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State and Local Governments: Growing Fiscal Challenges Will Emerge during the Next 10 Years

GAO-08-317 Published: Jan 22, 2008. Publicly Released: Jan 22, 2008.
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State and local governments provide an array of services to their residents, such as primary and secondary education, libraries, police and fire services, social programs, roads and other infrastructure, public colleges and universities, and more. These subnational governments may face fiscal stress similar to the federal government. Given the nature of the partnership among levels of government in providing services to Americans and the economic interrelationships among levels of government, understanding potential future fiscal conditions of the state and local government sector is important for federal policymaking. To provide Congress and the public with this broader context, we developed a fiscal model of the state and local sector. This report describes this model and provides (1) simulations of the state and local government sector's long-term fiscal outlook, (2) an analysis of the underlying causes of potential fiscal difficulties for the sector, (3) a discussion of the extent to which the long-term simulations are sensitive to alternative assumptions, and (4) an examination of how the state and local government sector could add to future federal fiscal challenges. The potential fiscal outcomes of the state and local government sector are projected through two fiscal balance measures: net lending or borrowing and what we call the operating balance. Net lending or borrowing--which is roughly analogous to the federal unified surplus or deficit--is a measure of the balance of all receipts and expenditures during a given time frame. Historically, total expenditures have usually exceeded total receipts, and the sector issues debt to cover part of the costs of its capital projects. As such, net lending or borrowing typically measures the need for the sector to borrow funds or draw down assets to cover its expenditures. The operating balance net of funds for capital expenditures--referred to in this report as the "operating balance"--is a measure of the ability of the sector to cover its current expenditures out of current receipts, that is, the balance of expenditures and receipts related to activities taking place in a given year. 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. Because some current receipts may be used to fund part of longer-term investments, we developed a measure of the operating balance that makes adjustments for the extent to which current receipts are unavailable to fund current expenditures because they have been spent on longer-term projects, such as investments in buildings and roads.

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