Nine months into the coronavirus pandemic, the State of Texas has weathered the economic recession without dipping into a $10 billion ‘rainy day’ fund that was created to close budget gaps in a downturn.
In order to spend out of the reserve fund, the Texas Legislature would need to be called into a special session by the Texas governor and pass a supplemental budget.
Legislative leaders have expressed little appetite for such a special session, instead ordering belt-tightening at state agencies and otherwise sticking to the regular two-year budget process, with the next regular legislative session starting in January 2021.
The state’s Economic Stabilization Fund, also called the ‘rainy day fund,’ depends on taxes on oil and gas production. If the state were to spend heavily out of the fund, it could take years to replenish it, and the recovery would depend on oil prices.
Earlier this year, plummeting demand for oil, coupled with oversupply, caused Texas crude oil prices to drop as low as $11 per barrel, a level that is generally unprofitable for producers. Prices have since recovered to more than $40 per barrel.
Lower energy prices led to a 16.9% drop in oil production tax revenue and a 45.1% drop in natural gas production revenue in the fiscal year that ended August 31, 2020. That resulted in lower transfers to the State Highway Fund and Economic Stabilization Fund, which each get a 50/50 share of oil and gas taxes.
The state comptroller announced Tuesday that he had transfer $2.27 billion to the rainy day fund, compared to $3.33 billion transferred last year—a drop of about $1 billion.
Still, each fund received more than $1.13 billion, bringing the reserve fund balance to $10.7 billion, not accounting for currently outstanding spending authority of $1.86 billion. At this time last year, the balance was about $11.45 billion, with $3.74 billion of outstanding spending authority.
In other words, the rainy day fund has fallen just 6.5% over the course of a year, and not because of emergency spending, but because of lower tax receipts coupled with existing pre-pandemic spending authorizations.
State Finances Hold Steady
The economic downturn has pressured state finances, but not drastically. Texas had gone into the pandemic forecasting a $2.89 billion budget surplus. After the spring lockdowns, Comptroller Glenn Hegar forecast that the state would end its current two-year budget cycle in August 2021 with a deficit of $4.58 billion.
That was a big change from pre-pandemic expectations, but still was only 3.85% of the $118.86 biennial appropriation for 2020-2021.
Since Hegar’s July forecast, state agencies have cut spending by about 5% and tax collections haven’t been as bad as feared. The state wrapped up its 2020 fiscal year August 31 with revenues “slightly ahead of our projections,” Hegar stated in September.
State revenue for FY 2020 actually topped FY 2019 by 10.7%, primarily due to big increases in federal funding for pandemic-related assistance.
Sales tax revenues were down only 0.2% year-on-year, helped by a boom in online shopping that partially offset retail shutdowns in the spring. A key factor boosting tax collections this year was a 2018 U.S. Supreme Court ruling, South Dakota v. Wayfair, which allowed Texas to tax sales by out-of-state internet retailers for the first time.
Tapping the Rainy Day Fund
While the balance of the rainy day fund stands currently at $10.7 billion, the comptroller’s office noted in today’s news release, “The balance in the ESF [Economic Stabilization Fund] will change as agencies spend down (their) remaining appropriation authority” of $1.86 billion.
That means the state should still be sitting on a minimum of $8.8 billion in the rainy day fund by August 31, 2021, even if all of the outstanding spending authority is used.
The fund would then be topped off using new oil tax revenues, likely bringing the balance back to above $10 billion—assuming that oil tax revenues stay steady or increase from this year.
One way that could change would be for lawmakers to pass a supplemental budget in the spring to close the budget gap for the current fiscal year.
However, the Texas Constitution limits how funding from the rainy day fund may be used. During a regular legislative session, the legislature may appropriate money out of the rainy day fund “only for a purpose for which an appropriation from general revenue was made in a preceding legislative session of the same legislature.”
In other words, it can be used to pay for already planned governmental expenses. The emergency appropriation must be approved by a three-fifths vote, and it may not exceed the budget deficit. That prevents the legislature from using the rainy day fund to embark on a Washington-style economic aid package that dwarfs previous budgets.
With a two-thirds vote of each chamber, legislators can override this restriction and dedicate funds from the Economic Stabilization Fund “at any time and for any purpose.”
At its peak in 2018, the rainy day fund was $12.48 billion, with the bulk of it kept in cash or low-yielding short-term investments like Treasury bonds. Lawmakers worried about what to do with the money, for fear that inflation could eat into the fund’s value.
Hegar stated in Tuesday’s news release, “the importance of maintaining a healthy Rainy Day Fund to help weather unforeseen economic downturns has never been more clear than it has been in recent months.”
