How the Prolonged Government Shutdown Is Rippling Down to States

(Bloomberg) -- Almost a third of the $2 trillion that U.S. states spend each year comes from Washington, so the record-long partial shutdown of the federal government would seem to spell major financial trouble in America’s statehouses. So far, the impact has been relatively limited, because only about a quarter of the government has been closed and funding for the biggest state-run program, Medicaid, will continue no matter how long the impasse persists.

But the impact for states and local governments will grow the longer it drags on. Here’s how:

Missing Paychecks

As some 800,000 employees began missing paychecks, the impact is casting clouds over the economies of states with a big share of federal workers, including Virginia, Maryland, Hawaii and Alaska, where about 5 percent of workers are employed by the federal government, according to Fitch Ratings. In Maryland and Virginia, more than 236,000 affected workers have lost more than $1 billion of wages so far, cutting about $79 million from income-tax collections, according to state officials.

The lost pay, however, will be felt far beyond the beltway in places like Florence, Colorado, a 3,800-person city home to a federal prison complex where more than 860 people are working without compensation. Analysts forecast that the shutdown will end in mid-February and shave about a quarter percentage point off the economy’s growth rate, according to a survey by Bloomberg, though the impact would be larger if it persists into March.

Saving Safety Net

The longer it drags on, the more states will be forced to tap their own funds to make up for numerous programs supported by federal grants, including Temporary Assistance for Needy Families, which extends cash payments to the poor. The shutdown has cut off funding for that program, among others, according to the Center for Law and Social Policy. That’s left states relying on federal money from prior year budgets, but they’d need to step in once that runs out, said John Hicks, executive director of the National Association of State Budget Officers. "There is no default as to what the response would be by states," he said.

Local Jails

Many local governments are likely to feel the cost, too, because they run jails that rely on revenue from the federal government. The U.S. Marshals Service alone has contracts with hundreds of local governments, while others hold immigrants awaiting deportation proceedings. A detention center in Florida’s Baker County said the federal government owes it $2 million for services in November and December, leaving it weighing whether to dip into bond reserves to cover payroll. Another in Rhode Island is arranging a loan at an interest rate of more than 11 percent to make ends meet during the standoff.

Renters at Risk

About 1,150 Housing and Urban Development Department contracts with rent-subsidized housing developers that were up for renewal were put on hold this month, tens of thousands of households, according to the Campaign for Housing and Community Development Funding.

More than a thousand more come up for renewal through the end of February, and some of the developers count on the money to repay municipal bonds that financed the projects. "You’re put in a pretty sticky situation where you have to make debt service but you don’t have a significant part of the project income -- so at some point, you might have to opt out and re-tenant the building with people that can pay the rent," said Thom Amdur, executive director of the National Housing and Rehabilitation Association. "There are millions of low-income families living in subsidized housing that are put at risk as a result of this."

Bond Market Spillover

A standoff that lasts past the end of the debt-ceiling suspension on March 1 could increase the risk of a technical default on the U.S. debt and raise the likelihood of a downgrade, according to some ratings analysts. A downgrade to the Treasury’s rating would likely trigger municipal-bond rating cuts, which happened in 2011, when S&P Global Ratings cut the grades on thousands of state and local securities tied to the federal government.

Separately, Moody’s Investors Service said the impact of the shutdown has been minimal on municipal-bond issuers so far. If it goes longer, it could cut into tax revenue in areas that are reliant on federal workers, making it more of a challenge for governments, Moody’s said.

Subways, Trains, Roads

Public subways, commuter trains and other transit systems rely heavily on federal grants that would be slowed if employees remain idled. Such funding can account for a fifth of some operating budgets, according to Moody’s, which warned that a disruption could lead to weaker financial positions, delayed projects and higher debt costs. Problem-plagued New Jersey Transit Corp.’s available cash, as of 2017, was only enough to cover about one month’s operations, the rating company said.

The uncertainty about the budget may also slow the pace of work on infrastructure projects because states can’t say for sure how much they will get once the budget impasse ends. “States are not going to be letting new projects because of the uncertainty associated with the federal program,” said Jim Tymon, executive director of the American Association of State Highway and Transportation Officials. One state has already done that: Oklahoma officials said they’re delaying new contracts for about 45 upcoming projects totaling more than $137 million because of the shutdown.

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