The Downstream Effect of Fiscal Austerity

In the aftermath of the Great Recession, state and local governments in the United States are challenged with maintaining fiscal health as part of the nation’s recovery. Now is an especially critical time in this recovery process. Federal stimulus packages awarded to state and local governments in 2009 have expired in the midst of a seemingly perpetual struggle for full economic recovery. In a 2014 paper, researchers examine how a national effort to spur economic growth is detrimental to the recovery of local governments, arguing that fiscal austerity measures have the potential to stymie government operations during harsh conditions, particularly in the years following an economic downturn or recession.

The authors acknowledge that the term “fiscal austerity” sparks disagreement regarding its meaning, as well as the proper timing for governments to impose fiscal austerity measures. They adopt a definition in which fiscal austerity is a measure that includes a mix of stimulus packages and a reduction in expenditures, given declining revenues. Scholars contend that governments should leverage a fiscal austerity strategy during an economic crisis in order to mitigate any negative repercussions felt by society. However, the linkages between federal, state, and local governments complicate the impact of these measures and their potential to improve the economy.

When the federal government adopts fiscal austerity during an economic crisis, the effects of associated policies, such as budget cuts, flow downstream to state and local governments. Even though the measure may include a set of stimulus packages, like the American Recovery and Reinvestment Act awarded by the federal government to state and local governments in 2009, these stimulus packages have an expiration date that cuts short a full recovery. Once the stimulus expires, state and local governments are left to face the residual crisis while seeking to improve their financial conditions.

Perhaps the most noticeable effect is that on the evolving role of local governments as direct providers of the welfare state. The federal government’s austerity shifts the responsibility of providing social welfare services and employment to state and local governments. Often, states follow suit and adopt fiscal austerity measures as well. A ripple effect pushes the full burden of service delivery onto local governments.

This ripple effect is surfacing in many cities across the United States. In 2010, Pew Charitable Trusts reported that state aid to local governments fell by 12.6 billion dollars. In Illinois, the newly elected Governor Bruce Rauner proposed a state budget that cut its revenue sharing of the income tax by 50 percent, forcing localities within the state to find new revenues to fill the transfer loss. In addition to the property tax, this revenue sharing is one of the most essential sources of revenue for local governments.

A common response by local governments that face revenue losses as a result of austerity is to increase tax rates, issue debt, or reduce expenditures, rather than innovating new revenue streams. This type of response is not beneficial to the population that these governments serve, especially during an economic recovery when unemployment rates are relatively high. One author notes that these actions can even yield economic stagnation.

Moreover, economic downturns amplify the demand for safety net programs in the face of high unemployment. The local government response has been to reduce its employment levels while increasing expenditures for programs like unemployment compensation and Medicaid. Many estimates suggest that, since 2008, more than 500,000 public sector jobs have been terminated. Given that all eligible individuals receive benefits for social welfare programs (i.e., benefits are not capped), service provision levels decrease even as expenditures for local governments increase, deepening the negative impact of austerity.

Some state and local governments are taking more innovative approaches to declining sources of funding. A few Republicans are considering new approaches for tapping unused revenue sources, such as expanding the sales tax to services. Specifically, Governor Kasich proposed this policy in Ohio but was unsuccessful with the legislature. Another author cited in the 2014 article suggests that local governments should increase reliance on grant funding, the private sector, non-profits, and volunteer organizations to help them reach the provision levels they cannot meet as a result of austerity.

While these approaches seem promising, experts and policymakers should directly measure the downstream effect of fiscal austerity programs and whether or not they actually work to improve the economy. From a conceptual standpoint, austerity makes sense. However, in practice, it proves to worsen the economy and shift, rather than mitigate, the burden of financial hardship to state and local governments.

Article Source: Rolling Downhill: Effects of Austerity on Local Government Social Services in the United States; David B. Miller and Terry Hokenstad, Journal of Sociology & Social Welfare; Volume XLI, June 2014, Pages 93-108.

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