Congressional Democrats have proposed a $500 billion bailout for states and local governments to compensate for nosediving tax revenues amid the coronavirus lockdown. In contrast, Senate Majority Leader Mitch McConnell floated the idea of letting states and municipalities file for bankruptcy. President Trump weighed in saying taxpayers shouldn’t bail out “poorly run states and cities, in all cases Democrat run and managed.”
After a bipartisan backlash, McConnell has since retreated from his bankruptcy statement and expressed willingness to consider emergency financial aid to states and cities.
Nevertheless, how much funding for states and local governments is certain to be at the center of the debate over the next COVID-19 emergency relief bill, referred to by Capitol insiders as 4.0. Governors and mayors from both political parties have asked for $500 billion to avoid drastic cuts in their respective, already approved budgets. They say states and cities have been on the coronavirus front lines by administering testing and issuing and enforcing stay-at-home and business closure orders, which are intended to slow transmission of the highly communicable disease and prevent hospitals from being overwhelmed with critically ill patients.
No action on emergency relief 4.0 is expected for a week or two as lawmakers remain away from the Capitol, but negotiations are continuing.
While there have been scattered municipal bankruptcies, the reason McConnell backed away from them as a substitute for more federal aid to states and cities is that it’s probably unconstitutional. Managing states and cities under federal bankruptcy orders could violate the Tenth Amendment, which says any power not specifically given to the federal government by the Constitution belongs to the states. There is no constitutional provision permitting the federal government to take control of a state or city.
A related problem is how to handle existing, pending or future bonds that states and local governments issue to finance capital projects, typically at low interest rates. Bankruptcies could throw the municipal bond market into chaos, adding to the nation’s economic woes.
Economists predict letting a large number of states or cities fail financially could tip the US economy into recession. Worse, if the federal government would assume control, it might be forced to backfill essential expenditures in bankrupt municipalities for health care, schools and public services such as police, fire and water, which could add to bureaucracy and wind up exceeding the $500 billion states and cities are requesting. One economist said, “Declaring bankruptcy doesn’t fix the economy.”
Implicit in the bankruptcy concept is that states have somehow collectively mismanaged their coronavirus responses and blue states are more financially feckless than red states. States and cities declared emergencies that closed non-essential businesses, following the advice of public health experts and federal officials. Left largely to fend for themselves, states and cities have had to compete in an open, global market to obtain coronavirus tests, swabs, ventilators and personal protective equipment, often paying inflated prices. Many polls show bipartisan favorability for how state and local officials have responded to the pandemic.
The ‘blue state bailout” is more partisan trope than fact. The $500 billion request has come from blue state and red state governors and mayors. The argument that red states subsidize blue states started with former House Speaker Paul Ryan, even though fact-checking has shown the opposite is closer to the truth. States such as New York and Washington send more tax dollars to Washington, DC than they get back in various forms of federal aid and grants. New York receives 81 cents for every dollar it sends to the federal government compared to Kentucky that gets back $1.90 for every dollar it sends to Washington, DC.
States and local governments must operate with balanced budgets, while the federal government doesn’t. Many states have set aside reserves or rainy day to ride out economic downturns. Few if any states have reserves large enough to offset the devastating and sudden economic downturn caused by the coronavirus, which more closely resembles a natural disaster rather than a recession.
House Speaker Nancy Pelosi has proposed other elements for 4.0 that will provoke partisan pushback. Her wish list includes funding for national vote-by-mail in the November election, student debt relief, added Social Security benefits and assistance to cash-strapped employer-provided pension programs. There is likely to be pressure for even more financial aid to struggling small businesses, especially in sectors that won’t be reopening until perhaps the fall or later. Pelosi also has mentioned financial assistance for the US Postal Service, which would play a crucial role in a national vote-by-mail election.