The crisis, meanwhile, has caused demand to soar for state and local government services and support programs. Public hospitals are packed with Covid patients, and the millions who have recently lost their jobs are looking for unemployment insurance, Medicaid and help with housing and other living costs. Just when Americans need their government most, cash-strapped cities, counties and states across the country have no option but to slash the help they provide.
But no state will escape the financial black hole created by the crisis. Nationwide, we estimate that state and local governments will have Covid-19 budget shortfalls totaling at least $500 billion through fiscal year 2022. This is stunning — equal to nearly one-fifth of pre-crisis annual revenues — and does not include the direct health care costs states are bearing to battle the virus. So far, the federal government has picked up these health care costs. It will need to continue to do so.
States are in a bind because they have balanced budget laws. Unlike the federal government, they are not able to run budget deficits for very long. Usually, this is a feature and not a bug. It ensures that states remain fiscally disciplined. But in tough times, like now, if the states don’t get help from the feds, they have no choice but to quickly cut jobs and programs.
State and local governments do have debts. A handful of states have seriously underfunded their pension systems and racked up billions in unfunded liabilities. But those liabilities have no bearing on Covid-19 shortfalls. States with some of the best-funded pensions in the country, red and blue, will still take huge budget hits from the pandemic. Other state debts finance infrastructure projects for roads, airports, health care centers and schools.
The federal government typically comes to the aid of state and local governments in hard economic times. It did so in a big way during the financial crisis just over a decade ago, and to great effect. While that aid didn’t forestall budget and job cuts, it significantly mitigated them and allowed localities to delay needed austerity measures until the economy was back on track.
If the feds do the right thing and help out state and local governments, it will go a long way toward helping the broader economy. If the feds don’t do the right thing, the entire economy will sink.