Raft of U.S. states has variant of Greek flu

February 17, 2010

A raft of the 50 U.S. states has a variant of Greek flu. Sure, they don’t have imbalances on the scale afflicting Greece. Still, some states’ weak fiscal management has been badly exposed by the downturn. Defaults aren’t unthinkable. But as with the EU’s backing for Greece, the federal government would probably ride to the rescue.

U.S. states are far more economically integrated than the euro zone economies, where a lower degree of integration means major imbalances can develop. For instance, during the boom wage costs in Greece and Spain grew much more rapidly than in Germany, without corresponding increases in productivity, making those countries uncompetitive.

Something similar happened in the early United States, leading to the defaults of eight states in the downturn of 1837-43.

Further, all U.S. states except Vermont are constitutionally required to balance their budgets, requiring painful tax increases and spending cuts during recessions, particularly late in recessions when contingency funds have been spent. EU governments’ budgets aren’t constrained in this way and are anyway much larger in relation to their economies. That means much more significant deficits can accumulate.

For instance, Greece’s 2009 budget deficit was 13 percent of GDP, while California’s projected 2011 funding gap of $14.4 billion is only 0.8 percent of 2008 gross state product. Even Nevada’s projected gap, while 55 percent of the 2010 state budget, is only 1.3 percent of 2008 GSP.

Nevertheless, states do have serious financial problems, and the fiscal history of some of them — including California, Illinois and New Jersey — is replete with opaque accounting and fanciful budgeting, also seen in Greece. Moreover, other states such as Michigan and Rhode Island have suffered prolonged recessions.

Only one U.S. state has defaulted during the 20th century — Arkansas in 1933, after engaging in heavy unfunded road building just before the Great Depression. But with today’s stresses, the potential is there again. The market effect would be severe, particularly as one default could set the dominoes falling. With bank rescues underlining the federal government’s willingness to step in, it’s likely that President Barack Obama — unlike President Martin Van Buren in the 1830s — would in the end bail out a failing state.

No comments so far

We welcome comments that advance the story through relevant opinion, anecdotes, links and data. If you see a comment that you believe is irrelevant or inappropriate, you can flag it to our editors by using the report abuse links. Views expressed in the comments do not represent those of Reuters. For more information on our comment policy, see http://blogs.reuters.com/fulldisclosure/2010/09/27/toward-a-more-thoughtful-conversation-on-stories/

Social comments and analytics for this post…

This post was mentioned on Twitter by forex_wealth: Raft of U.S. states has variant of Greek flu http://blogs.reuters.com/columns/2010/02  /17/raft-of-u-s-states-has-variant-of-g reek-flu/…