Bloomberg News

U.S. Debt-Ceiling Pact Leaves States Preparing for More Cuts

August 01, 2011

(Adds Washington governor’s comment in 12th paragraph.)

Aug. 1 (Bloomberg) -- States braced for possible federal aid cuts under the congressional debt-ceiling deal intended to avert a U.S. default and government shutdown.

State officials are still parsing the debt-ceiling bill for details of how it will affect them. While it eliminates the immediate threat of a crisis that could impose higher borrowing costs and shut off the flow of federal funds, officials are concerned that the cuts will place added burdens on their budgets. This is the fourth straight fiscal year in which states faced budget deficits.

“A looming vote on the federal debt puts a dark cloud over Connecticut’s financial outlook,” the state’s comptroller, Kevin Lembo, said in an e-mailed statement. “Dollars that we depend on year after year could suddenly disappear if federal spending cutbacks result in drastic funding cuts.”

States received about 35 percent of the $1.62 trillion spent during the 2010 budget year from the federal government, according to the National Association of State Budget Officers. The money is used for programs such as Medicaid, public works projects, and public schools. The debt-ceiling agreement requires Congress to cut $2.4 trillion from the federal deficit, including more than $900 billion in the next decade.

‘Shifting Costs’

“Deficit reduction should not be accomplished by merely shifting costs to states or imposing unfunded mandates,” said Jodi Omear, a spokeswoman for the National Governors Association in Washington.

The deal comes as states struggle to balance their budgets with spending reductions that are exerting a drag on the economy. Since 2008, states have had to close shortfalls of more than $500 billion, according to the Center on Budget and Policy Priorities. While state tax collections are on the rise, they’re still below their peak in September 2008, before the effects of Lehman Brothers Holdings Inc.’s collapse rippled through the economy.

The debt-ceiling agreement doesn’t spell out how cuts are to be made, and much of that decision-making is left to a bipartisan congressional panel.

“Nothing has been set in stone,” said Kil Huh, research director for the Pew Center on the States in Washington. “The uncertainty to come, with spending cuts coming down the line, is really going to be a challenge for states going forward.”

Credit Ratings

The turn toward avoiding a default was a relief to state and local governments that were concerned it might fuel turmoil in financial markets and force them to drain their reserves if the government was shuttered.

Moody’s Investors Service said last month it was reviewing the top credit ratings of municipal borrowers, including the states of Maryland, Tennessee and South Carolina, because of the tussle over the federal government’s finances. California last week borrowed $5.4 billion earlier than it intended to avoid any market disruptions if the Treasury defaulted.

Washington Governor Christine Gregoire, a Democrat, said the federal budget fights have curbed consumer confidence, depressing sales tax collections. She pressed Congress to maintain funding for college-student grants and Medicaid, the health care program for the poor.

“Until we have more certainty, I fear our revenues will continue to suffer, while businesses remain anxious and reluctant to hire,” Gregoire said in a letter to her state’s Congressional delegation today.

Spending Caps

The consequences of the budget-cutting agreement for states aren’t immediately clear, said Michael Bird, who tracks federal affairs for the National Conference of State Legislatures.

Under the proposal, the federal government would save almost $1 trillion over 10 years with caps on discretionary spending, while a bipartisan committee would seek accord on another $1.5 trillion in savings by November, according to the White House. Medicaid, the biggest single expense for states, would be spared should automatic cuts kick in if the Congressional panel is unable to agree on needed cuts, according to Senate Democrats.

Because the agreement’s impact may be spread across the federal government -- including the defense budget and entitlement programs like Medicare -- states may be spared the fiscal strain they may have faced, Bird said. He said the spending prescribed for 2012 and 2013 holds close to the current level, blunting the impact on states over the first two years.

“Everything ultimately is on the table,” he said. “If everything is on the table, from our perspective, the likelihood of cost shifts, new unfunded mandates and essentially an exporting of the federal deficit to the states is diminished. It isn’t eliminated.”

Governor Relieved

New Jersey Governor Chris Christie, a Republican who has moved to scale back the size of the government in his home state, said he was relieved that Obama and Congressional leaders reached an agreement to raise the debt limit.

“I join with, I’m sure, hundreds of millions of Americans when I say I’m relieved the president and the Congress have finally gotten around to doing their jobs,” Christie said at an event with senior citizens today. “Now they’ve got to deliver on it.”

--With assistance from Terrence Dopp in Trenton, New Jersey, Henry Goldman in New York, Simone Baribeau in Miami, Alison Vekshin in San Francisco, James Nash in Sacramento, Chris Christoff in Lansing, Michigan, Mark Niquette in Columbus, Ohio, and Tim Jones in Chicago. Editors: Jeffrey Taylor, Mark Tannenbaum

To contact the reporters on this story: William Selway in Washington at wselway@bloomberg.net

To contact the editor responsible for this story: Mark Tannenbaum at mtannen@bloomberg.net


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