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Last Economic Crisis Response Holds Lessons for Next Round of Aid

State and local governments face losing billions as demand for services grows while revenues shrink. Should the federal government provide additional assistance at all, and if so, to what degree should strings be attached?

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As Congress begins to return to Washington, D.C., the next round of COVID-19 assistance will be at the forefront. A host of positions and proposals are already floating about — from liability protection and the deductibility of business meals to providing money to state and local governments. Though it’s hard to predict what exactly may emerge, some form of aid to states is likely. When it comes to crafting a state and local assistance plan, Congress should not forget the lessons learned from the fiscal response to the 2008 economic crisis.

The state aid debate will focus on two questions: Should the federal government provide additional assistance at all? If aid is provided, to what degree should strings be attached to the assistance?

Federal Aid to States?

We know that state and local revenues are falling right now with significant parts of the economy not functioning. We also know that these revenue declines will continue into the next fiscal year, and if past recessions are any indication, quite possibly beyond that. Trying to put precise numbers on the revenue drop isn’t possible, but it is safe to say it will be in the hundreds of billions of dollars.

It is important to recognize that, as a sector, the “industry” that state and local governments represent is more than 10 percent of the U.S. GDP. From that perspective, it becomes difficult to understand why the job held by the person who processes unemployment claims in a state agency is more or less valuable than the airline ticket agent. Even with substantial federal assistance during the great recession, more than 500,000 state and local government workers lost their jobs. Future government layoffs will add to the more than 30 million people who have already found themselves unemployed. Unlike some of the industries that have received and likely will receive additional federal support, demand for the services provided by state and local governments is significantly growing. Those 30 million people — and the households they help support — are relying on their state and local governments to help them make it through these challenging times. Given these facts, state and local governments are at least as deserving of federal assistance in this crisis as other industries.

Should Strings be Attached?

Congress is considering a number of options for restrictions placed on the aid to state and local governments. Recent guidance from the U.S. Treasury clarified that states cannot use dollars from the recently passed Coronavirus Aid, Relief, and Economic Security (CARES) Act to backfill lost revenue.

The fiscal stimulus during the Great Recession offers lessons for how to provide this assistance to states. At that time, policymakers passed the American Recovery and Reinvestment Act (ARRA) that included assistance to states for specific functions, with oversight similar to existing federal programs, providing states with the flexibility to allocate the funds within those specific areas. Although ARRA resulted in the term “shovel ready” becoming part of our lexicon, two of the biggest sources of revenue for states came in the areas of health care and education. Increasing the reimbursement rate for Medicaid boosted federal health care funds to states at a time when people had lost their jobs and were turning to public health care assistance in greater numbers. The education dollars were designated for school improvement. Without those funds, many more teachers would have lost their jobs.

ARRA worked well but wasn’t perfect — one of the main criticisms was that it was too small and too short. And, even with the flexibility it did provide, state officials had to make many difficult choices around spending cuts and tax increases.

Despite the shortcomings, ARRA’s acknowledgment that state and local governments needed federal aid, its focus on the most critical and essential services like health care and education, and the ability for states to direct resources towards areas most in need make it a good starting point for the next round of legislation.