Policy Documents

Research & Commentary: State's Reliance on Federal Funds

May 5, 2014

Decreases in tax revenue, soaring government spending, and the growing burden of unfunded liabilities have created budget crises in many states. One issue that compounds these problems is the growing reliance many states now have on federal dollars as essential components of their budgets. 

According to a State Budget Solutions (SBS) report released in January, state governments received 31.6 percent of their total revenue from the federal government in 2012. The range of federal funding dependency varied greatly. Mississippi, the state most dependent on federal aid, relies on federal funds for more than 45 percent of its budget. Even Alaska, the state least reliant on federal funds, still uses federal funds for 20 percent of its spending. 

Accepting federal dollars makes states liable for increased expenses, including expanded services, regulations, or maintenance of effort requirements that increase costs, the SBS report notes. These new expenses often far outlast the federal funds provided, complicating long-term budgeting. SBS President Bob Williams warns states not to rely on federal funding, because it is far from certain the federal government will always be able to assist the states with new funding. New or existing projects funded by federal dollars would then become the responsibility of the state to fund, necessitating tax hikes or service cuts. “We all know that federal spending is not sustainable and federal funding to the states will be cut. The major question for states is whether they will plan ahead for this inevitability,” Williams told the Heartlander digital magazine. 

Two states have begun to assess their reliance on federal funds and reduce their risk. According to the SBS report, 32 percent of Utah’s state spending relied on federal money in 2012. In an effort to lower the state’s reliance on federal dollars, legislators passed a series of bills under an initiative called Financial Ready Utah. The state will assess the risk of a significant reduction in federal funds, require all state agencies to report their total federal receipts received, and has built a series of contingency plans in the event the federal government cuts funding. Since the changes, Utah has earned strong bond ratings from several ratings agencies, including Fitch, Standard & Poor’s, and Moody’s, Jonathan Williams notes. Although the effort has not yet resulted in a spending decrease, identifying the excess is a good start. 

Idaho took Utah’s model a few steps further. Gov. Butch Otter issued an executive order requiring state agencies to determine the amount of federal funds they use annually and make plans for a cut of 10 percent or more. These reforms are both bold and necessary. According to the Idaho Freedom Foundation (IFF), Idaho’s reliance on federal money has grown 82 percent in the past 10 years. Today the state relies on more than $2.3 billion of federal money to fund its annual spending. According to the IFF, the state administers more than 440 federal grants, which are often accepted by unelected bureaucrats. 

Limiting the use of federal funds is a model other states could follow.  Legislators in Idaho and Utah are wisely taking seriously the risk of overreliance on federal funding; their reforms provide a great example and model for how states can prepare for the nation’s growing fiscal problems. 

The following articles examine state spending and acceptance of federal funds from multiple perspectives.

Ten Principles of State Fiscal Policy
http://heartland.org/policy-documents/ten-principles-state-fiscal-policy 
The Heartland Institute provides policymakers and civic and business leaders a highly condensed, easy-to-read guide to state fiscal policy principles. The principles range from “Above all else: Keep taxes low” to “Protect state employees from politics.” 

Rich States, Poor States
http://www.alec.org/publications/rich-states-poor-states/ 
The seventh edition of this publication from the American Legislative Exchange Council and economists Laffer, Moore, and Williams offers both individual-state and comparative accounts of the negative effects of income taxes. 

States Need to Prepare for Likely Cuts in Federal Funding
http://news.heartland.org/newspaper-article/2014/02/26/states-need-prepare-likely-cuts-federal-funding
Writing in the Heartlander magazine, Jonathan Williams examines how states continue to rely heavily on federal funds and notes a new study from the watchdog group State Budget Solutions shows this dependence is increasing every year. 

How States Should Respond to the Risk of a Significant Reduction in Federal Funds
http://www.statebudgetsolutions.org/publications/detail/how-states-should-respond-to-the-risk-of-a-significant-reduction-in-federal-funds#ixzz2zj97o1Ka
Bob Williams, president of State Budget Solutions, examines Utah’s Financial Readiness programs and discusses how legislators there developed a legislative action outline for the state’s response to the risk of a reduction in federal funds. 

Preparing for an Uncertain Fiscal Future: What Other States Can Learn from Utah
http://www.americanlegislator.org/preparing-for-an-uncertain-fiscal-future-what-the-states-can-learn-from-utah/
Bob Williams and Kati Siconolfi contend state legislators should discuss how to provide essential services while facing possible federal aid reductions. A majority of the states depend on federal funds, and this trend is increasing, but Utah provides an excellent example of how to prepare for an uncertain economic future. An info kit outlining Financial Ready Utah and its goals, purpose, and history of development and implementation is available here

Yes, Your Paycheck is Smaller ... And it May Get Worse
http://www.statebudgetsolutions.org/blog/detail/yes-your-paycheck-is-smallerand-it-may-get-worse#ixzz2zj9xG844
Kristen de Pena explains how the growing state dependence on federal funds affects taxpayers and causes them to pay even more in taxes. 

New Data Reveals Amount of Federal Aid to States in 2012
http://www.statebudgetsolutions.org/publications/detail/new-data-reveals-amount-of-federal-aid-to-states-in-2012?f=puball#ixzz2zjAEiFVC\
This report from State Budget Solutions analyzes data released from the Census Bureau, which revealed all 50 states rely on the federal government to support large percentages of their general budgets. The study found all state governments combined received 31.6 percent of their general revenue from the federal government in 2012. 

Unprepared Idaho: Why D.C.’s Next Budget Crisis Is Our Next Problem
http://heartland.org/policy-documents/unprepared-idaho-why-dcs-next-budget-crisis-our-next-problem
The Idaho Freedom Foundation outlines Financial Ready Idaho and argues simple public policy changes would allow lawmakers to prepare for the possibility of a reduction in federal funding: “Such systematic preparation and evaluation of state spending would allow lawmakers to see all the federal money coming into the state, measure the impact of possible cuts and then take appropriate action in the best interests of their constituents.” 

Pursuing Fiscal Self-Reliance: One State’s Actions. Interview with Utah State Representative Ken Ivory
http://www.limitedgovernment.org/FOJan14-article1.html
Leonard Gilroy, director of government reform for the Reason Foundation, interviews Utah State Rep. Ken Ivory, primary sponsor of the Financial Ready Utah bills, on the rationale behind the bills.

 

Nothing in this Research & Commentary is intended to influence the passage of legislation, and it does not necessarily represent the views of The Heartland Institute. For further information on this and other topics, visit the Budget & Tax News Web site at http://news.heartland.org/fiscal, The Heartland Institute’s Web site at www.heartland.org, and PolicyBot, Heartland’s free online research database, at www.policybot.org. 

If you have any questions about this issue or The Heartland Institute, contact Heartland Institute Senior Policy Analyst Matthew Glans at 312/377-4000 or mglans@heartland.org.