“One of our top priorities is not to be in a situation where we can get over our skis on either side — tax cuts or spending,” Youngkin said in brief remarks to reporters this week after meeting with a panel of business leaders assessing the economy prospects of the state.
Youngkin chaired the annual retreat of the Governor’s Advisory Council on Revenue Estimates, a group of business and finance leaders — as well as lawmakers from General Assembly budget committees — that prepare economic forecasts that support the budgeting process.
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Youngkin said the panel’s broad consensus during the two-hour discussion was that some degree of economic slowdown was likely. “The general expectation is that there will be a recession next year,” he said. That would require budget officials, he added, to be “very prudent, especially next year when we’re headed for a storm – and we really all think it’s going to be a storm; We’re just not sure if it’s a tropical storm or a hurricane-level storm.”
Inflation, Russia’s invasion of Ukraine, supply chain issues stemming from pandemic-related shutdowns, as well as the Federal Reserve’s steady hike in interest rates to combat rising prices are all helping economists anticipate an impending recession. But Youngkin pointed out that Virginia is in an unusually good position to withstand the drop in tax revenues that could accompany a cooler economy.
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That’s because two years of federal pandemic aid, combined with a strong recovery from businesses and the wealthiest taxpayers, have filled state coffers to the brim. Thanks to the measures passed by the General Assembly and signed by Youngkin and his predecessor, former Governor Ralph Northam (D), Virginia will reach an all-time high in its fiscal reserves.
By the end of next year, Youngkin said, the state’s reserves will surpass $4 billion, or about 15 percent of general sovereign wealth funds — a level that state lawmakers once thought nearly unattainable. These reserves help protect Virginia’s cherished triple-A bond rating and can safeguard finances if revenue fails. In addition, the state ended last fiscal year with a surplus of $3.2 billion.
“The Commonwealth is in its best financial position ever,” Youngkin said, although he has also argued that some of this tax cushion is the result of over-taxation during Richmond’s Democratic governments.
Youngkin’s office reported strong tax receipts for October, with receipts up 3 percent from the same month last year. These included the state handing out a round of taxpayer refunds, as well as the first impact of an increase in the standard deduction for income taxpayers that the General Assembly approved at its meeting earlier this year.
Excluding these factors, October revenue would have been up 10.3 percent year-over-year.
Youngkin took office in January and promised tax cuts, and the split legislature — Republicans control the House and Democrats the Senate — delivered $4 billion over the next two years, including nearly doubling the standard deduction. This change is expected to reduce government revenue by approximately $50 million per month.
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But Youngkin failed to win support for his proposed gasoline tax exemption, and while he got lawmakers to agree to scrap the state’s 1.5 percent food tax, a local 1 percent food tax remains in place. Democrats — and even some Republicans — have expressed concern that broader tax cuts would limit the state’s ability to fund its obligations during times of economic uncertainty.
“We’re in such shaky waters,” Janet Howell (D-Fairfax), co-chair of the Senate Finance and Appropriations Committee, told reporters in August. “Hopefully we can do some tax breaks, but it’s not necessarily in the bag and I don’t want people to get their hopes up.”
Senate Majority Leader Richard L. Saslaw (D-Fairfax) said in an interview this week that he was very skeptical about the idea of tax cuts during an economic downturn. “If we hit a recession [and cut taxes]we’re going to shut down half the government,” he said, adding that Virginia is still lagging behind in terms of increasing salaries for teachers and law enforcement and providing mental health services.
“We have to address features that people expect from us,” Saslaw said.
Lawmakers are expected to convene a new session on Jan. 11, and Youngkin has said he will propose a $397 million fund to “taxpayer relief” and has expressed interest in a corporate tax rate cut among other possible cuts. He will set out his budget priorities on December 15 when proposing changes to the two-year spending plan, which went into effect on July 1.
On the plus side of the balance sheet, job growth has returned to Virginia since the end of pandemic-related shutdowns and business restrictions. The state’s unemployment rate was 2.7 percent in October, one point below the national rate, and wage growth has picked up.
But Youngkin, a former private equity executive who enjoys discussing government finances, outlined several potential pain points that could impact tax revenues next year. Most of the state’s revenue comes from taxes withheld from residents’ paychecks, he said, and that would suffer from recession-related job losses.
Non-withholding taxes — tied to the stock market or other capital gains — “are much harder to predict,” Youngkin said. “We will be reasonably cautious on this forecast,” given the steep rises and falls that markets have seen over the past year.
Corporate profits are another important source of government tax revenues, and Youngkin said he expects them to come under pressure next year if the economy slows. And consumer spending, which drives sales tax receipts, “has generally been pretty healthy. The consumer’s overall balance sheet health has deteriorated somewhat, but it’s still good compared to where we were before the pandemic. But that can change quickly. And that’s why we’re watching it very closely,” he said.