This morning the Oregon Office of Economic Analysis released the latest quarterly economic and revenue forecast. For the full document, slides and forecast data please see our main website. Below is the forecast’s Executive Summary.
While the Covid-19 outbreak has injected a great deal of uncertainty into the outlook, the nature of our forecast is unchanged. As always, the June 2020 economic and revenue forecast represents what the Office of Economic Analysis and its advisors believe is the most probable outcome given available information. Although actual economic growth and state revenues may depart significantly from these projections, we aim to build a forecast that is just as likely to end up too high as it is too low.
Forecast errors on both the high and low side create problems for decision makers. In a recessionary environment, a revenue forecast that is too low may lead to cuts in public programs that are unnecessarily deep. If the revenue forecast proves to be too optimistic, the budget will need to be rebalanced when the truth eventually comes out. Rebalancing becomes increasingly difficult as we approach the end of a budget period, given that much of the allocated resources have already been spent.
In one sense, the sudden stop of economic activity due to the outbreak of Covid-19 has made the revenue outlook clearer. Economists have a particularly difficult time forecasting turning points in the business cycle. This time around, it became clear overnight that Oregon is in recession and that the downturn will be severe. Recovery will take years.
As social distancing restrictions continue to lift in the months ahead, underlying economic activity will return. Pent-up demand will transition the economy from recession to recovery as households are able to venture out to a larger degree. This rebound in consumer spending, business sales, and profits will lead to firms hiring back some employees. Economic growth in the second half of this year will be strong. However this initial bounce back will be far from complete.
After this rebound in economic activity, growth will continue but at a relatively slow pace due to the uncertainty surrounding public health. Firms and households are expected to remain somewhat hesitant and only gradually test the waters. Once business and consumer confidence fully return following available medical treatment or the passing of the pandemic, stronger economic growth will resume and the economy will fully recover.
While this recession is extremely severe – the deepest on record in Oregon with data going back to 1939 – it is expected to be shorter in duration than the Great Recession. The economy should return to health by mid-decade. The reasons for the faster recovery include the fact that there were no major macroeconomic issues or imbalances prior to the virus, much of the initial severity of the recession is due to suppressed economic activity, and the federal policy response, however imperfect, has been swifter and more targeted than in recent cycles.
Combined, these factors should help limit the amount of permanent damage done to the economy during the shutdown phase. Should the number of firms that close, or the number of workers displaced remain relatively limited, or rather the amount of time they spend as such be limited, then the overall economic recovery timeline should be shorter than last decade.
How severe will the revenue slowdown be? During most business cycles, Oregon’s state revenues have proven to be more volatile than those in the typical state. Not only is Oregon’s underlying economy subject to boom-bust swings, but the state also depends on a very volatile mix of revenue instruments, led by personal and corporate income taxes.
During the current recession, income taxes might not fare so poorly in comparison to other revenue instruments. Given the depth and breadth of the current economic downturn, no state revenue system will be spared from pain going forward. The need for isolation has led to spending declines that far outstrip what is usually seen during recessions, hitting sales tax states disproportionately hard. States that depend on tourism and energy/mining revenues are also in for a tough year or two.
Oregon will share some of the pain felt by sales tax states since our revenue system has become much more dependent on consumer and business spending over time. Even before the corporate activity tax was enacted in 2019, a wide range of sales-based taxes had been expanded in recent years. Taxes on lodging, gasoline, vehicle purchases, video lottery and marijuana sales are all much more substantial than they were during the last recession.
While some taxes will fare better than others, all major revenue sources will face considerable downward pressure given the severity of the recession. The sudden stop in economic activity has led to the largest downward revision to the quarterly forecast that our office has ever had to make. In the baseline (most likely) scenario, General Fund and other major revenues have been reduced relative to the March forecast by $2.7 billion in the current biennium and $4.4 billion in the 2021-23 budget period.
Fortunately, Oregon is better positioned than ever before to weather a revenue downturn. Automatic deposits into the Rainy Day Fund and Education Stability Fund have added up over the decade-long economic expansion, and stood at $1.6 billion in April. In addition to dedicated reserve funds, the General Fund had over one billion dollars in projected balances before the recession hit.
See our full website for all the forecast details. Our presentation slides for the forecast release to the Legislature are below.