The American Rescue Plan Act (ARP) passed in March 2021 provided $525 billion in COVID-19 relief to states and local governments, including $350 billion in Fiscal Recovery Funds (FRF) to prevent budget constraints from forcing public services cuts as they did after the 2008 recession. However, many states have ended up with budget surpluses as the economic situation has improved and are now debating the best uses for extra revenue, with some deciding to finance inflationary policies such as tax cuts and stimulus checks. States that are not doing so already should shift their uses of FRF to long-term investment and COVID-19 relief, which will not worsen inflation or create budgetary burdens in future years.
When the ARP was passed, states were given flexibility with funding use, but there were a few federal strings attached. These included prohibitions on making tax cuts above a certain size, funding public employee pensions, and paying off existing debts. However, many states have fought against the prohibition on tax cuts, with attorneys general in 21 states attempting to overturn it. State officials claim that tax cuts will provide consumers with additional resources to compensate for rising prices, but these tax cuts will only worsen inflation rates as people effectively bid up prices. No doubt tax cuts are popular, but states shouldn’t be using federal relief dollars to pump up demand, thereby contributing to a worsening inflationary cycle.
Tax cuts will also damage the states’ long-term fiscal health. After the 2008 recession, states faced funding shortfalls that resulted in public service cuts. This is precisely what the federal government sought to avoid with the ARP. State tax cuts will undermine this goal because some states have constitutional obstacles to raising taxes, like referenda or supermajority requirements, that make it harder politically to reverse tax cuts than to enact them. As a result, states are increasingly likely to face revenue shortfalls once ARP funding is exhausted.
Although Republican-controlled states are leading the tax-cutting craze, other states are pursuing inflationary policies as well. For example, California Governor Gavin Newsom (D) has proposed giving Californians $400 for every car owned by the household to defray sky-high gas prices. By insulating people from gas price spikes, this proposal would boost demand, putting upward pressure on prices just as they are beginning to fall back to earth. This proposal also comes with a high opportunity cost. As PPI’s Ben Ritz wrote recently for Forbes, the cost of this new fuel subsidy could pay for COVID-19 tests, vaccines, and treatments for the entire nation.
Meanwhile, the Republican-controlled government in Georgia approved stimulus checks of up to $500 for constituents, and Florida Governor Ron DeSantis (R) has supported a planned gas tax suspension in October, which would cost $200 million. Lawmakers on both sides of the aisle need to focus on their states’ fiscal well-being and keeping prices down instead of throwing federal dollars at their constituents.
The best way for states to help get inflation under control would be to pump the brakes on all un-offset spending for the foreseeable future. But since the federal government is requiring them to spend down their FRF within the next two years, and no governor is likely to leave that money on the table, states should focus on the most effective uses of funds which will improve long-term economic outcomes.
For example, states should start by fully funding public services if they are still experiencing revenue losses resulting from the pandemic. But because the ARP gave states far more money than they needed to fill budget shortfalls, relief funds will mostly need to be spent on new purposes. States should prioritize continuing the fight against COVID-19 infections, particularly as the highly contagious BA-5 variant spreads. More tests, treatments, and vaccines are needed, along with investments in medical facilities and equipment such as ventilators and PPE.
States could also use FRF for mental health and violence prevention programs. As of March 2022, the pandemic had caused a 25% increase in the prevalence of anxiety and depression as people faced fear, isolation, and grief. Increases in violence have also been observed, particularly in domestic violence against women who were isolated with their abusers, and in gun violence as structural inequities fueling gun violence worsened. Along with measures to fight COVID-19 infections, mental health and violence prevention programs can improve and even save lives, making them a worthwhile use of funding.
Another good use of FRF would be responding to pandemic-induced economic losses. Low-income households bore the brunt of COVID-19 deaths and job losses. They face the largest barriers to recovery and ought to be the focus of relief efforts. Investment in education is sorely needed to deal with steep learning losses for kids as well as many parents’ long absences from labor markets. Temporary expansions of tutoring and job apprenticeship programs can be scaled back more easily than tax cuts can be repealed.
Finally, states should use spare ARP funds to make one-time investments in infrastructure that will support economic growth for years to come. For example, business and school closings during the pandemic drove home the need for greater access to broadband. While the Infrastructure Investment and Jobs Act (IIJA) is providing funding for many new projects, ARP funding gives states the flexibility to meet the immediate needs of their communities without having to apply for specific grants. Investing in infrastructure, especially with one-time investments which will not create burdens in future years, will benefit citizens without harming states’ fiscal health or worsening inflation.
States should focus on projects that will not burden their budgets once FRF runs out and which will help citizens still battling the effects of the pandemic. Making investments in future economic growth and public service delivery, while continuing to fight COVID-19 infections, is a wiser course for states than burning through a one-time federal windfall.
