“Rainy-day funds are many states’ first line of defense against filling unexpected budget gaps,” said Justin Theal, officer at The Pew Charitable Trusts. “Higher-than-forecasted tax revenue and historic levels of federal pandemic aid, along with earlier policy actions, have helped spur widespread growth in states’ reserve levels.”

To be sure, states may need to dip into rainy-day funds if efforts to cool the economy by the Federal Reserve prove to have gone too far with the unfolding chaos among US banks. But in the meantime, states are benefiting from swelling reserves.

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States’ combined savings reached a record $134.5 billion by the end of fiscal 2022, according to data from the National Association of State Budget Officers. That could keep each state’s government running for a median of about 42 days.

“It’s a bit stunning if you take a step back,” given the scale of the pandemic’s economic hit, said Eric Kim, an analyst for Fitch Ratings. “Here we are a few years out and states are in as good a fiscal situation as we’ve seen in quite a while.”

New Jersey — which didn’t set aside any rainy-day funds — has paid down several billion dollars of outstanding debt. Meanwhile, Illinois — the state with the lowest credit rating — has seen a string of upgrades thanks to tax revenue growth, increased reserves and reduced liabilities. 

TAX HAULS, TAX CUTS

Many states have also seized on the surpluses as an opportunity to fund some of the biggest tax breaks in decades. Almost two dozen states slashed personal or corporate income-tax rates and more than a dozen enacted temporary relief in 2022, amounting to $15 billion in total cuts for fiscal year 2023. 

Republican lawmakers in Mississippi even proposed eliminating the state’s personal income tax, its second largest source of revenue, though the proposals don’t look likely to pass.

Still, the good times could be coming to an end. Both Fitch Ratings and Pew see state tax revenues moderating amid inflationary pressures, higher interest rates and economic softening like weak consumer spending. But rainy-day funds could help cushion a sudden blow, Kim said.

“States have a lot of tools to manage through any expected volatility,” he said. 

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