State seeing end to fiscal downturn

Massachusetts is about to emerge from a deep financial hole.

When the state closes the book on another fiscal year June 30, Massachusetts, for the first time, will have collected more tax money than it did in 2001, the year the economy and stock market collapsed. In the current fiscal year, the state expects to collect about $17.1 billion in taxes, up more than 7 percent from last year. In 2001 the state collected $16.7 billion.

The four-year recovery to get back to the old peak is the longest in recent history, and may well be the slowest such comeback since the Depression, according to those who follow the state's finances.

In many ways, Massachusetts is emerging from the downturn in good shape. Tax receipts are growing and the state's depleted reserves are being replenished. In recognition of the improvement, Standard & Poor's in March upgraded the state's bond rating to AA, the highest ranking the state has enjoyed since the late 1980s. The rating agency praised the state's ability to manage through tough times ''without the use of many one-shot revenues that other states have employed."

But the four-year workout has taken its toll. Massachusetts put the brakes on spending, making cuts in higher education and public health and holding spending basically flat for public education and aid to cities and towns. According to Economy.com, a Pennsylvania research firm, municipalities in Massachusetts cut their workforces more steeply than in any other state in the nation between 2001 and 2005.

''For us, times are bad and they keep getting worse," said Michael McGlynn, mayor of Medford, one of many communities that have felt the impact of the fiscal squeeze.

The Romney administration believes the state is flush enough to cut taxes. ''If the money sits around, it will be spent," said Eric Kriss, secretary of Administration and Finance. The Democratic Legislature has rebuffed the call for tax cuts, arguing that any extra money should be used to restore spending cuts and build reserves.

In 2001, Massachusetts' tax collections fell off the cliff -- a development that played out in other wealthy states like New York and California. In the late 1990s the rising stock market filled the state's coffers with taxes generated by stock options and capital gains. When the market fell, that money dried up overnight.

In the year that ended June 30, 2002, Massachusetts' tax receipts fell almost 15 percent. ''It was an unprecedented decline," said Philip Shapiro, head of Standard & Poor's Boston office. Equally unprecedented was the state's response. In previous downturns in the 1970s and the early 1990s, Massachusetts immediately hiked the rate on its income tax to recoup lost tax receipts. This time around, the state cut income taxes, a course approved by voters in a November 2000 referendum. According to the Tax Foundation, a Washington think tank, the tax burden in Massachusetts is lower today than it was in 2001.

How did Massachusetts make it through four years with less tax money? Financial specialists say the state employed a variety of strategies. These included:

Dipping into savings. Massachusetts came into the fiscal crisis with money in the bank. During the economic boom of the late 1990s, the state set aside money in a ''rainy day" fund to prepare for an eventual downturn. When the recession hit, Massachusetts had $2.8 billion in the fund and several hundred million more in other accounts -- a level of savings few states could match. Over the past four years the state spent $1.7 billion of those reserves. ''Without that money the pain would have been worse," said Michael Widmer, president of the Massachusetts Taxpayers Foundation, a watchdog group. Widmer credits former House Speaker Thomas M. Finneran for resisting calls to spend the extra money or give it back in the form of tax cuts.

Selectively hiking taxes. After going along with income tax cuts in 2001 and 2002, the Legislature in 2002 froze the tax rate at 5.3 percent, rather than letting it drop to 5 percent as scheduled. The Legislature also boosted taxes on capital gains and eliminated other tax breaks. The Romney administration increased taxes on business by $275 million and hiked fees by $400 million. Kriss disputed the notion that those actions constituted tax increases. He described the business changes as ''closing loopholes" and said fees were raised merely to bring them into line with inflation.

Squeezing spending. Kriss said the downturn forced Massachusetts to confront tough questions. ''What are we spending and how can we spend it more wisely?" he asked. It is unclear whether the state spent money more wisely. What is clear is that it spent money more slowly. Over the past four years, state spending grew at slightly less than 3 percent a year, about half its historic pace. In the first three years of the crisis, spending rose at a 1 percent rate. In some areas, spending fell sharply: Spending on higher education fell 17 percent, housing assistance 31 percent, and environmental agencies 24 percent. Spending on traditional education rose about 1 percent a year. State aid to communities was level-funded, but in 80 percent of towns and cities, state aid declined. ''The state has pushed its problems down to the municipal level," said Widmer, who noted that local property taxes have risen considerably to fill some of the gap. Catherine Boudreau, president of the Massachusetts Teachers Assocation, said the impact on education has been profound. ''If the goal was to thin out public education, then that is what has happened," she said.

Benefiting from a rebounding economy. Starting in 2003, the Massachusetts economy began a slow recovery. ''An economy that is deep and diverse is again producing jobs and reducing already historically low unemployment," Standard & Poor's wrote in its upgrade of the state's bond rating. Tax receipts have bounced back faster than employment, the result of rising capital gains and bonus payments, economists say.

Charles Stein can be reached at stein@globe.com.