Across the digital nation: Cautious optimism belies strong revenue growth

State and local government organizations recently turned a corner, both fiscally -- their new fiscal year began July 1 -- and perceptually, as a result of tax hikes, operational cuts and fee increases over the past two years. Most state and local organizations are no longer swimming in a sea of red ink. For them, the new year is marked by new operational plans and IT priorities.

Over the past six months, ripples from this fiscal rebound have reached state and local governments, many of which are seeing stronger-than-expected revenue growth. As a result, many government organizations are loosening restrictions and developing a forward-looking approach.

Yet despite these overall changes, IT opportunity has been confined largely to a select group of initiatives. The "four maxim" projects ? cost containment, cost avoidance, revenue maximization and generation ? have resulted in Medicaid re-bids, human services modernization and enterprise resource planning initiatives that have formed the core group of IT spending over the first six months of 2005.

Some of the IT opportunity has been hampered by the federal government's continued lack of direction and funding for homeland security, public safety and transportation initiatives at the state and local level. But the recent passage of important federal legislation, such as highway and energy bills, and the restructuring within major agencies may begin to have their impacts on state and local governments.

The greening fiscal environment has created greater flexibility for IT modernization initiatives, but Gartner expects cautious optimism over the short term to limit IT spending growth to 5 percent. Consequently, the four-maxim approach to major IT investment will continue to govern priorities and funding of IT projects.

At the same time, a couple of highly visible state and local government procurements will be important arbiters of the growing health of the technology market. In particular, the progress of major outsourcing initiatives in Virginia and San Diego County is being followed closely and may jump-start similar measures in other jurisdictions centralizing IT operations.

As the year progresses, a growing group of major agency modernization projects will come to the forefront. Greater investments aligned with revenue, human services and justice agencies will drive new IT spending. In particular, IT for integrated tax systems, case management and integrated justice will get greater attention.

Over the longer term, pent-up demand to fulfill large-scale IT modernization requirements will present opportunities. Gartner expects growth in state and local government IT spending to top 8 percent by 2008, buoyed by horizontal drivers, such as new IT outsourcing initiatives, expanded business process outsourcing projects and second-generation 311 systems, as well as new investments in motor vehicle licensing, public safety emergency operation centers and intermodal security in transportation.

But don't ignore the undercurrent of concern among state and local chief executive officers about the future of federal funding for major state and local government programs. As the federal budget deficit continues to increase, speculation grows that federal grants, reimbursements and outright funding of major public-sector initiatives may decrease. This will be an important area to watch over the next three years.

Rishi Sood is research vice president with Gartner Dataquest in Mountain View, Calif. His e-mail address is rishi.sood@gartner.com.