In general, fiscal conditions this year represent a return to normal, following the boom years after the COVID-19 pandemic and the largesse of federal aid to states. In 2021 and 2022, many states experienced double-digit revenue growth. Although some states spent those dollars quickly on short-term needs, others took advantage of this opportunity to lower taxes and increase their long-term economic outlook and competitiveness. In fact, nearly half of states have lowered income taxes since 2021 in this state tax-cut revolution.
Since 2023, revenues have been more or less flat and the spigots pushing out federal funds have been turned down. The latest budgets reveal varying degrees of fiscal health at the state level. As the boom years for state budgets fade away post-pandemic, the states committed to fiscal responsibility, as we urge in our American Legislative Exchange Council State Budget Reform Toolkit, will find themselves in a much stronger position. They will have an easier time balancing budgets, lowering tax burdens, paying down debt and saving for a rainy day.
Consider Florida. One of America’s fastest-growing states, it will spend less than it did last year, despite an increase in revenues. GOP Gov. Ron DeSantis signed a budget that includes a $500 million reduction for 2024.
The new Florida budget also allocates $1.5 billion toward tax relief and uses $6.3 billion to pay down outstanding debt, bringing state debt to a 25-year low.
Meanwhile, the states spending money as quickly as it comes in and ignoring the effects of high taxes on economic competitiveness will see more pronounced boom-and-bust cycles in the years ahead. California provides a case in point.
Earlier this year, Democratic Gov. Gavin Newsom estimated that the shortfall was about $38 billion, but the independent Legislative Analyst’s Office projected a much more severe $73 billion. Just last year, the Golden State had reported $100 billion in surplus funds. State spending sharply increased during the pandemic and after, due to the free-flowing federal aid and strong tax collections.
These spending levels proved unsustainable, and income tax revenues also fell short as the exodus of residents and companies out of California continued. To remedy this, state legislators reached a budget agreement that will reduce spending, defer payments and draw down on the budget stabilization fund. They also delayed a minimum-wage increase for health-care workers.
Lawmakers in Illinois once again approved higher taxes to support the state budget despite a shrinking tax base. (Illinois has lost more than 470,000 residents on net since 2019.) In total, the budget signed by Democratic Gov. J.B. Pritzker includes $1.2 billion in tax increases. The state is reducing the net operating losses that businesses can deduct on their taxes, adding a sales tax on leasing property and imposing a graduated tax on sports betting.
A return to budget normalcy and the end to the extra levels of federal funds sent to the states will be a positive for prudent budgeting and spending prioritization. With state lawmakers returning to a healthy discussion that differentiates between spending needs and spending desires, this is an inherently good thing for states and their taxpayers.
Jonathan Williams is chief economist and Lee Schalk is vice president of policy at the American Legislative Exchange Council. Governing’s opinion columns reflect the views of their authors and not necessarily those of Governing’s editors or management.
