After years of declining tax revenues and federal stimulus payments, states find themselves relying more on the federal government for cash infusions than ever before. But thanks to the budget sequester, much of that money is about to vanish.
Federal grants accounted for more than one-third of state budget revenues in fiscal year 2011, according to data compiled by the Pew Charitable Trust’s Fiscal Federalism Initiative. That’s down slightly from the percentage of federal dollars that flowed into state coffers in fiscal year 2010, but it’s far above historical precedent.
The increasing share is a function of two factors, said Anne Stauffer, director of the Fiscal Federalism Initiative. The 2009 American Recovery and Reinvestment Act pumped billions of dollars into state budgets to help them keep teachers and other employees on the payroll and to pay for infrastructure investments at the height of the recession. At the same time, the recession severely undercut state tax bases, reducing home-grown revenue and inflating the portion of state budgets that came from federal coffers.
In 2011, taxes accounted for 46 percent of total state revenue. Federal grants made up 34.7 percent of total revenue. Service charges accounted for about 11 percent, while revenue from local governments, fines and other sources contributed 8.4 percent to state budget coffers.
The stimulus money is already tapering off, Stauffer said, and the slow recovery is finally beginning to show up in the form of increased tax revenue. But looming cuts under the Budget Control Act mean states are likely to lose out on hundreds of billions in federal money between 2013 and 2021.
Sequester cuts will slash $441 billion in defense discretionary spending over that period, and another $285 billion from non-defense discretionary budgets. Much of that money goes to state education, transportation and health care budgets. Medicare payments will be cut by nearly $83 billion over the next eight fiscal years.
For some states that rely heavily on the federal government, the cuts present serious challenges. Federal spending accounts for more than 35 percent of the economic revenue New Mexico and Kentucky take in, according to Pew and Census Bureau figures. Six other states rely on the federal government for at least 30 percent of their revenue.
Areas where federal government employees live and work will be especially hard-hit. In the Washington area, federal spending accounts for about 20 percent of the region’s gross domestic product. More than 15 percent of Hawaii’s gross domestic product comes from federal contracts and salaries. In Alaska, 8 percent of state revenues come from federal salaries and wages.
“There’s a lot of focus on budget cuts and direct impact to states, but what we hear from a lot of states, and when we look at it, the economic impact [of federal employee salaries] for states can be large too,” Stauffer said.
Rules requiring balanced budgets mean states feel serious, and sudden, impacts when a recession cuts tax revenues. And historically, the federal government has stepped in: Federal spending as a percentage of state revenues spiked after recessions in the early 1970s and the early 1990s. In 2001, federal spending made up 27.5 percent of state budgets; after the recession that followed, that number jumped north of 30 percent.
But the depth and breadth of the recent recession has broken all records. Before the beginning of the recession, federal spending had dropped below 30 percent of state budgets. It leaped five points in the intervening few years.
Crafting a state budget is always an exercise in uncertainty, given ever-changing revenue projections, changing economic conditions and the whims of federal and state legislators. But after years of painful cuts, the reduction in federal dollars could mean state budget directors will have to return to the drawing board to slash even more.