GAO-10-899, State and Local Governments: Fiscal Pressures Could Have Implications for Future Delivery of Intergovernmental Programs


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Report to the Ranking Member, Committee on the Budget, House of 
Representatives: 

United States Government Accountability Office:
GAO: 

July 2010: 

State And Local Governments: 

Fiscal Pressures Could Have Implications for Future Delivery of 
Intergovernmental Programs: 

State and Local Government Fiscal Pressures: 

GAO-10-899: 

GAO Highlights: 

Highlights of GAO-10-899, a report to the Ranking Member, Committee on 
the Budget, House of Representatives. 

Why GAO Did This Study: 

State and local governments work in partnership with the federal 
government to implement numerous intergovernmental programs. Fiscal 
pressures for state and local governments may exist when spending is 
expected to outpace revenues for the long term. GAO was asked to 
examine (1) the long-term fiscal pressures facing state and local 
governments and historical spending and revenue trends, (2) spending 
and revenue trends to identify patterns among states, and (3) what is 
known about the implications of these fiscal pressures for federal 
policies. 

Using aggregate data from the Bureau of Economic Analysis’s National 
Income and Product Accounts, this analysis draws on results from the 
March 2010 update to GAO’s state and local government fiscal model. GAO’
s model uses historical data to simulate expenditures and revenues for 
the sector for the next 50 years. Data from the U.S. Census Bureau are 
used to analyze patterns of state and local government expenditures 
and revenues among the states from 1977 to 2007, the most recent 30-
year period for which these data were available. A review of GAO and 
other reports synthesizes what is known about the implications of 
these long-term fiscal pressures for future federal policies. 

What GAO Found: 

Understanding patterns in state and local government expenditures and 
revenues is crucial for identifying and analyzing potential future 
fiscal pressures for the sector. The March 2010 update to GAO’s state 
and local fiscal model updates simulations that state and local 
governments’ long-term fiscal position will steadily decline through 
2060 absent policy changes. The primary driver of the fiscal pressure 
confronting the state and local sector is the continued growth in 
health-related costs. Over the last 30 years, health care spending has 
increased as a share of state and local spending, growing from 12 
percent of overall state and local expenditures in 1978 to 20 percent 
in 2008. While the temporary infusion of funds from the American 
Recovery and Reinvestment Act of 2009 helped cushion near-term revenue 
shortfalls, states will continue to be fiscally stressed. 

The rates of growth in expenditures and revenues varied among the 
states during the past 30 years, both overall and within specific 
categories. Current expenditures grew faster than own-source revenues 
in almost all states between 1977 and 2007. Average annual growth 
rates of state and local government expenditures and revenues varied 
substantially by category and among states. For example, public 
welfare (which includes Medicaid) was one of the fastest growing 
expenditure categories. In the aggregate, inflation-adjusted spending 
on public welfare grew at an average annual rate of 5.3 percent per 
year and growth rates in individual states ranged from 2.3 percent to 
10.9 percent. The growth of intergovernmental revenue from the federal 
government (grants) also varied among the states. State and local 
current expenditures grew faster than federal grant revenues in more 
than half of the states. Despite these trends, the sector in the 
aggregate usually remained in surplus during this 30-year period. The 
sector avoided operating deficits, in part because of federal grant 
growth, and in part because, from 1995 to 2007, the sector 
increasingly financed capital purchases by issuing debt, rather than 
with revenues, which left more revenues available to pay for current 
expenditures. However, if the overall trend of state and local 
government expenditure growth in excess of revenue growth persists, 
this growth will put increasing pressure on state and local 
governments going forward. 

All levels of government face long-term fiscal challenges which could 
affect future federal funding of intergovernmental programs, as well 
as the potential capacity of state and local governments to help fund 
and implement these programs. The interconnectedness which defines 
intergovernmental programs requires that officials at all levels of 
government remain aware of and ready to respond to fiscal pressures. 
These pressures have implications for a wide range of federal, state, 
and local programs, policies, and activities, and include costs 
associated with health care, physical infrastructure, state and local 
employee pensions and retiree health benefits, and education, among 
other areas. Actions to address the nation’s long-term fiscal outlook 
will be needed at all government levels in coming years and the 
challenges cannot be adequately met by shifting burdens from one level 
of government to another. 

What GAO Recommends: 

GAO does not make recommendations in this report. 

View [hyperlink, http://www.gao.gov/products/GAO-10-899] or key 
components. For more information, contact Stanley J. Czerwinski, (202) 
512-6806, czerwinskis@gao.gov. 

[End of section] 

Contents: 

Letter: 

Background: 

State and Local Governments Face Increasing Fiscal Challenges in the 
Next 50 Years: 

State and Local Spending and Revenue Trends Varied Among the States 
for the Past 30 Years: 

Fiscal Pressures Could Affect Delivery of Intergovernmental Programs: 

Appendix I: Scope & Methodology: 

Appendix II: GAO Contact and Staff Acknowledgments: 

Tables: 

Table 1: Growth in State and Local Government Current Expenditures 
Relative to Federal Grant Funding, by Category, 1977-2007: 

Table 2: Selected Categories of Expenditures and Revenues: 

Table 3: State and Local Government Expenditure Patterns, 1977-2007: 

Table 4: State and Local Government Revenue Patterns, 1977-2007: 

Figures: 

Figure 1: State and Local Government Operating Budget Balance, as a 
Percentage of GDP: 

Figure 2: State and Local Expenditures, by Category, 1978 and 2008: 

Figure 3: State and Local Revenues, by Type, 1978 and 2008: 

Figure 4: State and Local Government Tax Revenues Experienced Serious 
Recent Decline: 

Figure 5: Federal Grants to State and Local Governments: 

Figure 6: Current Expenditures Grew Faster than Own-Source Revenues 
from 1977 to 2007 in Almost All States: 

Figure 7: State and Local Current Expenditures Grew Faster than 
Federal Grant Revenues from 1977 to 2007 in Most States: 

Figure 8: State and Local Government Expenditure Growth Relative to 
State Personal Income Growth, 1977-2007: 

Figure 9: State and Local Government Revenue Growth Relative to State 
Personal Income Growth, 1977-2007: 

Figure 10: Federal and State/Local Surpluses and Deficits, as a 
Percentage of GDP: 

Figure 11: Federal Debt and State and Local Debt and Simulated 
Cumulative Shortfalls as a Percentage of GDP: 

Abbreviations: 

Recovery Act: American Recovery and Reinvestment Act of 2009: 

CAFR: comprehensive annual financial report: 

CBO: Congressional Budget Office: 

CHIP: Children's Health Insurance Program: 

CMS: Centers for Medicare & Medicaid Services: 

GDP: gross domestic product: 

LEA: local educational agencies: 

NASBO: National Association of State Budget Officers: 

NGA: National Governors Association: 

NIPA: National Income and Product Accounts: 

OPEB: other postemployment benefits: 

PPACA: Patient Protection and Affordable Care Act: 

SSI: Supplemental Security Income: 

TANF: Temporary Assistance for Needy Families: 

[End of section] 

United States Government Accountability Office:
Washington, DC 20548: 

July 30, 2010: 

The Honorable Paul Ryan: 
Ranking Member: 
Committee on the Budget: 
House of Representatives: 

Dear Mr. Ryan: 

State and local governments work in partnership with the federal 
government to implement numerous intergovernmental programs. All 
levels of government face long-term fiscal challenges, which threaten 
both the prospect for continued federal contributions to the funding 
of these programs as well as the potential capacity of state and local 
governments to help fund and implement these programs. 

You asked us to provide information and analysis on the fiscal 
challenges facing state and local governments. In response to your 
request, we examined (1) the fiscal pressures facing state and local 
governments during the next several decades and the past expenditure 
and revenue trends that influence these pressures, (2) state and local 
government expenditure and revenue trends to identify patterns among 
states, and (3) what is known about the implications of long-term 
state and local government fiscal pressures for current and future 
federal policies. 

To characterize and quantify the long-term fiscal outlook for the 
state and local government sector over the next 50 years, we drew 
information from the March 2010 update to our state and local 
government fiscal model.[Footnote 1] To describe long-term trends in 
state and local government revenues and expenditures, we examined data 
from the National Income and Product Accounts (NIPA) over the past 30 
years. In addition, we reviewed our prior reports and those of others 
to identify what is known about these trends and factors that affect 
them. To examine state and local government expenditure and revenue 
patterns among the states, we examined U.S. Census Bureau data for the 
past 30 years. We also reviewed our prior reports, as well as reports 
from the National Association of State Budget Officers (NASBO), the 
National Conference of State Legislatures, and others to understand 
state variation in fiscal pressures, revenue and spending patterns, 
and factors that affect them, including any shifts resulting from the 
recent recession. To identify what is known about the implications of 
these long-term fiscal pressures for federal policies, we reviewed our 
prior reports and reports by think tanks and associations representing 
state and local government officials. We assessed the reliability of 
the data we used for this review and determined that they were 
sufficiently reliable for our purposes. Appendix I provides additional 
details about the scope and methodology of our review, including 
certain limitations concerning the data that were available for our 
purposes. 

We conducted our work from February 2010 to July 2010 in accordance 
with all sections of GAO's Quality Assurance Framework that are 
relevant to our objectives. The framework requires that we plan and 
perform the engagement to obtain sufficient and appropriate evidence 
to meet our stated objectives and to discuss any limitations in our 
work. We believe that the information and data obtained, and the 
analysis conducted, provide a reasonable basis for any findings and 
conclusions. 

Background: 

Similar to our prior work on federal fiscal exposures, this report 
notes that state and local fiscal pressures can be thought of broadly 
and highlights trends in and simulations for state and local spending 
and revenue patterns that may expose the federal government to future 
spending or otherwise have implications for implementation of federal 
programs.[Footnote 2] This review of state and local governments' 
fiscal pressures is not necessarily representative of all fiscal 
pressures facing state and local governments.[Footnote 3] This review 
provides a perspective on the issues facing these governments and how 
these pressures could affect federal programs and policies. States and 
localities face fiscal pressures when, taken as a whole, spending is 
expected to outpace revenues, based on current policies. Growth in 
individual categories of spending, absent corresponding revenue growth 
or decreases in other spending, can be a source of fiscal pressures. 
Similarly, fiscal pressures may arise from revenue trends that do not 
keep pace with overall spending. Growth in individual spending 
categories or a decline in individual revenue categories alone does 
not constitute a fiscal pressure. Changes in the makeup of state and 
local government services and revenues may be choices that reflect 
economic or demographic changes or a change in public preferences. 
Fiscal pressures can result from spending growth or revenue declines 
that are not the direct result of current state and local policy 
choices, but instead reflect automatic spending growth (for example in 
response to population shifts or an increase in the number of people 
eligible for government programs) or declines in revenue due to 
changes in the economy (e.g., increases in internet sales, which 
affect states' ability to capture sales tax). Individual expenditure 
categories can also face fiscal pressures; (e.g., employee pension 
funds experiencing growth rates below the rates assumed in budget 
forecasts which then become underfunded liabilities). 

This work is primarily focused on long-term pressures, but the state 
and local government sector can also face short-term fiscal pressures 
that can arise from unexpected developments--such as a natural 
disaster or a recession--that cause substantial increases in spending 
or reductions in revenue. The recession that began in December 2007 
caused significant immediate fiscal pressures in the form of reduced 
tax revenues and increased demand for certain programs, including 
Medicaid and unemployment benefits. Because this report focuses 
primarily on long-term pressures and some of the state and local data 
on government spending were only available through 2007, the effects 
of this recession are not included in the statistical analysis of 
variation among the states. 

To address fiscal pressures and comply with balanced budget 
requirements, state and local governments may offset increased costs 
in one program by making cuts to other programs, but they may have 
less flexibility to adjust certain types of spending.[Footnote 4] For 
example, state and local government employee pension benefits are 
often defined in state law or local ordinances or charters and, in 
that sense, pension benefits for current retirees are largely 
protected from states' or localities' responses to fiscal pressures. 
On the other hand, retiree health benefits for those employees may not 
have the same level of legal protection. Spending on programs such as 
street paving may have no legal protection, but instead be an implicit 
commitment grounded in the public's expectations for the provision of 
government services. Flexibility to adjust revenues may also be 
constrained explicitly (e.g., caps on tax increases), or implicitly, 
(e.g., tax increases can be politically unpopular). The obligation of 
state and local governments to repay their long-term debt also varies, 
and a substantial portion of that debt has limited claims on the 
assets and revenues of state and local governments. About 60 percent 
of total state and local long-term debt outstanding is in the category 
of revenue bonds secured by a specific revenue-generating entity and 
provide no recourse to any other governmental assets or revenues in 
the event of default.[Footnote 5] In contrast to revenue bonds, 
general obligation bonds, which comprise about 40 percent of total 
state and local long-term debt outstanding, have payment of principal 
and interest secured by the full faith and credit of the issuer. 
[Footnote 6] 

State and Local Governments Face Increasing Fiscal Challenges in the 
Next 50 Years: 

State and Local Fiscal Model Simulations Show Sector Facing Long-Term 
Fiscal Challenges: 

Our March 2010 state and local fiscal model updates simulations 
showing that state and local governments' long-term fiscal position 
will steadily decline through 2060 absent policy changes (see figure 
1). [Footnote 7] Our updated simulations for the state and local 
sector's operating balance measure estimate operating deficits of 
about $39 billion for 2010 and $124 billion for 2011. These results 
confirm our recent finding that while states' near-term revenue 
shortfalls have been cushioned by the temporary infusion of American 
Recovery and Reinvestment Act of 2009 (Recovery Act)[Footnote 8] 
funds, as shown in the insert within figure 1, states will continue to 
be fiscally stressed.[Footnote 9] 

Figure 1: State and Local Government Operating Budget Balance, as a 
Percentage of GDP: 

[Refer to PDF for image: line graph and sub-graph] 

Year: 1980; 
Operating balance March 2010: 0.09%. 

Year: 1985; 
Operating balance March 2010: 0.55%. 

Year: 1990; 
Operating balance March 2010: -0.16%. 

Year: 1995; 
Operating balance March 2010: -0.1%. 

Year: 2000; 
Operating balance March 2010: 0.15%; 

Year: 2005; 
Operating balance March 2010: 0.09%. 

Insert magnifying near-term fiscal position: 

Year: 2008; 
Operating balance March 2010: -0.39
Operating balance January 2009 adjusted: -03.9 

Year: 2009; 
Operating balance March 2010: -0.2
Operating balance January 2009 adjusted: -0.35 

Year: 2010; 
Operating balance March 2010: -0.27
Operating balance January 2009 adjusted: -0.79 

Year: 2011; 
Operating balance March 2010: -0.82
Operating balance January 2009 adjusted: -0.85 

Year: 2012; 
Operating balance March 2010: -0.83
Operating balance January 2009 adjusted: -0.79 

Year: 2013; 
Operating balance March 2010: -0.7
Operating balance January 2009 adjusted: -0.67 

[End insert] 

Year: 2015; 
Operating balance March 2010: -0.72	
Operating balance January 2009 adjusted: -0.59 

Year: 2020; 
Operating balance March 2010: -0.98	
Operating balance January 2009 adjusted: -0.9 

Year: 2025; 
Operating balance March 2010: -1.24; 
Operating balance January 2009 adjusted: -1.24 

Year: 2030; 
Operating balance March 2010: -1.63
Operating balance January 2009 adjusted: -1.69 

Year: 2035; 
Operating balance March 2010: -21.3
Operating balance January 2009 adjusted: -21.9 

Year: 2040; 
Operating balance March 2010: -2.68
Operating balance January 2009 adjusted: -2.7 

Year: 2045; 
Operating balance March 2010: -3.26
Operating balance January 2009 adjusted: -3.21 

Year: 2050; 
Operating balance March 2010: -3.88
Operating balance January 2009 adjusted: -3.76 

Year: 2055; 
Operating balance March 2010: -4.55
Operating balance January 2009 adjusted: -4.33 

Year: 2060; 
Operating balance March 2010: -5.3
Operating balance January 2009 adjusted: -4.94 

Sources: GAO simulations, updated March 2010 and January 2009 adjusted. 

Notes: Historical data are from the Bureau of Economic Analysis's 
National Income and Product Accounts from 1980 to 2008. Data in 2009 
are GAO estimates aligned with published data where available. GAO 
simulations are from 2010 to 2060, using many Congressional Budget 
Office (CBO) projections and assumptions, particularly for the next 10 
years. Simulations are based on current policy. The term "January 2009 
Adjusted" refers to the results of our model published in GAO, Update 
of State and Local Government Fiscal Pressures, GAO-09-320R 
(Washington, D.C.: Jan. 26, 2009), which we adjusted to reflect the 
effect of reduced oil prices on the sector's expenditures. "March 
2010" refers to the results of our most recent simulation. As shown in 
the insert, the March 2010 operating balance shows an improvement 
compared to the January 2009 simulation. An increase in grants-in-aid--
largely from the Recovery Act--helped state and local governments 
improve the aggregate operating balance in the near-term. 

[A] Data for this and other figures in this report can be downloaded 
at [hyperlink, http://www.gao.gov/special.pubs/longterm/data.html]. 

[End of figure] 

These simulations suggest the fiscal pressures the sector faces and 
the extent to which these governments will need to make substantial 
policy changes to avoid growing imbalances. The size of these 
simulated deficits and state and local government balanced budget 
requirements imply the need for these governments to take action to 
reduce state and local government current expenditures, increase 
revenues, or do both in order to maintain balance. One way of 
measuring the long-term challenges faced by the sector is through a 
measure known as the "fiscal gap." The fiscal gap is an estimate of 
the action needed today and maintained for each and every year to 
achieve fiscal balance over a certain period. We measured the gap as 
the amount of spending reduction or tax increase needed to prevent 
operating deficits (or negative operating balances).[Footnote 10] Our 
simulations showed the present value of the fiscal gap over the period 
2009 to 2058 was $9.9 trillion, or 2 percent of gross domestic product 
(GDP). We calculated that closing the fiscal gap over the next 50 
years would require action to be taken today and maintained for each 
and every year going forward equivalent to a 12.3 percent reduction in 
state and local government current expenditures. Closing the fiscal 
gap through revenue increases would require action of a similar 
magnitude through increased state and local revenues. It is important 
to note that these estimates do not attempt to assume forthcoming 
policy actions by federal, state, or local governments and are based 
on analysis of historical data. Actual amounts will reflect policy 
actions taken by state and local governments to balance their budgets. 

The primary driver of the fiscal pressure confronting the state and 
local sector is the continued growth in health-related costs. State 
and local expenditures on Medicaid and the cost of health insurance 
for state and local retirees are expected to grow more than GDP. The 
health care cost growth assumptions in our model's 
simulations[Footnote 11] do not include adjustments in response to the 
March 2010 passage of the Patient Protection and Affordable Care Act 
(PPACA).[Footnote 12] Precisely how the act will affect state costs is 
not yet clear and will likely vary among the states. CMS estimates 
that while the federal government will be responsible for the vast 
majority of increases in Medicaid expenditures over the next 10 years, 
state and local governments will also experience some increases. Some 
analysts predict state costs will likely increase most where Medicaid 
eligibility requirements provided less coverage than that required by 
PPACA. A portion of these additional costs to states will likely be 
offset by lower charity care costs.[Footnote 13] 

Historical Data Show Aggregate Shifts in State and Local Expenditures, 
Revenues, and Intergovernmental Grants: 

Over the last 30 years, health care spending has increased as a share 
of state and local spending, growing from 12 percent of overall state 
and local expenditures in 1978 to 20 percent in 2008 (see figure 2). 
[Footnote 14] Trends in expenditures for other non-health categories 
of state and local government spending reflect some fluctuations in 
the federal role in some of these functions. For example, shifts in 
social welfare spending reflect federal policy changes to the 
Temporary Assistance for Needy Families program (TANF, previously 
known as Aid to Families with Dependent Children) in the mid-1990s. 
With the creation of TANF, the number of families who received cash 
assistance fell significantly, from an average of 4.8 million just 
prior to the creation of TANF to 1.7 million in 2008. State and local 
expenditures on income security programs, including welfare spending, 
declined from 10 percent of overall state and local expenditures in 
1978 to 7 percent in 2008. Education spending also declined as a share 
of all state and local government spending, from 40 percent in 1978 to 
36 percent in 2008. However, inflation-adjusted spending on education 
increased over this time period, so this decline in education spending 
as a share of all state and local government spending largely reflects 
shifts resulting from faster growth in spending on health care. 

Figure 2: State and Local Expenditures, by Category, 1978 and 2008: 

[Refer to PDF for image: 2 pie-charts] 

State and local expenditures 1978: 
Education: 40%; 
General public service: 15%; 
Health: 12%; 
Economic affairs: 11%; 
Public order and safety: 10%; 
Income security: 10%; 
Other: 2%. 

State and local expenditures 2008: 
Education: 36%; 
General public service: 14%; 
Health: 20%; 
Economic affairs: 8%; 
Public order and safety: 13%; 
Income security: 7%; 
Other: 2%. 

Source: GAO analysis of historical data from the Bureau of Economic 
Analysis's National Income and Product Accounts. 

Note: The Other category includes Housing and Community Services and 
Recreation and Culture. Economic affairs include transportation, 
space, agriculture, and natural resources. Health includes Medicaid. 
General public service includes interest payments and tax collection 
and financial management services. Income security includes 
disability, welfare, and social services. State and local government 
pension contributions are considered part of employee compensation and 
accounted for within the categories. 

[End of figure] 

State and local government revenues increased from $786 billion in 
1978 to more than $2 trillion in 2008.[Footnote 15] About $1.4 
trillion--or 68 percent--of the sector's receipts are comprised of tax 
receipts, including personal income, sales, and property taxes. 
Federal grants comprise the second largest source of receipts for the 
sector, providing about $399 billion to the sector in 2008. The sector 
had about $251 billion in other receipts in 2008, including fees, 
income on assets, and contributions for government insurance. Revenue 
streams from different sources (i.e., taxes, federal grants, and 
other) have been relatively stable as a percent of GDP over the past 
30 years, with some short-term fluctuations and recent declines due to 
the recession. States' current tax receipts held relatively steady and 
ranged from 8 to 10 percent of GDP between 1978 and 2008. Total tax 
receipts were 68 percent of aggregate state and local government 
revenues in both 1978 and 2008 (see figure 3). Other receipts also 
held relatively steady during the period of analysis at 1 to 2 percent 
of GDP. 

Figure 3: State and Local Revenues, by Type, 1978 and 2008: 

[Refer to PDF for image: 2 pie-charts] 

Total state and local revenues 1978: 
Federal grants: 23%; 
Sales taxes: 24%; 
Property taxes: 22%; 
Individual income taxes: 12%; 
Corporate income taxes: 4%; 
Other taxes: 6%; 
Interest receipts: 5%; 
Other revenue: 4%. 

Total state and local revenues 2008: 
Federal grants: 20%; 
Sales taxes: 22%; 
Property taxes: 21%; 
Individual income taxes: 15%; 
Corporate income taxes: 3%; 
Other taxes: 7%; 
Interest receipts: 5%; 
Other revenue: 7%. 

Source: GAO analysis of historical data from the Bureau of Economic 
Analysis’s National Income and Product Accounts. 

Note: Federal grants as a percentage of state and local revenues 
declined from 23 percent in 1978 to 14 percent in 1988 and then 
gradually increased to 20 percent in 2008. 

[End of figure] 

Growth in state government tax revenue slowed around the start of the 
recession that began in December 2007 (see figure 4). State and local 
current tax receipts declined for four consecutive quarters, starting 
in the third quarter of 2008. State tax collections totaled $715.2 
billion in fiscal year 2009, down 8.6 percent from the $782.1 billion 
collected in fiscal year 2008. The National Governors Association 
(NGA) and NASBO reported in June that the severe national recession 
has drastically reduced tax revenues due to significant declines in 
sales, personal income, and corporate income tax collections.[Footnote 
16] NGA and NASBO also reported that as state revenue collections 
historically lag behind any national economic recovery, state revenues 
will likely remain sluggish throughout fiscal years 2011 and 2012. In 
the first quarter of calendar year 2010, state tax revenues were 
higher than in the same period in 2009. This positive news is tempered 
by the small size of the projected growth rates in many states. 

Figure 4: State and Local Government Tax Revenues Experienced Serious 
Recent Decline: 

[Refer to PDF for image: line graph] 

Year-over-year percentage change in state and local government tax 
receipts: 

Year: 2001; 
Q1: 4.1%; 
Q2: 3.2%; 
Q3: 0.9%; 
Q4: 1.2%. 

Year: 2002; 
Q1: -0.7%; 
Q2: -1.7%; 
Q3: 4.3%; 
Q4: 4.5%. 

Year: 2003; 
Q1: 4.4%; 
Q2: 4.4%; 
Q3: 5.5%; 
Q4: 6.7%. 

Year: 2004; 
Q1: 8%; 
Q2: 9.2%; 
Q3: 7.7%; 
Q4: 8.5%. 

Year: 2005; 
Q1: 10.2%; 
Q2: 10.6%; 
Q3: 9.6%; 
Q4: 8.8%. 

Year: 2006; 
Q1: 8.5%; 
Q2: 8.6%; 
Q3: 7.1%; 
Q4: 5.5%. 

Year: 2007; 
Q1: 5.4%; 
Q2: 4.8%; 
Q3: 4.9%; 
Q4: 5.5%. 

Year: 2008; 
Q1: 3.2%; 
Q2: 3.7%; 
Q3: 2.7%; 
Q4: -2.5%. 

Year: 2009; 
Q1: -4.9%; 
Q2: -8.8%; 
Q3: -6.5%; 
Q4: -1.6%. 

Year: 2010; 
Q1: 1.9%. 

Source: GAO analysis of data from the Bureau of Economic Analysis's 
National Income and Product Accounts. 

[End of figure] 

Some of these revenue losses were offset by increased federal funding 
provided by the infusion of Recovery Act funds discussed below. 
However, states continued to take actions to address revenues in 
fiscal years 2009 and 2010. Actions taken by state and local 
governments to close their budget gaps included raising fees, laying 
off employees, across-the-board cuts to state programs, and drawing on 
states' rainy day or reserve funds.[Footnote 17] States also reduced 
state aid to localities, a budget-balancing strategy that shifts the 
fiscal pressure from the state to local governments. 

Federal grants were a relatively consistent proportion of the state 
and local sector's total revenue over the past 30 years. Federal 
grants ranged from 2 to 3 percent of GDP during this time, increasing 
from $179 billion in 1978 to $399 billion in 2008.[Footnote 18] Health 
care grants have increased as a share of federal grants to state and 
local governments. Health care grants (including Medicaid) grew from 
21 percent of federal funds provided to the sector in 1978 to 58 
percent in 2008 (see figure 5). Non-health care federal grants include 
funds for education, housing, income security, and other functions 
that are administered by multiple levels of government and community-
based organizations. 

Figure 5: Federal Grants to State and Local Governments: 

[Refer to PDF for image: 2 pie-charts] 

Federal grant revenues 1978: 
Income security: 27%; 
Economic affairs: 23%; 
Health: 21%; 
General public service: 13%; 
Education: 9%; 
Housing and community services: 5%; 
Other: 2%. 

Federal grant revenues 2008: 
Health: 58%; 
Income security: 21%; 
Education: 11%;
Housing and community services: 45%; 
Economic affairs: 3%; 
General public service: 1%; 
Other: 3%. 

Source: GAO analysis of historical data from the Bureau of Economic 
Analysis's National Income and Product Accounts. 

Note: Medicaid grants comprised 90 percent of health grants in 2008. 
'Other' includes national defense, public order and safety, and 
recreation and culture. 

[End of figure] 

More recent data for 2009 reflect substantial increases in federal 
grants--largely from the Recovery Act. The largest categories of 
Recovery Act funding for state and local governments include Medicaid 
(Federal Medical Assistance Percentage), education (State Fiscal 
Stabilization Fund), and transportation (highways and transit). 
[Footnote 19] Actual federal outlays to states and localities under 
the Recovery Act totaled approximately $137.1 billion through July 9, 
2010. Outlays in health and education and training constituted 88 
percent of total Recovery Act outlays to states and localities in 
fiscal year 2009. These Recovery Act funds were used by states and 
localities to fund a range of programs and services and thereby helped 
to partially address budget gaps. However, state and local officials 
reported that they continued to take actions to further address 
existing budget shortfalls.[Footnote 20] 

State and Local Spending and Revenue Trends Varied Among the States 
for the Past 30 Years: 

The rates of growth in expenditures and revenues varied among the 
states during the past 30 years, both overall and within specific 
categories of expenditures and revenues. State and local government 
total general expenditures (capital and current) grew slightly faster 
than total general revenues--both own-source and federal grant 
revenues--in most states during the period from 1977 to 2007. In 
addition, state and local government current expenditures grew faster 
than own-source revenues in almost all states between 1977 and 2007 
(see figure 6).[Footnote 21] The state and local sector as a whole 
generally avoided operating deficits despite current spending growing 
faster than own-source revenues in part because the growth in federal 
grants for the purpose of funding current spending somewhat exceeded 
the growth in current spending. In addition, from 1995 to 2007, the 
sector increasingly financed capital purchases by issuing debt, rather 
than with revenues, which left more revenues available to pay for 
current expenditures. As a result, the sector usually remained in 
surplus during this time period, as illustrated above in figure 1, and 
states increased their reserves between 2000 and 2006.[Footnote 22] 
However, if the overall trend of expenditure growth in excess of 
revenue growth persists; state and local government expenditure growth 
will put increasing pressure on state and local governments going 
forward. 

Figure 7: Current Expenditures Grew Faster than Own-Source Revenues 
from 1977 to 2007 in Almost All States: 

[Refer to PDF for image: plotted points on line graph] 

Percent average annual growth in real own-source revenues plotted 
against Percent average annual growth in real current expenditures. 

Expenditures grew slower than own-source revenue: 3 instances; 
Expenditures grew faster than own-source revenue: 47 instances. 

Source: GAO analysis of U.S. Census Bureau data. 

Note: Expenditure growth is the average annual percent change in the 
real current expenditure of state and local governments between 1977 
and 2007, excluding 2001 and 2003, years for which state-level data 
were not available. Own-source revenue growth is the average annual 
percent change in real own-source revenue collected by state and local 
governments. Each point on the figure shows the combination of 
expenditure growth and own-source revenue growth for a state. The 
diagonal line identifies the possible combinations of expenditure and 
revenue growth for which the two growth rates are equal. 

[End of figure] 

The growth of intergovernmental revenue from the federal government 
(federal grants) was mixed. State and local current expenditures grew 
faster than federal grant revenues in more than half of the states 
(see figure 7).[Footnote 23] Such growth means that, in those states, 
federal funding supported a decreasing share of state and local 
government current spending over this time period. State and local 
current expenditures grew more slowly than federal grant revenues in 
the other states between 1977 and 2007. States with faster growth in 
expenditures generally also had faster growth in federal grant 
revenues but this pattern also included variation among states. Some 
states that had similar expenditure growth rates had federal grant 
revenue growth rates that differed by more than 1 percentage point. 
The growth of federal grant revenues relative to the growth of own-
source revenues was also mixed. In about half of states, federal grant 
revenues grew slower than own-source revenues and in the other half, 
states' federal grant revenues grew faster than own-source revenues 
during the past three decades. 

Figure 8: State and Local Current Expenditures Grew Faster than 
Federal Grant Revenues from 1977 to 2007 in Most States: 

[Refer to PDF for image: plotted points on line graph] 

Percent average annual growth in real own-source revenues plotted 
against Percent average annual growth in real current expenditures. 

State and local government expenditures grew slower than federal grant 
revenues: 19 instances; 
State and local government expenditures grew faster than federal grant 
revenues: 31 instances. 

Source: GAO analysis of U.S. Census Bureau data. 

Note: Expenditure growth is the average annual percent change in real 
state and local government general current expenditures between 1977 
and 2007, excluding 2001 and 2003, years for which state-level data 
were not available. Growth in intergovernmental revenue (grants) from 
the federal government is the average annual percent change in real 
intergovernmental revenue. Each point on the figure shows the 
combination of expenditure growth and federal intergovernmental 
revenue growth for a state. The diagonal line identifies the possible 
combinations of expenditure growth and federal intergovernmental 
revenue growth for which the two growth rates are equal. 

[End of figure] 

For the state and local government sector in the aggregate, federal 
grants grew as a share of state and local current expenditures from 
1977 to 2007 for three of the four types of spending that we assessed--
health and hospitals, education, and public welfare (which includes 
Medicaid spending).[Footnote 24] Variation also existed among states 
and categories. Federal grants for health and hospitals showed the 
greatest overall increase relative to state and local current 
expenditures on health and hospitals. For the state and local 
government sector as a whole, federal grants for health and hospitals 
grew at an annual rate of 6.4 percent, 2.4 percentage points faster 
than the 4.0 percent growth in state and local government spending on 
health and hospitals (table 1). Growth rates within this category 
varied considerably among states--in more than two-thirds of the 
states, federal funds were an increasing share of state and local 
spending on health and hospitals. Federal grants for education grew at 
an annual rate of 3.8 percent, 0.3 percentage points faster than the 
3.5 percent growth in state and local governments' current 
expenditures for education. Federal education grant funding grew 
faster than state and local governments' education expenditure growth 
in more than half of the states. Federal grants for public welfare 
grew at an average annual rate of 6.1 percent, 0.8 percentage points 
faster than the 5.3 percent growth in state and local governments' 
public welfare spending. Only for housing and community development 
did sector-wide spending grow faster than related federal grant 
revenues.[Footnote 25] In the aggregate, federal grants for housing 
and community development grew at an average annual rate of 5.3 
percent, 0.6 percentage points less than the 5.9 percent growth in 
state and local spending on housing and community development. 

Table 1: Growth in State and Local Government Current Expenditures 
Relative to Federal Grant Funding, by Category, 1977-2007: 

Selected functional categories: Health and hospitals; 
Federal grant funding average annual growth rate 1977-2007: 
U.S.: 6.4%; 
Minimum: 1.2%; 
Maximum: 9.4%; 
State and local government current expenditures average annual growth 
rate 1977-2007: 
U.S.: 4.0%; 
Minimum: -0.4%; 
Maximum: 7.2%; 
Number of states in which federal grant revenues grew faster than 
state and local government current expenditures: 43; 
Number of states in which federal grant revenues grew slower than 
state and local government current expenditures: 8. 

Selected functional categories: Education; 
Federal grant funding average annual growth rate 1977-2007: 
U.S.: 3.8%; 
Minimum: 0.8%; 
Maximum: 6.2%; 
State and local government current expenditures average annual growth 
rate 1977-2007: 
U.S.: 3.5%; 
Minimum: 1.9%; 
Maximum: 6.7%; 
Number of states in which federal grant revenues grew faster than 
state and local government current expenditures: 31; 
Number of states in which federal grant revenues grew slower than 
state and local government current expenditures: 20. 

Selected functional categories: Public welfare; 
Federal grant funding average annual growth rate 1977-2007: 
U.S.: 6.1%; 
Minimum: 3.3%; 
Maximum: 15.7%; 
State and local government current expenditures average annual growth 
rate 1977-2007: 
U.S.: 5.3%; 
Minimum: 2.3%; 
Maximum: 10.9%; 
Number of states in which federal grant revenues grew faster than 
state and local government current expenditures: 38; 
Number of states in which federal grant revenues grew slower than 
state and local government current expenditures: 13. 

Selected functional categories: Housing and community development; 
Federal grant funding average annual growth rate 1977-2007: 
U.S.: 5.3%; 
Minimum: -0.6%; 
Maximum: 13.2%; 
State and local government current expenditures average annual growth 
rate 1977-2007: 
U.S.: 5.9%; 
Minimum: 0.8%; 
Maximum: 14.2%; 
Number of states in which federal grant revenues grew faster than 
state and local government current expenditures: 14; 
Number of states in which federal grant revenues grew slower than 
state and local government current expenditures: 37. 

Source: GAO analysis of U.S. Census Bureau data. 

Note: The data are for 1977 to 2007, excluding 2001 and 2003, years 
for which data were not available. 

Variations in spending, revenue, and debt patterns among and within 
states over time reinforce the challenge of designing a federal 
response to recent trends or in anticipation of future trends. We 
examined these variations in selected categories of expenditures and 
revenues, which are described in table 2. 

[End of table] 

Table 2: Selected Categories of Expenditures and Revenues: 

Total General Expenditures - All expenditures except those classified 
as utility, liquor store, or social insurance trust expenditures; 
comprised of: 
* Capital Outlays - Includes construction of buildings; purchase of 
land, equipment, and buildings; and payments on capital leases; 
* Current Expenditures - Consists of current operations, assistance 
and subsidies, and intergovernmental expenditure, including the 
following categories: 
- Corrections - Includes correctional activities and residential 
facilities for the detention of adults and juveniles awaiting trial or 
convicted; 
- Elementary and Secondary Education - The operation, maintenance, and 
construction of public schools and facilities for elementary and 
secondary education, vocational-technical education, and other 
educational institutions except those for higher education; 
- Health and Hospitals - Includes services for the conservation and 
improvement of public health and expenditures related to a 
government's own hospitals and for the provision of care in other 
hospitals; 
- Public Welfare - Includes federal programs--Medicaid, Supplementary 
Security Income, and TANF; other welfare services, and related 
administration; 
- Salaries and Wages - Includes all functional categories and 
activities of the government and dependent agencies, including liquor 
stores and utilities. Because liquor stores and utilities are 
included, part of total salaries and wages are not included in current 
expenditures. Salaries and wages of state and local government 
employees are also accounted for in the sector (e.g., education) for 
which the employees work; 
- Interest on the General Debt - amounts paid for the use of borrowed 
monies paid by all funds of the government, except those on utility 
debt. 

Employee and retiree health benefits and government pension 
contributions on behalf of current employees - accounted for in the 
sector (e.g., education) for which the employees work. 

Total General Revenue - All revenue except that classified as utility, 
liquor store, or social insurance trust revenue; comprised of: 
* Taxes - Includes property, general sales and gross receipts, 
individual income, and corporate income taxes, as well as other taxes; 
* Current Charges and Miscellaneous Revenue - Includes amounts 
received from the public for fees, rents and sales, income of 
commercial enterprises, interest earnings, and all other general 
revenue that is not accounted for in the tax or federal grants 
categories; 
* Federal Grants - Revenues received directly from the federal 
government, including grants, shared taxes, certain payments-in-lieu 
of taxes, and reimbursements. This category excludes certain revenues 
from the federal government, including payments that are passed-
through to individuals (e.g., certain veteran's benefits) and payments 
for utility services. 

Own-Source Revenue = Taxes + Current Charges and Miscellaneous Revenue. 

Source: U.S. Census Bureau, Government Finance and Employment 
Classification Manual. 

[End of table] 

To examine these variations, we assessed selected categories of 
expenditures, revenues, and debt using three measures. 

1. To get a sense of the relative proportion represented by each 
category in each state, we calculated (a) selected expenditure 
categories as shares of general current expenditures in 2007, (b) 
selected revenue categories as shares of general revenues in 2007, and 
(c) long-and short-term debt as shares of total revenues in 2007. 

2. To assess how fast each category grew between 1977 and 2007 in each 
state, we calculated the growth rate for each selected expenditure, 
revenue, and debt category. 

3. To compare the growth in these categories relative to growth in 
each state's resources, we compared the growth rate for each selected 
expenditure, revenue, and debt category to the growth rate in total 
state personal income between 1977 and 2007. We chose total personal 
income as a proxy for each state's resources or fiscal capacity. 
[Footnote 26] For example, when expenditures in a state are growing 
faster than personal income, the share of the state's resources that 
are dedicated to state and local government services is growing. Over 
the long run, such growth could create a fiscal pressure. This 
analysis also identified the number of states where growth in a 
category was (a) greater than total personal income growth for that 
state or (b) less than total personal income growth for that state. 

State and Local Government Expenditure Growth Patterns Reflect 
Variations Among States in Expenditures by Type and Over Time: 

State and local government expenditure growth rates varied 
substantially by category among states (see table 3). Between 1977 and 
2007, general expenditures for the state and local government sector 
increased at an average rate of 4.0 percent per year and ranged from a 
minimum of 2.2 percent to a maximum of 6.8 percent in individual 
states. Current expenditures and capital outlays by the state and 
local government sector displayed a similar pattern, but with a wider 
range of growth rates for individual states.[Footnote 27] State and 
local government expenditures varied in terms of the shares of 
expenditures represented by different categories of spending both 
among states and over time within states. We examined state and local 
government expenditures for four spending categories--corrections, 
elementary and secondary education, health and hospitals, and public 
welfare[Footnote 28]--as well as categories for salaries and wages and 
interest on the general debt. 

Table 3: State and Local Government Expenditure Patterns, 1977-2007: 

Total general expenditure; 
Share of general current expenditure in 2007: U.S.: [Empty]; 
Share of general current expenditure in 2007: Minimum: [Empty]; 
Share of general current expenditure in 2007: Maximum: [Empty]; 
Average annual growth rate 1977-2007: U.S.: 4.0%; 
Average annual growth rate 1977-2007: Minimum: 2.2%; 
Average annual growth rate 1977-2007: Maximum: 6.8%. 

Total general expenditure by character: Capital outlay; 
Share of general current expenditure in 2007: U.S.: [Empty]; 
Share of general current expenditure in 2007: Minimum: [Empty]; 
Share of general current expenditure in 2007:: Maximum: [Empty]; 
Average annual growth rate 1977-2007: U.S.: 3.7%; 
Average annual growth rate 1977-2007: Minimum: 0.5%; 
Average annual growth rate 1977-2007: Maximum: 6.6%. 

Total general expenditure by character:Current expenditure; 
Share of general current expenditure in 2007: U.S.: [Empty]; 
Share of general current expenditure in 2007: Minimum: [Empty]; 
Share of general current expenditure in 2007: Maximum: [Empty]; 
Average annual growth rate 1977-2007: U.S.: 4.0%; 
Average annual growth rate 1977-2007: Minimum: 2.0%; 
Average annual growth rate 1977-2007: Maximum: 6.8%. 

General current expenditure by selected functional category: 
Corrections; 
Share of general current expenditure in 2007: U.S.: 3.3%; 
Share of general current expenditure in 2007: Minimum: 1.8%; 
Share of general current expenditure in 2007: Maximum: 4.6%; 
Average annual growth rate 1977-2007: U.S.: 6.7%; 
Average annual growth rate 1977-2007: Minimum: 0.6%; 
Average annual growth rate 1977-2007: Maximum: 10.0%. 

General current expenditure by selected functional category: 
Elementary & secondary education; 
Share of general current expenditure in 2007: U.S.: 23.7%; 
Share of general current expenditure in 2007: Minimum: 17.7%; 
Share of general current expenditure in 2007: Maximum: 30.6%; 
Average annual growth rate 1977-2007: U.S.: 3.5%; 
Average annual growth rate 1977-2007: Minimum: 1.6%; 
Average annual growth rate 1977-2007: Maximum: 6.7%. 

General current expenditure by selected functional category: Health & 
hospitals; 
Share of general current expenditure in 2007: U.S.: 9.3%; 
Share of general current expenditure in 2007: Minimum: 2.6%; 
Share of general current expenditure in 2007: Maximum: 17.5%; 
Average annual growth rate 1977-2007: U.S.: 4.0%; 
Average annual growth rate 1977-2007: Minimum: -0.4%; 
Average annual growth rate 1977-2007: Maximum: 7.2%. 

General current expenditure by selected functional category: Public 
welfare; 
Share of general current expenditure in 2007: U.S.: 19.6%; 
Share of general current expenditure in 2007: Minimum: 12.5%; 
Share of general current expenditure in 2007: Maximum: 30.6%; 
Average annual growth rate 1977-2007: U.S.: 5.3%; 
Average annual growth rate 1977-2007: Minimum: 2.3%; 
Average annual growth rate 1977-2007: Maximum: 10.9%. 

General current expenditure by selected category: Total salaries and 
wages; 
Share of general current expenditure in 2007: U.S.: 38.5%; 
Share of general current expenditure in 2007: Minimum: 29.0%; 
Share of general current expenditure in 2007: Maximum: 48.7%; 
Average annual growth rate 1977-2007: U.S.: 2.9%; 
Average annual growth rate 1977-2007: Minimum: 0.4%; 
Average annual growth rate 1977-2007: Maximum: 5.5%. 

General current expenditure by selected category: Interest on general 
debt; 
Share of general current expenditure in 2007: U.S.: 4.7%; 
Share of general current expenditure in 2007: Minimum: 1.8%; 
Share of general current expenditure in 2007: Maximum: 8.0%; 
Average annual growth rate 1977-2007: U.S.: 3.7%; 
Average annual growth rate 1977-2007: Minimum: -1.2%; 
Average annual growth rate 1977-2007: Maximum: 7.4%. 

Source: GAO analysis of U.S. Census Bureau data. 

Note: The data are for 1977 to 2007, excluding 2001 and 2003, years 
for which data were not available. "U.S." indicates the value for the 
aggregate state and local government sector for all 50 states and the 
District of Columbia. "Min." and "Max." indicate the minimum and 
maximum values, respectively, for all 50 states and the District of 
Columbia. Growth rates are average annual growth rates of expenditures 
measured in constant 2009 dollars. 

[End of table] 

Variation across states in personal income growth, a proxy for a 
state's fiscal capacity growth, also likely contributed to differences 
among states in expenditure growth.[Footnote 29] Between 1977 and 
2007, personal income in the United States grew at an annual rate of 
3.3 percent with a range of 1.7 percent to 6.6 percent for individual 
states. In most states, both general expenditures and current 
expenditures grew faster than personal income between 1977 and 2007 
(see figure 8). At the same time, the number of states for which state 
and local government expenditures grew faster than personal income 
varied among key categories. 

Figure 8: State and Local Government Expenditure Growth Relative to 
State Personal Income Growth, 1977-2007: 

[Refer to PDF for image: illustrated table] 

Expenditure category: General expenditures; 
Number of states in which expenditure category grew slower than 
personal income: 4; 
Number of states in which expenditure category grew faster than or at 
the same rate as personal income: 47. 

Expenditure category: A. Capital outlays; 
Number of states in which expenditure category grew slower than 
personal income: 26; 
Number of states in which expenditure category grew faster than or at 
the same rate as personal income: 25. 

Expenditure category: B. Current expenditures; 
Number of states in which expenditure category grew slower than 
personal income: 3; 
Number of states in which expenditure category grew faster than or at 
the same rate as personal income: 48. 

Expenditure category: 1. Corrections; 
Number of states in which expenditure category grew slower than 
personal income: 1; 
Number of states in which expenditure category grew faster than or at 
the same rate as personal income: 50. 

Expenditure category: 2. Elementary and secondary education; 
Number of states in which expenditure category grew slower than 
personal income: 18; 
Number of states in which expenditure category grew faster than or at 
the same rate as personal income: 33. 

Expenditure category: 3. Health and hospitals; 
Number of states in which expenditure category grew slower than 
personal income: 19; 
Number of states in which expenditure category grew faster than or at 
the same rate as personal income: 32. 

Expenditure category: 4. Public welfare; 
Number of states in which expenditure category grew slower than 
personal income: 0; 
Number of states in which expenditure category grew faster than or at 
the same rate as personal income: 51. 

Expenditure category: 5. Salaries and wages; 
Number of states in which expenditure category grew slower than 
personal income: 45; 
Number of states in which expenditure category grew faster than or at 
the same rate as personal income: 6. 

Expenditure category: 6. Interest on the general debt; 
Number of states in which expenditure category grew slower than 
personal income: 19; 
Number of states in which expenditure category grew faster than or at 
the same rate as personal income: 32. 

Source: GAO analysis of U.S. Census Bureau data. 

Notes: The data are for 1977 to 2007, excluding 2001 and 2003, years 
for which data were not available. States includes all 50 states and 
the District of Columbia. Growth rates are average annual growth rates 
of expenditures measured in constant 2009 dollars. 

[End of figure] 

Corrections: Corrections expenditures grew at a rate of 6.7 percent-- 
the fastest growing expenditure category during the time period we 
assessed. All states experienced growth in this type of expenditure 
and growth rates ranged from 0.6 percent to 10.0 percent in individual 
states. Virtually every state experienced a growth rate faster than 
the growth in total personal income. However, corrections spending 
only represented 3.3 percent of current expenditures for state and 
local governments in 2007. 

Education: Spending on elementary and secondary education increased in 
all states between 1977 and 2007. However, almost all states 
experienced declines in these expenditures as a percent of current 
expenditures because other expenditure categories grew faster. Over 
the same period, spending on elementary and secondary education grew 
faster than personal income in almost two-thirds of states. In the 
aggregate, spending on elementary and secondary education made up 23.7 
percent of state and local government current expenditures in 2007, 
making it the largest functional expenditure category. 

Health and hospitals: Expenditures on health and hospitals grew at an 
average rate of 4.0 percent per year for the state and local 
government sector as a whole between 1977 and 2007. Over the same 
period, growth rates in some states were as high as 7.2 percent, and 
inflation-adjusted spending on this category increased in virtually 
all states. Spending on health and hospitals grew faster than personal 
income in almost two-thirds of states. State and local governments as 
a whole allocated 9.3 percent of current expenditures to health and 
hospitals in 2007, with individual states allocating between 2.6 and 
17.5 percent. 

Public welfare: Spending on public welfare, including Medicaid, grew 
at a rate of 5.3 percent between 1977 and 2007. Growth rates for 
public welfare expenditures during the same period ranged from 2.3 to 
10.9 percent in individual states. Spending on public welfare by state 
and local governments grew faster than personal income in all states 
between 1977 and 2007. Aggregate public welfare expenditure by the 
state and local government sector grew from 15.2 to 19.6 percent of 
current expenditures during the same period. In 2007, public welfare 
made up between 12.5 and 30.6 percent of current expenditures in 
individual states. 

Salaries and wages: State and local government spending on salaries 
and wages grew at an average annual rate of 2.9 percent between 1977 
and 2007 and growth ranged from 0.4 percent to 5.5 percent for 
individual states during this time period. Spending on total salaries 
and wages grew slower than personal income in almost all states. 
Overall, state and local government spending on salaries and wages 
dropped from 53.5 percent of current expenditures in 1977 to 38.5 
percent in 2007. Total salaries and wages overlaps with sector-
specific functional expenditure categories (e.g. education, public 
welfare, corrections, etc.), and is thus not considered a separate 
functional category. 

Interest on the general debt:[Footnote 30] Expenditures on interest on 
the general debt increased in almost all states between 1977 and 2007, 
with average annual growth rates that varied from a low of -1.2 
percent to a high of 7.4 percent. Almost two-thirds of states 
experienced growth greater than the growth in total personal income. 
Spending for interest on the general debt varied substantially within 
and among the states between 1977 and 2007. On average in the United 
States, states spent 4.7 percent of current expenditures on interest 
on general debt in 2007, but this ranged from a low of 1.8 percent to 
a high of 8.0 percent. 

State and Local Government Revenue Growth Patterns Reflect Variations 
among States in Revenue Shares by Type and Over Time: 

Although state and local government revenues grew slower than 
expenditures in most states between 1977 and 2007, revenue growth 
rates varied substantially among states during this period. Revenues 
grew at an average annual rate of 3.8 percent and ranged from 1.7 to 
6.7 percent for individual states. States experienced varying growth 
rates for individual revenue categories and each relied on the various 
types of revenues to a different extent (see table 4). Own-source 
revenue made up a stable fraction of revenue collected by the state 
and local government sector, measuring 78.1 percent in 1977 and 79.9 
percent in 2007. However, in individual states, own-source revenue 
ranged from 58.9 to 86.4 percent of state and local government revenue 
in 2007. Own-source revenue grew at an annual rate of 3.8 percent for 
the sector, but grew at rates from 1.3 to 6.9 percent in individual 
states. 

Table 4: State and Local Government Revenue Patterns, 1977-2007: 

General revenue; 
Share of general revenue in 2007: U.S.: [Empty]; 
Share of general revenue in 2007: Minimum: [Empty]; 
Share of general revenue in 2007: Maximum: [Empty]; 
Average annual growth rate 1977-2007: U.S.: 3.8%; 
Average annual growth rate 1977-2007: Minimum: 1.7%; 
Average annual growth rate 1977-2007: Maximum: 6.7%. 

General revenue by source: Federal grants; 
Share of general revenue in 2007: U.S.: 20.1%; 
Share of general revenue in 2007: Minimum: 13.6%; 
Share of general revenue in 2007: Maximum: 41.1%; 
Average annual growth rate 1977-2007: U.S.: 3.9%; 
Average annual growth rate 1977-2007: Minimum: 0.4%; 
Average annual growth rate 1977-2007: Maximum: 6.9%. 

General revenue by source: Own-source revenue; 
Share of general revenue in 2007: U.S.: 79.9%; 
Share of general revenue in 2007: Minimum: 58.9%; 
Share of general revenue in 2007: Maximum: 86.4%; 
Average annual growth rate 1977-2007: U.S.: 3.8%; 
Average annual growth rate 1977-2007: Minimum: 1.3%; 
Average annual growth rate 1977-2007: Maximum: 6.9%. 

General revenue by source: Total charges & misc. revenue; 
Share of general revenue in 2007: U.S.: 25.2%; 
Share of general revenue in 2007: Minimum: 15.7%; 
Share of general revenue in 2007: Maximum: 42.3%; 
Average annual growth rate 1977-2007: U.S.: 4.8%; 
Average annual growth rate 1977-2007: Minimum: 1.6%; 
Average annual growth rate 1977-2007: Maximum: 7.1%. 

General revenue by source: Total taxes; 
Share of general revenue in 2007: U.S.: 54.8%; 
Share of general revenue in 2007: Minimum: 36.7%; 
Share of general revenue in 2007: Maximum: 69.3%; 
Average annual growth rate 1977-2007: U.S.: 3.4%; 
Average annual growth rate 1977-2007: Minimum: -0.4%; 
Average annual growth rate 1977-2007: Maximum: 6.9%. 

Tax revenue by selected tax: Property taxes; 
Share of general revenue in 2007: U.S.: 16.5%; 
Share of general revenue in 2007: Minimum: 6.2%; 
Share of general revenue in 2007: Maximum: 34.1%; 
Average annual growth rate 1977-2007: U.S.: 3.2%; 
Average annual growth rate 1977-2007: Minimum: 0.3%; 
Average annual growth rate 1977-2007: Maximum: 6.8%. 

Tax revenue by selected tax: General sales taxes; 
Share of general revenue in 2007: U.S.: 12.9%; 
Share of general revenue in 2007: Minimum: 1.4%; 
Share of general revenue in 2007: Maximum: 26.1%; 
Average annual growth rate 1977-2007: U.S.: 3.8%; 
Average annual growth rate 1977-2007: Minimum: -0.8%; 
Average annual growth rate 1977-2007: Maximum: 7.8%. 

Tax revenue by selected tax: Individual income taxes; 
Share of general revenue in 2007: U.S.: 12.4%; 
Share of general revenue in 2007: Minimum: 0.7%; 
Share of general revenue in 2007: Maximum: 24.6%; 
Average annual growth rate 1977-2007: U.S.: 4.3%; 
Average annual growth rate 1977-2007: Minimum: 1.8%; 
Average annual growth rate 1977-2007: Maximum: 14.6%. 

Source: GAO calculations based on U.S. Census Bureau data. 

Notes: "U.S." indicates the value for the aggregate state and local 
government sector for all 50 states and the District of Columbia. 
"Min." and "Max." indicate the minimum and maximum values, 
respectively, for all 50 states and the District of Columbia, except 
in the categories general sales tax and individual income tax, for 
which we excluded states that did not charge that category of tax. 
Growth rates are average annual growth rates of revenues measured in 
constant 2009 dollars. 

[End of table] 

As with expenditure growth, variation across states in personal income 
growth, a proxy for fiscal capacity growth, also likely contributed to 
variation across states in revenue growth. [Footnote 31] In most 
states, revenue grew faster than personal income between 1977 and 2007 
(see figure 9). Most of the components of revenue also grew faster 
than personal income in most states over the same period. 

Figure 9: State and Local Government Revenue Growth Relative to State 
Personal Income Growth, 1977-2007: 

[Refer to PDF for image: illustrated table] 

Revenue category: I. General revenue; 
Number of states in which revenue category grew slower than personal 
income: 6; 
Number of states in which revenue category grew faster than personal 
income: 45; 
Number of states that did not collect this type of revenue: 0. 

Revenue category: A. Federal grants; 
Number of states in which revenue category grew slower than personal 
income: 12; 
Number of states in which revenue category grew faster than personal 
income: 39; 
Number of states that did not collect this type of revenue: 0. 

Revenue category: B. Own-source revenue; 
Number of states in which revenue category grew slower than personal 
income: 8; 
Number of states in which revenue category grew faster than personal 
income: 43; 
Number of states that did not collect this type of revenue: 0. 

Revenue category: 1. Total charges and miscellaneous revenue; 
Number of states in which revenue category grew slower than personal 
income: 2; 
Number of states in which revenue category grew faster than personal 
income: 49; 
Number of states that did not collect this type of revenue: 0. 

Revenue category: 2. Total taxes; 
Number of states in which revenue category grew slower than personal 
income: 11; 
Number of states in which revenue category grew faster than personal 
income: 40; 
Number of states that did not collect this type of revenue: 0. 

Revenue category: a. Individual income taxes; 
Number of states in which revenue category grew slower than personal 
income: 4; 
Number of states in which revenue category grew faster than personal 
income: 40; 
Number of states that did not collect this type of revenue: 7. 

Revenue category: b. General sales taxes; 
Number of states in which revenue category grew slower than personal 
income: 12; 
Number of states in which revenue category grew faster than personal 
income: 35; 
Number of states that did not collect this type of revenue: 4. 

Revenue category: c. Property taxes; 
Number of states in which revenue category grew slower than personal 
income: 21; 
Number of states in which revenue category grew faster than personal 
income: 30; 
Number of states that did not collect this type of revenue: 0. 

Source: GAO analysis of U.S. Census Bureau data. 

Notes: The data are for 1977 to 2007, excluding 2001 and 2003, years 
for which data were not available. 

[End of figure] 

Total taxes: Tax revenues grew in almost all states between 1977 and 
2007, with growth rates as high as 6.9 percent annually. These changes 
in tax revenues reflect both policy changes (e.g., changes in income 
tax rates) and economic changes (e.g., changes in population or total 
taxable personal income). Most state and local government tax revenues 
stem from three types of taxes--individual income taxes, general sales 
taxes, and property taxes. While more than two-thirds of the states 
experienced growth in total taxes greater than the growth in personal 
income between 1977 and 2007, almost all states also experienced 
declines in total taxes as a percent of general revenue because other 
revenue categories (i.e., federal grants and total charges and 
miscellaneous revenue) grew faster. For the state and local government 
sector in the aggregate, total taxes made up 54.8 percent of revenue 
in 2007. The share of revenue collected as taxes in individual states 
ranged from about 37 to about 69 percent. For the state and local 
government sector, property taxes as a share of revenue declined 
between 1977 and 2007, while individual income taxes increased and 
general sales taxes remained relatively stable. 

Individual income taxes: Individual income taxes emerged as the 
fastest growing tax category, growing at an annual rate of 4.3 
percent. Receipts in states that collected individual income taxes 
ranged from 0.7 percent to 24.6 percent of revenue collected in 2007. 
For the sector in the aggregate, individual income tax revenues made 
up 12.4 percent of revenue in 2007. Individual income taxes made up 
more than 20 percent of state revenues in a few states while 7 states 
had no broad-based income tax during this period of analysis. 
Individual income taxes grew faster than personal income in more than 
two-thirds of the states. 

Sales taxes: General sales taxes grew an average of 3.8 percent per 
year for all states between 1977 and 2007. Sales tax growth ranged from 
-0.8 percent to 7.8 percent in individual states. Four states did not 
have a general sales tax during the period of analysis and sales tax 
revenues constituted more than 20 percent of state and local 
government revenues in a few states. Sales tax revenues grew faster 
than personal income in more than two-thirds of the states during this 
period. 

Property taxes: Of the three major categories of taxes, growth in 
property tax revenues showed the least amount of variation among the 
states and grew an average of 3.2 percent per year with growth rates 
ranging from 0.3 to 6.8 percent in individual states. For the sector 
in the aggregate, property taxes made up 16.5 percent of revenue in 
2007. Property taxes ranged from 6.2 to 34.1 percent of revenue 
collected in individual states in 2007. A majority of states 
experienced property tax growth greater than the growth in personal 
income. 

Total charges and miscellaneous revenue: This category emerged as the 
fastest growing overall revenue category, with an aggregate annual 
growth rate of 4.8 percent. All states experienced growth in this 
category while almost all states experienced growth relative to 
personal income. These growth rates indicate that, on the whole, state 
and local governments are increasingly relying on charges and 
miscellaneous revenue to finance their programs and services. For the 
state and local government sector in the aggregate, total charges and 
miscellaneous revenue comprised 25.2 percent of revenues in 2007. 

Federal grants: In the aggregate, federal grant revenues also grew 
faster than tax revenue, at an average annual rate of 3.9 percent. 
Growth rates of federal grant revenue for individual states varied 
between 0.4 and 6.9 percent. Federal grants to the state and local 
government sector represented 20.1 percent of revenues in 2007, 
slightly less than the 21.9 percent they contributed in 1977. Federal 
grants made up between 13.6 and 41.1 percent of revenues for state and 
local governments in individual states in 2007. More than two thirds 
of the states experienced growth in federal grant revenue greater than 
growth in personal income. 

Growth in State and Local Government Debt Varied Considerably Across 
States: 

Between 1977 and 2007, total state and local government debt grew at 
an annual rate of 4.2 percent, driven largely by long-term debt, which 
grew at an annual rate of 4.3 percent. A major portion of long-term 
debt is private purpose and utility debt, which have a limited claim 
on state and local revenue and assets in the event of default. 
[Footnote 32] According to National Income and Product Accounts data, 
there has been a long-term downward trend in aggregate state and local 
government sector net savings over the past 30 years. Short-term debt 
increased over this period at a rate of 0.2 percent in the United 
States. Short-term debt equaled approximately 1 percent of total state 
and local government revenue in 2007.[Footnote 33] States varied 
significantly with respect to trends in debt. For example, a few 
states experienced declines in levels of long-term debt, while two-
thirds of the states experienced growth greater than the growth in 
personal income over that period. More than two-thirds of the states 
experienced real declines in short-term debt, while a small number of 
states had real dollar increases in the level of short-term debt of 
more than 15 percent. 

Fiscal Pressures Could Affect Delivery of Intergovernmental Programs: 

Given the nature of the partnership among levels of government in 
providing services to the public and the economic interrelationships 
among levels of government, understanding patterns in state and local 
government expenditures and revenues is crucial for identifying and 
analyzing potential fiscal pressures for the sector. The federal 
government partners with state and local governments to achieve 
national priorities through implementation of a variety of programs. 
Such programs range from Medicaid, a joint federal-state program that 
finances health care for certain categories of low-income individuals, 
to disaster recovery, where the federal government provides 
significant financial assistance after major disasters, but state and 
local governments play the lead role in disaster recovery. The 
interconnectedness which defines intergovernmental programs requires 
that all levels of government remain aware of and ready to respond to 
fiscal pressures. Such awareness and readiness to respond must also 
acknowledge the array of assumptions used to develop simulations 
identifying potential future pressures. 

State and Local Fiscal Pressures Have Implications for Federal 
Programs and Policies: 

Since many federal programs are implemented with state and local 
governments, fiscal pressures confronting the sector could affect 
implementation of federal programs and policies. The persistent long- 
term pressures outlined earlier in this report may require states and 
localities to fundamentally reassess their spending and revenue 
policies. The emergence of the recent cyclical downturn has hastened 
the need for action and increased the sense of urgency for state and 
local governments. In our work involving oversight of Recovery Act 
funds, we found that many states have reported significant declines in 
the number of management and oversight staff--limiting states' ability 
to ensure proper implementation and management of Recovery Act 
programs. These recent findings reinforce the expectation that states 
may not be able to provide current levels of services for federally 
funded programs they administer if budget actions such as layoffs and 
furloughs of state employees continue. These challenges have 
implications for a wide range of federal, state, and local programs, 
policies, and activities. 

The following discussion of state and local fiscal pressures provides 
additional context for understanding the potential implications for 
future federal policies to supplement the analysis of expenditure and 
revenue data which identified the existence of and variation in these 
pressures. 

Health Care Programs: 

The fiscal pressure created by the growth in health care expenditures 
discussed earlier in this report is combined with the anticipated 
December 31, 2010 end of increased Medicaid funding for states 
provided through the Recovery Act. States' approaches to preparing for 
the end of Recovery Act funding vary, depending on budget gaps and 
governments' balanced-budget requirements. According to a recent 
report by the National Conference of State Legislatures, 30 states 
built into their proposed or enacted fiscal year 2011 budgets an 
assumption that Congress would extend increased Medicaid funding. 
[Footnote 34] In addition to this near-term pressure, it is not 
entirely clear how states' Medicaid expenditures will be affected by 
the Patient Protection and Affordable Care Act over the long term. CBO 
estimated the cost of health care reform efforts over the 2010-2019 
period as well as the effects on the deficit in the decade beginning 
in 2020. However, CBO has also noted the imprecision of these 
calculations because of the great degree of uncertainty associated 
with the estimates. CBO has not extrapolated estimates further into 
the future because the uncertainties surrounding them are magnified 
even more. Looking forward, states have concerns about the long-term 
sustainability of their Medicaid programs. 

Physical Infrastructure: 

In addition to the known fiscal challenges and uncertainty regarding 
future health care expenditures, the nation's physical infrastructure 
is under strain. Estimates of the costs to repair, replace, or upgrade 
aging infrastructure so that it can safely, efficiently, and reliably 
meet current demands, as well as expand capacity to meet increasing 
demands, top hundreds of billions of dollars. Addressing these 
challenges is complicated by the breadth of the nation's physical 
infrastructure--including aviation, highway, transit, rail, water, and 
dam infrastructure--which is owned, funded, and operated by all levels 
of government and the private sector. In this environment, the 
infrastructure improvements that all levels of government want will 
compete for scarce resources and may exceed what the nation can 
afford. Accordingly, decisions about the appropriate level of 
distribution and spending on infrastructure are both difficult and 
enormously important. 

State and Local Employee Pensions: 

State and local governments also face fiscal pressures from pensions 
offered to employees. Declines in pension asset values stemming from 
the recent recession affect the sector's long-term fiscal position. 
The state and local government sector experienced a decline in pension 
asset values of 27.6 percent--from $3.2 trillion at the end of 2007 to 
$2.3 trillion at the end of 2008. The contribution rate required for 
the sector to fund the plans on an actuarial basis increased to 9.9 
percent of the sector's wages, according to our March 2009 estimate, 
which is higher than the actual 2008 contribution rate of 8.3 percent. 
[Footnote 35] In 2008 we reported that the percentage of the 65 large 
public pension plans we analyzed that had a funded ratio (actuarial 
value of assets divided by actuarial accrued liabilities) of 80 
percent or better decreased steadily from about 90 percent in 2000 to 
58 percent in 2006.[Footnote 36] More recent studies by others found 
that aggregate state and local pension funding levels continued to 
decline in 2008 and are expected to decline significantly in 2009 and 
over the next few years as the full effect of the recent financial 
crisis is realized. Consistent with our prior work, these studies 
found wide variation in funding levels among plans. For example, the 
Pew Center on the States found that in 2008, 12 state pension funds 
had funded ratios above 90 percent and 8 had funded ratios less than 
65 percent. Low funded ratios will eventually require action by state 
and local governments to improve funding and may shift costs to future 
generations. While reducing benefits could improve funding 
requirements, state and local governments may not be able to do so for 
existing employees due to guarantees by state constitutions or 
contracts. Improving funding may require increased contributions. Many 
governments have often contributed less than the amount needed to 
improve or maintain funded ratios. Low contributions raise concerns 
about the future funded status of these plans. 

State and Local Retiree Health Benefits: 

State and local governments also face fiscal pressure from other 
postemployment benefits (OPEB), the largest of which is typically 
retiree health benefits. Accounting standards issued by the 
Governmental Accounting Standards Board in 2004 require governments to 
account for the costs of OPEB as employees earn the benefits and as 
costs are accrued, rather than when the benefits are paid or provided. 
Because state and local governments have historically funded retiree 
health benefits when paid or provided rather than when the benefits 
are earned, much of their OPEB liability is unfunded, raising concerns 
about the fiscal pressures state and local governments face in the 
coming decades. In a 2009 review, we found that the total unfunded 
OPEB liability reported in states and the largest local governments' 
comprehensive annual financial reports (CAFR) exceeded $530 billion. 
[Footnote 37] We reported that spending on state and local government 
retirees' health benefits is expected to more than double as a share 
of total operating revenues by 2050, from 0.9 percent to 2.1 percent. 
The Pew Center on the States published similar findings on OPEB 
obligations and found that state governments' OPEB liability in fiscal 
year 2008 was $587 billion to pay for current and future benefits, 
with only $32 billion of that amount pre-funded.[Footnote 38] Low 
funded ratios will eventually require action by state and local 
governments to close the gap between promised benefits and dedicated 
resources and may shift costs to future generations. Similar to state 
and local employee pensions, while reducing benefits could improve 
funding, state and local governments may not be able to do so for 
existing employees without changing current guarantees in contracts. 
In the absence of such changes, improving funding may require 
increased contributions. 

Education: 

The federal government also has an interest in investing in the 
education of children to establish a well-educated and skilled 
workforce that will enhance U.S. competitiveness in the global 
marketplace. As we have previously reported, the federal government 
accounts for about 9 percent of the total investment in K-12 
education, with state and local sources covering the rest.[Footnote 
39] The federal government provided an estimated $166.9 billion over 
the 3-year period from fiscal years 2006-2008--for an average of $55.6 
billion per year--to administer 151 different federal K-12 and early 
childhood education programs. In addition to these funds, the Recovery 
Act provided about $85 billion in discretionary funding for 14 
existing and 3 new K-12 and early childhood education programs. Some 
of these funds can also be used for postsecondary education and 
noneducation purposes. Even with the influx of Recovery Act funds, the 
budget condition of local educational agencies (LEA) across the 
country is mixed, with some still facing large budget cuts. The 
budgetary picture for LEAs ranges widely across states. The budget 
pressures facing LEAs contribute to a fiscal pressure with long-term 
implications for our nation's workforce and competitiveness depending 
on how these pressures are addressed. 

Federal Fiscal Pressures Have Implications for Future Assistance to 
State and Local Governments: 

As we have previously reported, state and local governments are not 
alone in facing a broad array of daunting fiscal pressures. As the 
federal government confronts its own long-term and growing fiscal 
challenges, its ability to continue to provide growing 
intergovernmental revenue could be constrained. These federal fiscal 
pressures are also likely to influence future federal policies to 
provide countercyclical federal fiscal assistance. 

Beyond the recent recession, state and local governments' continued 
and growing fiscal challenges will add to the nation's overall fiscal 
difficulties. Figure 10 shows simulations for the federal fiscal path 
under alternative assumptions and overlays the simulated fiscal 
imbalance of the state and local government sector.[Footnote 40] The 
overlay of the state and local government model's simulations with our 
federal fiscal model shows that state and local governments' fiscal 
challenges impose further fiscal challenges on the nation's economy in 
the next several decades. Countercyclical federal assistance provided 
by the Recovery Act and other federal programs to address the recent 
recession will not alleviate the long-term structural fiscal 
challenges facing state and local governments. The combined long-term 
fiscal challenges for all levels of government further complicate the 
process of sorting out competing demands for federal funds and other 
fiscal resources. 

Figure 10: Federal and State/Local Surpluses and Deficits, as a 
Percentage of GDP: 

[Refer to PDF for image: multiple line graph] 

Year: 2000; 
Federal only: 2.4%; 
Federal, state and local: 2.1%. 

Year: 2001; 
Federal only: 1.3%; 
Federal, state and local: 0.3%. 

Year: 2002; 
Federal only: -1.5%; 
Federal, state and local: -2.9%. 

Year: 2003; 
Federal only: -3.5%; 
Federal, state and local: -4.7%. 

Year: 2004; 
Federal only: -3.6%; 
Federal, state and local: -4.5%. 

Year: 2005; 
Federal only: -2.6%; 
Federal, state and local: -3.1%. 

Year: 2006; 
Federal only: -1.9%; 
Federal, state and local: -2.2%. 

Year: 2007; 
Federal only: -1.2%; 
Federal, state and local: -1.8%. 

Year: 2008; 
Federal only: -3.2%; 
Federal, state and local: -4.2%. 

Year: 2009; 
Federal only: -9.9%; 
Federal, state and local: -10.9%. 

Year: 2010; 
Federal only: -9.6%; 
Federal, state and local: -10.6%. 

Year: 2011; 
Federal only: -8.9%; 
Federal, state and local: -10.4%. 

Year: 2012; 
Federal only: -7.7%; 
Federal, state and local: -9.2%. 

Year: 2013; 
Federal only: -7.3%; 
Federal, state and local: -8.7%. 

Year: 2014; 
Federal only: -7.2%; 
Federal, state and local: -8.5%. 

Year: 2015; 
Federal only: -7.5%; 
Federal, state and local: -8.8%. 

Year: 2016; 
Federal only: -8%; 
Federal, state and local: -9.3%. 

Year: 2017; 
Federal only: -8.3%; 
Federal, state and local: -9.7%. 

Year: 2018; 
Federal only: -8.7%; 
Federal, state and local: -10.2%. 

Year: 2019; 
Federal only: -9.5%; 
Federal, state and local: -11%. 

Year: 2020; 
Federal only: -10%; 
Federal, state and local: -11.5%. 

Year: 2021; 
Federal only: -10.3%; 
Federal, state and local: -11.9%. 

Year: 2022; 
Federal only: -10.7%; 
Federal, state and local: -12.3%. 

Year: 2023; 
Federal only: -11%; 
Federal, state and local: -12.7%. 

Year: 2024; 
Federal only: -11.4%; 
Federal, state and local: -13.1%. 

Year: 2025; 
Federal only: -11.9%; 
Federal, state and local: -13.7%. 

Year: 2026; 
Federal only: -12.5%; 
Federal, state and local: -14.4%. 

Year: 2027; 
Federal only: -13.2%; 
Federal, state and local: -15%. 

Year: 2028; 
Federal only: -13.8%; 
Federal, state and local: -15.8%. 

Year: 2029; 
Federal only: -14.4%; 
Federal, state and local: -16.5%. 

Year: 2030; 
Federal only: -15.1%; 
Federal, state and local: -17.2%. 

Year: 2031; 
Federal only: -15.8%; 
Federal, state and local: -18%. 

Year: 2032; 
Federal only: -16.5%; 
Federal, state and local: -18.7%. 

Year: 2033; 
Federal only: -17.2%; 
Federal, state and local: -19.5%. 

Year: 2034; 
Federal only: -17.9%; 
Federal, state and local: -20.3%. 

Year: 2035; 
Federal only: -18.6%; 
Federal, state and local: -21.1%. 

Year: 2036; 
Federal only: -19.3%; 
Federal, state and local: -21.9%. 

Year: 2037; 
Federal only: -20%; 
Federal, state and local: -22.8%. 

Year: 2038; 
Federal only: -20.7%; 
Federal, state and local: -23.6%. 

Year: 2039; 
Federal only: -21.4%; 
Federal, state and local: -24.4%. 

Year: 2040; 
Federal only: -22.1%; 
Federal, state and local: -25.2%. 

Year: 2041; 
Federal only: -22.9%; 
Federal, state and local: -26%. 

Year: 2042; 
Federal only: -23.6%; 
Federal, state and local: -26.9%. 

Year: 2043; 
Federal only: -24.3%; 
Federal, state and local: -27.7%. 

Year: 2044; 
Federal only: -25.1%; 
Federal, state and local: -28.6%. 

Year: 2045; 
Federal only: -25.9%; 
Federal, state and local: -29.5%. 

Year: 2046; 
Federal only: -26.6%; 
Federal, state and local: -30.3%. 

Year: 2047; 
Federal only: -27.4%; 
Federal, state and local: -31.2%. 

Year: 2048; 
Federal only: -28.2%; 
Federal, state and local: -32.2%. 

Year: 2049; 
Federal only: -29%; 
Federal, state and local: -33.1%. 

Year: 2050; 
Federal only: -29.9%; 
Federal, state and local: -34.1%. 

Year: 2051; 
Federal only: -30.7%; 
Federal, state and local: -35.1%. 

Year: 2052; 
Federal only: -31.6%; 
Federal, state and local: -36.1%. 

Year: 2053; 
Federal only: -32.5%; 
Federal, state and local: -37.1%. 

Year: 2054; 
Federal only: -33.4%; 
Federal, state and local: -38.1%. 

Year: 2055; 
Federal only: -34.3%; 
Federal, state and local: -39.2%. 

Year: 2056; 
Federal only: -35.3%; 
Federal, state and local: -40.2%. 

Year: 2057; 
Federal only: -36.2%; 
Federal, state and local: -41.4%. 

Year: 2058; 
Federal only: -37.2%; 
Federal, state and local: -42.5%. 

Year: 2059; 
Federal only: -38.2%; 
Federal, state and local: -43.7%. 

Year: 2060; 
Federal only: -39.2%; 
Federal, state and local: -44.8%. 

Note: Historical data are from the Bureau of Economic Analysis 
National Income and Product Accounts from 1980 to 2008. Data in 2009 
are GAO estimates aligned with published data where available. GAO 
simulations are from 2010 to 2060, using many CBO projections and 
assumptions, particularly for the next 10 years. The state and local 
balance measure is similar to the federal unified budget measure. The 
simulation assumes expiring tax provisions are extended and that 
discretionary spending grows with GDP. 

[End of figure] 

As we have previously reported, our long-term simulations also show 
that absent policy changes, the federal government faces an 
unsustainable growth in debt, as debt held by the public as a share of 
GDP could exceed the historical high reached in the aftermath of World 
War II by 2020. Figure 11 also shows a measure of the increased burden 
facing state and local governments. Because state and local 
governments are generally prohibited from using debt to finance 
operating deficits, state and local debt will not actually increase as 
shown in this figure. However, the figure is an indicator of the 
cumulative growing pressure on their budgets and their economies. The 
simulations suggest that federal debt could exceed 100 percent of GDP 
by 2019 and reach 200 percent of GDP by 2032. At some point, such a 
growing debt burden becomes unsustainable and some combination of 
increased interest rates,[Footnote 41] higher inflation, or the 
dollar's depreciation could force action to reduce federal deficits. 

Figure 11: Federal Debt and State and Local Debt and Simulated 
Cumulative Shortfalls as a Percentage of GDP: 

[Refer to PDF for image: stacked multiple line graph] 

Federal fiscal year: 1970; 
State and local debt and simulated cumulative shortfall: 14.3%; 
Combined debt and simulated burden (Federal debt): 41.9%. 

Federal fiscal year: 1975; 
State and local debt and simulated cumulative shortfall: 13.4%; 
Combined debt and simulated burden (Federal debt): 38.1%. 

Federal fiscal year: 1980; 
State and local debt and simulated cumulative shortfall: 12.5%; 
Combined debt and simulated burden (Federal debt): 38.6%. 

Federal fiscal year: 1985; 
State and local debt and simulated cumulative shortfall: 14.2%; 
Combined debt and simulated burden (Federal debt): 50.6%. 

Federal fiscal year: 1990; 
State and local debt and simulated cumulative shortfall: 17.1%; 
Combined debt and simulated burden (Federal debt): 59.1%. 

Federal fiscal year: 1995; 
State and local debt and simulated cumulative shortfall: 14.4%; 
Combined debt and simulated burden (Federal debt): 63.5%. 

Federal fiscal year: 2000; 
State and local debt and simulated cumulative shortfall: 12.1%; 
Combined debt and simulated burden (Federal debt): 46.8%. 

Federal fiscal year: 2005; 
State and local debt and simulated cumulative shortfall: 14.6%; 
Combined debt and simulated burden (Federal debt): 51.5%. 

Federal fiscal year: 2010; 
State and local debt and simulated cumulative shortfall: 17.2%; 
Combined debt and simulated burden (Federal debt): 77.8%. 

Federal fiscal year: 2015; 
State and local debt and simulated cumulative shortfall: 23.0%; 	
Combined debt and simulated burden (Federal debt): 106.7%. 

Federal fiscal year: 2020; 
State and local debt and simulated cumulative shortfall: 28.4%; 	
Combined debt and simulated burden (Federal debt): 138.2%. 

Federal fiscal year: 2025; 
State and local debt and simulated cumulative shortfall: 33.8%; 
Combined debt and simulated burden (Federal debt): 175.2%. 

Federal fiscal year: 2030; 
State and local debt and simulated cumulative shortfall: 39.6%; 
Combined debt and simulated burden (Federal debt): 220.9%. 

Federal fiscal year: 2035; 
State and local debt and simulated cumulative shortfall: 46.5%; 
Combined debt and simulated burden (Federal debt): 276.8%. 

Federal fiscal year: 2040; 
State and local debt and simulated cumulative shortfall: 54.5%; 
Combined debt and simulated burden (Federal debt): 342.3%. 

Federal fiscal year: 2045; 
State and local debt and simulated cumulative shortfall: 63.7%; 
Combined debt and simulated burden (Federal debt): 416.7%. 

Federal fiscal year: 2050; 
State and local debt and simulated cumulative shortfall: 74.2%; 
Combined debt and simulated burden (Federal debt): 500.6%. 

Federal fiscal year: 2055; 
State and local debt and simulated cumulative shortfall: 86.0%; 
Combined debt and simulated burden (Federal debt): 594.6%. 

Federal fiscal year: 2060; 
State and local debt and simulated cumulative shortfall: 99.2%; 
Combined debt and simulated burden (Federal debt): 698.8%. 

Note: Historical values for federal debt are from Historical Tables, 
Budget of the United States Government, Fiscal Year 2011. Historical 
values for state and local government debt are from the Federal 
Reserve Board's Flow of Funds Accounts. Simulated values are from our 
most recent fiscal outlook reports (The Federal Government's Long-Term 
Fiscal Outlook: January 2010 Update, GAO-10-468SP (Washington, D.C.: 
March 2010) and State and Local Governments' Fiscal Outlook: March 
2010 Update, GAO-10-358, (Washington, D.C.: Mar. 2, 2010)). Combined 
debt sums the debt of the two sectors of government without adjusting 
for one sector's holdings of securities issued by the other sector. 
Unlike most state and local debt, U.S. Treasury securities are secured 
by the full faith and credit of the issuing government. 

[End of figure] 

In addition, many of the long-term fiscal challenges the nation faces, 
including health care cost growth and the aging population, have 
already begun to affect the federal budget--in some cases sooner than 
previously estimated--and the pressures only grow in the coming 
decade. For example, Social Security cash surpluses have served to 
reduce the unified budget deficit. However, CBO recently estimated 
that due to current economic conditions the program will run small 
temporary cash deficits for the next 4 years and then, similar to the 
Trustees' estimates, run persistent cash deficits beginning in 2016. 
The fluctuation and eventual disappearance of the Social Security cash 
surplus will put additional pressure on the rest of the federal 
budget. Given these fiscal conditions, it is likely the federal 
government could find the trade-off between providing countercyclical 
assistance to states during future periods of economic downturn and 
addressing long-term federal fiscal challenges more and more 
pronounced over time. 

Recent events have further exacerbated fiscal challenges for all 
levels of government. Although the economy is fragile, there is wide 
agreement on the need to begin to change the long-term fiscal path 
without slowing the recovery because the magnitude of the changes 
needed grows with time. While the drivers of the long-term fiscal 
outlook have not changed, the sense of urgency has. Actions to address 
the nation's long-term fiscal outlook will be needed at all government 
levels in coming years and the challenges cannot simply be shifted 
from one level of government to another. 

As we agreed with your office, unless you publicly announce the 
contents of this report earlier, we plan no further distribution of it 
until 14 days from the date of this letter. The report will be 
available at no charge on GAO's Web site at [hyperlink, 
http://www.gao.gov]. If you or your staff have any questions about 
this letter, please contact me at (202) 512-6806 or 
czerwinskis@gao.gov. Contact points for our Offices of Congressional 
Relations and Public Affairs may be found on the last page of this 
report. GAO staff who made major contributions to this report are 
listed in appendix II. 

Sincerely yours, 

Signed by: 

Stanley J. Czerwinski: 
Director, Strategic Issues: 

[End of section] 

Appendix I: Scope & Methodology: 

We examined the fiscal challenges facing state and local governments. 
Specifically, we examined (1) the fiscal pressures facing state and 
local governments during the next several decades and the past 
expenditure and revenue trends that influence these pressures, (2) 
state and local government expenditure and revenue trends to identify 
patterns among states, and (3) what is known about the implications of 
long-term state and local government fiscal pressures for current and 
future federal policies. 

To characterize and quantify the long-term fiscal outlook for the 
state and local government sector over the next 50 years, we drew 
information from the March 2010 update to our state and local 
government fiscal model.[Footnote 42] Specifically, we present 
simulations of the state and local sectors' operating budget balance 
as a percentage of gross domestic product (GDP) and an estimate of the 
fiscal gap--the amount of spending reduction or tax increase needed to 
prevent operating deficits (or negative operating balances). To 
develop these long-run scenarios, we simulate each major receipt and 
expenditure category of the state and local government sector in 
future years using the Bureau of Economic Analysis's National Income 
and Product Accounts (NIPA) as our primary data source. We simulate 
the growth in each category of receipts and expenditures using the 
Congressional Budget Office's (CBO) economic assumptions whenever 
possible.[Footnote 43] In several cases we were not able to obtain 
existing projections and needed to develop our own assumptions about 
the likely future growth path of certain receipts or expenditures. For 
example, because 2009 data on total employment were not available from 
NIPA at the time of our analysis, we used data from the Bureau of 
Labor Statistic's Current Employment Statistics program to estimate 
the sector's 2009 employment level. 

To describe long-term trends in state and local government revenues 
and expenditures, we examined NIPA data over the past 30 years. 
[Footnote 44] We analyzed changes in the shares of state and local 
expenditure, revenue, and federal grant categories as a percent of 
total expenditures, revenues, and federal grants respectively from 
1978 to 2008. We also examined inflation-adjusted growth in 
expenditure and revenue categories as a percent of GDP. In addition, 
we provide information on the effect of the recent recession on state 
and local government tax revenues using NIPA data (2001 through the 
first quarter of 2010) to show declines in recent years. We also 
reviewed our prior reports and those of others to identify what is 
known about these trends and factors that affect them. 

To examine trends in state and local government expenditure and 
revenue patterns among the states, we used U.S. Census Bureau 
government finance data and GDP price index data from NIPA to 
calculate inflation-adjusted values of selected expenditure and 
revenue categories for each state (including the District of Columbia) 
and for the U.S. for 1977-2007, excluding 2001 and 2003 because data 
were not available in those years.[Footnote 45] Data for 1977, 1982, 
1987, 1992, 1997, 2002, and 2007 are based on the U.S. Census Bureau, 
Census of Governments, which surveys all state and local governments 
in the United States. Data for the other years are based on the Annual 
Survey of Government Finances. In these years, local government 
finance statistics are based in part on a sample of local governments 
in the United States. We determined that the U.S. Census Bureau data 
were the best available data for the purpose of examining variation in 
trends among the states. We previously reported that this data 
comprises the most comprehensive and consistent set of data on this 
subject.[Footnote 46] We assessed the reliability of the data we used 
for this review and determined that they were sufficiently reliable 
for our purposes. However, due in part to definitional differences 
among the states, such as those of coverage (what constitutes a 
government entity) or measurement (cash vs. accrual accounting) the 
data cannot be used as financial statements, to measure a government's 
fiscal condition, or to calculate a surplus or deficit. 

We examined patterns between state and local revenue growth and growth 
in overall state and local spending using data from the U.S. Census 
Bureau. For each state and the District of Columbia, we plotted the 
average annual growth rate in real own-source revenues against the 
average annual growth in real current expenditures from 1977 to 2007. 
We then counted the number of states in which spending grew faster, 
slower, and at the same rate as own-source revenues. We analyzed 
growth in current expenditures against growth in federal grant 
revenues and total general expenditures against total general revenues 
using the same approach. To examine the extent to which federal grants 
supported selected categories of state and local government spending, 
we compared average annual growth in federal grants from 1977 to 2007 
using U.S. Census Bureau data for four expenditure categories--health 
and hospitals, education, public welfare, and housing and community 
development[Footnote 47]--to the growth in those expenditure 
categories over the same time period. We also tabulated the number of 
states in which federal grant revenues grew faster than current 
expenditures, and the number of states in which federal grants grew 
slower than current expenditures. 

To identify categories of spending that could influence fiscal 
pressures, we analyzed NIPA data on aggregate expenditures by 
category. Specifically, we selected for further analysis spending 
categories for which there were at least $100 billion in expenditures 
in 2008, and which, as a percent of GDP, experienced a positive annual 
growth rate between 1978 and 2008. We also included 'Corrections' 
because it had the highest growth rate of all categories, and is 
identified in the literature as a growing expense for some states. We 
then selected analogous categories in the U.S. Census Bureau data to 
analyze expenditure trends by category and state. To examine state and 
local government spending for personnel, we added 'total salaries and 
wages' to our list of expenditure categories. 

To examine variation among the states, we examined the state and local 
government finances using three measures: 

To get a sense of the relative proportion represented by each category 
in each state and for the United States, we calculated (a) selected 
expenditure categories as shares of general current expenditures in 
2007, (b) selected revenue categories as shares of general revenues in 
2007, and (c) long-and short-term debt as shares of total revenues in 
2007. 

To assess how fast each category grew between 1977 and 2007 in each 
state, we calculated the average annual growth rate for each selected 
expenditure, revenue, and debt category using regression analysis. For 
each expenditure and revenue growth rate calculation, we identified 
the U.S. average growth rate and the minimum and maximum growth rates 
across the states. 

Because changes in the levels of expenditures and revenues can be 
affected by changes in state fiscal capacity--such as increased tax 
revenues due to population growth--we compared the average annual 
growth rate for each category of spending, revenues, and debt to the 
average annual growth rate in state personal income. To compare the 
growth in these categories relative to growth in each state's 
resources, we compared the growth rate for each selected expenditure, 
revenue, and debt category to the growth rate in total state personal 
income between 1977 and 2007. We chose total personal income as a 
proxy for each state's resources or fiscal capacity. When expenditures 
in a state are growing faster than personal income, the share of the 
state's resources that are dedicated to state and local government 
services is growing. Over the long run, such growth could create a 
fiscal pressure. This analysis also identified the number of states 
where growth in a category was (a) greater than total personal income 
growth for that state or (b) less than total personal income growth 
for that state. 

We used state personal income as a proxy for state fiscal capacity 
even though we previously reported that personal income is an 
incomplete measure of state resources because it excludes some sources 
of income potentially subject to state taxation, such as corporate 
income produced within the state, but not received by state 
residents.[Footnote 48] We recently reported that total taxable 
resources, as reported by the Department of the Treasury, is a more 
comprehensive measure of state financing ability than personal income. 
[Footnote 49] We did not use total taxable resources as the measure of 
state fiscal capacity in this analysis because the Department of the 
Treasury only began calculating it in the 1980s and therefore it was 
not available for the full period of our analysis. We also did not use 
GDP-by-state as the measure of states' fiscal capacity because the 
calculation of GDP-by-state changed in 1997 such that the data before 
and after that year are not comparable. 

To provide additional context for understanding the fiscal pressures 
facing state and local governments and the potential implications for 
federal programs and policies, we reviewed our prior reports and 
reports of think tanks, including the Pew Center on the States and the 
Nelson A. Rockefeller Institute of Government, and associations 
representing state and local government officials, including the 
National Governors Association, the National Association of State 
Budget Officers, and the National Conference of State Legislatures. We 
did not fully analyze every pressure nor identify the full range of 
possible federal policy implications. 

To show the combined long-term fiscal challenges for all levels of 
government, we draw on simulations developed in our most recent update 
to the federal fiscal model for combined federal, state, and local 
surpluses and deficits as a percentage of GDP. We also simulate 
federal debt, state and local debt, and cumulative shortfalls as a 
percentage of GDP. We obtained historical values for federal debt from 
Historical Tables, Budget of the United States Government, Fiscal Year 
2011 and historical values for state and local government debt from 
the Federal Reserve Board's Flow of Funds Accounts. Simulated values 
are from our most recent fiscal outlook reports.[Footnote 50] 

We conducted our work from February 2010 to July 2010 in accordance 
with all sections of GAO's Quality Assurance Framework that are 
relevant to our objectives. The framework requires that we plan and 
perform the engagement to obtain sufficient and appropriate evidence 
to meet our stated objectives and to discuss any limitations in our 
work. We believe that the information and data obtained, and the 
analysis conducted, provide a reasonable basis for any findings and 
conclusions. 

[End of section] 

Appendix II: GAO Contact and Staff Acknowledgments: 

GAO Contact: 

Stanley J. Czerwinski, (202) 512-6806 or czerwinskis@gao.gov. 

Staff Acknowledgments: 

Michelle Sager (Assistant Director), Keya Chateauneuf, Andrew Ching, 
Susan Etzel, Shannon Finnegan, Richard Krashevski, Courtney 
LaFountain, and Max Sawicky also made key contributions to this report. 

[End of section] 

Footnotes: 

[1] GAO, State and Local Governments' Fiscal Outlook: March 2010 
Update, [hyperlink, http://www.gao.gov/products/GAO-10-358] 
(Washington, D.C.: Mar. 2, 2010). 

[2] See GAO, Fiscal Exposures: Improving the Budgetary Focus on Long- 
Term Costs and Uncertainties, [hyperlink, 
http://www.gao.gov/products/GAO-03-213] (Washington, D.C.: Jan. 24, 
2003). 

[3] For example, the scope of the review does not include tax 
expenditures or pressures specific to individual state or local 
governments. 

[4] Most states have some sort of requirement to balance operating 
budgets. Projects with longer time frames are typically budgeted 
separately from the operating budgets and financed by a combination of 
current receipts, federal grants, and the issuance of debt. 

[5] The percentage composition of debt outstanding by type of debt is 
U.S. Census Bureau data for fiscal year 2004, the last year in which 
these data were collected. Some revenue bonds finance public projects 
including toll roads and water and sewage treatment facilities. Others 
provide loans for private purposes--the states and localities 
essentially act as a conduit for reduced-rate financing of private 
projects and the debt has no claim on state and local revenues and 
assets. Such private purpose debt has been a fast-growing category 
over the past 30 years. 

[6] Although secured by the full faith and credit of the issuer, 
general obligation bonds are not necessarily less risky than revenue 
bonds of the same issuer. Under certain conditions, the bond rating on 
an issuer's general obligation bonds could be lower than the rating on 
its revenue bonds. 

[7] [hyperlink, http://www.gao.gov/products/GAO-10-358]. 

[8] Pub. L. No. 111-5, 123 Stat. 115 (Feb. 17, 2009). 

[9] See GAO, Recovery Act: One Year Later, States' and Localities' 
Uses of Funds and Opportunities to Strengthen Accountability, 
[hyperlink, http://www.gao.gov/products/GAO-10-437] (Washington, D.C.: 
Mar. 3, 2010). 

[10] Even though state and local governments regularly make changes in 
tax laws and expenditures, the model essentially holds current policy 
in place and analyzes the fiscal future for the sector as if those 
policies were maintained because it would be highly speculative to 
make any assumptions about future policy adjustments. The fiscal gap 
measure for our state and local fiscal model differs slightly from the 
fiscal gap measure used for our federal model. In our federal fiscal 
model, the fiscal gap represents the difference, or gap, between 
revenue and spending that would need to be closed in order to achieve 
a specified debt level (e.g., today's debt to GDP ratio). For the 
state and local model, the fiscal gap is the amount of spending 
reduction or tax increase needed to prevent operating deficits (or 
negative operating balances). 

[11] Our health care cost growth assumptions rely on the excess cost 
factor (i.e., the extent to which the per-person cost of health care 
is expected to grow beyond GDP per capita) estimated by the Centers 
for Medicare & Medicaid Services' (CMS) Office of the Actuary. 

[12] We will continue to consult with CBO analysts to understand long- 
term assumptions revised in response to enactment of health care 
reform legislation. The next update of the state and local sector 
model will incorporate any changes to health care cost growth 
assumptions made in response to enactment of the PPACA. The Trustees 
of the Social Security and Medicare trust funds have delayed release 
of their 2010 report to incorporate the anticipated impact of the 
health care legislation on the Trustees' projections. 

[13] PPACA will qualify more people for health insurance coverage 
through their jobs, new health insurance exchanges, or Medicaid. As a 
result, the need for free care should decline. However, charity care 
will continue to exist as some individuals will still not qualify for 
health insurance under PPACA. 

[14] NIPA data from 1978 to 2008 are the most recent available 30 
years of data for all data categories. 

[15] Revenue figures are in constant 2009 dollars unless otherwise 
noted. 

[16] National Governors Association and the National Association of 
State Budget Officers, The Fiscal Survey of States (Washington, D.C.: 
June 2010). 

[17] National Governors Association and the National Association of 
State Budget Officers, The Fiscal Survey of the States (Washington, 
D.C.: December 2009). 

[18] Federal grant figures are in constant 2009 dollars unless 
otherwise noted. 

[19] GAO, Recovery Act: States' and Localities' Uses of Funds and 
Actions Needed to Address Implementation Challenges and Bolster 
Accountability, [hyperlink, http://www.gao.gov/products/GAO-10-604] 
(Washington, D.C.: May 26, 2010). 

[20] [hyperlink, http://www.gao.gov/products/GAO-10-604]. 

[21] Throughout this section, the term "state" refers to the 50 states 
and the District of Columbia. Our analysis of state-level expenditure, 
revenue, and debt trends relies on data from the U.S. Census Bureau, 
which includes state and local government data, by state. At the time 
we conducted our analysis, the most recent year for which state-level 
data on state and local government finances were available from the 
U.S. Census Bureau, Annual Survey of State and Local Government 
Finances and Census of Governments was 2007. In mid-July 2010, the 
U.S. Census Bureau released Annual Survey of State and Local 
Government Finances data for 2008. We determined that the U.S. Census 
Bureau data were the best available for purposes of this review of 
state and local spending and revenue trends and patterns among states. 
However, there are several limitations to the data, due in part to 
definitional differences among the states, such as those of coverage 
(what constitutes a government entity) or measurement (cash vs. 
accrual accounting). Given these limitations, the data cannot be used 
as financial statements, to measure a government's fiscal condition, 
or to calculate a surplus or deficit. All growth rates cited in the 
section are annual average inflation-adjusted growth rates unless 
otherwise noted. 

[22] Although states and many local governments maintain reserve or 
rainy day funds, the current recession resulted in depleted reserves 
for many states. 

[23] Throughout this section, the term "state" refers to the 50 states 
and the District of Columbia. 

[24] We focused on these four categories because the analogous 
expenditure categories in the NIPA data experienced large growth rates 
between 1977 and 2007 and/or were of significant size. Health and 
hospitals includes federal aid for health programs and care of 
veterans in state hospitals, including construction of facilities. 
Education includes federal aid for the Head Start program; school 
nutrition and milk programs; and institutions of higher education for 
education or research and development programs. Public welfare 
includes federal aid for categorical programs--Supplementary Security 
Income, Temporary Assistance for Needy Families (TANF), medical 
assistance programs (Medicaid); other welfare services, and related 
administration. 

[25] Housing and community development includes federal aid for public 
housing; rent subsidy programs; and rural, urban, and community 
development. 

[26] We previously reported that personal income is an incomplete 
measure of state resources because it excludes some sources of income 
potentially subject to state taxation, such as corporate income 
produced within the state, but not received by state residents (see 
GAO, Medicaid Formula: Differences in Funding Ability among States 
Often Are Widened, [hyperlink, http://www.gao.gov/products/GAO-03-620] 
(Washington, D.C.: July 10, 2003)). We recently reported that total 
taxable resources, as reported by the Department of the Treasury, is a 
more comprehensive measure of state financing ability than personal 
income (see GAO, Vocational Rehabilitation Funding Formula: Options 
for Improving Equity in State Grants and Considerations for 
Performance Incentives, [hyperlink, 
http://www.gao.gov/products/GAO-09-798] (Washington, D.C.: Sept. 30, 
2009)). We did not use total taxable resources as the measure of state 
fiscal capacity in this analysis because the Department of the 
Treasury only began calculating it in the 1980s and therefore it was 
not available for the full period of our analysis. We also did not use 
GDP-by-state as the measure of states' fiscal capacity because the 
calculation of GDP-by-state changed in 1997 such that the data before 
and after that year are not comparable. 

[27] Because depreciation costs are not included in the current 
expenditure data, to the extent that state and local governments do 
not maintain their capital stock, the data do not reflect total 
current costs. According to data from the Bureau of Economic Analysis 
National Income and Product Accounts, in 2008 the total aggregate 
value of current-cost depreciation of state and local government fixed 
assets (including equipment, highways, water systems, and other 
structures) was $189 billion. Insofar as maintenance of public 
facilities is deferred, an increase in future fiscal pressures is 
possible. 

[28] We identified expenditure categories which could lead to fiscal 
pressures based on size or growth rates identified using NIPA data. We 
then used data from the U.S. Census Bureau to assess state-level 
trends from 1977 to 2007 for these and other selected expenditure 
categories. 

[29] Other variations, such as population changes and policy choices, 
also contributed to differences among states. 

[30] Spending on interest on the general debt is also affected by past 
decisions about capital spending as well as issuance of private 
purpose debt. The U.S. Census Bureau began collecting data on private 
purpose debt--interest payments for which are included in the interest 
on the general debt category--in 1988. Interest payments for private 
purpose debt have grown rapidly since that time and use of private 
purpose debt is more extensive in some states than others. 

[31] Other variations, such as population changes and policy choices, 
also contributed to differences among states. 

[32] The issuing government pays interest on private purpose debts 
from general revenues and is reimbursed in the exact amount by the 
private entity. Such reimbursements are interest earned (a component 
of general revenue) for the issuing government. 

[33] We calculate debt as a percent of total revenue to compare the 
size of debt to the size of state and local governments' resources. 
This comparison does not indicate the amount of this debt that has a 
claim on general revenues. 

[34] National Conference of State Legislatures, FMAP Extension and the 
Impact on States (Denver, Colo.: Apr. 29, 2010). 

[35] [hyperlink, http://www.gao.gov/products/GAO-10-358]. 

[36] GAO, State and Local Government Retiree Benefits: Current Funded 
Status of Pension and Health Benefits, [hyperlink, 
http://www.gao.gov/products/GAO-08-223] (Washington, D.C.: Jan. 29, 
2008). 

[37] GAO, State and Local Government Retiree Health Benefits: 
Liabilities Are Largely Unfunded, but Some Governments are Taking 
Action, [hyperlink, http://www.gao.gov/products/GAO-10-61] 
(Washington, D.C.: Nov. 30, 2009). The total for unfunded OPEB 
liabilities is likely higher than $530 billion because GAO reviewed 
OPEB data in CAFRs for the 50 states and 39 largest local governments 
but not data for all local governments or additional data reported in 
separate financial reports. Also, the CAFRs we reviewed report data 
that predate the market downturn, as asset values have declined. 
Additionally, OPEB valuations are extremely sensitive to assumptions 
about the health care cost inflation rate and discount rate. 

[38] The Pew Center on the States, The Trillion Dollar Gap: 
Underfunded State Retirement Systems and the Roads to Reform 
(Washington, D.C.: February 2010). 

[39] GAO, Federal Education Funding: Overview of K-12 and Early 
Childhood Education Programs, [hyperlink, 
http://www.gao.gov/products/GAO-10-51] (Washington, D.C.: Jan. 27, 
2010). For the purposes of that study, we defined K-12 and early 
childhood education programs as programs that focus primarily on K-12 
or early childhood education, have objectives whose emphasis is 
enhancing learning through school activities and curricula, and for 
which K-12 or early childhood students or teachers are the main 
beneficiaries. This definition excludes food nutrition and 
infrastructure programs. 

[40] See GAO, The Federal Government's Long-Term Fiscal Outlook: 
January 2010 Update, GAO-10-468SP (Washington, D.C.: March 2010). This 
and related products can be found at [hyperlink, 
http://www.gao.gov/special.pubs/longterm/]. GAO's "Baseline Extended" 
simulation follows CBO's January 2010 baseline estimates for the first 
10 years and then simply holds revenue and spending other than large 
entitlement programs constant as a share of GDP. The "Alternative" 
simulation is based on historical trends and policy preferences. 
Discretionary spending grows with GDP rather than inflation during the 
first 10 years, Medicare physician payment rates are not reduced as in 
CBO's baseline, all tax provisions are extended to 2020, and the 
alternative minimum tax exemption amount is indexed to inflation 
through 2020; revenues are then brought back to their historical level. 

[41] A government's bond rating affects its cost of borrowing money by 
affecting the interest rate it must pay to lenders. Debt levels are 
one of the factors that affect bond ratings. Declines in state reserve 
funds could also increase a state's borrowing costs. 

[42] GAO, State and Local Governments' Fiscal Outlook: March 2010 
Update, [hyperlink, http://www.gao.gov/products/GAO-10-358] 
(Washington, D.C.: Mar. 2, 2010). This report and related products can 
be found at [hyperlink, http://www.gao.gov/special.pubs/longterm/]. 

[43] In its CBO's Economic Forecasting Record: 2009 Update 
(Washington, D.C.: July 2009), CBO warns that the uncertainty inherent 
in its current forecasts exceeds the historical average because the 
current degree of economic dislocation exceeds that of any previous 
period in the past half-century. 

[44] NIPA data from 1978 to 2008 are the most recent available 30 
years of data for all data categories. 

[45] U.S. Census Bureau data from 1977 to 2007 are the most recent 
available 30 years of data for all data categories. 

[46] GAO, State and Local Finances: Some Jurisdictions Confronted by 
Short-and Long-Term Problems, [hyperlink, 
http://www.gao.gov/products/GAO/HRD-94-1] (Washington, D.C.: Oct. 6, 
1993). 

[47] We chose these expenditure categories based on our expenditure 
analysis and on the availability of U.S. Census Bureau federal grant 
data by category. 

[48] GAO, Medicaid Formula: Differences in Funding Ability among 
States Often Are Widened, [hyperlink, 
http://www.gao.gov/products/GAO-03-620] (Washington, D.C.: July 10, 
2003). 

[49] GAO, Vocational Rehabilitation Funding Formula: Options for 
Improving Equity in State Grants and Considerations for Performance 
Incentives, [hyperlink, http://www.gao.gov/products/GAO-09-798] 
(Washington, D.C.: Sept. 30, 2009). 

[50] GAO, The Federal Government's Long-Term Fiscal Outlook: January 
2010 Update, [hyperlink, http://www.gao.gov/products/GAO-10-468SP] 
(Washington, D.C.: March 2010) and GAO-10-358. 

[End of section] 

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