Economy

Steps to an Economic Recovery

The coronavirus (COVID-19) is frightening enough, but the economic consequences of the virus makes the situation even more terrifying. As a result of COVID-19, thousands of Iowans are filing for unemployment and businesses across the state are trying to fend off bankruptcy. The current “cure” or deterrent to stopping the spread of the virus is social distancing and shelter-in-place policies, which carries with it the possible side effect of an economic recession. The longer these conditions exist, the greater the harm will be to the economy. Iowa, and the nation at large, is in an unprecedented situation. On one hand the invisible and contagious COVID-19 cannot be allowed to spread like a prairie grass fire, and at the same time we cannot afford to destroy the economic prosperity that Iowa and the nation was experiencing just a month or so ago.

 

The medical and economic response to COVID-19 is unprecedented. In order to support the economy and to provide economic relief to states, individuals, and businesses, Congress passed the $2.2 trillion CARES Act. In terms of state aid from the CARES Act and other federal stimulus measures, Iowa is expected to receive $1.7 billion.

 

With state aid from the CARES Act comes concerns as the funding can only go to new spending in combating COVID-19. States would be better served to have greater flexibility in using this aid. This support could be used to fill budget gaps, replenish reserve funds, and provide support to local governments.

 

Governor Kim Reynolds and the Iowa legislature are also responding by providing aid and ensuring the priorities of government are met. The Iowa legislature voted on a bi-partisan basis to ensure government funding would remain in place into the fall, and they empowered the Governor, with discretion, over resources to combat COVID-19. The Governor, through multiple orders and declarations, has also suspended regulations to ensure regulatory red tape does not hinder health care, essential supply efforts, or employment.

 

Governor Reynolds is also providing support to small businesses across Iowa through grants. The grant relief program is targeted to supply $24 million in relief to small businesses, but it may not be enough to cover the thousands of applications received. A recent survey by the National Federation of Independent Businesses (NFIB) reported at least 70 percent of Iowa’s small businesses are applying to receive loans offered by federal relief programs. At this time an estimated $3.75 billion in federal loans have been received by Iowa businesses.

 

NFIB reported 92 percent of Iowa’s small businesses are negatively impacted by COVID-19 and it is estimated half of those may close without financial help. Closely associated with the suffering of these small businesses is the growing number of unemployed Iowans. At this time 160,296 or about 10 percent of Iowa’s 1.58 million workforce are filing for unemployment.

 

Another result of social distancing and shelter-in-place is the impact these policies will have on state and local government revenues. Iowa’s state government relies heavily on both the income and sales tax to fund the government. Although it is too early to tell how COVID-19 will impact state revenues, it is predicted that states could see anywhere from a 10 to 25 percent reduction. Iowa’s Department of Transportation is estimating a 25 percent decline in the Road Use Tax Fund as a result of less drivers, which impacts motor fuel taxes.  At the same time, states could see an increase in Medicaid recipients, as it is the second largest budget driver. This would apply greater pressure on Iowa’s budget.

 

The good news for Iowa is that as the COVID-19 emergency began, Iowa had $800 million in budget reserves and a surplus of $200 million. With economic uncertainty likely to linger, Iowa’s budget is positioned much better than some of our neighbors to dampen the financial impact of this pandemic. Some estimates demonstrate Iowa is in a better fiscal situation to confront a COVID-19 economic downturn than on the eve of the Great Recession.

 

Local governments depend on local option sales taxes, property taxes, and other taxes such as hotel and motel taxes. With business closures, the ranks of the unemployed growing, and general economic uncertainty, there is no question it will impact tax revenue. Local governments may be forced to delay needed infrastructure projects or make other reductions as a result of revenue loss.

 

During economic downturns, income taxes (individual and corporate) are most volatile. Iowa’s General Fund relies heavily on the income tax. It is important to note many businesses file under individual income taxes. Sales tax, which tends to be less volatile, may also be impacted. In 2018, Iowa broadened the sales tax base by requiring sales taxes be paid on internet sales. This base broadening may help sales tax revenues, but with businesses closed and consumers not spending, it appears sales tax revenue may still see a decline.

 

As an example, the city of Des Moines is estimating close to $18 million in lost revenues as a result of COVID-19. This loss in revenue is expected as a result of lower local option sales taxes, hotel and motel taxes, among other revenues collected. Iowa’s rural communities are also being hit hard. Whether it is businesses closing, manufacturing firms temporarily shutting down, community festivals and events being canceled, among others, all have a significant impact on communities. Rural hospitals, who were already struggling prior to the virus, are also in uncertain economic times. As a consequence of COVID-19, hospitals have suspended non-essential medial services, causing significant revenue loss.

 

With the possibility of a COVID-19 triggered recession, what can policymakers do to prepare for both an economic downturn and recovery?

 

  • Prudent Budgeting: When Iowa’s legislature reconvenes the first priority will be to finalize a budget. Caution will be needed in crafting the budget. Based on the Revenue Estimating Conference (REC), Iowa’s budget is expected to be $8.2 billion. By law, the legislature can only spend 99 percent of the projected revenue. It would be prudent for policymakers to keep spending as low as possible. With revenue uncertainty, policymakers should only fund the priorities of state government, which means new spending should be avoided. This could potentially include a state hiring freeze except for essential employees. Keeping spending levels low will help avoid future budget cuts.

 

  • Project New Revenue Estimates: Policymakers will have the difficult task of not only crafting a state budget, but also trying to predict revenues. Predicting revenues is not an easy task, but revenue projections should always be based on conservative estimates.

 

  • Avoid Tax Increases: State and local governments should avoid tax increases. Perhaps the most harmful fiscal policy tool to use in an economic downturn is to raise taxes. Prior to the COVID-19 emergency, the legislature was considering tax reform, but now tax rate reduction may be on hold. However, Iowa’s income tax is scheduled to be lowered in 2023 depending on whether certain revenue targets are met. Policymakers should work to control spending in order to ensure that the income tax is lowered in 2023. Policymakers should also ensure any federal relief provided to individuals and businesses should not be subject to Iowa tax. Furthermore, local governments may be tempted to raise property taxes in the event of a downturn. Property taxes are already high in Iowa and any tax increase should be avoided. Increasing taxes at the state and local level will only harm the economy.

 

  • Provide Regulatory Relief: The COVID-19 emergency has resulted in the suspension of some Iowa regulations. In the aftermath of the emergency, policymakers should review every regulation that was suspended and evaluate whether a regulation was truly needed. This emergency has demonstrated across the nation, whether at the state or federal level, regulations need to be reviewed. This emergency also demonstrates Iowa’s need to reform occupational licensing laws, especially by granting universal reciprocity.

 

  • Use Federal Aid Responsibly: Iowa is expected to receive $1.2 billion under the CARES Act. Although there is still need for clarification on how Iowa can utilize this money, if policymakers have flexibility it should be used to support the state budget from revenue loss, help rebuild budget reserves, and provide support to local governments. Policymakers at both the state and local level should realize federal aid may be “one time” funding and should not expect future funds.

 

The priority of Iowa’s policymakers is the health and safety of Iowans during this health emergency. Thankfully, going into the COVID-19 emergency, Governor Reynolds and the legislature were following sound budget principles. Prudent budgeting and lowering tax rates resulted in a strong economy and a healthy state budget. Following these fiscal polices will hasten any recovery from a COVID-19 triggered economic downturn.