Spending decisions made during the pandemic influence the rate of recovery

Most states, businesses, families, and individuals spent the pandemic walking on the edge of a jagged economic cliff. Luckily, there were some guardrails in the form of fiscal recovery funds, disaster loans, paycheck protection, and childcare grants. These devices helped pull thousands back from the edge.

But now, with the pandemic emergency over, the cliff is still in sight, but the guardrails are gone. Without them, will states, businesses, and others tumble over the economic cliff? The answer may depend on how they used those guardrails during the pandemic.

Different states used Fiscal Recovery Funds in various ways

Congress passed the American Rescue Plan Act (ARPA) in March 2021, providing $1.9 trillion to respond to COVID-19 after the partial shutdown of the nation's economy. This money included $350 billion for Coronavirus State and Local Fiscal Recovery Funds (SLFRF).

The trillions of dollars the U.S. sent to states via ARPA impacted state budgets significantly, so much so that some states enacted permanent cuts to tax rates. Some of these states, in 2023, are still using SLFRF to pay for recurring expenses. However, this solution is only temporary, and these states will be forced to increase taxes or make budget cuts in the future. The issue paper from the Volker Alliance, “On the Edge,” focuses on the extent to which states are still, in 2023, relying on SLRF to pay a significant amount—2.5% or more—for recurring expenses. Such reliance, the authors say, may be leading many states to a fiscal cliff.

Some states took actions that would prevent them from having significant fiscal problems. The authors name 38 states that fall into this category. The nonrecurring projects they funded that may have insulated them from fiscal difficulties include capital projects and repaying federal loans to their unemployment trust.

States with a high risk of falling off a fiscal cliff, according to the Volker paper, include California, Illinois, Michigan, New York, and Pennsylvania. They will need to cut or eliminate programs—or find other ways to fund them—now that federal funds are no longer available.

The Volker paper gives the following four recommendations to state governments for avoiding fiscal cliffs after using SLFRF:

• State governments should clearly label SLFRF as one-time funds.
• States should facilitate fiscal sustainability by only using one-time funds such as SLFRF for one-time or short-term purposes.
• If a state allocates funds to address recurring needs, it should track that spending and plan for what will happen when the SLFRF program expires.
• Other state budgeting practices can facilitate a multiyear planning approach.

Small businesses are generally optimistic

Small businesses got relief from the SBA's COVID-19 Economic Injury Disaster Loan (EIDL) and EIDL Advance programs. Entrepreneurs could use EIDL loan funds for working capital and other operating expenses. These loans are not forgivable and must be repaid. The EIDL Advance funds were awarded to existing COVID-19 EIDL applicants. Advances are like grants without typical U.S. government grant requirements and do not need to be repaid. SBA stopped accepting applications for new COVID-19 EIDL loans or advances on January 1, 2022.

The small businesses that survived the pandemic emergency appear to be adjusting to the end of federal disaster loans. The MetLife & U.S. Chamber of Commerce Small Business Index for the third quarter of 2023 shows that two in three (66%) small businesses report that their enterprises are in good health. This number represents a 10% increase since the last quarter.

However, an article in the Wall Street Journal reports that small-business bankruptcy filings are rising. The article mentions the end of government aid programs as one factor contributing to this trend, along with increased interest rates, tighter lending standards, and higher operating costs. They note that some businesses that took out SBA's Covid disaster loans with a 30-year term and 3.75% interest rate have not rebounded to the level they anticipated and are having difficulties paying back these loans. However, the number of businesses having trouble repaying these loans does not exceed the number that would be expected: the article cites an SBA official who said that the repayment rates are “roughly within projected levels.”

Thanks to the foresight and prudent planning of many federal aid recipients, there appears to be a stairway down the side of the cliff, making the landing from the pandemic softer than some have feared.