The Financial State of the States

State general fund revenues for 2011 have been forecasted to rise an estimated 5.9% over 2010 and to increase another 2.1% in fiscal year 2012.¹ But despite two years of projected revenue increases, state governments struggled to close deficits totaling roughly $103 billion as they passed their 2012 budgets.²

The American Recovery and Reinvestment Act of 2009 was intended to help states cope with short-term revenue shortfalls caused by a deep recession. Since the act was passed, the federal government has provided more than $250 billion in temporary emergency aid to the states, but the amount of federal support will ramp down considerably in fiscal year 2012, falling to less than $24 billion. Unfortunately, unemployment levels and demand for state-funded health-care programs and social services remain high, and tax collections have not improved enough to make up for the loss of Recovery Act dollars.³

Here’s a closer look at the financial pressures facing the states, and how the methods used to address their budget shortfalls could ultimately serve as a drag on the national economy.

Mounting Concerns

Most state governments are required to pass balanced budgets, a task that has become more difficult because of low tax revenues. Many states have resorted to emergency measures such as issuing more general obligation bonds, underfunding employee pensions, and tapping “rainy day” funds to deal with imbalances.⁴ Twenty states have depleted their reserves almost entirely, reporting less than $7 million in cash.⁵

Heavy borrowing and underfunding pension funds will shift some of the burden to the future and could also have other financial consequences. Higher fixed debt payments and growing pension liabilities could eventually take up a larger portion of available revenue and leave even less for critical public services down the road.

Feeling the Effects

Now that federal stimulus dollars and cash reserves are more limited, many states are planning to cut spending on education, social services, and local governments and to reduce their payrolls. State and local governments were expected to cut a record number of jobs (up to 110,000) in the third quarter of 2011.⁶ In addition to layoffs, pay cuts and furlough days could reduce the earnings of many public employees. In more than half of the states, workers could also be required to contribute more of their own salaries toward their pensions.⁷

Laid-off public workers could conceivably join the ranks of unemployed and/or cash-strapped consumers who are unable to afford their mortgages, food, clothing, and other necessities. In hard-hit areas, local businesses could also feel the effects of government downsizing as both consumers and agencies cut back on spending. States employ more than 19 million people — or 15% of the U.S. workforce — and state spending accounts for 12% of gross domestic product.⁸

It’s not unusual for state and local government finances to take longer to recover in the wake of a recession.⁹ However, if the pace of business hiring is unable to make up for government job losses, it’s possible that large-scale cutbacks at the state level could be a significant setback for the broader economy.

1, 3, 5) The National Association of State Budget Officers, 2011
2) Bloomberg, June 24, 2011
4) CNNMoney, June 6, 2011
6, 9) CNNMoney, June 5, 2011
7) The New York Times, June 15, 2011
8) The Wall Street Journal, May 18, 2011

The information in this article is not intended as tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. © 2011 Emerald Connect, Inc.