Governing Magazine: The Unknown Impact of Federal Fiscal Decisions
The federal deficit is not just a federal problem. Federal decisions about the best ways to cut programs and increase revenue should take into account all costs and benefits, including the effects on state and local governments. Yet opportunities for such critical discussions are hindered by a decline in our nation's capacity to collect and discuss useful data on how federal and state governments are linked.
At present, the impact on states is not part of the national debate on such pivotal issues as the mandatory across-the-board cuts required this coming January under the Budget Control Act (the “sequester”) and the possible extension of the 2001 and 2003 tax cuts.
The outcome of these deliberations will affect not only federal services but also states facing tough budget choices of their own. As a result of the Great Recession, total state tax revenues declined by $97.9 billion, or 12 percent, in real terms from their 2008 peak to 2010. At the same time, demand for state services increased substantially. Because the downturn has been so long and so deep — and because the recovery has been so tepid — policymakers already have exhausted short-term fixes such as tapping into rainy-day funds, using one-time asset sales, increasing taxes temporarily, postponing construction or issuing more debt.
The importance of the states' relationship with the federal government is reflected in the fact that in 2010 federal grants provided, on average, $1 out of every $3 in state revenue. The percentage of general revenue supplied by federal grants was considerably higher for some states, such as Mississippi (50 percent), Louisiana (48 percent) and Arizona (47 percent), and lower in others such as Hawaii and Alaska (27 percent) and Virginia (25 percent).
In addition, states' tax codes are often linked in various ways to the federal tax code, so changes to federal tax policies directly affect state revenues — decreasing tax receipts in some cases and increasing receipts in others. For example, 36 states and the District of Columbia use a measure of adjusted income reported on the federal tax return as a base for calculating state income taxes.
Choices that federal policymakers are considering to cut the deficit could have a huge impact on funding to the states. Under the sequester, federal grant programs for the final three quarters of fiscal year 2013 could be reduced by roughly $7.5 billion, a decrease that would require difficult choices in order to absorb it in less than one full year.
The largest grants to states and local governments affected by the sequester would be programs that support local education agencies; special education; Head Start; nutrition programs for women, infants, and children; and energy assistance for low-income households. Changes to federal tax credits will influence state revenues as well. For example, 24 states and the District of Columbia offer child-care tax credits or deductions that are linked to the federal Child and Dependent Care Credit. These governments would see those linked revenues increase if the federal credit is reduced as currently scheduled in 2013.
Unfortunately, the increasing need to understand the evolving relationship between the federal and state governments coincides with reduced capacity to do so. Government institutions that once reviewed federal-state issues have been disbanded or given other priorities. For example, the Advisory Committee on Intergovernmental Relations, along with units that focused on this subject in the Office of Management and Budget, the Government Accountability Office and the Office of Personnel Management, ended in the 1980s and 1990s. The House and Senate intergovernmental relations subcommittees have been given other substantial responsibilities. And the Census Bureau recently decided to discontinue two significant sources of uniform data for federal-state fiscal information.
The decline in national capacity for data-gathering and analysis makes it more difficult to ensure that policymakers take into account the full impact of federal decisions on the American people, not just the fiscal impact on a particular level of government. Without adequate data and discussion, there is increased risk that decisions will not solve problems but simply pass them on to others.
The best decisions will be made with good data in hand and federal, state and local perspectives at the table. Ongoing opportunities for dialogue and comprehensive facts about the benefits and consequences are vital to identifying solutions that lead to long-term fiscal stability and effective services at all levels of government. And that outcome is what ultimately will deliver results in the public's best interest.
To learn more about how federal and state finances intersect, please view the slideshow below.