Bailout Could Deepen State Deficits
A federal bailout of the states could deepen state budget deficits by 62 cents for every additional dollar of federal assistance offered, says a new fiscal report released today by the American Legislative Exchange Council (ALEC).
States currently face up to $100 billion combined in state budget deficits this year and the next.
The American Legislative Exchange Council (ALEC), which published the report, “Should the Feds Bail Out the States?” is the nation’s largest bipartisan, individual membership group of state legislators, with 2,400 Democratic and Republican legislator members from all fifty states.
“It is possible to econometrically test the proposition that federal grants to the states would ease budget deficit problems,” said Dr. Richard Vedder, author of the report and a Distinguished Professor of Economics at Ohio University. “I asked the question: for every dollar of increased federal assistance to state and local governments, how much historically have deficits been reduced? The answer is startling: every one dollar more of federal assistance increases state and local budget deficits by over 62 cents.”
According to the report, “while there has been some shock to state fiscal systems on the revenue side, the continued rapid growth in inflation-adjusted state and local spending is clearly the largest cause of cash flow problems in these governments.” State and local governmental spending nationally rose by 5.63 percent annually from 1990 to 2001, faster than the rise in national output. In 1999, state and local spending grew an extraordinary 7.68 percent, while gross domestic product rose only 5.97 percent.
In 2000, the gap widened: GDP growth slowed slightly to 5.93 percent, while state and local spending increased to 7.97 percent. Yet that trend actually accelerated in 2001, even as the nation entered a recession and faced national tragedy. State and local spending spurted to an extraordinary 9.96 percent, while GDP growth plunged to 2.62 percent.
Moreover, inflation in state and local government spending is off the charts compared with other categories. According to the report, the fastest increasing major component of the price index used to calculate real GDP is state and local governments.
In the five-year period 1996 through 2001, for example, the state and local component of the GDP price deflator rose 15.01 percent, compared with 9.56 percent for the personal consumption price index, a negligible 1.16 percent for the private fixed investment index, and an actual decline for the index measuring imports and exports.
Even the index for federal government consumption and investment expenditures rose by 10.09 percent — one-third less than the index for state and local governments.
Significant findings from the report include:
— The states’ fiscal problems reflect excessive spending growth, and federal aid will prevent needed restructuring and cutbacks necessary to make state governments more efficient;
— Other things being equal, increased federal grants lead to higher state and local spending, so they will not solve state fiscal problems;
— Federal assistance will reward inappropriate profligate spending and create a “moral hazard problem”;
— There is ample empirical and theoretical evidence that suggests federal bailouts will not stimulate the economy, indeed they may retard recovery; and
— A federal bailout would aggravate or encourage “rent-seeking” in state capitols.
— The fastest increasing major component of the price index used to calculate real GDP is state and local governments. Even the index for federal government consumption and investment expenditures rose one-third less — 10.09 percent — than the index for state and local governments.
