The United States has very little experience coping with pandemics, let alone their fiscal implications. As the crisis progresses, state leaders may be inclined to follow the federal government and turn to traditional fiscal mechanisms to address this challenge. However, a pandemic doesn’t have the same implications as a natural disaster or a financial crisis. As a result, many of the traditional strategies to address those challenges may be of little use, and localities may need to think outside the box for ways to manage today’s economic slowdown.
The coronavirus already is putting tremendous pressure on government budgets at all levels, particularly for public health programs. In the short term, states will need to increase spending to meet these immediate demands. But over the medium term, tax revenues likely will fall sharply due to the effects of business closings and government mandates and their combined impacts on consumer spending. These effects will inevitably show up as reduced revenue from sales taxes, individual and corporate income taxes, gas taxes, and fees. But in the meantime states are scrambling to meet the needs of their citizens.
Congress recently passed a coronavirus relief bill that contains short-term funding for paid sick leave and unemployment benefits to address the needs of families, as well as additional federal funding for Medicaid. While this is a good first step, it is insufficient for a crisis likely to last for months.
Only 12 states and Washington, DC have mandatory sick leave, usually funded through payroll taxes. It will be interesting to see whether by supporting workers who take time off when they are ill, these more robust benefit systems in these states act as a barrier to the spread of the virus.
And while the House bill would increase funding for unemployment benefits, the level of support differs by state. A number of states modified their unemployment benefits and lowered their unemployment tax rates after the Great Recession. And many may find it hard to meet the needs of workers given the added hurdles and benefit cuts made years ago.
In a booming economy, an argument can be made for decreasing benefits to motivate people to seek work. However, in today’s current health-related economic slowdown, the problem isn’t lack of motivation on the part of potential employees to work. Rather, the problems are reduced work hours and layoffs, forced business closures by government, family health concerns, and government demands for “social distancing.”
Across the globe, nations such as France, Japan, New Zealand, and South Korea, are considering wage subsidies for employers affected by coronavirus, allowing them to avoid layoffs for employees they otherwise couldn't afford to keep. Other than the Earned Income Tax Credit (EITC), we don’t have much experience with wage supports here in the US, but it may be time to consider them.
Longer term, states may look to their tax codes to boost their economies, including the use of industry-specific tax breaks. However, as my Tax Policy Center colleague Howard Gleckman recently pointed out, such targeted tax subsidies are problematic to implement and likely to help shareholders more than the workers who are hurt the most by this crisis. Moreover, states are only recently getting a handle on how to devise and evaluate effective business incentives.
In the aftermath of disasters, states often use tax holidays as a tool to provide relief to taxpayers. Fifteen states have tax holidays on the books intended to spur consumer spending, with three states focusing on disaster-related spending (Texas, Virginia, and Alabama). While it’s relatively straightforward to target spending on, say, home generators after a disaster, the right approach to spurring post-pandemic spending isn’t quite as clear. Moreover, much of the decreased demand is currently coming from reduced travel and from government mandates that are closing gyms, restaurants, and bars. Tax holidays can be effective at stimulating short-run sales or bringing them forward to the present instead of the future, but ideally they should be broadly focused and not limited to narrow categories of products. And the money must be made up somewhere in state budgets.
The fallout from the Great Recession and the recent rise in natural disasters has equipped many states with the experience of managing economic fallout. And most states have entered this month with strong balance sheets, so they have some funds to provide services. But state policy makers still need to be sure that today’s policy fixes are appropriate to the very unusual current economic slowdown. And as Austan Goolsbee recently commented – virus economics is different from regular economics. Novel problems require novel solutions, and leaders should be skeptical of off-the-shelf fiscal tools that may have worked in the past but are questionable today.
