Muni Credit: How Would You Spend $195 billion?
The Covid-19 pandemic resulted in an economic crisis putting state and local governments under severe strain. In the latest response to the crisis the Biden administration signed the American Rescue Plan Act (ARPA) in March of this year. The stimulus package provides much needed relief to state, local and Tribal governments enabling them to continue to support the ongoing public health response and supports the foundation for a strong economic recovery. The total stimulus plan, comprised of $350 billion in emergency funding, includes an unprecedented (in both in size and flexibility) $195 billion of emergency funding for U.S. states to support stability in the muni sector.
The ARPA stimulus equates to nearly 20% of total U.S. state pre-pandemic operating revenues. As additional context, budgetary reserves of 5%-10% of revenues is the established rule-of-thumb as a good cushion for flexibility in the face of unplanned events.
Breakdown of the latest ARPA installment from Congress
A portion of the ARPA funding is being funneled to local governments, many of which rely on subsidies from their state parent (e.g., school districts). In turn, not only will states be able to mend their balance sheets, which were already proving quite resilient, and support their dependents, they will be positioned to add to broader economic gains and offer a stable credit profile.
ARPA funding as % of pre-pandemic state operating revenues
The expectation is the ARPA moneys will get spent, but the question is on what and when. For the latter, nearly all states are working on their budgets, to take effect July 1, 2021, with state governors proposing and legislatures deliberating on how best to spend the money. On the “what” question, much has been written about what the money can’t be used for – do not pay for a tax cut, do not make a deposit to pension funds – or that some states have to take their payments in two installments. The focus should be on the financial flexibility afforded by the ARPA and a construct that allows for planning and keeping the stimulative moneys flowing for a longer time.
Some decisions are being made faster than others, including states setting up their versions of stimulus checks to residents, offering vaccine incentives, such as “Vax-a-millions”, or shoring-up unemployment trust funds. Other states, such as Texas, have chosen to wait. We keep in mind that states are inherently bureaucratic and spending decisions take time. Nonetheless, one key area of focus will be restoring government services, meaning jobs, income, spending, and more tax receipts.
Looking back, state and local employment (SLE) made up 13% of total U.S. employment at year-end 2019. SLE shed over 4% of jobs at the end of 2020. Cuts were made much more slowly during the Great Recession of 2008 (GR) and the recovery took years; SLE was down the five (5) years following the GR, for a combined loss of over 3%. SLE did not regain those losses until 2019. SLE was up an encouraging 1.8% YoY in May 2021. We will continue to watch for ways states add to recovery this time around.
Annual % change in employment
State revenues were already bouncing back strong prior to the recent direct aid - enhancing their ability to contribute to a recovery. In California its highly progressive taxing structure captured a K-shaped recovery and 4Q2020 state revenues were up an eye-opening 22% over the same period in 2019. In New York, the comparable growth number is a 2.5%. In Tennessee, with its centralized location and reliance on sales taxes, revenues were up over 4.5%. Even in Texas, double-hit by the pandemic with a period of low oil prices, the sales tax upon which the Lone Star State heavily relies was down a manageable 5%. There’s no doubt the Wayfair decision – the 2018 U.S. Supreme Court decision expanding the ability to tax internet sales – and massive indirect federal aid played a key role.
This past April, and almost exactly one year after we completed our proprietary pandemic credit resiliency scores, which identified those muni issuers at greatest risk of substantial credit loss – we turned the credit outlook to stable for U.S. states (in addition to nearly all muni sectors) as more aid came to the states. Now we are watching how the ARPA moneys are being disbursed with an expectation that U.S. states will continue their position as subsidizing engines and contributors to the economic recovery.