October 20, 2009

Raters uncertain on impact of tapping the rainy day fund; When do you put up Maryland’s fiscal umbrella?

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By Len Lazarick
len@marylandreporter.com

It remains unclear how a move to tap Maryland’s emergency rainy day fund would affect the state’s cherished top bond rating, as the state attempts to navigate a stormy fiscal situation.

The state’s largest public employee union and The Baltimore Sun editorial writers are calling for Maryland to draw down its $640 million emergency reserve fund, as Maryland tries to protect itself from a continuing downpour of bad budget news.

However, the three bond rating agencies that last week maintained Maryland’s near sacrosanct AAA bond rating are uncertain about what the implications might be if the state taps the rainy day fund. The rating, affirmed in advance of the state’s sale of $800 million in bonds Wednesday, leaves Maryland as one of only seven states with the distinction.

“It would go against their policy” of maintaining 5% of revenues in reserve, Richard Marino of Standard and Poor’s said. “I’m not sure what impact it would have on the rating,” though other states have done it.

Maria Coritsidis, lead analyst on Maryland’s budget at Moody’s Investor Services, said, “we make note of states that depend too heavily on non-recurring resources,” and the rainy day fund is one of them. But “many states have been put in that position,” Coritsidis said. “We don’t prescribe a particular level” for funding.”

Virginia, for instance, has used its rainy day fund several times in the last few years, and still retains its triple A rating. Nick Samuels, Moody’s lead analyst for Virginia, said the state once had 10% of its general revenues in reserve, but has now drawn it down to 2%, about $325 million. Samuels said it is the totality of a state’s fiscal picture that goes into the rating. The raters look at “what other kinds of solutions” they’re looking at and “what their plan is to rebuild” the rainy day fund.

The impact of dipping into the rainy day fund — a move rejected last week by Gov. Martin O’Malley, the Gazette reported  —  is “probably is not something I can guess at,” said Douglas Offerman of Fitch Ratings. “We certainly view the presence of that rainy day fund as strength.”

“Nobody would argue that it’s not raining,” Offerman said. Yet “again and again the state has taken the action necessary, often very difficult action, to bring the budget into balance.”

“We give it a lot of credit for its management,” Offerman said. “They’ve repeatedly done what they’ve needed to do.”

Despite the state’s recent struggles to keep its budget in balance, the analysts continue their high praise for Maryland “conservative” financial operations and “long history of prudent fiscal management.”

“In Standard and Poor’s opinion, Maryland has consistently had well-defined financial management policies and a commitment to reserves despite budget challenges,” said Marino’s report.

The rating houses repeatedly stress that Maryland has a broad-based economy that has historically done better than the national economy. Its residents have high incomes that are taxed heavily –- a good thing if you want to make sure bonds are paid back — and lower than average unemployment.

“Maryland’s economy has diversified in recent years, but continues to be proportionally more affected by the activities of the federal government than almost any other state,” said Moody’s commentary.

Despite their positive remarks, the bond raters see continuing problems ahead. In addition to “continued revenue underperformance,” Moody’s notes low funding levels for the state retirement system and retiree health benefits and “overly optimistic” revenue projections for video lottery terminals.

Slots are “not a significant source of revenue any time soon,” Fitch’s Offerman said, making the budget situation “more challenging.”