Washington State is faring better than Washington D.C. when it comes to governmental credit rating. While national credit rating firms have put the U.S. on their “watch” list for possible downgrade, Washington State has been given a “stable” rating for its response to balancing the state’s budget. That said, clouds remain on the horizon that could impact our future credit rating.

Here are the July 2011 reports for the state from Moody’s and Standard and Poor’s.

Moody’s Outlook:

“Washington’s rating outlook is stable reflecting Moody’s expectation that the state’s finances will remain well-managed despite its recent sizeable budget shortfalls and uncertainty surrounding the timing and strength of the economic recovery which could pose additional budget challenges. Given the substantial use of one-time actions to balance budget gaps thus far, Washington’s reserve levels will likely remain slim over the near term. In addition, out year structural gaps will likely be challenging to resolve.

Economic concentration in some industries that are historically volatile poses longer-term credit risk. However, the state demonstrated impressive financial flexibility through the 2001 recession as it accommodated economic and revenue swings and has shown a willingness to curtail spending during this economic cycle.

What Could Make The Rating Go Up

*Sustained trend of structural budget balance, plus restoration and maintenance of strong reserve levels.

*Economic expansion and improved industry diversification.

*Reduction of debt ratios to levels closer to Moody’s 50-state medians.

What Could Make The Rating Go Down

*Deeper and longer recession or muted recovery that restrains consumer confidence, leading to prolonged revenue weakness and employment erosion.

*Protracted structural budget imbalance.

*Increased reliance on one-time budget solutions.

*Deterioration of the state’s cash position.”

Standard and Poor’s Outlook:

“The ratings reflect our view of the state’s:

*Relatively well-educated workforce and good income indicators;

*Sales tax-based revenue structure that exhibits sensitivity to economic cycles, but to a lesser degree than those of states that rely primarily on personal and corporate income taxes;

*Strong financial policies and practices, including an automatic funding mechanism for its budget reserve; and

*Moderately high per capita debt burden and well-funded pension plans . . .

Washington’s $31.7 billion two-year budget, signed by Governor Chris Gregoire on June 15, 2011, addresses what had been a projected $4.9 billion deficit by making $4.5 billion in program reductions. The balance of budget solutions comes from fund transfers and from using the state’s beginning balance left from the prior biennium.

Although the legislature provided funding for a $723 million reserve through fiscal 2013, the budget reserve at the biennium ending in June 2013 is now projected to be $163 million, low in our view. The change is due to the recent downward revision to the revenue forecast for the biennium ending in 2013. By agreeing to a budget package that resolves the state’s anticipated deficit largely with recurring measures, the state has helped preserve its credit strength in our view . . .

The stable outlook reflects our view that the state’s financial management is strong, as demonstrated by its continued willingness to make timely and proactive budget amendments as it deems necessary to maintain budgetary balance. The state’s automatic budget stabilization fund deposits serve its credit well when the economy — and revenues — take a negative turn. Pending voter approval, the budget stabilization funding mechanism could become stronger, which would likely benefit the state’s credit quality. At present, the state’s reserves are low despite its practice of making regular reserve contributions — a reflection of the severity and duration of the recent recession.

The low reserves limit the state’s rating from moving upward and, in fact, render its rating vulnerable to downward movement if revenues deteriorate further without very timely corrective budget action.”

It is encouraging to see the state’s budget discipline this session be acknowledged and rewarded by the national credit rating firms.

One of the major positive developments this year was at the time of its adoption, the 2011-13 budget was the first budget since 1997 that spent less than forecasted revenue.

It is important to note lawmakers accomplished this “Budgeting 101” feat of spending within the revenue forecast without raising general taxes though the budget does rely on $517 million in fee increases. The vast majority of these fee increases are for higher education tuition ($369 million).

As noted in the downside risk for our credit rating, however, lawmakers did not leave a big enough reserve which became apparent the day after the budget was signed by the Governor when most of the ending fund balance was wiped out by the June revenue forecast – leaving only $163 million in total reserves for 2011-13 or less than 0.5% of spending (prior to the forecast there was $723 million in total reserves or 2.3% of spending). This scant remaining reserve increases the possibility of a special session being necessary later this year should the economic outlook worsen.

This is one of the reasons why going forward the Legislature should consider adopting a structural requirement that lawmakers set aside at least a 5% reserve (not counting constitutional rainy-day account) when adopting the initial biennial budget (for a $32 billion budget this would be reserves of around $1.6 billion versus the $723 million initially set aside).

By building in adequate savings from the start of the budget cycle, the likelihood of being able to weather the economic ups and downs during a biennium without needing to make spending reductions dramatically improves.


[Reprinted from the Washington Policy Center blog; photo credit: flickr]