Rainy day funds represent the first line of defense for states facing severe budget deficits caused by the COVID-19 pandemic and a sharp drop in income associated with the economic downturn. However, as policymakers seek to fill in the gaps, they may find their ability to access their savings accounts limited by rules that govern three key issues: when and how withdrawals can be made, how much can be withdrawn, and in when the money must be paid. back.
Conditions of withdrawal
States looking to get help with their funds for a rainy day should take the time to review the withdrawal rules that most have included in the statutes establishing savings programs. Of the 48 states with rainy day funds, all but five – Kentucky, Maryland, Nebraska, Ohio, and Wyoming – have opt-out conditions set out in law.
Clearly written rules are important because they help ensure that funds are protected at the right times and accessible when they are needed most. And states have more resources available now than before the Great Recession. During the 2019 financial year, they reached a record total of $ 74.9 billion in 50 states in the depths of rainy days. Before the current economic downturn, at least 34 states had saved enough to cover a greater share of government operating costs than in fiscal 2007, the last full fiscal year before the Great Recession.
But state restrictions on the use of funds can create barriers to swift action. For example, Washington’s constitution requires a three-fifths vote of the legislature before money can be withdrawn from the state’s fiscal stabilization account, except in the event of a catastrophic event or weak economic growth. When Governor Jay Inslee (D) proposed by withdrawing about $ 300 million to tackle homelessness in December, the request did not meet those conditions.
A few months later, the state faced much bigger issues related to the pandemic. Although the qualified majority requirement could probably have been lifted, lawmakers voted unanimously to withdraw $ 100 million for efforts against the coronavirus.
In fiscal 2010, Delaware used a combination of budget cuts and tax increases to close a $ 750 million deficit. The withdrawal from the state budget reserve account could have reduced the need for such measures, but the law that created the fund did not clearly define whether budgetary conditions warranted such a measure. To ensure that the state would be able to use the reserves to meet the next drop in income, Gov. John Carney (D) established a Fiscal stabilization fund for this explicit purpose in 2018.
Early estimates show that even in states with substantial reserves, withdrawing all funds saved may not be enough to cover coronovairus-related deficiencies. For example, in California, it is feared that the state $ 20 billion in reserves will not be enough to mitigate the tax fallout. Texas lawmakers voiced similar concerns about their own rainy day fund, which holds $ 11 billion.
Some states cannot withdraw the full amount even if it is necessary. By law, Mississippi policymakers can only withdraw $ 50 million per year from the rainy day fund, regardless of the size of the fund balance or the severity of the shortfall. As a result, if the fiscal distress lasts for three years, the state would not be able to use more than half of its savings unless lawmakers suspend the withdrawal limit provision.
In New York City, the impact of the coronavirus on public health and economic activity could reduce state revenues by approximately $ 9 billion to $ 15 billion in addition to spending increases necessary to fight the pandemic. The money set aside in two funds would cover a relatively small but significant part of this cost. However, state law requires that the Fiscal Stabilization Reserve Fund be repaid in six years and that the Rainy Day Reserve Fund be repaid in three years. Under these conditions, the state may be forced to start repaying the money before its budget begins to stabilize.
New York and nine other states have rules that require them to repay any money taken from the rainy day fund within specified time frames. Overly strict reimbursement rules can prevent heads of state from using these funds, even at appropriate times. For example, officials in Missouri said this was one of the reasons they didn’t use their rainy day fund to fill budget gaps during the last recession. Under state law, one-third of the amount withdrawn must be repaid in each of the following three years.
Replenishing reserves is important, but states are best served if they do so by requiring above-normal income growth or one-time inflows of income to deposit in savings. In this way, funds are replenished as the government’s fiscal outlook begins to recover. Such rules help to mitigate income volatility.
Rules must be well designed
Rainy day funds need rules to be effective, but poorly designed guidelines can have the opposite effect. As policymakers reflect on how they will manage their budgets during a national emergency and general economic downturn, a review of withdrawal and repayment rules can help ensure they can access funds when needed.
Jeff Chapman is Director, Angela Oh is a Senior Executive, and Airlie Loiaconi is Senior Partner in The Pew Charitable Trusts’ State Fiscal Health Project.