Legislators seeking to ease state budget restrictions that have forced state government to save billions since in recent years — sometimes at the expense of core programs — face more than just political obstacles such as Gov. Ned Lamont.
These “fiscal guardrails,” as the governor and other backers call them, are protected by contractual guarantees Connecticut makes to the Wall Street investors whose financing pays for school construction, highway repair and other vital capital projects.
But reformers seeking a path around these so-called “bond-locks” ironically are looking to Lamont for guidance. They hope to mimic legal maneuvers the governor employed five years ago to defer hundreds of millions of dollars in payments to the municipal teachers’ pension — despite a contractual state pledge not to do so.
But even if reformers find a way to reduce savings efforts without running afoul of the law, opinions are mixed whether the investment community will tolerate such a move. If not, state government could find it increasingly more expensive to borrow for its capital projects.
“I think that we need to explore every responsible way we can to try to give us some more room to work with to address our needs,” said Senate President Pro Tem Martin M. Looney, D-New Haven.
“The threat of federal funding cuts and a looming recession are very real, and we must be ready, otherwise our residents will be harmed,” said Emily Byrne, executive director of Connecticut Voices for Children, a progressive policy group based in New Haven.
Byrne was referencing both slow-to-retreat inflation that’s straining the national economy and the growing fear that federal aid to states — particularly in Medicaid — will decline under the new Trump administration.
At its annual budget forum in December, Connecticut Voices’ analysts urged legislators to reacquaint themselves with Lamont’s budget-balancing maneuvers in 2019 — and one in particular.
Lamont tapped pension contributions to avert an income tax hike
Having inherited a large projected shortfall, Lamont wanted to balance his first budget without the unpopular income tax increases his predecessor, Gov. Dannel P. Malloy, had to employ in 2011 and 2015.
But despite closing sales tax exemptions, canceling or delaying about $650 million in previously approved tax cuts and adding a 1% surcharge on prepared meals and a 10-cent fee on plastic bags, the new governor and legislature needed more help.
To cross the finish line, Lamont wanted to reduce payments for two years to the municipal teachers’ pension fund. The problem was, those payments were supposed to grow — by $100 million in the first year of his new biennial budget and then by another $45 million in the second.
Lamont suggested restructuring those and other payments.
A 2015 analysis by the Center for Retirement Research at Boston College warned that required annual contributions to the teachers’ pension, which stood at about $1 billion at the time, were on pace to sharply increase starting in the late 2020s and exceed $6 billion per year by 2032.
Lamont proposed artificially lowering contributions in those years. And while lawmakers were averting that crisis many years into the future, they also should reduce the required payments during Lamont’s biennial budget, which covered the 2019-20 and 2020-21 fiscal years. To compensate the pension fund, those missed contributions would be shifted, plus interest, onto future generations of taxpayers in the late 2030s and 2040s.
The problem is Connecticut, which had short-changed the teachers’ pension for decades prior to 2011, had promised Wall Street this would stop. And the state’s bond counsel reminded officials of this just three years before Lamont took office.
State officials had borrowed $2 billion in 2008 to bolster the cash-starved program and wrote in bond covenants — contracts with investors — that it wouldn’t tamper with contributions until that debt was paid off in the early 2030s, or unless it found some other way to protect bondholders.
Lamont and legislature found another way.
They took $381 million out of the budget reserve and effectively put it in escrow to cover all remaining principal and interest payments owed to bondholders.
Officials then refinanced the teachers’ pension.
Contributions to the fund then went down, not up, during Lamont’s first two years in office, and his budget was balanced without an income tax hike.
Could lawmakers copy 2019 maneuver to adjust ‘fiscal guardrails’?
Connecticut’s rainy day fund held $1.2 billion when Lamont reassigned $381 million to maneuver around bond covenants and refinance the teachers’ pension.
It currently holds more than triple that amount, a record-setting $4.1 billion, equal to 18% of the General Fund.
As in 2008, Connecticut made a promise to its bondholders two years ago when it renewed its “fiscal guardrails.” It pledged to follow these rules at least through June 30, 2028. But it also said it could adjust them under certain economic conditions, or if it again took other steps to safeguard bondholders.
With more than $4 billion in reserve, does Connecticut have enough resources to again offer some alternative form of security to its bondholders?
“Gov. Lamont showed us just how easy it is to break us free from the bond lock, and we could do it again now,” said Norma Martinez HoSang, director of Connecticut For All, a progressive coalition of more than 60 faith, labor and civic organizations. “There are legal and responsible policy and procedural options that would allow us to make bold adjustments. We just need legislators with the courage to stand with community members to create meaningful change.”
Pandemic relief hid strain on CT’s finances
Martinez HoSang and other reform advocates argue these budget controls are taking a heavy toll on government’s most essential programs and that it’s about to get worse.
Connecticut has socked away roughly $12.5 billion in surpluses since the “guardrails” were enacted in late 2017, almost $1.8 billion per year or 8% of the entire General Fund.
And with more than 70% of annual spending tied to wages or other fixed costs like debt service, pension payments and Medicaid, that 8% savings comes largely from the more flexible 30% of budget. That’s reserved primarily for social services, public colleges and universities, K-12 education funding and grants to local governments.
Lawmakers since 2021 have been spared from tough choices by $2.8 billion in flexible federal pandemic relief, which is exempt from Connecticut’s “fiscal guardrails.”
As traditional state dollars were extracted from core programs to accumulate savings mandated by budget controls, lawmakers supplanted those funds with pandemic grants to ease the pain.
But the last of those emergency dollars are being exhausted this fiscal year and won’t be available to help in the next two-year state budget, which Lamont will propose to lawmakers on Feb. 5.
Programs this year are being propped up by more than $500 million in pandemic grants that will be gone in the next budget.
But will legislators ask programs to survive without this $500 million next fiscal year, even while “fiscal guardrails” are expected to force state government to leave $1.3 billion in tax receipts unspent?
Will Wall Street punish CT if savings efforts are eased?
The Lamont administration warned legislators recently that things are more complicated than that.
Connecticut entered this fiscal year with nearly $80 billion in long-term debt, including more than $35 billion in unfunded pension obligations alone.
Connecticut ranks as one of the most indebted states per capita in the nation and is expected to be paying off its pension woes well into the 2040s.
And while many of Lamont’s fellow Democrats in the House and Senate majorities want more funds for core programs, required pension contributions in the next budget would be grabbing an extra $730 million per year were it not for the more than $8.5 billion in surpluses deposited into those benefit programs since 2020.
“We have broken the bad habits of the past when we habitually put more and more costs on the taxpayers’ credit card for our children to pay down,” Lamont said on Jan. 8 in his annual State of the State address.
Wall Street credit rating agencies responded to Lamont’s 2019 budget, and its lack of an income tax hike, with bond rating increases, scores that often make it easier for government to borrow at lower interest rates.
And Chris Collibee, the governor’s budget spokesman, said those ratings improvements have continued steadily over the past five years as Connecticut has adhered closely to its budget controls.
“Those credit rating increases, and related savings to taxpayers, are attributable to steady and prudent stewardship of the state budget,” he said.
S&P Global Ratings, formerly known as Standard & Poor’s, attributed a 2022 credit rating increase to Connecticut’s “sustained positive financial results and building of high reserve levels … while also demonstrating its commitment to structural budget balance and curbing future growth of the state’s very high debt.”
Collibee did not comment on Lamont’s own efforts to maneuver around fiscal pledges to bondholders in 2019, saying only that “the governor’s priorities continue to be creating more opportunities for Connecticut residents and making our state more affordable.”
Donald Klepper-Smith, an economist with DataCore Partners and who was the state’s chief economic advisor in the late 2000s, predicted Wall Street would frown on any deviation from current savings efforts.
With investors already worried about a weak housing market, stocks that have over-performed over the past two years and stubborn inflation, any effort to significantly loosen the reins on spending in Connecticut would stoke fears even worse, he said.
“You’re opening yourself up for more fiscal pain down the road,” Klepper-Smith added.
Lamont also has allies in his defense of the current savings parameters, not only among moderate Democratic legislators but from nearly all Republicans.
“Fiscal guardrails work, and they must be maintained,” said Senate Minority Leader Stephen Harding, R-Brookfield. “Republicans will continue working with the governor to protect and preserve them.”
But some leaders remain hopeful the governor and majority Democratic lawmakers can compromise.
Legislators may not be able to dramatically alter caps on spending and borrowing before mid-2028 without challenging pledges made in bond covenants.
But there is a provision in the pledge to bondholders that allows legislators to lessen one key savings program involving volatile tax receipts — revenues that tend to fluctuate by large amounts from one year to another. That requires a three-fifths vote of approval in both the House and Senate, and agreement from the governor.
State Treasurer Erick Russell, who has been working with all parties to find middle ground, has praised the budget controls for dramatically improving Connecticut’s fiscal position.
But Russell, a Democrat from New Haven — one of Connecticut’s poorest cities — also has recognized many working families are finding it increasingly difficult to make ends meet.
“We’re committed to collaborating with the governor and the legislature to ensure we are maintaining fiscal responsibility while balancing the need for critical investments in our state and our residents,” Russell said.
House Speaker Matt Ritter, D-Hartford, said lawmakers must understand some requests for funding can’t be granted this year. Similarly, the governor must realize that legislators won’t cut deeply while huge revenues that could help struggling families are being stashed away.
“If we don’t do something to really help affordability in Connecticut,” Ritter said, “it’s going to be really hard to pass a budget.”