Long-Term Budget Forecast

The Patrick-Murray Administration is the first Administration in Massachusetts to establish a long-term planning policy to ensure that the state budget is consistent with the principle of fiscal sustainability.  The FY 2013 budget achieves fiscal sustainability based on an evaluation of structural balance as defined by the long-term planning policy.  Structural balance is achieved when budgetary spending is based on sustainable levels of revenue and does not include excess spending that would result in a structural deficit.  The policy benchmark to evaluate structural balance compares the cyclical shortfall in tax revenue that is a result of the economy operating under capacity to the use of one time resources included in the budget to offset this shortfall.  The FY 2013 budget is in structural balance based on this benchmark because the proposed use of $541 M in one time resources is significantly lower than the estimated $1.025 B cyclical shortfall. 

This policy benchmark is based on a framework for long-term tax revenue forecasting, developed by the Executive Office of Administration and Finance (A&F) in collaboration with the state’s Office of Tax Policy Analysis, using revenue projections provided by outside economists.  The forecast is also used to evaluate other policy benchmarks based on best practices recommended by the Government Finance Officers Association (GFOA) and accounting standards being proposed by the Government Accounting Standards Board (GASB). These policies are described in more detail in the FY 2013 budget brief on financial reforms and the Commonwealth’s long-term planning policy document which is posted on www.mass.gov/anf.

Measuring Structural Balance

The FY 2013 budget achieves structural balance based on an estimated $1.025 B cyclical shortfall and the use of $541 M in one time resources.  The cyclical shortfall reflects the difference between the FY 2013 consensus revenue forecast and the amount of revenue that the Commonwealth would generate if the economy were at (but not over) full capacity, as represented by the revenue trend line in Figure 1.  The use of one time resources to address a cyclical shortfall is fiscally prudent based on the policy benchmark summarized below.  It is critical, however, that when the economy has recovered to the point that tax revenues exceed the revenue trend line, such excess revenues are deposited in the Stabilization Fund and not relied on to support recurring budgetary costs.  These benchmarks are designed to account for the inherent uncertainty in long-term forecasting and ensure that there are sufficient stabilization fund balances available in the future.

The $541 M limitation on the use of one time resources provides a significant margin of safety in comparison to the cyclical shortfall. Further, a $300 M limitation on the use of rainy day funds (net of deposits related to capital gains) will maintain over $1 B in stabilization fund balances at the end of FY 2013.  The Commonwealth currently has one of the 3 highest stabilization fund balances in the country and the projection for year-end FY 2013 will ensure that there are sufficient resources to support the balance of the economic recovery and to provide protection in the event of another economic slowdown.  These benchmarks, as well as the current limitation on the use of capital gains revenue for budgeting purposes, and other policies to prevent over-spending when the economy is above capacity, are described in further detail in the Long Term Planning Policy document.

Figure 1.

This chart shows tax revenue trend line as well as the actual and forecasted tax revenues for fiscal years 2003 through 2016.  A decrease in the trend-line can be seen between 2008 and 2009.

Long-Term Revenue Forecast Methodology

The long-term tax revenue forecast used to estimate the cyclical shortfall is developed in three steps.  The foundation for the analysis is the 10 year tax revenue forecast developed by outside economists for the FY 2012 - FY 2021 time period.  Second, these forecasts include an estimate of the long-run “steady-state” tax revenue growth rate, which reflects the level of tax revenue growth that may be expected in the future when the economy is at full capacity.  The third step is to develop an imputed revenue-trend line which is based on the FY 2021 tax revenue estimate for each forecast, discounted for the steady-state rate of revenue growth. 

A summary of the external forecasts, the Administration’s estimates for long-term tax revenue growth, key assumptions and calculations are reflected in Table 1 below.  These results show strong revenue growth of 6% annually during a projected economic recovery between FY 2014 – FY 2016, a steady state growth estimate of 4.4% applied to the period between FY 2017 – FY 2021, and a resulting growth rate of 4.9% during the full forecast period.  The cyclical shortfall reflects the difference between the FY 2013 consensus tax revenue estimate of $21.950 B and $22.975 B, which is the FY 2013 estimate associated with the revenue trend-line calculated using the formula described above and noted in Table 1.  This long-term tax revenue forecast is a central component of the long-term planning policy and incorporates significant improvements in methodology relative to the projections used in the FY 2012 budget development.

Commonwealth of Massachusetts
Long-Term Tax Revenue Forecast Summary
FY 2012 - FY 2021
(dollars in millions)
  External Forecasts A&F
  Low Median High
Key Data Points (1)
FY16 Tax Revenue Forecast $25,681 $26,281 $27,297 $26,143
FY21 Tax Revenue Forecast $31,126 $32,405 $33,137 $32,423
Compounded Annual Growth Rates (CAGR) (1)
FY12-FY21 4.5% 4.9% 5.2% 4.9%
FY14-FY16 (Recovery) 5.4% 6.2% 7.5% 6.0%
Long-Run Steady-State 4.0% 4.4% 4.5% 4.4%
Calculation of Estimated Cyclical Shortfall
A) FY13 Trend (2) $22,763 $22,900 $23,282 $22,975
B) FY13 Consensus Revenue $21,950 $21,950 $21,950 $21,950
C) FY13 Estimated Cyclical Shortfall (A-B) -$813 -$950 -$1,332 -$1,025
MEMO: FY 2012 Cyclical Shortfall       $996
(1) Growth calculations use FY 2012 and FY 2013 consensus tax revenue (see below). Any variance between consensus figures and individual forecaster estimates are assumed to be timing differences that are resolved in FY 2014 -FY 2015
FY12 Consensus Revenue: 21,010
FY13 Consensus Revenue: 21,950
(2) FY13 Trend Tax Revenue = (FY21 Tax Revenue Forecast)/(1+4.4%)8
(3) Assumed inflation for FY14-21: 2.30%


Role in the Long-Term Planning Framework

The long-term tax revenue forecast also plays a central role in developing other policy benchmarks that are included in the Commonwealth’s Long-Term Planning Policy.  The projections for long-term growth in tax revenue and the Massachusetts economy are used to formulate policy benchmarks for the sustainable rate of growth in total spending and health care spending in the budget.  The projected rate of growth for Massachusetts gross state product, which is inherent in the tax revenue forecast, is used to evaluate projected changes in the level of long-term liabilities as a percentage of the state economy over time.  The alignment of these policy benchmarks and the best practices for long-term planning prescribed by GFOA and GASB are described in more detail in the complete Long-Term Planning Policy document, which will be posted on www.mass.gov/anf

Long-Term Planning and Annual Budget Development

For the first time beginning in FY 2012, A&F budget staff consulted the long-term planning model to establish parameters for agency and program cost growth based on projected annual revenues over medium and long term periods. These parameters were used to inform decision-making related to allowable hiring and related program expenditures, as well as served to help A&F develop funding targets for FY 2013 to ensure that state spending ultimately could be sustained by available resources.