Plummeting revenues, underfunded pensions and millions in court-ordered school spending led Moody’s Investors Service on Thursday to cut the state’s credit rating by a notch.
The ratings agency slightly lowered the state’s credit rating because of mounting financial pressure on the Kansas state budget, partly from massive income tax cuts that Republican Gov. Sam Brownback signed into law in 2012 and 2013.
Moody’s dropped the state from its second-highest rating of Aa1 to its third-highest rating of Aa2. Thirteen other states share the same rating as Kansas. Now 29 states have higher ratings. The last state that Moody’s downgraded was Illinois in June.
The rating cut could lead to higher interest rates on state borrowing, but leading lawmakers said Thursday they didn’t believe that would happen.
Some observers feared the downgrade heralds dire financial times after the massive income tax reductions.
“A well-respected and informed entity that looks at whether government operations are sound has just given us a lower grade,” said Bernie Koch, executive director of the Kansas Economic Progress Council, a group made up of chambers of commerce and businesses across the state. “That should be of great concern.”
The dip in the state’s credit rating comes in the wake of sharply dropping revenue figures released Wednesday. Brownback and other state leaders blamed those numbers on economic policies of the Obama administration.
Yet Missouri’s Democratic Gov. Jay Nixon vetoed a massive tax cut bill Thursday, using the rising profile of Kansas’ finances to fight back a coming override battle.
The Missouri cuts were designed partly to keep pace with Kansas’.
While Kansas is still considered a solid credit risk, the downgrade reflects the state’s diminished financial position in the context of a sluggish economic recovery.
Analysts said the Kansas tax cuts aren’t the only factor adding to state budget problems.
Moody’s also pointed to $129 million in new spending on schools in response to a state Supreme Court ruling plus $16.7 billion in unfunded pension liability. A cut in the state sales tax hasn’t helped either, it said.
“You put all of those things together, and there’s quite a bit of stress on the budget,” said Moody’s analyst Lisa Heller.
The Moody’s report came a day after new figures revealed that state revenue fell $92.8 million short of projections for April.
The new figures made a splash at the Capitol, fueling criticism that tax cuts pushed by Brownback would leave gaping holes in the budget.
But Brownback sidestepped any mention of income tax cuts in his response to the downgrade.
“This points to the importance of growing our economy, creating jobs and controlling spending,” Brownback spokeswoman Eileen Hawley said in a statement.
Hawley pointed out that Brownback inherited an underfunded retirement system when he came to office in 2011. The state, she said, has increased spending on pensions by $166 million from 2011 to 2015.
Moody’s credited the state for enacting pension reforms that will make the pension liabilities more manageable in the future.
However, Moody’s did address the risks posed by the income tax cuts, saying they will likely lead to the state spending down its reserves without offsetting measures.
Moody’s called depletion of the state’s rainy day fund a “significant credit weakness” when compared to other similarly rated states that are building back their reserves.
When Brownback introduced his budget at the beginning of this year’s legislative session, a legislative analysis showed that the state would spend down its reserves by 2016. The analysis showed that the state would need to make $213 million in cuts to balance the budget by 2017.
On Thursday, Democrats distributed another legislative staff analysis that factored in the latest revenue numbers. It showed that the state would have to cut $143.1 million as early as 2016 from a budget of about $14 billion.
Fiscal analysts at Moody’s look at a state’s ability to achieve a long-term balance between revenues and expenses without using one-time strategies for filling a budget hole. Their report noted that in two of the last three years, the state took $345 million from a highway fund to cover other expenses.
Moody’s analysts said Kansas’ ability to strike a structural balance between revenues and expenses may increasingly depend on spending cuts.
But Moody’s warned that might not be easy given the court-ordered spending on schools, keeping up with Medicaid demands and funding pensions.
Some leading lawmakers said Thursday that Moody’s downgrade should not reflect on the state’s tax policy.
“This is a wide variety of things that add up besides just a tax shortage at the moment,” said Rep. Marvin Kleeb, an Overland Park Republican who sits on the House Appropriations Committee.
Rep. Richard Carlson, chairman of the House tax committee, said he thinks the state needs to concentrate more on reducing spending. He said the state needs to let the private sector grow faster than government so it produces more money for government services.
“We have the revenue. It’s an expenditure problem in the state,” Carlson said. “If we reduced our expenditures, our bond rating would go up.”