WPRI Report:

THE EXPLODING USE OF DEBT TO FINANCE
GOVERNMENT IN WISCONSIN (Continued)

By Christian Schneider

WISCONSIN'S GROWTH IN DEBT RELIANCE

Throughout the 1970s and into the new millennium, state government became increasingly reliant on debt. Since Wisconsin began issuing debt in 1970, the state has authorized $18.5 billion in GO debt. Of that $18.5 billion, $15.9 billion has been issued or used by the state. $2.4 billion of the $18.5 billion total in general obligation debt authorization was authorized in the most recent 2005-07 biennial budget. Thus, 13% of the total debt authorized by the state since 1970 occurred in the most recent two-year period.

To examine the growth in state reliance on debt, it is instructive to detail the level of general fund-supported, GO bonding the state has issued. As noted, the state issues several types of debt, both directly and through authorities. GO bonding is debt issued by the state directly that is backed by the “full faith and credit” of the state government. GO bonds can be funded with general fund tax revenue, through program revenue, or be self-amortizing (the veterans home loan program, for instance).

It is instructive to examine the level of GO bonding funded with general fund revenue, and to compare that bonding level with actual general fund revenues. As previously demonstrated in Chart 1, GO bonding relative to tax revenue has grown in the past three decades. A dip can be seen in the years between 1998 and 2000, as the booming economy and legislative tax changes spurred state tax revenue growth (8.1% in 1998, 4.4 % in 1999, and 10% in 2000). Naturally, when revenue increases rapidly, growth in bonding levels will appear to be falling by comparison.

The dramatic increase in taxpayer-supported debt can also be illustrated by comparing the growth in bond issuance versus inflation. Chart 2 compares the annual level of outstanding GPR-funded GO bonds versus the annual change in the Consumer Price Index (CPI), as determined by the United States Bureau of Labor Statistics:

As can be expected, a large increase in GO bonding translates into higher annual debt service payments for the state. Chart 3 compares the increasing annual general fund debt load with the growth in inflation:

In the years between 2002 and 2004, the state issued $302 million in “refunding bonds,” which allow the state to restructure existing debt to pay debt service in the future. This financing strategy, which often commits the state to paying higher debt service costs in the future in exchange for immediate relief, will be discussed in more detail later.

Traditionally, the Wisconsin Department of Administration has indicated a goal of making sure that annual GPR debt service never exceeds 4% of annual general fund revenues, with a preferred target range of between 3% and 3.5% of annual general fund revenues. DOA policy as set forth in the biennial Budget in Brief document for many years was that debt issuance should be structured so that the 3.5% upper limit of the preferred target range would not be exceeded in the long term. This target was established based on input from bond rating agencies about what a reasonable and prudent level of debt service is. For many years, DOA published a chart in the Budget in Brief that showed debt service costs for existing issued bonds and also projected debt service costs for authorized but unissued bonds as a percent of general fund revenues, looking eight years into the future. Under this policy, the amount of new bond authorizations in each biennium would then be limited to an amount that would result in total debt service of no more than 3.5% of GPR revenues in future years. Despite the total amount of outstanding GPR-supported bonds outpacing state revenues, debt service for the most part has been kept within this range. (See Appendix A.)

However, if the 3% to 3.5% of annual revenue debt service goal is not looked at as a long term goal, but merely as a snapshot of current GPR debt service, it would have little bearing on budgeting decisions being made today. Any increased bonding approved in the current budget wouldn't affect that percentage goal, since almost all of its effect would be in subsequent biennia.[i]

From a short-term perspective, budgeting strategies can be utilized to keep GPR debt service under DOA's goal in the current biennium without actually restraining bonding. As mentioned previously, debt can be restructured to reduce debt service paid in the current fiscal year, as was done between 2002 and 2004.

Additionally, GPR debt service payments can be shifted to other funds to keep the GPR share of debt service artificially low. For instance, in the proposed 2007-09 biennial budget, the administration has proposed converting $26.6 million in 2007-08 and $43.3 million in 2008-09 from GPR debt service to the transportation fund. The debt service still exists, however it will be paid out of gas tax and vehicle registration revenue rather than the general fund. The Legislative Fiscal Bureau estimates that were this debt service shift not to occur, the percentage of GPR debt service compared to GPR revenues would be 4.11% in 2007-08 and 4.2% in 2008-09, which exceeds the administration’s traditional goal.[ii]

All-Funds Bonding

The increase in debt issuance by Wisconsin state government isn’t limited to general fund tax-supported bonds. Wisconsin state government has rapidly increased the use of revenue bonds, self-amortizing bonds, and authority bonds.

Currently, Wisconsin has $19.3 billion in outstanding debt at the state level. Much of the debt issued represents a broad expansion in the purpose of bonding by state government since the state began issuing debt directly.

Table 2 details the amount and type of state-level debt currently outstanding:

In recent years, Wisconsin’s use of debt has accelerated. In the years between 1992 and 2005, total debt outstanding by Wisconsin state government and state-created authorities jumped 157%, with most of the increase coming in the most recent five-year period. In the nine years between 1992 and 2000, total state outstanding debt rose an average of 6.3% per year. In the subsequent five years (2001-05), annual increases in outstanding debt nearly doubled to 10.8% per year.[iii]15

Chart 4 demonstrates the growth in state outstanding debt between 1992 and 2005, as compared to inflation.

The state isn’t the only level of government that has seen a recent dramatic increase in bonding. Municipalities, counties, school districts, and technical colleges all utilize bonding for economic development, construction, and infrastructure needs. In the last 15 years, local government bonding in Wisconsin has increased by 137%. Chart 5 compares the total level of local bonding to inflation:

Of course, Wisconsin isn’t the only state to see dramatic increases in the use of debt. In 2002, state and local governments nationwide had $1.6 trillion in long-term debt outstanding, up from $954 billion a decade earlier.[iv]

However, during the period in which Wisconsin has been able to issue debt directly, its state per capita debt ranking has steadily increased. In 1970, when the state began issuing debt, Wisconsin ranked 40th in state-issued debt per capita.[v] By 1997, Wisconsin had risen to 24th. And by 2002, Wisconsin had risen all the way to number 10 in the nation in total debt outstanding per capita.[vi] This demonstrates the rapid growth in utilization of debt by Wisconsin levels of government in relation to that of other states.

BONDING TO PAY FOR THINGS GOVERNMENT CAN'T AFFORD

The previous section detailed government’s increased reliance on debt. The question then becomes: Why has the state increased bonding so rapidly? What are taxpayers getting for committing their money to decades of fixed costs?

As noted, the Wisconsin Constitution contains a provision that limits the amount of debt the state can offer to the lesser of:

1.      0.75% of the aggregate value of all taxable property in the state; or

2.      5% of the aggregate value of all taxable property in the state, less the state’s net indebtedness as of January 1 of the current year.

Table 3 details the amount of total GO debt issued by the state of Wisconsin in the past ten years, and the debt contracted as a percentage of the constitutional debt limit.

As can be seen by the table, there really is no meaningful limit on state debt issuance. As the state stands now, only one quarter of the limit is currently being utilized. If the state's debt level were to come even close to the limit, the private bond market would make debt issuance prohibitive. Furthermore, since the debt limit is tied to property values, rapidly increasing land values could give the state even more room under the limit.

In fact, there are only two meaningful limits on the amount of debt that the Wisconsin state government can issue, yet the actual effect of each on holding down debt is questionable.

1. The Political Process

One way to limit reliance on debt is for the public to hold their legislators and elected officials responsible for the increased future costs they incur. If the public became dissatisfied with the increasing debt load they and their children were being burdened with, they could vote their legislator out.

In fact, it appears that the political system is much more accommodating to legislators who are willing to advocate for bonding. To many legislators, debt means projects—land acquisition, road improvements, and new buildings. In fact, many constituents actually believe the role of their legislator is to bring projects back to their district. It is likely that a legislator that brings one of those projects home is likely to get more political credit than they are blame.

Thus, the irony of the political process as a watchdog of excessive debt: What is supposed to be a check on irresponsible budgeting could actually become an incentive to incur debt. Elected officials aren’t ensured of a new term —the idea that their constituents should benefit now and pay later seems perfectly reasonable to legislators.

Furthermore, for the total debt level in Wisconsin to be a campaign issue, it would require both media scrutiny and candidate attention. Realistically, debt issuance is rarely written about, and is, at best, a minor campaign issue.

2. The Bond Market

The other check on excessive bonding could be the bond market, where municipal bonds are bought and sold. If the market is unfavorable, higher interest rates could make it more expensive for the state to borrow money. Increased debt service costs, when added to the cost of a project, could slow down the approval process. Additionally, the market considers the amount of debt when evaluating state credit.

When the state decides to issue debt, it contracts with an underwriter, who purchases the entire bond issue with the intent of selling the issue on the open market for profit. For especially large issuances, several underwriters may band together to get involved, thus spreading the risk. When underwriters sell the bonds to investors on the open market, they must price them high enough to make a profit, but low enough to entice prospective purchasers to buy them. Naturally, the less expensive the bonds are, the greater yield to the investor there will be. However, pricing them too low means the underwriter may need to sell them at a loss.

The interest rates at which bonds are issued are influenced by a variety of market factors. Of course, it is in the interest of the state to sell its bonds at the lowest interest rate possible, as low rates mean less money to pay off in the future. Interest rates are affected most by the supply of money in the economy. When the nation’s economy has a higher supply of money, interest rates tend to be lower. Conversely, when money supply is low and there is more competition for capital, interest rates tend to rise.

The quantity and quality of the bonds issued also influence the rates they carry. The “quality” of an issue deals with the amount of risk an investor is taking on by purchasing the bonds. The higher the chance a bond issuer will default on paying back the bonds, the higher the interest rate on the bonds will be.

However, when one examines the increase in general obligation bonding in the past thirty years, it is difficult to pinpoint projects to which legislators have actually said “no.” Bond market interest rates certainly have fluctuated over time, yet state level bonding has consistently increased over that period of time. It is possible that state bonding could have been higher during some periods had interest rates been lower, but it doesn’t appear to have been that substantial of a barrier.

The Building Commission

The discussion of state government utilizing bonding to purchase property and construct facilities has to start with the Building Commission, a board which oversees state capital projects.

The Wisconsin Building Commission was created in 1949, with the purpose of creating a long-term building program for the state. The Commission is responsible not only for authorizing bonding for the construction of state facilities, but also renovation and maintenance of existing state properties. The Commission is comprised of the governor, who serves as chair, one governor-appointed citizen member, and three legislators from each house of the legislature, with both majority and minority members being represented. The Commission meets monthly to review projects before them, including pending bond issuances.

The Building Commission is responsible for approving the Capital Budget, which is then attached to the State Biennial Budget for consideration by the legislature. Projects greater that $500,000 are required to be enumerated by the Building Commission, then approved by the full legislature.

Table 4 details the amount of GPR-supported GO bonding approved by the Building Commission in the past ten biennial budgets:

While the Building Commission process is well established, certain recent practices relating to bonding for state projects have drawn scrutiny from board members. Certain actions by the Building Commission have called into question whether the board has full control of debt issuance.

1. Non-State Project Bonding

Traditionally, state-approved bonding has been used for state purposes. However, in recent years, several non-state projects have been approved. These are generally non-state level enterprises for which the state provides bonding, with the debt service being paid by state taxpayers.

For instance, the proposed 2007-09 capital budget provided $10 million for Translational Research Equipment at the Medical College of Wisconsin, $2.5 million for a Hmong Cultural Center, and $500,000 for a Kenosha Civil War Museum. Other recent budgets have approved projects such as: $1 million for the Nash Auto Museum, $2 million for a Swiss Cultural Center, $1 million for a Milwaukee Police Youth Activities Center, $1 million for the Racine Discovery Museum, and $1.5 million for a Holy Redeemer Academy Youth and Family Center.

Projects with no state purpose that are funded with state tax dollars should theoretically sound an alarm. The appropriateness of asking state taxpayers to pay the principal and interest for non-state ventures is questionable. In the case of the proposed $10 million for the Medical College of Wisconsin, those funds are being used to purchase equipment for non-state buildings—which is a departure from the traditional use of bonding for brick-and-mortar purposes for non-state projects.

However, as discussed previously, certain legislators often fight vigorously to retain these “pork” projects, for which they can then take credit around election time.

2. “Advance” Enumerations

Traditionally, the majority of bonding issued for state buildings has been for the University of Wisconsin System (in the 2005-07 capital budget, the UW accounted for 81.7% of project-specific funding).

A recent trend for the UW System is to try to obtain "advance" enumerations for building projects. These are essentially placeholders for bonding in future budgets that, if approved during a past budget, is not revisited in the future. Some have argued advance enumerations are a way the UW has been able to expand their bonding allotments.

For instance, the 2007-09 budget proposed $115.9 million in advance committed borrowing: the BioStar project ($31 million), State Historical Society/Department of Veterans’ Affairs Storage ($15 million), University Health Services ($39.9 million), Sterling Hall in Madison, ($20 million), and the Platteville Tri-State Initiative ($10 million). Initially, the budget contained another advance commitment for UW-Milwaukee totaling $28.3 million.[vii] However, at the recommendation of the Department of State Facilities (DSF), that bonding was delayed for two more years. The department stated to the Building Commission that too many advance commitments were pending, and the project was eliminated.

Advance commitments change the dynamic in subsequent biennial budgets. New legislative sessions often bring new legislators to the Building Commission, who will be expected to honor authorized, but unused, bonding approved in the past.

3. The Lure of Private Dollars

One strategy begun in the 1990s has been to push the Building Commission to approve projects with the promise of private matching dollars. The UW might request a private donor pledge a large contribution to partially fund a project. If the state denies the request, it appears that the state is forgoing the donation—but in approving the project, it is pledging taxpayer-supported bonds for what is often the vision of an individual donor.

In 2006, UW Alumni John and Tashia Morgridge made a commitment of $50 million to fund the third portion of the state’s BioStar project, the Wisconsin Institute for Discovery. BioStar is a UW construction project developed in the early 1990s that is designed to foster research in biochemistry, nanotechnology, computer engineering and bioinformatics.

The project’s financing also called for a $50 million donation from the Wisconsin Alumni Research Foundation (WARF) and $50 million in GO bonding from the State of Wisconsin. As originally proposed, once state funding was approved the entire design and construction of the project would be turned over to WARF, to spend the state’s money. For the first time a non-state entity, WARF, would be the contractor on a state building project. Essentially, the state gifted the land to WARF, who contracted for the work, and will then gift it back to the state when construction is complete. This process allowed WARF to circumvent certain state contracting policies.

It is certainly possible that the private donors used their leverage to take control of the project from the state. Had the state demanded certain provisions, the donors could have threatened to withhold their contributions. Regardless of the merits of these projects, the Building Commission often loses a degree of control when gift funds are used.

Having successfully attracted state dollars for the Institute for Discovery, the UW System is currently seeking funds for the UW-Madison Human Ecology Addition and Renovation project. In fact, the UW has taken the process a step further in seeking advance enumeration for the Human Ecology project, arguing that approval of funding for the project will help attract private dollars. Instead of the preferred method of private dollars being pledged before state approval of a project, these new arrangements require a pledge of the state into new bonding before any commitment is made.

The Knowles-Nelson Stewardship Program

In the last decade, bonding has been expanded to include environmental programs, which have grown quickly in both size and scope. This new bonding has been used primarily to purchase state land for conservation. It could be argued that this use of bonding allows the state to purchase land it couldn’t otherwise afford, while pushing the costs off into the future.

In 1961, Wisconsin Governor Gaylord Nelson began the Outdoor Recreation Act Program (ORAP), which purchased land for conservation purposes. The program was funded by a one cent tax on cigarettes, and purchased land with cash on hand. In the first five years of the program, 197,000 acres of recreational land was purchased.[viii] A 1967 task force report to Governor Warren Knowles recommended issuing bonds “selectively and prudently” in order to increase revenue for land purchase.[ix] The program was expanded in later years by Governor Knowles.

In 1989, the ORAP program was replaced by the Stewardship program (later named after Knowles and Nelson), which used bonding revenue to purchase state land for conservation and to expand recreational opportunities. The original program allowed for $250 million in general obligation bonding over a ten-year period.

In 1999, the program was reauthorized at a level of $460 million in GO bonding for the next decade, or $46 million per year. Just two years later, the 2001 biennial budget increased that amount to $60 million in bonding per year beginning in 2002-03 and ending in 2009-10. This increased the total 20-year GO bonding authority to $803 million for the Stewardship program.[x]

As of June 30, 2006, the Department of Natural Resources (DNR) had purchased 1.4 million acres of land, which represented approximately 4% of the state’s land area (34.76 million acres). Stewardship land is found in 71 of the state’s 72 counties, and the DNR has set an acquisition goal of 2.5 million acres for the program.[xi]

The 2007-09 budget recently signed in October by Governor Doyle increased annual bonding for the Stewardship program to $86 million per year for an additional ten years. Of this $86 million in general fund-supported borrowing, $62 million annually is devoted to land acquisition and $21.5 million would be used to aid local government property development and recreation programs. $2.5 million is dedicated to a new recreational boating aids subprogram. The budget as signed increased total bonding authority for the Stewardship program to $1.66 billion, up from its current level of $803 million.

Of course, utilizing bonding to purchase property also means paying interest costs over the life of the bonds. As noted, $803 million in bonding has been authorized for the Stewardship program as of 2007. The Wisconsin Legislative Fiscal Bureau estimates the interest paid on these bonds to be $1.3 billion over a 40-year period. Debt service on Stewardship purchases in the upcoming budget is estimated to be $55.5 million in 2007-08 and $61 million in 2008-09, 77% of which will be paid from general purpose revenue. The remainder is paid from the segregated forestry account of the state conservation fund.

As initially introduced, Governor Doyle’s budget expanded bonding to $105 million per year for the next decade. If the provision had passed, total bonding authorized over the life of the program would have increased to $1.85 billion and interest costs would have jumped to $2.9 billion, according to the Legislative Fiscal Bureau.[xii]

Aside from the interest costs for bonding, there are other ancillary expenditures the state must make for the Stewardship program. When the state purchases land, it makes a payment in lieu of property taxes to the local government. These payments are split between the state’s general fund and the state conservation fund, and totaled $7.2 million in 2005-06.

In the year 2000, the Legislative Audit Bureau conducted a study to investigate whether the state was overpaying for land purchased through the Stewardship program. The audit found that the DNR was paying an average of 120% more per acre for properties than their assessed value reflected.[xiii] When compared on a per property basis, the difference between assessed and purchase price was 304.9%, according to the audit.[xiv] In fact, on many purchases, the DNR would accept the price of a property based on an appraisal done by the property’s seller.

For instance, the Department purchased a 1.4 acre property in Newport State Park in Brown County for $360,000, while the assessed value was $70,000—meaning the state paid 414.3% more than the assessed value. Even on large grant purchases, the DNR wasn’t even doing their own appraisal, instead counting on the word of the seller to set the price.[xv]

In the 2002 budget adjustment bill, the legislature changed the law to require two appraisals, although Wisconsin taxpayers continue to pay the debt service on previous purchases questioned by the Audit Bureau.

The Wisconsin Housing and Economic Development Authority

Numerous new government programs have been created through the Wisconsin Housing and Economic Development Authority (WHEDA), and financed with bonding. While WHEDA bonding is different than GO debt in that it employs revenue bonds paid for by users of the programs, WHEDA is a good example of how bonding can lead to an expansion in a program’s size and scope.

As noted, the Wisconsin Housing Finance Authority was created by the legislature in 1971 with the mission of providing affordable housing loans to low- and middle-income Wisconsin citizens. The Authority was created as a public corporation with the authority to issue bonds, in order to lessen the total amount of debt issued directly by the state. In 1973, the Wisconsin Supreme Court ruled that the Authority was not a state department and the state was not obligated to pay off the Authority’s bonds. Consequently, the Court concluded that the constitutional limitations on government debt issuance did not apply to the Finance Authority.

In 1983, the mission of the Authority was greatly expanded to allow debt issuance for a number of new purposes. Pursuant to this legislative change, the Authority was able to issue bonds to finance economic development projects and export sales of Wisconsin products. In order to reflect the new duties of the Authority, it was renamed the Wisconsin Housing and Economic Development Authority.

In subsequent years, the mission of WHEDA expanded to even more purposes. In 1985, the legislature authorized creation of the credit relief outreach program (CROP), which provided farmers with low interest agricultural production loans and interest rate subsidies on the loans. The Authority was provided $11 million in general-purpose revenue in 1984-85 to finance the loans. Furthermore, WHEDA was granted $7.5 million in 1988-89 to guarantee and subsidize drought assistance loans.

In the years following the creation of the aforementioned agricultural loan programs, the scope of WHEDA’s bonding programs grew rapidly. Between 1989 and 1997, eleven new programs were created for WHEDA to administer. This expansion included programs for small business loans, tourism development, nonpoint source pollution, agricultural chemical cleanup, clean air, ozone protection, farm asset reinvestment, and safe drinking water (many of these programs were repealed from WHEDA and consolidated under the Small Business Development Program in 1997). Additionally, several programs were authorized by the legislature but then quickly revoked due to funding problems.[xvi]

Through July 1, 2006, WHEDA had issued $8.1 billion in bonds and notes, of which $2.5 billion were outstanding. In January 2006, Governor Doyle signed a bill that expanded WHEDA’s bonding authority for low- and moderate-income housing programs from $325 million to $600 million, among other changes. Included in these changes was a controversial proposal that required a social security number for an individual to receive a WHEDA loan—a law change that angered some in Wisconsin’s immigrant communities.

While WHEDA is funded with revenue bonds, it provides a lesson as to how the use of bonding can be expanded once a program is created. Once a debt-funded program is established, splitting its purposes to meet whatever needs emerge at the time is a tempting proposition for lawmakers.

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