Flush with billions of dollars in excess funds due to budget surpluses and a massive influx of federal pandemic money, many states chose to make significant deposits into their emergency, reserve, or rainy day accounts.  These states made a wise decision to prioritize the future over the temptation to invest in new and unsustainable programs.

According to a May 10, 2022, Pew Charitable Trusts report, 35 states increased their emergency funds in fiscal year (FY) 2021.  The 50 percent increase of $37.7 billion over FY 2020 brought the states’ rainy day fund total to a record $114.6 billion.  The states also had the largest ending balance, meaning leftover general fund money, in history. 

The decision to allocate additional money to rainy day funds instead of pouring more money into new programs that will require support when funding runs dry follows one of Citizens Against Government Waste’s recommendations for the states following the COVID-19 pandemic and the 2020 economic downturn.

Setting aside funds for future emergencies can have many benefits.

For example, a robust rainy-day fund allows a state to reduce its dependence on federal aid.  From the adoption of the Coronavirus Aid, Relief, and Economic Security Act on March 27, 2020, to the passage of the American Rescue Plan Act a year later, the federal government sent more than $4.6 trillion to the states to help combat what Congress thought was needed to alleviate the economic impacts of the pandemic.  But it was far more than enough, so state and local governments used money intended for pandemic relief for golf courses, high school athletic facilities, and tourism campaigns.

When states pour surplus money into new projects, they often find themselves struggling to pay for them several years later.  Investing in a reserve fund allows states to adequately plan for the future without committing themselves to unsustainable project.  A strong reserve allows states to maintain essential programs and operations when revenue begins to run dry.

Simply placing surplus revenue into an emergency account is not enough, however.  For these funds to prove useful, states must tap into them in times of need.  During the pandemic, no state experienced a decrease in the amount of funding available in its emergency fund.  Federal grants allowed state governments to avoid tapping into their reserves.  Now that more states have begun to adequately plan for the future, they must make prudent decisions about the money they have in the future.

According to the Pew report, states that withdrew all of their reserves in 2020 made a strong effort to restore the depleted funding in 2021.  The report notes that in FY 2022, “most states plan to spend down some of their larger-than-expected ending balances” as one-time excess funds disappear, leading most states to begin to put less money into their reserves in the years to come.

Despite the recent trend of states shoring up reserves, numerous states still have yet to take necessary action to prepare themselves for future downturns.  Even as most states increased their reserve funds, the Pew report shows that multiple states lack sufficient reserves to weather a downturn.  At the end of FY 2021, Illinois had a meager $4.1 million in reserves and Washington had a negative balance in its account.  The need for a robust emergency fund is even more pressing in light of growing concern of a recession in the coming months, which always reduces revenue to the states.  While some states will now have adequate reserves to fall back on, others will be woefully unprepared for the financial stress that may be coming soon.

States that maintain significant emergency funds will not have to rely on the federal government as much in the future.  It will also avoid forcing taxpayers in states that have been fiscally prudent to pay for the shortfall in states that have been less financially responsible.

The development of a robust emergency fund, when combined with other fiscally prudent decisions, can allow a state to weather a recession, pandemic, or any other event that causes financial hardship, with limited damage.  In addition, state emergency funds reduce the potential for an unhealthy reliance on federal funding.  The growth of emergency funds in 35 states in FY 2021 should be viewed as a win for taxpayers across the country.