GUEST COLUMN.

STATE BUDGETS: MANAGING EXPECTATIONS AS CONDITIONS RETURN TO NORMAL

By Shelby Kerns, Executive Director, National Association of State Budget Officers

Barrett and Greene, Dedicated to State and Local Government, State and Local Government Management, State and Local Management, State and Local Performance Audit, State and Local Government Human Resources, State and Local Government Performance Measurement, State and Local Performance Management, State and Local Government Performance, State and Local Government Budgeting, State and Local Government Data, Governor Executive Orders, State Medicaid Management, State Local Policy Implementation, City Government Management, County Government Management, State Equity and DEI Policy and Management, City Equity and DEI Policy and Management, City Government Performance, State and Local Data Governance, and State Local Government Generative AI Policy and Management

The National Association of State Budget Officers (NASBO) released its Fall 2024 Fiscal Survey of States, last month. Data from fiscal 2025 state and territory enacted general budgets shows states are in a largely strong fiscal condition. It also reflects a continued return to “normal” budget conditions characterized by limited new revenue outpaced by spending expectations. Managing the expectations of agencies, elected officials, and the public as state resources grow at a slower pace than has been the case in recent years will be the fundamental challenge facing state budget offices, governors, and appropriators for fiscal 2026.

First, let’s talk about the strength of state fiscal conditions. The economy has continued to grow and, while economists expect that growth to slow, they are not forecasting a recession. One strong sign of state fiscal health and resilience was found in the states’ record rainy day fund balances, which more than doubled from fiscal 2020 to fiscal 2022, with most states continuing to increase their savings levels. The median rainy day fund balance as a percentage of general fund spending is expected to reach a new historic high, rising from 12.7 percent in fiscal 2023 to a projected 14.4 percent in fiscal 2025 based on states’ enacted budgets.

State revenues continue to increase, albeit at a growth rate closer to what they experienced in fiscal 2016 and 2017 than the double-digit growth seen in fiscal 2021 and 2022. In fiscal 2024, state general funds grew by 1.5% and projected growth in fiscal 2025 is 1.9%. State general fund revenue, in aggregate, is 38% higher than in fiscal 2019.

Much of the flattening revenue growth is not related to an economic slowdown, but rather to policy decisions as 37 states enacted net tax decreases for fiscal 2024, including both one-time relief measures and ongoing reductions. In fiscal 2025, 27 states enacted tax reductions and 10 passed tax increases. This nets to an estimated net increase of $3.9 billion in additional general fund revenue, another reflection of a return to a “normal” environment where states are enacting a mix of tax actions.

It is important to note that state revenues continued to outpace expectations in fiscal 2024, while performing closer to forecast compared to preceding years. Thirty-nine states collected more revenue than expected in fiscal 2024, following three years with at least 46 states exceeding revenue projections. This “surplus revenue” led to a surge in states’ ending balances, which grew from a typical level of 3-5% as a percentage of general fund expenditures to 22.6% in fiscal 2023.

As states spend down a portion of these unanticipated balances on largely one-time investments, general fund ending balances are estimated to total 11.4% as a percentage of general fund spending by the end of fiscal 2025, still well above historical levels. These high ending balances provide additional one-time resources for states to transfer to savings, fund one-time projects such as infrastructure expansion and maintenance, and use to close any gaps as the state returns to a more normal budget environment.

It’s no surprise that historic growth in state revenues in recent years fueled expenditure growth, in addition to tax relief actions and high savings levels mentioned earlier. State general fund expenditures grew 16% in fiscal 2022, 6.3% in fiscal 2023, and 11.8% in fiscal 2024.

A portion of this growth has been driven by one-time spending from general fund surplus revenue, but this rapid growth, coupled with pandemic-era federal fund spending, has raised expectations for the levels of state investment each year.

Looking ahead, state budgets face growing expenditure pressures such as: disaster recovery; rising health care costs, which impacts both state employee health plans and programs such as Medicaid; employee retention efforts as private sector wages increase; and the impact of inflation on state spending, including on infrastructure projects. Addressing affordability concerns of citizens in sectors such as housing, insurance (property and medical), groceries, child care, and other areas further add to spending demands and priorities of elected officials. Coupled with the wind-down of enhanced federal aid for many programs, notably Medicaid, the act of balancing state budgets is going to be trickier than in recent years.

The contents of this Guest Column are those of the author, and not necessarily Barrett and Greene, Inc.

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