Too Much of a Bad Thing? Questions About $1.22 Billion in New Debt

As the Senate and the House begin the process of reconciling what are two vastly different approaches to spending and taxation, it is a good time to review what is, perhaps, the most distinctive feature of the Senate budget passed last week – namely, the creation of $1.22 billion in new debt over four years. All of this debt is to be fi nanced through the issuance of certifi cates of participation (COPs), which unlike general obligation bonds, do not require voter approval.

The Senate plan calls for $830 million in borrowing over the next two years, with the remaining balance of $390 million incurred during FY2009-10 and FY2010-11. The new debt is to be spent on about 35 construction projects, mostly within the UNC system.

What About the Budget Surplus?

The Senate borrowing plan has attracted a fair amount of publicity, as much for the numbers as for the method of fi nancing. First let’s look at the numbers. Is this level of new borrowing really necessary? Certainly, the House doesn’t think so; their budget only allocates $449 million in COPs fi nancing over the next two years.

Curiously, the Senate budget anticipates $1.135 billion in “projected over-collections” in FY2006-07. Translation: a $1.135 budget surplus. Given the magnitude of the projected surplus, why does the state need to borrow any money at all? Moreover, why borrow the money using COPs, which is more expensive to pay off than general obligation bonds? Doing so is equivalent to using a high-interest credit card to buy a car when one has the fi nancial resources to do otherwise. On the surface, it makes no sense.

The Senate budget will also only exacerbate the expansion of long-term state debt over the past 10 years. From 1997 to 2006, such bond issuances increased nearly fourfold, going from $1.5 billion to $5.7 billion. According to fi gures from the state treasurer’s offi ce, state debt has more than doubled between 2001 and 2006, rising from $3 billion to more than $6.5 billion.

What does this mean for the average North Carolinian? In short, between 2001 and 2006, the state’s per capita debt burden increased from $372 to $730. If the Senate borrowing plan is approved, per capita debt will rise even higher. Preliminary estimates indicate per capita debt would reach $807 in FY2007-08 and then $858 in FY2008-09: an increase of 103 percent in only eight years (see graph).

The Senate’s $1.2 billion borrowing plan has even drawn fi re from fellow Democrats. State Treasurer Richard Moore, for instance, cautioned that the Senate proposal costs too much and could endanger the state’s credit rating. Likewise, Governor Mike Easley expressed reservations about the size of the package – even though the governor’s own recommended budget included approximately $209 million in COPs fi nancing, plus an additional $1.4 billion in general obligation bond debt.

What About the Voters?

If $1.22 billion in new debt is cause for concern, the fact that the voters aren’t being allowed to approve this debt is even more objectionable. Consider that it’s been seven years since the state submitted a general obligation bond proposal to a voter referendum.

In North Carolina, taxpayer-supported debt is issued in two ways: via general obligation bonds or by special indebtedness authorizations. Certifi cates of participation (COPs) are the most popular form of special indebtedness. Unlike general obligation bonds, COPs are technically not guaranteed by the “full faith and credit of the state,” but by liens on the buildings, property or equipment that will be purchased or constructed with the borrowed funds. Thus, unlike general obligation bonds, COPs do not require voter approval.

Prior to 2000, the state employed a “pay as you go” approach or issued general obligation bonds to finance capital projects. Over the past few years, though, legislators have developed a preference for COPs over other financing methods, with the result that the state owed more than $740 million in COPs debt as of FY2006.

According to Senate President Marc Basnight (D-Dare), $1.22 billion in new construction for UNC is so important that a vote of the people isn’t necessary. After all, explained Basnight, “If we don’t have places of learning, we can’t be competitive.” But if the need for this debt is so obvious, why doesn’t the House, or the governor, or the state treasurer see the need as well? In fact, the Senate’s plan raises serious questions:

• What About the Constitution? Because COPs do not require voter approval, such borrowing weakens the public’s long-held veto power on questions of public debt. Aside from a few clearly articulated exceptions, the North Carolina State Constitution (Article V, Section III) firmly establishes the principle that citizens have the right to vote on expansions of the public debt.
• What About the State’s Bond Rating? The Senate’s budget ignores the state treasurer’s February 2007 Debt Affordability Study, which recommends that the state “balance its approach and consider the authorization of General Obligation debt as the preferred, if no longer exclusive, method to finance capital projects.”
• What About the Additional Cost? The COPs “buy now, pay later” philosophy is appealing to many lawmakers. But let’s not forget, that we WILL pay much more later. Preliminary estimates from the Fiscal Research Division of the General Assembly indicate that, after principal and interest payments are included, the $119 million UNC-Chapel Hill Genomics Science building, for example, will actually cost taxpayers $191 million. Similarly, the real cost of the $114 million Centennial Library at NC State University will be $182 million. In both cases, principal and interest payments increase the initial cost of the project by almost 60 percent.
• What About the Last UNC Bond Package? In 1999, voters approved a $3.1 billion bond referendum for UNC construction projects. Approximately $1.1 billion of the $1.2 billion Senate indebtedness plan is for construction of higher education buildings, labs, classrooms and libraries, mostly at UNC campuses. Why is more money needed? Does the preference for COPs funding reflect the Senate’s private belief that another UNC bond referendum lacks public support?
• What About K-12 Education? Recent growth and student enrollment patterns make another statewide school bond inevitable. Most estimates suggest the initiative would likely vary between $1 billion and $2 billion. Yet discussion of a K-12 school construction bond has been curiously absent from budget deliberations. Do lawmakers think the public is likely to choose a K-12 construction bond package over another UNC building program?

There’s much not to like in the Senate’s $1.2 billion COPs spending plan. The plan adds to the state’s growing debt burden. Worse still, COPs borrowing deprives the public of its power to exercise oversight over the state debt. The Senate plan is wrong because it’s too much money. More important, it’s wrong simply because it’s a bad idea.