike Beebe.

As governors pressed for resolution, state financial directors churned out dire predictions.

New York Comptroller Thomas DiNapoli warned that state and local governments may have to consider additional tax increases to counter a projected $5 billion reduction in federal funding over nine years. The burden would fall on some residents who "are literally digging out from [superstorm] Sandy's devastation," he said.

A report prepared for the Texas Senate estimated that nearly 4,000 jobs could be lost as a result of a projected $565 million cut in federal funds for child care, job training, cancer and AIDS screenings and other services affecting nearly 2 million Texas residents.

Oklahoma Gov. Mary Fallin said the state could lose as many as 8,000 jobs in the aerospace and defense industries, and Minnesota state economist Tom Stinson forecast "ultimate gloom" under a fiscal-cliff induced downturn that he said could cost 115,000 jobs in 2013-2014 and hundreds of millions of dollars of lost state tax revenue.

In California, letters have been sent to 360,000 jobless residents warning that a federally funded extension of their benefits could expire.

Even through the federal spending cuts and tax hikes have yet to kick in, some state officials believe they already are suffering the effects. Massachusetts Gov. Deval Patrick ordered spending cuts this past week to help close a projected $540 million budget hole that he blamed largely on the federal stalemate. Businesses are reluctant to make capital investments without knowing what will happen, he said.

"By all accounts, that uncertainty and the resulting slowdown in economic growth is the direct cause of our budget challenges," Patrick said.

In many states, confusion reigned. Governors often must present a budget to legislators early in 2013. That means their financial experts are working now on estimates of how much tax revenue they'll receive and how much federal funding they can rely upon. The ongoing negotiations in Washington are forcing some to leave question marks in their calculations.

"States have already had to make really tough budget decisions over the last couple of years," said Schroeder, of the Pew Center. "This uncertainty about exactly what their revenue is going to be makes an already difficult process that much more difficult."

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Associated Press writers Chuck Bartels in Little Rock, Ark; Thomas Beaumont in Des Moines, Iowa; Patrick Condon in St. Paul, Minn.; Michael Gormley in Albany, N.Y.; Carla Johnson in Chicago; Judy Lin in Sacramento, Calif.; Bob Salsberg in Boston; Tim Talley in Oklahoma City; and Will Weissert in Austin, Texas.