As governors and legislators evaluate their options to navigate the current period of stress, the prospect of a meaningful reversal is being replaced by the reality that aftershocks of the economic shutdown may result in lasting budgetary strain. In this new environment, resources to achieve budgetary balance have diminished without exception. However, an ability to borrow for infrastructure remains a productive tool to offer budgetary support and economic stimulus. With debt profiles comparatively stable since the Great Recession, S&P Global Ratings expects states will look to increase their capital borrowing. Although the relative magnitude of future borrowing is currently uncertain, it may be similar to what states did following the 2001 recession and, most recently, the Great Recession.

Given that the onset of the recession was effectively induced through direct policy measures to mitigate the spread of an infectious novel virus, the uncertainty that further measures may be necessary to quell its spread compounds states' difficult task of economic and budgetary forecasting. Until the path out of the pandemic becomes clear, we believe states will have to operate under the assumption that their economic recoveries will be partially muted and below full output potential. In response to this uncertain economic environment and subsequently depressed revenue collections, we expect that many states that would have typically funded capital projects with cash will now consider using debt issuance to free up limited resources.

Building Your Way To Recovery

While the path out of the recession may be bumpy, S&P Global Economics calculates that an injection of funding for infrastructure over the next decade to the levels (relative to GDP) of the mid-20th century could help accelerate its recovery with lasting benefits. All told, a $2.1 trillion investment could result in $5.7 trillion in more economic activity over the next decade with an extra 0.3% per year of potential productivity growth. By 2024, S&P Global Economics estimates 2.3 million more jobs could be created compared to a scenario of inaction. (For additional information please see, "Infrastructure: What Once Was Lost Can Now Be Found--The Productivity Boost," published May 6, 2020, on Ratings Direct.)

While an infrastructure package of this size and duration would likely find its roots in Congress, states, by and large, are well positioned, in our view, to lead a push toward increased infrastructure investments even if the relative magnitude is smaller. A year ago, we began to observe a renewed focus on transportation infrastructure projects, which were seen as a source to reverse the economy's eroding capacity for growth (see "As U.S. State Debt Levels Moderate, Transportation Funding Takes Center Stage," published June 11, 2019). Indeed, state transportation spending grew 8.9% in fiscal 2019 from the year prior, according to the National Association of State Budget Officers, with 15 states seeing growth exceeding 10%. Bond proceeds accounted for 7.3% of total transportation spending with federal resources (26.9%) and dedicated (earmarked) state funds (61.0%) accounting for the greatest share. General funds accounted for the lowest share at 4.8%. Beyond transportation-focused spending, states have increasingly explored plans to expand their infrastructure planning to include strengthening broadband access and information systems, which could be accelerated given the clear necessity across states.

To the extent that general revenue will likely be constrained well into next year given the stunted economic activity following the outbreak of the pandemic, we anticipate bonding will fund a greater share of general capital expenditures and infrastructure spending as many states aim to preserve cash, even if just marginally for some of them. (For additional information on state budget developments, please see, "COVID-19-Induced Recession Throws Curveball To U.S. State Budgets," published May 21, 2020.) Should another round of federal stimulus or recovery funds come to pass in a similar vein as the Great Recession's American Recovery and Reinvestment Act, states could further leverage federal support to help minimize the overall cost to their taxpayers and maximize the potential multiplier effect to their benefit. Present headwinds notwithstanding, many states will continue to contend with growing climatic risks that threaten longer-term stability. While support at the federal level for any infrastructure investment package to date has been challenging, we anticipate state governments will increasingly focus on enhancing infrastructure projects to address evolving environmental risks. Over the long term, we expect the continued lack of federal funding for critical infrastructure projects and suspended agreements to indicate that states may need to bear more of the cost for infrastructure projects.

While some states may be reluctant to add liabilities onto their balance sheets, overall debt profiles exhibited relative stability entering the current recession. Over the last three years, median debt per capita averaged $950, down from recent peak level of $1,036 in 2012 following the Great Recession. Since 2009, median aggregate debt of states declined just shy of 7.5% with nearly one-third of states reducing their total outstanding net tax-supported debt. Notably, over a decade, state debt service has budged only marginally, partly reflecting not only debt management strategies to limit fixed-cost growth, but also a general push to fund capital projects on a pay-as-you-go basis. As a share of governmental spending, debt service from 2009 to 2019 averaged 3.7%. The share of total tax-supported debt type remain dominated by general obligation- and appropriation-backed debt, representing three-fourths of states' total share.

Table 1

Chart 1

State Debt Trends Stable

Generally, debt ratios are low to moderate across U.S. states and are viewed as largely sustainable with limited exceptions. From a regional perspective, with the exception of California and Washington, the states at the top of the total tax-supported debt list are all east of the Mississippi River. Northeastern (Mid-Atlantic and New England) states generally characterized by large urban population centers typically have higher per capita debt burdens than the rest of the country. Pacific states as a region have the second-highest median debt per capita, behind their Northeastern compatriots. Mountain and Plains states, which have smaller population centers, by contrast, rank in the lower quarter among states.

With all but 12 states with tax-supported debt per capita ratios below $2,000, increases in debt within the short-to-medium term are not likely to result in a jump in currently low-to-moderate debt ratios. For states that currently have debt per capita ratios below $2,000, all but one--Rhode Island--could increase their tax-supported debt load (all else remaining equal) by 10% and maintain a low-to-moderate level, in our view.

Table 2

Chart 2

Conversely, a 10% increase in tax-supported debt load (all else remaining equal) would bump the debt-to-personal income ratios of three states--New York, Oregon, and Washington--to moderately high from moderate and Georgia's to moderate from low levels, in our view. As a metric, tax-supported debt to personal income varies across the country, but again leans away from the center of the country toward the Northeast and Pacific states.

While no individual debt metric in itself reflects weak credit characteristics or portends credit deterioration, collectively, they can signal or generate credit momentum--up or down. We believe a state's debt and liability burden informs its capacity to address budgetary challenges in times of stress; states with very high debt and liability burdens face higher fixed costs and have less room in their budgets to make adjustments for balanced operations. Of our most recent outlook revisions, three states--New Jersey, Illinois, and Connecticut--ranked in the top-10 of total tax-supported debt outstanding, tax-supported debt per capita, as a percentage or personal income, as a percentage of gross state product, and debt service as percentage of general spending. Of note, all three states' total tax-supported debt was at least 5x greater than the national median.

Table 3

As states respond to a unique recession induced by pandemic response efforts, they face an uncertain path ahead. States will aim to preserve cash given this uncertainty, and active budget management will remain crucial for preserving credit quality. In our view, states will use their ability to issue debt as one tool to contest a stressed budgetary environment. Even given the possibility for some increased issuance, on the whole, we expect state debt levels will remain low to moderate in the medium term.

Table 4

Related Research

• Through The ESG Lens 2.0: A Deeper Dive Into U.S. Public Finance Credit Factors, April 28, 2020