States Should Measure Budget Risks

Editor’s note: Since the publication of this research, Pew has learned that Colorado produced a budget stress test in November 2022, and this page is in the process of being updated to reflect that information.

For state policymakers, the need for a long-term perspective on state finances has never been greater. At a time when massive budget surpluses have empowered states to adopt historically large tax cuts and spending increases, leaders must act with care to ensure that their budgets remain on a sustainable path. To do so, policymakers need data and analysis showing whether their fiscal decisions—as well as the impact of worrisome demographic trends, declining federal funding, costlier natural disasters, and other threats—are likely to turn recent surpluses into future deficits.

In a new report, “Tools for Sustainable State Budgeting,” The Pew Charitable Trusts describes how some states are using two analytic tools—long-term budget assessments and budget stress tests—to measure risks, anticipate potential shortfalls, evaluate policy options, and identify ways to address impending challenges. The study also highlights opportunities for states to adopt, improve, and expand the use of these tools. As the report explains, states should make long-term budget assessments and budget stress tests a standard part of their budgeting process. Those that already have are demonstrating that a different model for budgeting—one grounded in evidence and long-term thinking—works not only for the current budget cycle but also into the future.

What are long-term budget assessments and budget stress tests?

Long-term budget assessments are analyses that determine whether states are likely to face chronic budget deficits. Using multiyear projections, these studies explore whether revenue will be sufficient to support spending in future years and why or why not.

Budget stress tests analyze the fiscal risk posed by recessions and other shorter-term events. They estimate the size of temporary budget shortfalls that would result from such events and gauge how prepared states are to weather those downturns.

Why should states use these tools?

Long-term budget assessments and stress tests help states prepare for or prevent budget shortfalls, avoiding painful consequences, such as tax increases and spending cuts, that can harm residents and local economies. Furthermore, persistent deficits can force lawmakers to seek increasingly drastic budget balancing methods, including delayed payments and excessive borrowing, creating a vicious cycle in which deficits lead to short-term fixes that end up making budget problems worse. Overcoming these challenges once they begin is exceptionally difficult: States are far better off using long-term budget assessments and stress tests to anticipate and prevent problems.

Which states use these tools?

Since 2018, 15 states have produced long-term budget assessments, and 13 have conducted stress tests. Eight states have produced both—Alaska, California, Connecticut, Maryland, Montana, New Mexico, New York, and Utah. 

How do policymakers use the results of these analyses?

States have used the data from long-term budget assessments and budget stress tests to inform some of their most consequential decisions, including how much to tax, spend, and save. For instance:

• Rhode Island policymakers used a long-term budget assessment to examine whether lowering taxes would exacerbate the state’s deficit.
• New Mexico’s leaders recognized that the oil industry’s decline would cause future deficits and acted to close the gap.
• Montana increased its reserves after a stress test showed that the state had not saved enough.
• Utah used the results of a stress test to create a detailed plan for closing temporary budget gaps; the state then put the plan into action in 2020.

What should states do next?

Despite notable progress implementing long-term budget assessments and budget stress tests, every state—even the eight that use both tools—still has room to improve. States that do not use the tools could build off the fiscal analyses they already conduct. For example, 15 states and Washington, D.C., have produced long-term revenue and spending projections but have not taken the next step to turn these projections into assessments: analyzing ongoing budget sustainability, such as by examining the reasons for an expected surplus or deficit.

And many states that use the tools would benefit from increasing the rigor of their analyses, broadening their scope, and drawing clearer conclusions. To guide states on how to implement long-term budget assessments and budget stress tests more effectively, Pew’s report outlines a set of leading practices for each tool and includes state-specific factsheets with ideas for improvement.

Josh Goodman works on The Pew Charitable Trusts’ state fiscal policy project.