Bolstered rainy-day funds provide recession cushion for most states

Record-high savings built up over the past few years has provided most states the cushion they need to weather a potential recession.
Afternoon sun shines on the New Mexico state Capitol building in Santa Fe, N.M., on Dec. 10, 2021. (AP Photo/Morgan Lee)

Record-high savings built up over the past few years has provided most states the cushion they need to weather a potential recession.

A Moody’s Analytics study found that 43 states have all or most of the cash balances necessary to sail through a moderate recession without cutting spending or raising taxes.

“By and large, states are just in really good shape right now,” said Emily Mandel, an economist and co-author of the study on states’ financial situations.

Mandel said states are likely even better off than the study shows, as her team used savings data from 2021. “Many, many states have added to those balances since then.”

States’ strong fiscal positions are good news for the U.S. economy, as interest rates rise and a recession seems increasingly likely. Governors and lawmakers in most states may not have to slash spending during the next downturn, as they did during the Great Recession.

“States weren’t as well prepared [before the Great Recession],” Mandel said, “and they were one of the main drags in giving us a slower recovery.”

State revenues have soared in recent years thanks to a resilient economy, massive infusion of federal COVID aid, rising prices and — until this year — a booming stock market.

Governors and lawmakers socked some of those surplus dollars away in rainy-day funds, which state leaders can tap during a budget crisis. Many states require excess revenue to be transferred to a rainy-day fund when certain conditions are met.

State budget directors this spring expected to close fiscal 2022 — which for most states ended June 30 — with a combined $136.5 billion in their rainy-day funds, according to a Pew Charitable Trusts analysis of a survey conducted by the National Association of State Budget Officers.

That’s about 73% more money than states had saved in fiscal 2019, said Justin Theal, a member of Pew’s state fiscal health team. “It’s been a remarkable time for state finances.”

Tax collections have continued to come in above expectations in most states over the past year, despite the slowing economy. Many states have even larger rainy-day funds and end-of-year surpluses now than the NASBO survey shows.

The survey and Pew analysis compare states by calculating the share of their general fund spending that could be covered by rainy day balances alone or by rainy day funds and surpluses together. General fund spending typically comprises the bulk of state spending on education, health care and other services.

The data is several months old and has some gaps. Washington State lawmakers in 2021 moved most of the state’s rainy-day money into an account the NASBO survey does not track, Theal noted. The comparison to general fund spending also makes less sense for Wyoming and other states that spend large amounts of money outside that fund.

Still, the data shed light on how large state budget reserves have grown. Almost half of state budget directors estimated enough savings to pay general fund bills for over 100 days, according to the Pew analysis.

Lawmakers in Alaska, Connecticut, New Mexico, North Dakota and Wyoming could pay the bills for over 100 days with rainy-day funds alone, Pew found. Those states all rely on volatile revenue sources that have performed well recently.

Alaska, New Mexico, North Dakota and Wyoming rely on coal, oil, gas and other types of mineral extraction, revenue that has risen along with energy prices and production. Connecticut relies on taxing high earners, whose incomes until a few months ago were rising along with the stock market.

Wyoming Sen. Drew Perkins (R), chair of the appropriations committee, said hist state needs a savings account that state lawmakers can pull from during an energy bust. “There’s a lot of us that just think that, particularly with the volatility, that it’s important that we have some cushion,” he said.

Wyoming’s rainy-day fund has almost $2 billion in it, Perkins said. That’s about half the money the state spent on general fund programs and schools in the latest biennial budget.

Healthy budget reserves could come in handy for states such as California and Connecticut sooner rather than later, as the depressed stock market starts to shrink income tax collections.

California has about $37 billion saved across its reserve accounts, said H.D. Palmer, deputy director for external affairs at the state Department of Finance. The state has collected $7 billion less in taxes than budget writers expected in May.

“We feel very good about the level of fiscal preparedness that the state has been able to build up,” Palmer said. “That doesn’t mean there may not be difficult decisions that lie ahead, from a budgetary perspective.”

Not all states are in such good shape. Illinois may be the state least-prepared for a recession, with about $1 billion in its rainy-day fund. That’s the equivalent of about 2% of the state’s latest annual budget.

Illinois Comptroller Susana Mendoza (D) has been pushing Gov. J.B. Pritzker (D) and state lawmakers to replenish the fund.

“It can be hard for legislators to tell constituents with real needs that money for new programs is limited when the state is putting money in reserves,” Mendoza said in an email to Pluribus News. “But they must, precisely because that money must be there to fund programs for the state’s most vulnerable during economic crises.”

She’s backing a bill that would require contributions to the state’s rainy-day fund when the state’s accounts payable is below a certain threshold, she said.

Ability to withstand a recession also depends on the severity of the downturn. The Moody’s Analytics study assumes that the next recession will be driven by a fall in consumer spending, Mandel said, as prices rise and families cut back on purchases.

Alaska, Arizona, Illinois, Maine, Mississippi, New Hampshire and Pennsylvania are least prepared for a recession, Moody’s Analytics found, citing their savings in fiscal 2021 as reported to NASBO, estimated general fund spending in fiscal 2023 and 2024, and the authors’ assumptions about how a recession will play out.

State lawmakers generally say they’ll be cautious about spending next year, given the slowing economy. But some may move to make new tax cuts or approve new programs anyway.

New Mexico lawmakers will likely use the state’s $2.45 billion surplus on one-time expenditures, such as bolstering school security, or on further increasing savings, said Rep. Christine Chandler (D), chair of the House taxation and revenue committee. “We’re not looking at this $2.45 billion as monies that we should rely on indefinitely,” she said.

Still, those who want to cut taxes or increase spending could point to record-high reserves as a reason to act.

Wyoming lawmakers will likely consider residential property tax cuts next session, Perkins said. “That’ll probably be an easier vote, for a lot of people, because we have these [rainy-day] funds.”