Oregon state economists on Wednesday delivered their most serious warning in years: The state’s surging revenue growth is about to end.
Even if the state and country don’t experience a recession in the next year — a possibility economists say is extremely plausible — recent tax receipts that officials have variously described as “shocking,” “unbelievable” and “stunning” are about to come back to earth, state economist Mark McMullen told lawmakers.
“Even if we don’t go into a recession, unfortunately not all of this revenue boom is sustainable,” McMullen said. “We are due for a hangover.”
According to McMullen and another state economist, Josh Lehner, that hangover has not yet arrived.
In their quarterly presentation, the pair diverged from their typical practice of offering lawmakers only a “baseline” forecast that they feel is most likely to play out in coming years. On Wednesday they also delivered a picture of what a recession might look like. McMullen told lawmakers it’s virtually a “coin flip” for which scenario comes to pass — and warned a recession, if it arrives, could be deeper than economists have supposed.
But in either scenario, the state’s short-term revenue outlook is positive. Taxes on business income and gains realized in the stock market have not slowed down, and personal income taxes are still strong.
Under the more optimistic “baseline” forecast, economists say Oregon will see $600 million more in the current two-year budget cycle than they anticipated just three months ago, an increase largely driven by personal income taxes. That would result in Oregonians receiving a record $3.46 billion back in the form of the kicker, the unique Oregon policy that returns personal income taxes if they come in at least 2% higher than initial forecasts.
“The numbers to date have not weakened whatsoever,” McMullen told lawmakers of corporate taxes. “But this is terrifying. Along with capital gains, this is our most volatile part of the revenue forecast.”
The more optimistic scenario is less bullish in future years when it predicts revenue growth will be much slower than expected in May. Economists now say each of the next three two-year budget cycles could see revenues more than $600 million lower than projected earlier.
Just as likely, economists said, is the possibility that Oregon will enter into a “mild recession” towards the end of 2023. The risk, Lehner said, is that surging wages driven by an unsustainably hot labor market will continue to drive inflation, which could prompt the federal government to further increase interest rates, triggering a downturn and a big increase in the state’s low unemployment rate.
“We need to see the labor market cool,” Lehner said.
If Oregon does enter into a recession, economists say Oregon will still see roughly $50 million more than previously expected in the budget cycle that runs through June 2023. But they say revenues for the next two biennial budgets come in at $1.2 billion and $1.4 billion lower than previous estimates.
“Should this unfold, it would mean large program cuts,” McMullen said. “It would be unavoidable.”
The question for lawmakers, who will craft a new two-year budget in next year’s legislative session, is how to incorporate the competing forecasts. McMullen and Lehner suggested they operate under the more optimistic version for now, reasoning that unnecessarily chopping state services is not ideal.
“We kind of have to wait until we see the white of the recession’s eyes before we put in these kinds of drastic revenue reductions,” McMullen said.
But underestimating a potential revenue cliff brings its own risks. Long-time State Sen. Lee Beyer said the looming scenario reminded him of 2002 when lawmakers met in five special sessions to continuously revise the budget amid a tanking economy.
“From past experience, I think it’s time that people who will be there need to take a cautious look at it,” said Beyer, who is retiring when his term expires at the end of the year.
Oregon is better shielded against the bruises of a downturn in 2022 than it was two decades ago. The state holds record budget reserves that are expected to top $2 billion by June 2023. And Oregon is currently sitting on $3.7 billion in revenue that it held off spending in the current budget. If lawmakers leave that money untouched, it could help offset future downturns.
Democrats on Wednesday reacted to the deeply uncertain forecast by emphasizing that the economy is currently strong.
“Thanks to the fiscally responsible decisions the State of Oregon has made over the last several years, we are well positioned with significant reserves to weather any economic challenges that lie ahead,” Gov. Kate Brown said in a statement. “Now, we must continue to make investments to benefit Oregon’s working families, so that all Oregonians can feel the benefits of our strong economic recovery.”
“We should invest in our communities carefully… and stay on our toes,” Senate President Peter Courtney, D-Salem, said in a statement. “If there is a downturn, Oregon will be ready.”
House Speaker Dan Rayfield, a Corvallis Democrat and former chief budget writer, said the Legislature would keep investing in things like housing, mental health and addiction and abortion access.
Republicans, meanwhile, signaled they are ready to take out the budget knives.
“The Legislature must be prepared to make the same difficult choices to reduce wasteful spending and reform broken government,” Senate Minority Leader Tim Knopp, R-Bend, said in a statement. “Senate Republicans are prepared to make prudent, fiscally responsible choices that focus on protecting core government functions Oregonians rely on every day, instead of growing government beyond our means.”
Which approach the state takes will depend not only on how severe a pinch is coming to Oregon’s coffers but whether Democrats can maintain their grip on the Legislature and governor’s office in an election year that presents their party with some significant challenges.