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Count the Cost

Count the Cost

8/1/2014

STATE LEGISLATURES MAGAZINE | JUly-august 2014

Understanding the potential costs and consequences of a bill is a crucial step in the legislative process and a help to avoid any unintended effects.

By Todd Haggerty and Erica Michel

Each year, state lawmakers introduce thousands of pieces of legislation to improve constituents’ lives. Although the bills may tackle issues as varied as education funding, tax rates or the business climate, they share one thing in common. More often than not, if passed, these bills will have a fiscal effect on the state’s budget.

This leads lawmakers, who also are seeking to improve the effectiveness and efficiency of government, to ask, “How much will this legislation cost or save?”

Analyzing and understanding the potential costs and consequences of a bill is a crucial step in the legislative process. And, in several states, it’s not optional. The price tag for most bills is determined by a fiscal note, which gives lawmakers the expected change in expenditures and revenues that will result from the legislation.

But legislation may bring about other economic consequences as well, and lawmakers continue to develop tools to study what those may be to avoid any unintended ones.

Fiscal Notes First

A fiscal note is the most common tool lawmakers use to evaluate the cost of proposed bills, although there is no typical fiscal note process. The format, content and type of bills that require fiscal notes vary from state to state. In at least 20 states, a fiscal note must accompany every bill introduced in the legislature. Other legislatures require a fiscal note for bills that are expected to have a fiscal impact and, in several states, a fiscal note must be requested by a member of the legislature.

A bill with a fiscal impact can increase or reduce expenditures, increase or decrease the revenues of an existing tax, change personnel requirements, affect levels of service, impose or shift a tax to a new base, or change the funding of an existing program.

Generally speaking, fiscal note analysts evaluate the direct impact a proposed law will have on state revenues or expenditures or both, for the current and subsequent fiscal year, at a minimum. In addition, fiscal notes in some places also must include an estimate of the costs to units of local government and, in a few instances, the private sector. While the process may vary, legislative fiscal offices across the states devote a significant amount of time each session to either preparing or reviewing fiscal notes.

With the fast pace of the legislative process, fiscal analysts often have only one or two weeks, and sometimes less, to complete a fiscal note before a vote is taken. The pace and the need for accuracy can be demanding.

“Preparing fiscal notes is an unglamorous but critically important job for legislative staff,” says Warren Deschenaux, director of the Maryland Office of Policy Analysis. “In Maryland, where every bill gets a note, six- or seven-day weeks and 10- to 12-hour days are the norm for the month preceding crossover. Deadlines are tight, and the bills keep coming.”

 Drafting a thorough fiscal note frequently requires input from several state agencies, sponsors of the legislation, and organizations and individuals knowledgeable in the subject matter, so everyone must move quickly to complete the analysis.

Fiscal notes are public documents, and lawmakers are not the only ones who find their analysis useful. Often others, such as lobbyists or state agencies, use fiscal notes as “evidence” for or against a bill. Although fiscal notes are not intended to influence the passage of a bill, sometimes they do. Because of this, fiscal notes can be a controversial part of the legislative process.

A Dynamic Difference

Fiscal notes are important tools that help legislators balance the budget, but they have their limitations. They usually estimate only the direct costs to the state, and do not measure impacts associated with indirect costs or changes in residents’ behavior. In other words, fiscal notes can help legislators understand the cost a policy change will have on state coffers, but generally not what the fiscal impacts may be for individuals, businesses and other groups.

Jonathan Ball, director of the Utah Office of the Legislative Fiscal Analyst says that, “fiscal notes are a budgeting tool, but they are not intended to influence policy.”

How a piece of legislation may affect the entire state’s economy, not just its pocketbook, is what dynamic fiscal notes attempt to answer. They involve more in-depth analysis and include additional economic factors in the revenue and cost estimate of legislation to predict the indirect economic effects.

One economic factor is how people’s behavior may change as a result of the legislation. For example, legislation increasing a tax on a specific product may lead people to buy fewer, resulting in lower revenues for the state. Traditionally, fiscal notes have not included this kind of variable, so may have overestimated the increased sales tax revenue the state would receive. Dynamic fiscal analyses account for these types of changes when estimating future revenue. They also attempt to incorporate future changes in the broader economy to analyses.

If a state legislature, for example, approves a tax credit for businesses that create a certain number of high-paying jobs, the additional income tax revenue generated from those jobs will be incorporated into calculations. Estimates then can be made about whether the state revenue lost from the tax credit will be offset by the increase in personal income tax paid. Dynamic fiscal notes attempt to incorporate these kinds of complicated factors into estimates.

In Theory vs. In Practice

In theory, the benefits of dynamic fiscal notes are clear—they provide a more complete picture of the possible effects of policy changes on the economy. In practice, however, most states that have attempted dynamic fiscal notes—such as California, Colorado and New Mexico—have found them to be impractical and imprecise, given the limitations of dynamic scoring.

As Richard Stavneak, director of the Arizona Joint Legislative Budget Committee explains, “In Arizona, we believe it is important to recognize the possibility of a dynamic impact, especially on large scale tax and expenditure bills. On the other hand, the complexity of dynamic forecasting limits our ability to be very precise.” Still, he acknowledges, they include the areas potentially affected by the legislation, however imprecise, since the value and depth of the fiscal note are enhanced by acknowledging potential effects that may not necessarily be obvious.

The core element in a dynamic fiscal note is predicting how a new policy will change the public’s behavior and how that change will affect the economy and the state’s bottom line—both in the short- and long-term.

But the data needed to conduct that analysis often may be difficult or even impossible to obtain and may not be reliable, making long-term projections complicated at best and invalid at worst. Dynamic forecasting has a greater potential for error, and the assumptions used to predict human behavior can be extremely controversial. For example, the effect minimum wage laws have on individuals and businesses is widely debated, and it is difficult for legislative fiscal staff to predict how changes to minimum wage laws might affect the state’s economy.

Dynamic models also require more time and staff resources than static models. This can hamper fiscal staff’s ability to complete dynamic fiscal notes during busy legislative sessions. “Preparing dynamic fiscal notes requires access to costly databases,” says Ball. “It may take weeks to do, when we have only hours.”

Making Informed Decisions

Despite challenges, states continue to explore ways to expand the scope of fiscal notes to better predict the long-term effects of legislation. As terms such as “big data,” “data-based decision making” and “data analytics” creep into the vernacular, the demand for a dynamic or cost-benefit analysis on proposed legislation is likely to increase.

Other Impacts

Lawmakers are interested in how legislation will affect other policy areas as well.

Iowa was the first state, in 2008, to require minority impact statements on legislation to create a crime or significantly change an existing crime or penalty, or alter sentencing, parole or probation procedures. Lawmakers passed the legislation in response to a report that showed a disproportionate number of Iowa’s inmates (as in most states) were from minority groups.

The minority impact statements are designed to help policymakers better understand the potential effects of legislation on Iowa’s minority populations.

Colorado, Connecticut and Oregon require racial impact reports, which are similar to Iowa’s. And members of Minnesota’s sentencing commission also regularly draft minority impact reports, although they are not required by law to do so.

Todd Haggerty is a former policy specialist, and Erica Michel is a research analyst with NCSL’s Fiscal Affairs Program.

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