States Draw Down Rainy Day Funds

For Maine Gov. John Baldacci (D), the convergence of bad economic times and a depleted state emergency savings account is a familiar experience.

When Baldacci stepped into office in 2003, he inherited a recession-battered economy and an empty reserve account, also known as a rainy day fund. As a result, he and the Legislature faced the daunting task of closing a $1.2 billion budget hole without a financial cushion to absorb any of the shortfall.

This year, Maine’s fiscal picture came full circle when legislators facing plunging revenues appropriated the final $51 million in the state’s rebuilt rainy day fund to close swelling gaps. Their budget for the current fiscal year, which began July 1, is smaller than the previous year’s spending plan for the first time in 30 years.

“Accomplishing that level of spending reduction six years ago was a bit easier than it is today,” Ellen Schneiter, the state’s budget officer, said. “We have been reducing spending for six years at this point and easy cuts have been made.”

Maine’s case of déjà vu is hardly unique. Faced with historic revenue drops, lawmakers in states across the country tapped rainy day funds in fiscal years 2009 and 2010 at levels not seen since the recession following the 2001 terrorist attacks.

Besides Maine, Alabama also agreed to empty its rainy day fund, which is designated for education, for the current fiscal year.

At least nine other states – Georgia, Idaho, Iowa, Louisiana, Maryland, Massachusetts, Mississippi, Nebraska and Washington – also tapped money from their funds as part of their current budgets. All told, these 11 states committed upwards of $1.5 billion from their rainy day funds for the 2010 budget cycle.

And more states seem poised to join them. In Connecticut, for example, Democratic lawmakers and Republican Gov. M. Jodi Rell alike are looking to spend the entirety of the state’s $1.4 billion rainy day fund to help settle an impasse holding up completion of its new two-year budget.

Nationally, this spending comes on the heels of heavy use of rainy day funds in fiscal 2009, when several states pared down their reserves by billions of dollars. Ohio spent virtually all of its $1.01 billion fund to close the books for fiscal 2009, which ended June 30 for most states. Minnesota also drained its entire $155 million budget reserve to plug a fiscal 2009 deficit. North Carolina Gov. Beverly Perdue (D) seized her state’s $786 million fund and spent 81 percent of it largely for the same reason, leaving $150 million in a fund typically reserved for emergencies such as hurricanes.

The recent eagerness to draw down reserves has rekindled a long-running debate in states about how much to put into these funds, which in practice exist in all states except Arkansas, Kansas and Montana.

Not all such funds are called “rainy day funds.” Minnesota’s is called a “budget reserve fund,” Louisiana’s a “budget stabilization fund,” and in New Jersey, such reserves are simply referred to as the budget surplus. States typically build up the funds during flush years to prepare for lean years.

Rules for how to tap the funds differ from state to state . In some places, governors have the power to transfer funds to deal with shortfalls. In 16 states, withdrawals can happen only if a supermajority of the legislature approves.

As states’ financial cushions are depleted, upcoming budget decisions could be even more excruciating than the wrenching decisions this year when all but two states were forced to close combined budget gaps of at least $215 billion for fiscal 2009 and 2010. In particular, unless the economy turns around, states will face fiscal years 2011 and 2012 with substantially depleted reserves and be forced to make up the difference with either new revenue or even deeper cuts.

Ohio officials, left with only 89 cents in their emergency kitty after plugging the state’s budget hole, already have hit that wall.

While federal stimulus dollars and anticipated revenue from the recent legalization of slot machines at race tracks allowed Ohio to pass a balanced budget for 2010, officials are worried about the 2011 budget.

“We wiped (the rainy day fund) out, and if the federal assistance is withdrawn for the next budget and the economy doesn’t get better, we’re going to be in really bad shape,” state Sen. Dale Miller (D) said.

Despite the risks, though, budget experts support the use of rainy day funds during hard times.

“The rainy day funds exist to help states buy some time while they consider where they might need to cut their budget or where they might want to raise taxes, so I think it makes sense to withdraw money … in the current situation,” said Liz McNichol, a senior fellow at the Center on Budget and Policy Priorities (CBPP), a group that tracks government spending on low-income families.

In Alabama, for example, the reserve money helped shield schools from scarring funding reductions.

“It was specifically designed to do what it did – cushion the blow of cutbacks in education spending,” said Todd Stacy, a spokesperson for Alabama Gov. Bob Riley (R).

Still, other states, such as Vermont, have been more hesitant. “We’re worried about the fact that we haven’t gotten to the bottom yet of our recession,” said Maria Belliveau, a spokesperson for the state’s Legislative Joint Fiscal Office . “We’ve gotten a lot of pressure to use them, but we haven’t.”

Lawmakers also will face tough choices after the recession ends and it’s time to build up depleted reserves. While popular demand to tap the funds runs high during downturns, moves to expand reserves during times of surplus often fail to gain traction in the face of pressure to use the extra money for tax cuts.

“There’s always that tension between building up a fund – making sure it’s large enough – (and the) political pressure to spend the money, have tax cuts,” said Stacey Mazer, senior staff associate for the National Association of State Budget Officers (NASBO).

Even so, states have tended to use downturns as catalysts for later increasing their safety nets. During the last recession, rainy day funds combined with states’ year-end balances plummeted from 10.4 percent of total state spending in 2000 to a dismal 3.2 percent in 2003, according to NASBO. In dollars, that represented a drop from $48.8 billion to $16.4 billion.

With fresh memories of inadequate reserves, states built up their combined balance and reserve totals to 11.5 percent of spending by 2006.

These years of saving, combined with the injection of federal stimulus dollars, have helped soften the blow this time around, but ballooning deficits once again are straining states’ coffers. As a result, some officials are looking to revisit the caps that at least 38 states have on how much money can accumulate in their rainy day funds.

In Ohio, for example, the rainy day fund is capped at 5 percent of the previous year’s revenues, and any surplus beyond that automatically goes into the state’s income-tax reduction fund.

“Prior to this economic downturn, we had essentially reached the full 5 percent. But the magnitude of this downturn clearly demonstrates that 5 percent is not enough and that we should try to build a substantially larger rainy day fund,” Miller, the Ohio legislator, said.

Stateline.org’s Pauline Vu contributed to this report.