Unlike the federal government, state and local governments in America can’t just create money out of thin air.

So when tax revenues go down, that money is simply not available to the state legislatures and city councils anymore. These governments either have to borrow the money, or raise taxes and hope the tax hike itself doesn’t cause total revenue to fall.

The taxes in these states and cities and counties rely heavily on economy activity for their tax revenue. That is, sales must take place for sales tax to be collected. Income must be earned for state income taxes to be collected.

Thanks to government-coerced economic shutdowns—on top of the severe recession currently brewing—tax revenues are plummeting. And many government are already expecting the hit to be larger than it was during the Great Recession. These realities will put pressure on politicians to relax their social distancing rules and hope that local taxpayers can again earn money and generate sales taxes in their jurisdictions. A failure to do so will mean layoffs for government employees large cuts to government budgets.

Politicians may not care about your household budget or whether you have a job. But they care deeply about their government budgets and jobs for their friends. This, perhaps more than anything else, will hasten moves by state and local politicians toward allowing the US economy to function again.

Tax Revenues Are Hit by Economic Stagnation

In Ohio, for example, “Gov. Mike DeWine called last month for the directors in his Cabinet to prepare for cuts as large as 20% to their agency budgets for the next 15 months, as the state prepared for the expected downturn in revenue.”

In Massachusetts, “A policy research group is warning state lawmakers to prepare for a ‘dramatic collapse’ in state revenue, estimating a tax revenue shortfall of $1.8 billion to $3 billion over the next 15 months.”

In Washington State, “a presentation last week by the Republican leaders in the state legislature forecast a $3 billion to $6 billion fall in tax revenue because of business closures related to COVID-19” That represents about a ten-percent cut to the budget.

Colorado is looking at a 10 percent cut to its state budget as well. Arizona predicts a 20 percent cut to revenue. California’s budget reserves will soon disappear, and it fears “significant spending cuts.”

And these are all just preliminary numbers.

Municipal governments will face similar problems.

In Ohio, city governments are beginning to realize that “Soaring job losses statewide due to the coronavirus pandemic will hit city budgets hard.”

Meanwhile in Denver, the city is admitting that the impact this time will be worse than the Great Recession. City departments are being asked to shave $180 million off the city’s $1.5 billion budget.

And these are just anticipated losses so far.

Demand for Welfare Programs Will Grow as Americans Are Impoverished

State and local governments have yet to feel the strain of massive growth in the demand for poverty-relief programs now that millions of Americans are out of work.

As political scientist Raymond Scheppach points out, Medicaid spending—which makes up over 28 percent of state spending now—”will explode,” especially since many states have been busy expanding Medicaid over the past decade.

With millions of households taking big cuts to the household budget, expect more demand for housing assistance and more applications for Medicaid. Expect more homelessness and all the local spending that entails. Expect more strain on budgets in general. As the need for welfare increases—and as revenues decline overall—cities and states will nonetheless need to cut somewhere.

In many cases this will mean cuts to “public safety” programs. Denver, for instance, is already looking at cutting police budgets. The city of Boulder has furloughed seven hundred city employees for more than two months.

All those cops and bureaucrats who are supposed to be ready to arrest and prosecute you for violating social distancing violations? Many of them are looking at pay cuts. Some will be lucky to have a job by year’s end.

While some budget hawks might think this is all to the good, the cuts to public safety won’t look quite as charming if thousands of desperate, unemployed workers turn to civil unrest.

Naturally, calls for federal bailouts of state and local governments are intensifying. Governments in New York want US taxpayers to bail out the state. The Brookings Institution wants “massive and immediate” bailouts for state and local governments, including a quarter-trillion dollars just for the CDBG block grant program. Naturally, Brookings wants the feds to start pouring more money into Medicaid as well.

And that’s just “initially.” More bailouts are assumed to be needed later. After all, this is not a one-quarter or one-year problem. After the Great Recession in 2009, for instance, the Denver city government was “still cutting budgets in 2013.”

Federal Bailouts Allow State and Local Politicians to Ignore Local Taxpayers

Federal bailouts certainly offer dollars for filling in budget holes. But using federal dollars to replace state and local revenues offers a political solution for state and local politicians as well.

If state and local governments rely on state and local taxes to keep their governments up and running, this means economy-crushing policies like the COVID-19 lockdowns bring with them their own consequences for politicians: state and local politicians may not care if scores of local businesses declare bankruptcy and disappear. But when governments depend on tax revenues from within their own jurisdictions, destruction of the private sector will also destroy government budgets. That means at least some discipline is built in to the local regulatory state which must be careful to not kill the golden goose.

But the federal bailouts offer a way out: the more state and local governments rely on federal “assistance,” bailouts, and grants, the less state and local governments have to care about what the local taxpayers think. State governments already receive on average about 30 percent of their budgets from federal grants and other spending. The larger this number becomes, the more these governments can afford to impose high costs on the local taxpayers with little regard as to whether these taxpayers can actually produce anything or earn a living. Local tax revenue plummets? Just go the federal governments and its mountains of freshly created money. Then go back to the taxpayers and claim “look, we can keep paying for all these programs and we didn’t raise your taxes!” What these politicians don’t mention is that they plan to continue imposing draconian regulations and wealth-killing taxes on the locals because the politicians don’t have to care if the locals are economically successful. The money now comes from somewhere outside the state or outside the city.

Fortunately, there are limits to how much the federal government can fund every state, county, and city in America. This is true even in our world where the US government blithely increases its debt by trillions of dollars in just a couple of weeks. So, states and cities will still have to—at least in part—ensure they don’t completely destroy their local economies. This is no doubt a significant factor in why even states like California and New York have stopped talking about locking down their economies for a year or more until there are “no new cases, no deaths for a period of time” or “until there’s a vaccine.” This is pure fantasy unless one is prepared to send state, county, and municipal governments into bankruptcy and budgetary collapse. We’ll soon find out how many governors and mayors are willing to do that.

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