2 The fiscal stress literature is largely silent on effective strategies for dealing with
its occurrence Scorsone and Plerhoples 2010. Part of this is likely due to the cyclical nature of fiscal stress; eventually as the economy improves so do state fiscal situations.
However, lengthy periods of economic stagnation or decline in some regions of the U.S. point to the need for practical advice on the best way to minimize fiscal stress. Though
states’ options for responding to fiscal stress are relatively limited – reduce expenditures, increase revenues, tap rainy day funds or reserves, and implement efficiency measures –
a well-designed strategy for dealing with fiscal stress can minimize the short and long- term negative effects Scorsone and Plerhoples 2010.
To address some of the gaps in current literature, this research proposes development of a new measure of state fiscal stress and then, using this measure,
examines state responses to economic decline. In this analysis the following questions are addressed: 1 How is state fiscal stress defined and measured in the existing literature?
2 Is there a better measure of fiscal stress? And, if so, why is such a measure more reliable and valid? 3 Do state characteristics affect their experience of fiscal stress as
measured here andor influence their choice of responses? 4 Are some states able to navigate better through periods of fiscal stress than other states, and if so, why? 5 Are
certain state responses more effective at reducing or alleviating fiscal stress? and, 6 Does the type of response a state uses in one period of fiscal stress affect its stress levels
in subsequent periods of fiscal stress?
1.1 Motivation for Study
Effects from the recent “Great Recession” resulted in large budget deficits in many states over the last three years 2008 to 2011. With a slow and uneven economic
recovery, budget deficits are expected to continue into fiscal years 2012 and 2013 McNichol et al 2011. Indeed, the state budget repercussions of this economic downturn
have extended several years longer than the length December 2007 – June 2009 of the
3 national recession McNichol et al 2011. In fiscal year 2009, 45 states faced a total
budget deficit of 109.9 billion. The budget deficits continued into fiscal year 2010 with 48 states facing total budget deficits of around 196 billion or 29 percent of state budgets.
Figure 1.1: Total State General Fund Revenues, Fiscal Years 2002 - 2011
Source: NASBO Fiscal Survey of the State Fall Edition
4 As shown in the figures above, neither revenue collections nor total state
expenditures have returned to their pre-recession levels. This situation has direct repercussions not just for state budgets but also for state residents. Fiscal stress
experienced by state governments generates interest, in part, due to the direct impact that revenue increases and expenditure cuts have on the public. For example, since the most
recent recession began, California has issued IOUs instead of paying creditors, teachers in Hawaii were furloughed for seventeen days in one year, Florida increased tuition at all
of its public universities by 15 percent, and the State of Washington intends to increase premiums on health plans for low-income residents by 70 percent Johnson et al 2010;
Knutson 2010. Not surprisingly, states are closing their budget deficits by reducing aid
Figure 1.2: Total State General Fund Expenditures, Fiscal Years 2002 -2011
Source: NASBO Fiscal Survey of the States Fall Edition
5 to cities, effectively passing budget problems from states to cities Cooper 2011. Use of
this balancing technique has grown as federal stimulus dollars have dried up. Cuts in aid to cities – unlike cuts in some state services – are likely to result in visible and stark
reductions in direct services to the public e.g., closed libraries, unfilled potholes, fewer police and firefighters Cooper 2011. While state responses to fiscal stress differ, the
effects on citizens are profound. Besides the practical ramifications of fiscal stress, the non-theoretical and at times
confusing nature of the academic discussion on fiscal stress also motivated this study. Apart from the work of Levine 1978, 1979, 1980 and Levine et al 1981a in
developing the “cutback management” literature, no budget theory explicitly considers how governments budget under constrained resources, how they will respond to fiscal
stress, and why some responses may work better than others.
1.2 Contributions to Literature
