States Saving for a Rainy Day

By Kathryn White posted 16 days ago

  

One promising trend in state finances in recent years has been the strengthening of states’ rainy day funds or savings accounts. Maintaining adequate reserve levels helps states to mitigate disruptions to state services due to revenue shortfalls, during an economic downturn, and in response to emergencies and other unanticipated events. Improved revenue conditions in fiscal 2018 helped many states continue to bolster their reserves, with a number of states directing at least part of their unanticipated budget surpluses into their rainy day funds. According to NASBO’s Fall 2018 Fiscal Survey of States, 32 states increased their rainy day fund balance levels in fiscal 2018.

Background on Rainy Day Funds

Many states first established a rainy day fund in the early 1980s after wrestling with the budgetary challenges of successive recessions between 1980 and the end of 1982. NASBO began reporting state-by-state data on rainy day fund or budget stabilization fund balances in the Fall 1985 Fiscal Survey of States. At that time, roughly half the states had established such a fund, though some states reported having a zero balance, and several others designated a portion of their general fund ending balance as a reserve fund but did not report this portion separately in the Fiscal Survey. For fiscal 1984, the first year for which data were collected, just 13 states reported a positive balance in a separate rainy day fund, totaling $0.8 billion. More than three decades later, all 50 states have now established a rainy day fund of some form, with Kansas (2016), Arkansas (2017), and Montana (2017) being the states to most recently pass a law creating such a fund. States ended fiscal 2018 with a collective balance in their rainy day funds of $59.9 billion, with that figure expected to rise to $62.4 billion in fiscal 2019.

State rainy day fund structures vary considerably in terms of deposit rules, withdrawal procedures, and minimum and maximum size requirements. Additionally, some states maintain multiple budget stabilization funds, with separate reserve funds dedicated to education funding or Medicaid expenditures. NASBO’s Budget Processes in the States report, last updated in 2015, provides detailed 50-state information on key characteristics of states’ rainy day fund structures.

Rainy Day Fund Use During Recessions

During the recession of the early 2000s and the Great Recession later that same decade, states relied on rainy day funds in combination with budget balancing actions, including spending reductions, tax increases, transfers from other funds, drawing down on general fund ending balances, and other tools. In fiscal 2002, 29 states reduced their rainy day fund balance, with nine states fully depleting their balances. The median balance as a share of general fund spending plummeted from 4.4 percent in fiscal 2001 to 0.7 percent in fiscal 2003. Later that decade, in the depths of the Great Recession, states’ rainy day fund balances declined by nearly $6 billion, with the median balance as a share of general fund spending dropping from 4.8 percent in fiscal 2008 to 1.6 percent in fiscal 2010. Thirty-five states recorded a net decline in their rainy day funds during those two years. For more discussion on how states used their rainy day funds during the most recent recession, see NASBO’s 2013 report on State Budgeting and Lessons Learned During the Economic Downturn.

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* Gray bars in chart above indicate recessionary periods (July 1990 – March 1991; March 2001 – November 2001; December 2007 – July 2009)

Recent Trends and Policy Actions

States have made tremendous progress rebuilding their reserves since the Great Recession in a sustained fashion, even with the modest economic recovery. In each of the last seven fiscal years an average of 33 states have increased their rainy day fund balances. Between fiscal 2010 and fiscal 2018, total rainy day fund balances grew nearly $33 billion, with 41 states recording a net increase during that period. Over that same time period, the median rainy day fund balance level as a percentage of general fund spending has grown from 1.6 percent in fiscal 2010 to 6.4 percent in fiscal 2018. Looking ahead, states’ enacted budgets predict that the median rainy day fund balance will continue to rise, reaching 7.3 percent of general fund spending by the end of fiscal 2019.

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Much of this growth is attributable to the improving economy and corresponding growth in state general fund revenues, coupled with states’ policy choices to prioritize putting more money into their savings accounts in preparation for the next downturn. Since the Great Recession, a number of states have made changes designed to strengthen their reserves, such as by refining methods of deposit and tying target fund size to revenue volatility.

For example:

  • Massachusetts (2010) began transferring unanticipated revenues from capital gains tax collections into its rainy day fund.
  • Minnesota (2014) approved changes to its budget reserve policy, including setting a target level based on analysis of revenue volatility and instituting automatic deposits of 1/3 of the state’s positive forecast balance until the target is reached.
  • California (2014) made several alterations to its rainy day fund deposit rules, including capturing excess capital gains tax collections as well as a required deposit of a set percentage of annual general fund revenues.
  • Connecticut (2017) enacted a revenue volatility cap that automatically diverts revenues from estimated and final payments in excess of a defined dollar amount (cap) to the state’s rainy day fund.
  • Maryland (2017) adopted legislation that saves above-average collections from nonwithholding personal income tax receipts in the state’s rainy day fund.
  • North Carolina (2017) now sets aside a share of forecasted general fund revenue growth in its rainy day fund.
  • North Dakota (2017) passed a law to deposit severance tax revenue above a certain threshold into the state’s rainy day fund.

Other states have taken similar steps to bolster their rainy day funds to increase their effectiveness at smoothing revenue volatility and mitigating service disruptions during times of fiscal stress. Some states have also adopted changes in recent years to clarify rainy day fund withdrawal conditions and procedures. Together with the growing economy, these actions have contributed to the rise in state reserve levels in recent years and will continue to help states prepare for the next rainy day.