Debt ceiling looms: how much do states have on the line?

As Washington continues negotiations over raising the debt ceiling, state leaders are bracing for the worst and hoping for the best. If the federal government doesn’t find a clear debt ceiling solution by the August 2 deadline, states could face higher borrowing costs, risks to their investments and an abrupt stop to federal funding for key programs.

Oklahoma Governor Mary Fallin told reporters yesterday that Congress’ failure to act on the debt ceiling would hurt the state's economy, increase interest rates and hurt the state’s bond rating as well as compromise our national and economic security.

Fallin also expressed concern that failure to reach an agreement would affect the amount of federal funding the state receives.  

In Illinois, officials are closely monitoring the situation with a plan to act if necessary. The Quad City Times reports that the state’s government investments, such as pension funds, could be affected if the markets react negatively in reaction to the impasse.

The health of the state’s pension systems, for example, is vulnerable to market conditions.  In fiscal year 2011, the Teachers’ Retirement System alone controlled more than $37 billion in assets and recorded a rate of return of 24 percent.  A turn for the worse on Wall Street could threaten that rate of return, the System’s spokesman Dave Urbanek said.

“Anything that could jeopardize the continuation of those good returns would be a concern. It’s a concern because there are a lot of unknowns out there.”

Last week, Moody's Investors Services announced that five states including Maryland, New Mexico, South Carolina, Tennessee and Virginia could each lose their Triple A ratings if the U.S. rating is downgraded due to debt ceiling gridlock.   

Taking steps – just in case

California has borrowed $5 billion in temporary loans to preemptively deal with any credit-market disruptions that might occur if the debt ceiling isn’t raised. Proceeds from that loan will assist the state in paying bills until it can sell cash-flow notes that had been scheduled for late next month.

“Given the uncertainty in Washington with the debt ceiling, the treasurer felt it was prudent to get a bridge loan,” Tom Dresslar, a spokesman for California Treasurer Bill Lockyer told Bloomberg. “We couldn’t have planned on the president and Congress taking us to the brink.”

Nearly two weeks ago, Wisconsin Governor Scott Walker ordered Administration Secretary Mike Huebsch to conduct a review to identify which services in that state would be most at risk if there was a default. According to the Milwaukee Journal SentinelWisconsin would be able to maintain operating federally funded programs for at least three months using state dollars to plug the holes if the debt ceiling is breached.

Although Wisconsin might be able to dig deep and cover expenses for a few months, Secretary Huebsch said the state will still be at risk. “It will obviously have a negative impact across the economy,” Huebsch told reporters.

Last week, the New Mexico Board of Finance voted to give that state’s treasurer the authority to issue up to $500 million in tax-anticipation notes so that the state would have enough money on hand to cover a loss in federal funding for about a month.  

The Santa Fe New Mexican reports that Richard May, Gov. Susana Martinez's state budget chief, felt the move was necessary given the uncertainty surrounding the debt ceiling discussions. May told fellow members of the Finance Board, “We don't really have much of a feel for, ‘Are they going to ... honor Social Security checks? Not provide Medicaid reimbursements?’”

How much is on the line?

According to a report by the Washington-based Bipartisan Policy Center, the federal government has an estimated $306.7 billion in payment obligations for August 2011 after the 2nd of the month and will take in $172.4 billion in revenue from August 3 to 31, 2011. That means the federal government would have to cut around $134 billion worth of spending in the month of August if the ceiling isn’t raised.

Included in those federal August obligations are:

  • Medicare/Medicaid - $50 billion
  • Social Security Benefits - $49.2 billion
  • Defense Vendor Payments - $37.1 billion
  • Interest on Treasury Securities - $29 billion
  • Department of Education (including Pell grants) - $20.2 billion
  • Federal Salaries and Benefits - $14.2 billion
  • Unemployment Benefits - $12.8 billion
  • Food and Nutrition Services (including TANF) - $9.3 billion
  • Military Active Duty Pay - $2.9 billion
  • Veterans Affairs Programs - $2.9 billion

Because we don’t really have a precedent for a debt ceiling default, it is difficult to predict just who would get shorted if the federal government had to cut nearly half of its expenditures virtually overnight or how those remaining dollars would be prioritized. A number of GOP lawmakers, including Pat Toomey of Pennsylvania, are backing legislation that would require the Treasury to first pay interest on its debts, Social Security benefits and military payrolls in case of default.  Where that legislation might go is uncertain.

What is certain, however, is that all states rely heavily on federal funding – either funds that flow to the state coffers or directly to its citizens. In 2009, the federal government sent $3.24 trillion to states or around $10,548 per capita. Across all states, 27 percent of that funding came in the form of direct payments to individuals for retirement and disability, including social security payments ($710 billion), federal retirement and disability benefits ($108 billion), and veterans’ benefits ($44.5 billion). Other big direct payment categories included Medicare benefits ($465 billion), unemployment benefits ($86 billion), Supplemental Nutritional Assistance Program – or SNAP –  ($50.4 billion), and student financial assistance ($42.4 billion).

The federal government also paid out $744 billion in grants to state agencies, over half of which went to Departments of Health and Human Services, which in turn administers state Medicaid programs. Departments of Education received just over $83 billion, Departments of Agriculture received $32.4 billion and Departments of Transportation got $81.5 billion.  

Expenditures on procurement contracts – including $355 billion to the Department of Defense – made up just over half a trillion dollars in federal expenditures to states. $300 billion more went to salaries and wages.

The amount of federal expenditures at stake in the debt ceiling debate varies greatly across states, ranging from a low of $6.3 billion in sparsely populated Wyoming to a high of $346 billion in heavily populated California.  On a per capita basis, Nevada and Utah take in the least, each with less than $7,500 of expenditures per person. Alaska brings in the most per capita at $20,352 followed by Virginia at $19,734. Both of these high-per capita states have significant Department of Defense expenditures – Virginia receives more than any other state at $51.6 billion. 

Source: Author's calculations using Book of the States 2011 published data, Table 2.6 (U.S. Census Bureau, Consolidated Federal Funds Report for Fiscal Year 2009) and U.S. Census Bureau 2009 State Population Estimates.

Each year, CSG’s Book of the States publishes summaries of Federal Government Expenditures.