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Blame the states?

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The main argument against state and local aid has been something of a they-made-your-bed take on the matter. "It’s a bad idea to bail out states from making the necessary decisions they need to make to increase and fix their structural deficit problems," Rep. Paul Ryan told me Thursday.

And it's true that state budgets aren't perfect, and in some cases are quite bad. The pension problem, in particular, is a bit scary. But is that what's going on now? Are states strapped because of terrible budgeting in the past few years? Well, no. Here's Ben Bernanke:

Many states deal with revenue fluctuations by building up reserve — or “rainy day” — funds during good economic times. Measured as a percent of general fund expenditures, the aggregate reserve fund balances for all state governments stood at a record of about 12 percent at the end of 2006; the states represented by the SLC had accumulated above-average reserves of around 16 percent. These high reserve-fund balances were helpful in lessening the severity of spending cuts or tax increases in many states. Nevertheless, given the depth of the recent recession, even these historically high reserve-fund balances proved insufficient to buffer fully the budgets of most states.

That's written in the language of boring, but here's the takeaway: States had record rainy-day reserves in the run-up to the crisis. That's pretty fiscally responsible. It's just that the crisis is the worst economic catastrophe since the Great Depression. You wouldn't want states budgeting for once-every-80-years economic storms. That'd mean keeping a lot of cash sitting around that could be more productively used for other things. And we don't want states deficit spending, or at least we seem to not want that.

But that means they need some help from the federal government -- which does have the tools to survive these storms -- when these crises do strike. We've started to walk away from that responsibility by using the long-run problems of state pension funds to decide that this is all their fault, but it really isn't. You can hardly blame Nevada and Florida for not managing global capital flows and Wall Street's risk-load. And the fact that pretty much all of the states fell apart at once -- save for a few that rely heavily on energy industries -- suggests this isn't a governance problem. It's a global economy problem.

Graph credit: Rockefeller Institute of Government

By Ezra Klein  |  August 2, 2010; 3:34 PM ET
Categories:  Budget  
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Comments

The fake energy crisis of 2001 had a significant role to play in turning healthy surpluses in western state budgets to deficits. Key players who influenced or advocated policies that helped make that crisis worsen were Bush, Ken Lay of Enron who virtually controlled the FERC, and Arnold the later governator, who advocated for Bush and Lay as they stole $100s billions.

I think the destruction of California's economy, due in large part to chaotic and unnatural energy price forces in that timeframe, contributed to the recession elsewhere because, as California goes, so goes the nation.

Posted by: lauren2010 | August 2, 2010 4:25 PM | Report abuse

It would be relatively simple to design a program for automatic revenue sharing/aid to the states that kicked in when national conditions reached some benchmark (ie, two consecutive quarters below the secular growth trend, or what have you) AND do it in such a manner as to not reward profligacy on the part of individual states.

You'd simply use some sort of objective aid formula based on median or average state revenues, and then remit the money to the fifty states on a per capita basis.

So, a state that has spent like crazy in the good times (ie., New York) will get some relief, but no enough to reward it for past bad behavior. While a state that followed fiscally prudent policies will be flush. And the point is, the NATIONAL ECONOMY AS A WHOLE would get needed stimulus in bad times, and THE NATIONAL LABOR MARKET AS A WHOLE, would dodge the bullet of mass public sector layoffs. But again, individual states would still have an incentive to act prudently when times were good.

My point is, avoiding moral hazard in an aid-to-the-states program isn't the least bit CONCEPTUALLY complicated. Paul Ryan is simply mouthing sound bites that comport with his right wing ideology (or else arguing for policies he knows will help his party politically, by exacerbating difficult economic conditions).

Posted by: Jasper999 | August 2, 2010 5:26 PM | Report abuse

Just like the money losing bankers that got paid with our borrowed future tax dollars or printed money, I don't see why we would give money to the state and locals when there are so many crazy pension deals still going down.

http://www.dailycal.org/article/101468/ucpd_chief_retirement_deal_draws_criticism

University administrators have come under heavy criticism after UCPD Police Chief Victoria Harrison was found to have retired with a lump sum package of around $2.1 million and, after a deal with campus officials, returned to the same job soon after.

Harrison, who has been the campus' police chief for 18 years, was rehired on Aug. 1, 2007, after retiring on June 28 of that year and receiving a lump sum package of about $2,130,259, according to campus officials. Her retirement benefits also give her about $4,621 a month for 10 years, totalling to about $554,520.

http://www.contracostatimes.com/ci_12133578?nclick_check=1

PETER NOWICKI, the chief of the Moraga Orinda Fire District, knows how to play the retirement system. That's why he was able to convert a $185,000 annual salary into a $241,000 yearly pension.

How did he do it? Primarily by taking maximum advantage of rules that enabled him to sell back unused vacation and holidays. As a result, he increased his starting annual pension payment 46 percent, from $165,000 a year to the $241,000 yearly total.
Nowicki's only 50 years old. Assuming he lives to 80, those moves alone will add $2.3 million in today's dollars to his pension.
Ironically, after taking retirement Nowicki turned around and went back to work for the district on a five-month contract at an annual rate of $176,000, which he collects on top of his pension payments. Moreover, it's Nowicki who is in charge of overseeing the district's finances.

Posted by: staticvars | August 2, 2010 5:43 PM | Report abuse

Ezra wants us to ignore the fact that the states were spending like drunken sailors. State and local budgets jumped by large amounts during the mid-2000s, some by as much as 40% in the last couple of years before the crash. There's no crisis demanding that federal dollars preserve every last dime of that bloated spending.

Posted by: tomtildrum | August 2, 2010 6:51 PM | Report abuse

Rep. Ryan is wrong again? Surprise! It's not just his ideology that's different. He's been factually challenged in a lot of his plans and statements. I'd be interested in hearing you ask him why he ends up being so wrong on the facts!

Posted by: punditpending | August 2, 2010 8:04 PM | Report abuse

It's safe to say that anything that Republicans have to say about economics has been discredited by the past decade.

Posted by: AxelDC | August 2, 2010 11:01 PM | Report abuse

The states ALREADY received help from the Federal government and, except for New Jersey, quite predictably kicked the can down the road. Unfortunately for them, the can didn't roll very far, but that doesn't mean they won't keep kicking it for just as long as the Federal government enables their behavior.

Posted by: bgmma50 | August 3, 2010 12:12 AM | Report abuse

Ezra,

Should also note that state revenues are much more volatile than GDP, too. If GDP drops 3% (which is bad), state revenues will drop 10-20%. Why?

Well, states are taxing the items that are more cyclical. Sales taxes hit only discretionary spending (not mortgages or rents or must-spend items). It usually carves out necessities (things that won't be cut in a person's budget during a downturn) such as groceries.

Some states use income taxes, where the newly unemployed stop paying and everyone else doesn't get a raise -- but state income taxes are not very progressive, so it's not made up much by the high earners who still get raises.

Also, state spending is similarly cyclical, but going the other way. Medicaid and unemployment in particular.

So, in total, you have revenues plummeting and automatic spending going through the roof.

The real story isn't about responsibility. It's about structural tax and spending schemes that create dramatic boom and bust cycles. (You could also add in the pension issue, as the NM state plan lost 24% of its assets, as of 6/30/09 -- but their funding was in the 90% range before that year.)

It's bad by design, not a matter of responsibility.

Posted by: rat-raceparent | August 3, 2010 12:27 AM | Report abuse

Ezra,
Fan of your blog and fellow blogger.
One key point you missed though: look at stress tests or capital requirements for banks: we don't ask them to prepare for the worst (otherwise we'd require much higher capital ratios). And yet we're asking that of states (and the unemployed). "You should have planned better," is this message. Fair enough - if you give that message to everybody.
The argument in detail:
http://www.bnet.com/blog/business-economics/bernanke-to-states-don-8217t-look-to-the-feds-for-help/418?tag=content;drawer-container
Best,
Carter

Posted by: cartermail | August 3, 2010 11:11 AM | Report abuse

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