OBM director says Ohio weathered high interest rates well as Fed begins rate cuts

Hannah News Service 

The Federal Reserve for the first time in four years cut the interest rate by 0.5 percentage points last month, which could not only stimulate the broader economy but also affect state budgets going forward, including Ohio’s. 

Office of Budget and Management (OBM) Director Kim Murnieks, in an interview with Hannah News, said the rate cut will have an effect on Ohio’s state budget in two major ways. On the plus side, the interest rates it pays on its bonds will be less, but on the negative, the interest that the state earns on its funds in the state treasury will be less. 

“The state really did manage through the recent high-interest rate environment fairly well, and as a result, achieved very positive returns for taxpayers,” Murnieks said. 

She pointed to moves such as the DeWine administration's working with state lawmakers to use cash instead of bonds in the capital budget as state revenues came in higher than projected. That helped save taxpayers $1.3 billion in interest costs, she said. 

She said the decision was due to both having the extra revenues while also knowing that interest rates were on the rise. 

“It was a confluence of those factors that we were able to not be in the capital markets at a time when we would have had to pay much higher interest rates to be there,” she said. 

That also contributed to Ohio’s credit rating, which was raised to AAA by the rating agencies, which Murnieks attributed in part to using cash rather than bonds during the high-interest rate periods. 

On the investment side, Murnieks said the administration was able to work with the state treasurer to take advantage of the higher interest rates in its investments, earning about $300 million in interest in FY23, and $450 million in FY24. Additionally, the above target tax revenues allowed the state to earn even more interest on its cash balances while avoiding issuing bonds and paying interest on those bonds. 

According to an analysis by the Pew Charitable Trusts, the shift in monetary policy by the Federal Reserve represents a subtle but important change in the operating environment for state budgets as interest rates affect every aspect of government finance, from revenue to infrastructure projects. 

The higher interest rates of recent years have discouraged borrowing and, as Utah Legislative Fiscal Analyst Jonathan Ball noted during an interview with Pew Charitable Trusts, this has led some lawmakers to tap historically large general fund and other cash balances to pay for capital projects. 

With lower rates and declining balances, that could change. One rate cut won’t necessarily spur more borrowing right away, but policymakers and other stakeholders are watching. 

“It's more an indicator of what’s to come,” Ball said. “But if we keep going down this path and we get back to 2 percent on the federal funds rate -- or below that -- then we start to see debt costs that are super enticing.” 

In addition to making new borrowing more affordable, lower rates could prompt states to refinance older, higher-interest bonds to free up fiscal bandwidth for other priorities. 

Lower borrowing costs also affect the housing market, according to Pew. As mortgage rates decline, buying and building homes becomes more affordable, which can have significant effects on state budgets -- particularly by reducing demand for state-funded housing assistance. For instance, many states have implemented programs aimed at making housing more accessible and affordable for residents. But if lower interest rates help spur more homebuilding, that could lead to increased housing affordability and decreased reliance on these programs, potentially freeing up state resources for other pressing needs, such as education, health care or infrastructure. 

The rate cuts could also boost economic activity amid slower growth, Pew said, leading to an uptick in tax revenue as a result. 

“Maybe that’s the biggest positive effect is if people in general are encouraged to take risks and feel secure in doing so because interest rates are a little bit lower,” said Municipal Market Analytics analyst Matt Fabian in an interview with Pew. “That could be, overall, a good thing for the states.” 

This potential boost in tax revenue could help offset some of the declining revenue pressures that states are facing, including slowing economic growth and the fading of temporary factors -- such as one-time federal pandemic aid to businesses and individuals and a shift in consumer spending from often untaxed services to taxable goods -- that led to higher-than-expected tax collections in recent years. 

Murnieks also pointed to the effect of the interest rate cuts on consumer spending. She said consumer sentiment is fairly low and credit card balances are still high, and while the impact may not be seen until the longer term, the budget office will be watching the impact on the upcoming holiday season. 

She said on the auto sales tax side, higher interest rates affected the market, and fewer people have been buying cars over the past year. That should start to flip as interest rates and car loan rates come down as the Federal Reserve continues to lower rates, she said, and is something they also are closely monitoring. 

Asked about forecasts for the economy and what they expect for the next budget, Murnieks said all states, including Ohio, are seeing their general funds come back to “normal levels,” something that they anticipated. She said OBM expects a “lower growth rate environment” in the next biennium. 

“We don’t expect to have a continued environment of one-time money, either federal money or state money, so it should be a more normal revenue cycle compared to what we’ve seen over the last few budgets,” she said. 

She added that the revenue forecasts will be finalized over the winter, so it is too early to make predictions. 

“A lot of states are seeing data exactly like Ohio has been seeing,” she said. “Economists are largely projecting low, slow growth, but not a negative environment.”