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Federalism at a crossroads.

States lost ground to the feds in the 1980s. Will federal fiscal problems swing power back to them, or further erode the states' role in the federal system?

James Madison wrote in Federalist 39 that "... the proposed government cannot be deemed a national one; since its jurisdiction extends to certain enumerated objects only and leaves to the several states a residuary and inviolable sovereignty over all other objects."

Some 200 years later, states seem less than inviolable. They are being forced to limit spending on their own programs, particularly education, and to fund federal priorities like Medicaid and environmental protection--programs over which they have little control. And with $300 billion annual deficits as far as the eye can see, federal policymakers are talking more seriously about snatching a larger share of the states' tax base to reduce the federal debt.

Can states, the independent "laboratories of democracy," continue to innovate and govern when the federal government interferes in every aspect of their policy agenda?

Deputy Director of the Office of Management and Budget Alice Rivlin, in a book written before she took office, thinks the time is right for the federal government to devolve some powers upon the states: "The current confusion of responsibilities between federal and state government is undermining confidence in government and impeding the implementation of policies needed to restore a healthy economy. Sorting out |state and federal~ roles more clearly could break the logjam, help both levels function more effectively and improve both domestic and foreign policy."

In considering Rivlin's theory of "sorting out" federal and state responsibilities, it is important to view the context of recent federal actions that have brought American federalism to where it is today.

The Great Depression and the civil rights movement forced the federal government to play a more active role in economic and social policy. In the former case, economic "pump priming" was clearly beyond the capability of the states. In the latter case, states' failures to protect the civil rights of minorities resulted in federal intervention. Along with new civil rights laws, the federal government began to use federal funds as an inducement for states to provide programs and services. The feds also provided funds directly to local governments and community action agencies to help poor and minority citizens.

As these federal grants proliferated, states became overwhelmed by numerous, often overlapping, regulations requiring funds to be spent for specific purposes. The Reagan administration, with support from the states, succeeded in consolidating more than 140 categorical grant programs into a handful of block grants.

As part of his "new federalism," President Reagan in 1982 proposed that the federal government assume the full cost of Medicaid in exchange for states assuming full responsibility for welfare (AFDC) and food stamps. This proposal failed in negotiations with state and local officials. In retrospect, the "swap" probably would have been a great deal for the states. Medicaid expenditures have grown from 8.5 percent of state expenditures in 1982 to 12.3 percent in FY 1992. State AFDC expenditures have grown more slowly than inflation and have declined as a share of state spending since 1982, while food stamp expenditures have grown due to federally mandated expanded eligibility standards.

During the early 1980s, the fiscal fortunes of the federal government and the states diverged sharply. Congress responded to the 1982-83 recession by cutting taxes and boosting spending. States, constrained by balanced budget requirements, raised taxes and cut spending. Twenty-eight states raised either sales or income taxes in their 1983 or 1984 sessions. When the recession ended, the federal government could not bring spending under control and the deficit ballooned to over $200 billion annually,

In the states, however, strong economic growth and higher tax rates combined to produce phenomenal revenue growth. State revenues grew by 15 percent in FY 1984, followed by a 10 percent rise in FY 1985. Many states received another revenue boost from the windfall that resulted from the federal Tax Reform Act of 1986.

States used their newfound wealth to boost education funding, build new prisons and provide property tax relief. They also enacted innovative new welfare reform and job training programs. States gained the reputation as the innovators in the federal system, as compared to the gridlocked (and broke) federal government.

In the euphoria of their success, state leaders overlooked some disturbing trends in their relations with the feds. The Supreme Court ruled in the 1985 Garcia vs. San Antonio Metropolitan Transit Authority case that the 10th Amendment--guaranteeing to the states those rights not delegated to the federal government by the Constitution--is essentially meaningless. In overturning a 1976 precedent and applying federal labor laws to state and local employees, the Court in effect concluded that if the states "as states" want protection within the constitutional system they must look to Congress, not to the courts. The Supreme Court's 1988 South Carolina vs. Baker decision subjected state and local bonds to federal taxation. In 1990, the Court also nullified state taxes on trucking companies in Pennsylvania, Arkansas and Kentucky, and ruled that state preferential tax treatment of state and local pensions is unconstitutional. And in the last session of the Court, states were rebuffed in their attempts to collect sales taxes on interstate mail order purchases.

On the legislative front, Congress took its cue from Garcia, which essentially removed all limits on Congress' power to regulate state activities and to compel state action. The Advisory Commission on Intergovernmental Relations (ACIR) documented 88 federal pre-emptions of state and local authority during the Reagan administration, mostly on regulatory issues involving the environment. The feds also used their money as a stick to compel more state Medicaid coverage, which doubled and tripled the cost of Medicaid in some states.

Congress also turned to the consumption tax base for money to fund federal spending. The federal gas tax and taxes on alcoholic beverages were hiked in 1990. And in what may be the most egregious abuse of federal authority to date, Federal Highway Administration bureaucrats notified Maryland last year that its "gas guzzler" tax is invalid because it violates an obscure provision of the federal Corporate Average Fuel Economy law.

The cumulative effect of the court decisions, federal mandates and other federal actions--combined with the recession and weak recovery in the early 1990s--has been to put states in a fiscal box. Lawmakers are frustrated, and it's starting to show. In Colorado, the legislature approved a bill sponsored by Senator Mike Bird that would have pulled Colorado out of the Medicaid program. It was stopped by the governor's veto. In 1992, California notified the Environmental Protection Agency that it would not comply with the Safe Drinking Water Act requirements and would forgo federal funds for administration of the program.

States rarely follow through with their threats to stop participating in joint federal-state programs. However, the eroding public confidence in government that Alice Rivlin describes may provide an incentive for federal and state officials to work together to design a more rational and effective division of responsibilities.

The states have some major advantages over their poor uncle. John Shannon, former director of the ACIR, believes that the nation has "entered into a new period of competitive federalism where leadership in domestic policy will flow to whichever level of government can persuade its voters to provide tax revenues for necessary government services." States have the fiscal discipline of balanced budget requirements, the advantage of being closer to the people and a revenue system that relies on a balance of income and sales taxes, Shannon notes.

A rethinking of state and federal roles could be critical to the success of the Clinton administration's ambitious plan to cut the deficit and spur the economy. The states simply cannot shoulder major new federal mandates or endure federal encroachment on their tax bases without cutting education, highways and other popular programs. Last year, voters in three more states--Arizona, Colorado and Oklahoma--placed strict tax limitations in their constitutions. Yet even those states that do not have tax or spending limitations face political opposition to new tax increases, particularly if they are used to fund programs voters think they are already paying for. Ironically, the human capital and infrastructure programs that President Clinton campaigned upon are primarily the states' responsibility; they will be the hardest hit if the current pattern of state-federal relations continues.

The confusion of federal and state responsibility for the success or failure of programs, if allowed to continue, could harden taxpayers' resolve against government. Colorado voters lashed out at federal, state and local governments last November when they approved a very strict spending limit. The same was true in Oregon, where voters approved a property tax rollback in 1990.

On the other hand, Alice Rivlin says, if states are handed full responsibility for certain programs currently shared with the federal government, voters may be willing to support new taxes because they can hold the states accountable for the success (or failure) of such programs. "Polls show voters opposed to paying more taxes for undisclosed purposes but willing to pay for improved schools or increased environmental protection," Rivlin says. Voters in Nebraska and Oklahoma reaffirmed legislative tax increases for education in the early 1990s.

Some state policymakers have expressed hope that reform of the health care system will relieve state fiscal burdens. This is at best an uncertain hope. The chances are slim that the federal government will take on expanded funding responsibility for health care. It is very likely that states will continue to help fund any health care program at the same level or even more than their current share. While federal controls could reduce future growth in costs, the short-term prognosis is for more state funding.

With this sober outlook, what good can states possibly, expect to achieve in the 1990s on the state-federal front? The best hope is that states and the federal government can strike a bargain so that states assume some new core responsibilities in return for a commitment that they will be relieved of others. States can play an integral part in the federal deficit reduction, and this should give them leverage to extract some tradeoffs from Washington.

As part of this bargain, state officials probably would want an understanding about the revenue sources that will be available to each level of government. If revenue sources are to be shared, Congress needs to recognize that frequent changes in federal tax policy create uncertainty for state revenue systems. For example, changes in the federal income tax code can hamper state planning because most state income tax codes are tied to the federal tax code. Also, increases in gasoline taxes for deficit reduction, as the administration is considering, will reduce gasoline consumption and cut into state revenues used to fund highway programs.

The consequences of the status quo in federal-state relations are frightening. Not only is the deficit showing national economic performance by diverting federal tax revenues from domestic spending to repayment of debt (much of it held by foreign investors), it is a big contributor to the recent economic stagnation that is causing continued shortfalls in state revenue collections. And the Congressional Budget Office projects $500 billion annual deficits in the year 2000 and beyond if Congress continues current policies. Lawrence Chimerine, senior economic counselor with DRI/McGraw-Hill, says the next generation will face income taxes of over 70 percent to repay the accumulated national debt. Federal deficit reduction may create hardships, but the alternative will be worse for state fiscal conditions.

A task force on entitlement reform created by NCSL, the National Association of Counties and the National League of Cities provides an indication of state and local willingness to play a constructive role in deficit reduction. State and local government agreement on reform of entitlements would make Washington's job easier. However, as the negotiations over the Reagan "swap" proposal demonstrated, building consensus at the state and local level will be difficult.

Is there reason for optimism? Maybe. The new administration will have many former governors and other elected officials who understand state and local problems. States have an opportunity to participate as partners in an effort to reduce the deficit and restore the national economy.

There may also be some rays of hope shining from the Supreme Court. For the first time since the Garcia decision, the Supreme Court in 1992 handed down a decision in New York vs. United States that limits federal powers to compel state action. In a case involving the disposal of low-level radioactive waste, Justice Sandra Day O'Connor (a former Arizona legislator) wrote, "Congress may not simply commandeer the legislative and regulatory processes of the states."

States can only hope that this message is heeded by Congress and the new administration.
COPYRIGHT 1993 National Conference of State Legislatures
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Title Annotation:US politics
Author:Mackey, Scott
Publication:State Legislatures
Article Type:Cover Story
Date:Mar 1, 1993
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