International topics Current Issues Public spending *Without defence spending

Judith Runge
2011 unpublished
The recession caused fiscal stress for state and local governments in the US. Tax revenues at the state level declined for five consecutive quarters beginning in Q4 2008. And although revenues started to recover in 2010, they are currently still well below pre-recession levels. Revenues at the local level proved to be more stable due to their great reliance on property taxes. A satisfactory assessment requires the separation of cyclical revenue problems from long-term challenges in pensions and
more » ... ges in pensions and healthcare. While operating shortfalls require immediate actions in order to comply with balanced budget rules, necessary structural reforms of public pension and healthcare programmes can be well implemented over the medium term and would not trigger a fiscal meltdown in the next few years. The slump in revenues and counter-cyclical spending forced states to close nearly USD 430 bn in shortfalls between FY 2009 and FY 2011. For the current FY 2012, that began on July 1, 2011, 42 states projected that they would face another USD 103 bn in shortfalls. With tax revenues recovering only sluggishly and federal funding provided under the American Recovery and Reinvestment Act of 2009 being phased out, states will continue to face fiscal challenges. The debt situation of state and local jurisdictions has been overstated by pessimistic observers. State and local debt outstanding accounted for only 16.7% of US GDP (FY 2010)-similar to levels seen in the 1980s and 1990s. Interest payments on debt recently accounted for just 4-5% of current expenditures. Though the fiscal situation is undoubtedly challenging, warnings of state bankruptcies and mass defaults at the local level are unduly exaggerated. Under current law, states are not able to legally declare bankruptcy. Governors strongly oppose adding such a chapter to the bankruptcy code as they fear the mere option might damage credit ratings and increase the costs of borrowing. Source: OMB 0 10 20 30 40 50 60 70 60 65 70 75 80 85 90 95 00 05 10 State and local government Federal government Debt held by the public % of GDP Sources: Federal Reserve, BEA, OMB