Don't bail out ships that aren't sinking

Rea S. Hederman Jr. Mar 07, 2021

This opinion piece was first published in Crain's Cleveland Business.

The Biden administration and Democrats in Congress have proposed another round of nearly $2 trillion of COVID-19 stimulus, with $350 billion earmarked for bailing out state and local governments. But the state bailouts, however well-intended, are flawed — giving far too much money to states that don't need it and rewarding other states that have mismanaged their own finances. The price tag, earmark formulas and disincentives are all wrong.

For starters, Washington's latest jackpot giveaway to states is based on outdated, pessimistic economic forecasts made last summer. Many states struggled during much of 2020, of course, as economies closed and tax revenues plunged. States like Ohio watched as projected revenues took a swan dive from a projected surplus into a gaping deficit. Spending on Medicaid and new COVID programs drained some state coffers, and the National Governors Association asked Washington for $500 billion to offset predicted shortfalls.

But a lot has changed since then.

Many businesses have reopened, while others never closed. State economies have rebounded faster than expected, and state tax revenues have been a pleasant surprise. J.P. Morgan now projects that state revenues in 2020 declined only one-tenth of a percent compared with 2019. And fiscal policy groups like the Tax Foundation, American Enterprise Institute and the Brookings Institution have lowered their state-level fiscal loss estimates. Not only are states dispelling gloomy economic forecasts, but many, including California, now expect budget surpluses.

We may all still be in the same COVID storm, but not all states are sinking in it. Unfortunately, the Democratic proposal fails to make that rather important distinction. Instead, the proposed bailout funding formula turns on population and the unemployment rate, rather than financial need. So California, even with its expected surplus, may still receive an extra $41 billion in federal aid — whether it needs the money or not.

The latest federal bailout — based on old, inaccurate forecasts for states that don't need it — gets even worse. It tempts states to spend without discipline, rewarding yesterday's poor fiscal management and all but ensuring more mismanagement tomorrow.

Many states prepared for economic hardships, revenue shortfalls and worst-case financial scenarios. They made hay while the sun was shining and saved some of their revenue for a "rainy day." These rainy day funds help states weather economic storms, and almost half have used these reserves to stop-gap shortfalls or prop up future budgets.

But with the promise of even more free federal money flowing from Washington, some states do not plan to use their rainy day fund at all. Why should they?

In effect, Washington's largesse will discourage states from continuing to take the fiscally prudent step of saving for a rainy day — because Uncle Sam will bail them out anyway — or it will encourage states with rainy day surpluses to forgo using them while they continue to tax their households and businesses as if they were preparing for an economic hurricane. Both sets of incentives are bad.

Rainy day funds tax households and businesses more than necessary during economic good times, so that the state does not have to cut services or raise taxes during hard times. In that respect, tax-and-save plans are prudent bookkeeping policy.

But if states turn to Washington for bailouts rather than rely on their own rainy day funds even when it's raining, then the states are double-dipping and the taxpayers are (once again) being bilked.

The solution is a more strategic COVID spending bill that helps the countless families and businesses truly battered by the pandemic's storm.

Local restaurants, mom-and-pop stores, hotels, entertainment venues and furloughed workers have been devastated, their own rainy day accounts dwindling or depleted. They are the ones in need of federal financial aid, not states that have suffered less than a 1% dip in their tax revenues.

And there is certainly no need for taxpayers to bail out ships that aren't even sinking.

Hederman is the executive director of the Economic Research Center and vice president of policy at the Buckeye Institute in Columbus.