Reforming Texas’ Rainy Day Fund
Since 1988, Texas has flourished with a less volatile state budget under the protection of the Economic Stabilization Fund (ESF); commonly referred to as the state’s “Rainy Day Fund.” This fund has allowed the state to protect itself from major budget shortfalls during economic downturns and natural disasters without large tax hikes or spending cuts.
However, recently the current ESF charter has shown weakness as multiple, non-emergency withdrawals have not only contributed in depleting the fund but also setting a dangerous precedent away from the original, emergency-only purpose that voters approved on the ballot in November 1988 (HJR 2).
Therefore, to better represent the will of voters, the Foundation recently released a paper highlighting that the ESF must be reformed to responsibly accumulate funds while definitively promoting greater economic stability and opportunity for all Texans.
The ESF receives funding from:
- Oil and natural gas production taxes, also known as severance taxes;
- Appropriations from general revenue (GR);
- Interest paid on the ESF balance; and
- Half of any GR unencumbered balance.
Withdrawals from the fund may be made:
- If the Texas Comptroller identifies a deficit in the current biennium with a three-fifths vote of members present in both houses;
- If the Comptroller anticipates a decrease in revenue between the current biennium and the next biennium with a three-fifths vote of members present in both houses; and
- At any time and for any purpose if there’s a two-thirds vote of members present in each house.
While the ESF has served its purpose of covering revenue shortfalls as voters approved on the ballot, the fund has been increasingly ransacked through a two-thirds vote for non-emergency reasons. Figure 1 shows billions of dollars were allocated to non-emergency expenditures since 1989 where legislators have often found it in their best interest to dip into the ESF instead of funding these items with GR to bypass the constitutional spending limit.
Source: Legislative Budget Board
While there’s no doubt that these expenditures are important, their funding from the ESF should be questioned if they are not to fund budget shortfalls ($3.2 billion) or disaster relief ($0.2 billion), which combines to less than one-third of the $10.7 billion appropriated. The other two-thirds appropriated risks the opportunity of the ESF to cover unforeseen budget shortfalls.
To eliminate these ESF abuses, the Legislature should pass a constitutional amendment that requires a four-fifths vote of all members (not just those present) to allocate ESF funds at any time and for any purpose outside of emergency funding. In doing so, the ESF will be more likely to retain its financial strength while also discouraging unnecessary budget growth.
Additionally, legislators should consider a constitutional amendment to reduce the current ESF maximum limit of 10 percent to 7 percent of certain biennial GR-related funds. Research indicates that the 7 percent maximum cap would provide sufficient funding, along with spending cuts, to cover substantial revenue shortfalls during the vast majority of economic recessions while allowing the other potential 3 percent to be used for more productive purposes.
The final consideration is for the Legislature to pass a constitutional amendment that requires funds above the ESF cap to go either towards payments of state liabilities or be returned to the taxpayer. In the former scenario, Texas would be able to decrease its debt— thereby reducing future tax burdens—and in the latter, funds above the cap would be returned to taxpayers by temporarily lowering the state’s sales tax through the Sales Tax Reduction (STaR) Fund.
The ESF is critical in maintaining a conservative budget, free of massive tax hikes or spending cuts in times of depressed revenues. However, it’s equally critical that we limit the scope by which the ESF can be tapped for non-emergency reasons to ensure that there’s not unnecessary spending. This is essential to restrain growth in the total budget to more than population growth plus inflation, thereby keeping taxes lower than otherwise to support economic stability and growth—key components of vast economic opportunity statewide.