Many states in the U.S. are facing budget deficits this year. According to one estimate states collectively will face an estimated $80 B in deficits. California is one of the states with a huge budget shortfall. Today the rating agency Fitch downgraded California to A-minus and is just eight days away from issuing IOUs unless lawmakers solve the crisis.

The following are some examples of budget deficit news headlines:

• Strickland: Ohio facing $7 billion deficit 
• Michigan’s budget deficit gets deeper
• Florida faces $1.5 billion budget deficit
• State budget deficit grown to $12.5B, says Paterson
• Arizona Budget Deficit Worst in the United States

Faced with the shortfall many states are cutting services  and increasing fees on items such as auto licenses, title, registration,  etc. Some local governments are adding traffic red light cameras to catch speeders and generate additional revenue. One of the worst fees that is becoming popular is the so-called “crash tax” , which is basically fees charged for fire and police response when a person is involved in an accident. The logic behind this is that if one is involved in an accident he/she has to pay for the emergency services they receive. Mostly this fee is charged to the insurance carrier. However in some cases the drivers who caused the accident  have been sent the bill.

I wanted to find out why many states are facing budget shortfalls now. The following graphs are the result of my analysis.

Click to Enlarge Image

The above chart shows that since mid-2006 the state and local government social benefits spending as a percentage of  current receipts  has been increasing consistently while all four main type of tax revenues have been either flat to down or went up very slightly. Income, Sales, Property and Taxes on corporate income have all been below social spending in 2008. Sales tax revenues and corporate tax incomes are on a downward slope due to the current recession. Property taxes for all states have stayed in the 20% range since 2002. Higher unemployment rates projected for the rest of this year will push social spending higher and cause other tax revenues to fall.

A historical graph of the state and local revenues and social spending is shown below. This chart also shows that social spending as a percentage of current receipts has increased over the years.

Click to Enlarge Image

There are other causes of budget deficits that are not addressed in the analysis. Some of them include reckless spending on wasteful projects, high salaries paid out to current government employees, liberal retirement,health care benefits offered to retired workers, etc.

In the residential real estate market, foreclosure activity continues to be a major drag though it decreased in May relative to April. Last year a record 3.1 million filings were made. RealtyTrac predicts this year  a total of 4 million foreclosures.Businessweek predicts the housing market to recover sometime in 2012.

The Commercial  Real Estate (CRE) market is also continuing to deteriorate. As companies go bankrupt additional CRE space would flood the market. A few firms such as Circuit City, Linens ‘N Things and mall operator General Growth Properties have filed for bankruptcy. While some are predicting a big crash in the CRE market I think it is unlikely to cause a severe economic strain like the one caused by the collapse in the residential market. This is because  CRE is not as large as the residential market as shown in the graph below.

Composition of Total Mortgages Outstanding in the U.S.:

Source:  L.217 Total Mortgages, Flow of Funds Accounts of the United States report, 1Q-2009

Residential real estate accounts for the largest amount of mortgages outstanding. From $6.2 Trillion in 2002, it has risen to $11.9T (annualized rate)  in first quarter 2009. CRE  accounts for 2.5T in 1Q, 2009. To put these numbers in perspective, the U.S. GDP is about $14.3 T.  The residential mortgage amounts outstanding increased year-over-year till the housing boom ended in 2007. Farm forms a minor portion of the total real estate market. In 1Q, 2009 farm mortgages outstanding accounted for only $111B at an annualized rate.The total mortgage amounts owed exceeds the total GDP of the country.

The personal savings rate in the USA started to increase since last year when the economy crumbled. Traditionally Americans save less than people in other countries. Europeans, Asians and others are high savers. But in the past how much did Americans save each year? Has the savings rate been always too low? In order to order these questions  I analyzed data from the Bureau of Economic Analysis. The following is a brief summary of this research.The chart below shows the historical trend of personal savings rate against personal disposable income since 1929.

The following chart shows the savings rate as a percentage of personal disposable income from 1929 thru 2008:

Source: Table 2.1. Personal Income and Its Disposition,NIPA Tables, BEA

From 1941 to 1945 during war time the personal savings rate increased significantly reaching 20.4% in 1945.However from the 1980s it started heading down and stayed at a healthy 7.7% in 1992. Since then it continued to get worse. By 2005 it went under 1% to just 0.4%. This is interesting since even during the bubble ear of the late 90s Americans saved anywhere from 2 to 5%. From a low of 0.6% in 2007, the savings rate shot up to 1.8% in 2008 as more of their disposable income than on consumption of goods and services.

If the economy does not improve, savings rate may continue to increase and possibly reach high single digits like it did up until the late 80s. But savers have very few incentives to save as the interest rate on any savings account is at very low levels. The following best interest rates from Bankrate.com shows the horrendous rates offered now:

1 Year Certificate of Deposit (CD) – 1.97%
5 Year Certificate of Deposit (CD) – 3.07%
6 Months Certificate of Deposit (CD) – 1.43%

In addition,  some large commercial banks pay 0.01% interest on savings accounts. Some investors are keeping their funds in CDs or money market accounts now in order to protect the principal instead of investing them in the markets. Hence the personal savings rate may be slightly skewed. Overall the growth in personal savings rate is a positive for the long-term. But I would argue that the current savings rate needs to increase substantially before we can say that we are saving too much and that high savings is actually hurting the economy.