On a map, it appears that the United States is made up of 50 states. The fiscal reality is that we have 20 Portugal’s, 15 Italy’s, 10 Irelands, 3 Greece’s, and 2 Spain’s. In Q1, state and local GDP shrank by 3.8%, chopping growth at the national level by 0.5%, the sharpest drop since that last year from hell, 1981.
States are shoveling money out of the economy nearly as fast as Obama is shoveling it in.
During the bubble, the states thought incomes were higher than they really were, were richer than they really were, and bulked up on services as if the party would go on forever.
As a result, services grew faster than the economy for many years, especially when it came to building new prisons. Because of the ephemeral nature of property and stock gains, that movie now has to run in reverse, and state services have to shrink down to what they can afford. During the last two recessions, state and local governments hired, easing some of the pain at the local level. Not this time. Teachers, policemen, and firemen have been laid off with reckless abandon, the oldest and most expensive usually targeted to go first. Obama is going to have to come up with some sort of “Marshall Plan” for the states to enable them to transition out of their structural deficits towards fiscal soundness.
Target number one is going to have to be entitlements, primarily state employee pension payments, which in many cases now exceed those in the private sector. The headache is so huge that it is mathematically impossible for any tax increase to address the shortfall alone.
No action now brings slower economic growth, fewer jobs, and a paucity of votes in November. This is all one reason why I am pounding the table for a long term growth rate of 2%-2.5% which the financial markets have only recently started to embrace.