Fiscal 50: State Trends and Analysis

Insights From Fiscal 50’s Key Measures of State Fiscal Health

May 17, 2017

Post-recession, state finances face new uncertainties

States have regained much of the fiscal and economic ground they lost in the Great Recession, but not all have fully rebounded, despite more than seven years of recovery. Some states are in a stronger position than others as they try to gauge how long the economic recovery will last and how President Donald Trump’s promises of action on federal taxes, trade, and health insurance could affect their finances.

The slow pace of tax revenue growth has left many with little or no wiggle room in their budgets. Nineteen states still collect less tax revenue than at their recession-era peaks, after adjusting for inflation, and most have a thinner financial cushion than they did before the last downturn. In addition, 16 states’ employment rates still clearly trail 2007 levels. Despite these challenges, personal income in all states has bounced back above pre-recession figures, though growth has fallen short of historic norms.

• Tax revenue. Nationally, total state tax revenue recovered in mid-2013 from its plunge during the recession. But state to state, the recovery has been uneven because of differences in economic conditions as well as tax policy choices. Tax collections in 31 states were higher in the third quarter of 2016 than at their peaks before or during the downturn, after adjusting for inflation. States with below-peak tax revenue still have less purchasing power than they did more than seven years ago. Since the recession, tax revenue has grown unusually slowly, with a rare decline in mid-2016.
• Reserves and balances. States have only partially rebuilt their financial cushions after tapping them to plug budget gaps during the recession. At the end of fiscal 2016, only 15 states could cover more government expenses using general fund total balances—counting rainy day funds and ending balances—than they could have in fiscal 2007, just before the recession. Rainy day funds have regained more ground than ending balances, with at least 24 states’ rainy day funds exceeding pre-recession levels when measured as a share of operating costs.
• Employment-to-population ratio. Despite a U.S. economy that has added jobs each month since late 2010, no state could boast that its core labor pool had clearly surpassed its pre-recession employment rate as of 2016. The share of prime-working-age adults (ages 25 to 54) with a job clearly remained below pre-recession levels nationally and in 16 states. Employment rates for this population were lower than in 2007 in another 30 states and higher in four, but not by statistically significant amounts, so the results were inconclusive.
• State personal income. Personal income in all states is back above pre-recession levels, signaling a widespread economic recovery. But growth has varied, increasing by the equivalent of 0.8 percent a year in Illinois and Nevada to the equivalent of 4.5 percent a year in North Dakota since the Great Recession began. Personal income in five states—Alaska, North Dakota, Oklahoma, South Dakota, and Wyoming—fell over the year ending in the fourth quarter of 2016.

Additional challenges await states

Even states that have overcome the effects of the recession may face financial pressures that could shape their budgets now and for years to come. A major issue for a number of states is how to cope with an accumulation of unfunded public pension and retiree health care liabilities, which total more than $1.5 trillion nationwide. In addition, debate among U.S. lawmakers over financing for Medicaid, which is jointly funded by federal and state governments, has sparked fresh uncertainty over how much of the costs states will pay. The health care program accounts for the largest share of total federal aid to states. Another challenge for states is tax revenue volatility, which can confound policymakers’ best efforts to balance budgets.

• Debt and unfunded retirement costs. Unfunded pension benefits were the largest, most prominent, and fastest-growing of a selection of future costs facing states as of 2013. States reported $968 billion in unfunded pension costs—the equivalent of 6.9 percent of 50-state personal income, as well as $587 billion in unfunded retiree health care liabilities (4.2 percent of personal income) and $518 billion in outstanding debt (3.7 percent). If not properly managed, these costs can limit future budget flexibility and raise borrowing costs.
• State Medicaid spending. The share of states’ own money spent on Medicaid grew in all but two states—New York and North Dakota—between fiscal 2000 and 2014. States’ increases varied widely, from less than 2 cents to about 8 cents more per dollar of state-generated revenue, exerting different degrees of budget pressure. Medicaid is most state governments’ second biggest expense, after K-12 education.
• Federal share of state revenue. The federal government is the second-largest source of state revenue—accounting for 30.8 percent of the total in fiscal 2014—meaning that federal budget decisions also play a key role in state budgets. But states’ reliance on federal funds varies widely, ranging from about 17 percent of revenue in North Dakota to almost 41 percent in Mississippi. The share of states’ revenue made up by federal dollars was largely unchanged in fiscal 2014 even as expanded Medicaid grants began to flow to some states.
• Tax revenue volatility. Some states experience greater swings in tax revenue from year to year than others do, leading to surprise shortfalls or windfalls that can make it hard to manage budgets. Alaska experienced the greatest volatility over the past two decades and South Dakota the least, after removing the effects of tax policy changes. Taxes on corporate income and oil and mineral extraction were consistently more volatile than other major tax streams.

Click here for a printable version of this analysis.