“Wall Street Recovering Faster Than Anticipated” is the headline on today’s press release from state Comptroller Thomas DiNapoli’s office, heralding a staff report on the securities industry in New York City that points to potential record-breaking profitability and lower-than-expected employment losses among Wall Street firms–especially the four largest survivors of last year’s meltdown (Goldman Sachs, Morgan Stanley, JP Morgan Chase and Bank of America’s Merrill Lynch).

Unfortunately, this is just the kind of news that some state legislators don’t need to hear.  After all, the chairman of the Senate Finance Committee has already accused Governor Paterson of exaggerating the size of the state’s fiscal problem.

In fact, the Wall Street bounceback doesn’t necessarily mean New York will experience another sharp, V-shaped recovery like the one following the deep economic and revenue trough of 2001-03.  As noted in the comptroller’s report, the recovery is concentrated in the TARP-covered, “too big to fail” sector, chiefly the aforementioned Big Four.  Moreover:

Profitability soared because revenues rose while the cost of doing business— particularly interest costs—declined. Future profitability could be reduced by rising interest rates and changes in the regulatory environment.

But what the Fed giveth, the Fed may also take away—from the reach of the state tax collector, that is.

For the 28 largest financial firms that either repaid or did not receive TARP aid, the Federal Reserve Board has issued compensation guidelines. The guidelines apply to senior-level executives and others responsible for the oversight of firmwide activities, and to nonexecutive employees whose activities may expose firms to material amounts of risk. Under the guidelines, firms are discouraged from providing incentives to employees for activities that encourage excessive risk-taking beyond the firm’s ability to identify and handle risk. These guidelines take effect in the current bonus year. Congress is also considering legislation that would regulate compensation in the finance industry.

Even though financial firms have increased the amount of money set aside for compensation in the current year as profitability has improved, compensation reforms could restrict the amount that is paid in cash [and thus subject to state income tax] and increase the amount deferred to future years.

Bean-counters in City Hall and the State Capitol will want to turn to the final page of the comptroller’s report, which recounts how Wall Street’s last bubbly boom pumped up a record surge in city and state revenues earlier in this decade.  For example, between 2002-03 and 2007-08, “personal income and business tax collections from Wall Street–related activities almost tripled, from $4.2 billion to $13.1 billion.”   And, by my calculation, that would amount to roughly 42 percent of total tax revenue growth during the period.

Taxes generated by the securities industry were down just 5 percent last year, to $12.5 billion, but will decline by another $3.1 billion to $4.4 billion during fiscal 2009-10, the report suggests.  That’s a pretty wide range, of course–one that, from the state’s perspective, could spell the difference between barely eking out a balanced budget and borrowing money to pay the bills.  We won’t know for sure until early 2010.

On the basis of another recent staff report, DiNapoli has predicted that the current state budget deficit could be almost $1 billion larger than the governor’s forecast—and that the cumulative “out-year” budget gap forecast through 2011-12 could be $3.6 billion higher than the Division of the Budget’s estimate for the same period.  The Assembly Democratic Ways and Means staff is similarly pessimistic.