State Employee Contracts and Budget Uncertainty

If there is a thin silver lining in the current COVID crisis, it’s that there is some renewed recognition and appreciation for the work of government and the people who undertake it.    In times like these, the critical behind-the-scenes daily responsibilities and activities of the public sector become a lot more visible.  State government employees have earned a lot of goodwill from citizens in its COVID response.  

This current context would seem supportive of approving the state employment contracts now working their way through the legislature.  However, the virus is a natural disaster for state government finances calling into question what we can afford.  And underneath the immediate budget impacts is another question: whether state human capital needs can be adequately and cost effectively served by compensation designs essentially untouched from over a half century ago.

A Messy Political Situation

Eleven labor agreements covering the current biennium (July, 2019 - June, 2021) are up for ratification — agreements that were reached long before the pandemic showed up.   Lawmakers will always have differences of opinion on the fairness and appropriateness of contract terms.   But to have the economic environment and budget circumstances surrounding the agreements shift so suddenly and dramatically is unprecedented and introduces a new dimension to their consideration.  

Further complicating matters is the fact that even though the legislature has not yet ratified these contracts, some have already been implemented.   Under state statute, contracts are implemented on an interim basis if either they are given interim approval by the Subcommittee on Employee Relations or if the Subcommittee does not reject them within 30 days of receiving them.   Last October the Subcommittee cancelled its meeting to take them up.  Therefore, several contracts went into effect under that latter provision retroactive to the beginning of the fiscal year (July 1).  Those contracts include the two largest -- AFSCME Council 5 and the Minnesota Association of Professional Employees (MAPE) which together represent over 30,000 state employees.   If these contracts are not ratified, everything defaults back to the contract terms of the previous biennium triggering pay cuts for a significant share of the state workforce — offset slightly by health care savings from higher cost sharing employees were to assume under the new contracts. ^[1]

Advocates of the contracts note there is no new appropriation tied to their ratification.  According to the Legislative Coordinating Commission (LCC), when agencies developed their proposed FY 20-21 biennial budgets prior to the 2019 session, MMB provided instructions about what to assume for compensation cost increases.   The legislature made appropriations based, in part, on those budgets.   Thus, agencies are paying for the costs of the whatever was ultimately negotiated within their existing FY 20-21 appropriations.   (However, the timing here is worth noting.  MMB essentially sets the “floor” for negotiations by communicating those assumptions about compensation increases before final agreements have been negotiated.) 

If next week’s interim budget projection flips to a large deficit as most are expecting, some tough budget decisions will be forthcoming, even with the reserve at the state’s disposal.  Even though the biennium contracts are already “paid for” in an appropriations sense^[2], the commitments would reduce the state’s flexibility in putting together a budget response.   According to the Legislative Coordinating Commission (LCC), the compensation settlements (which include insurance, FICA and pension contribution costs) total $444.3 million in new money for the current biennium, an increase of 4.8%.   The impact on the out-biennium is an additional $756.6 million in tails resulting in a $1.2 billion total commitment to higher state government compensation through FY 2023.    

To our knowledge there has been no overture made to have an “emergency renegotiation” and modify the contracts in light of current circumstances (for example preserving the first-year terms to avoid employee pay cuts but zeroing out second year salary increases to accommodate the high levels of budget risk and uncertainty).  It’s possible the state’s interim budget projection may trigger such a discussion.  But at this point it appears to be all or nothing portending some rather acrimonious discussion, a potential state public relations headache, and at least some degree of backlash from either employees or the public.   Politically, appearances likely matter as much as actual budget impacts.   As one legislator has said, “we all may be in the same storm but we are definitely not in the same boat.”

Will Contracts Address the Underlying Policy Concern?

In pushing for their ratification, MMB has continually emphasized the state’s need to able to attract and retain needed talent and being able to remain competitive with its workforce.    That is a well-documented and increasingly serious problem shared by governments around the country.    But as we discussed at length in our recent Fiscal Focus feature article on the state’s human capital system, “more money” swims upstream against powerful structural undercurrents.   The number one objective and focus of Minnesota’s compensation system – preserve internal equity across and within government occupations -- does no favors for addressing government’s workforce attraction and retention needs.   These new contracts offer an opportunity to better understand how one government compensation staple, step provisions, can undermine this objective.

Steps are annual adjustments made on the anniversary of state employment.  Step percentage increases are larger than the far more frequently-reported cost of living adjustments (COLA) and have an influential compounding effect on biennial salary growth (COLA x Step x COLA x Step = biennial salary growth.)   The number of steps is limited in each job class meaning longer-term, high-performing employees staying in the same job class may be shut out of these salary increases.  Thus, the fastest rates of salary growth occur at the beginning of a public employee’s career.

The table below shows the new contract impact for the state’s two largest public employee unions which represent 56% of the state’s total compensation base.      Over half of this subset of state employees would receive salary increases of 10% and higher over the current biennium.  Those not eligible for steps would receive a cost of living adjustments totaling 4.8% for the biennium and a biennial salary increase less than half of their less experienced peers.^[3]

Does this spending support the stated policy concerns of attracting talent and retaining high performing individuals?   Two details suggest steps are more likely to work at cross purposes with these goals.

First, even though they are commonly described as “merit increases,”^[4] step compensation is given simply for satisfactorily meeting job expectations and performance standards.   Compensation for employees exhibiting “outstanding performance” varies by contract but instead generally done by providing no more than one achievement award per year  -- up to a $1,000 bonus or an extra step increase.   Achievement award sums have a fiscal year cap (undoubtedly due to fixed compensation grid constraints) and fiscal year contracts stipulate a maximum of 35% of state employees can be recognized for outstanding performance.   From a compensation standpoint the state has to “ration” the financial recognition of employees the state may have the greatest interest in retaining.    

Second, the state’s “default” action is to grant everyone their annual step increases.  In other words, providing steps does not require an affirmative notification or action by management.   Instead, refusing a step increase requires a manager to give the employee a written notice that the step increase is to be withheld because of less than satisfactory performance.   If that notification is not given to the employee prior to the employee’s anniversary date, the step increase is automatically granted.    Notably, any withholding of a step increase is grievable/arbitrable which triggers administrative demands most managers would prefer not to have to deal with.

According to MMB, 92% percent of step-eligible employees receive their step increases.   That translates into hundreds of millions of dollars in fixed compensation that cannot be repurposed to better support top performers or offer the flexibility to attract and retain talent in government where it is most needed.

This is one reason why the National Academy of Public Administration (NAPA) has declared government human capital systems “broken … hindering the ability to recruit, develop, and retain top talent.”   This is one reason why the National Association of State Chief Administrators has stated “it’s time to rethink how states categorize and describe the work they do around talents and characteristics rather than focusing on titles, government scales, and jargon that will soon become obsolete.”   The new state contracts feature several new spending provisions to address talent attraction and retention problems including student loan reimbursements and incentives for successful referrals and hard to fill positions.    But the state’s core compensation system constructs have long remained impervious to reconsideration or reform.  The question needs to be asked: how much of government’s workforce attraction and retention problems can be traced to the unintended consequences of what the National Academy of Public Administration has called “the blind pursuit of internal equity” and worker dissatisfaction in having bureaucratic job class evaluations compress wages below market rates while being treated as a largely indistinguishable commodity within tightly prescribed job descriptions?

These contract ratifications offer another flash point in a session homestretch guaranteed to offer some fireworks.  Budget ramifications are a big issue but not the only issue at stake.  If the upcoming budget impacts are severe enough, we face the possible prospects of pink slipped employees, hiring freezes for critical unfilled positions, and biennial salary raises of 10% or more.  It’s not clear to us government how government service delivery is supported by that eclectic combination of actions.