The combination of raising healthcare costs (mostly via Medicaid at the state level), pension obligations, lower employment to population ratios and thus tax revenues, balanced budget requirements, state tax competition, the reluctance to raise taxes in general and mobility concerns will likely continue to reduce the amount states invest in education per child as well as on other welfare spending. I’ve been looking at a few papers on these issues to try to piece together what’s been happening and what will likely happen going forward – it’s not pretty.
1. “An increase in the fraction of elderly residents in a jurisdiction is associated with a significant reduction in per child educational spending” from Jim Poterba.
2. Funding underfunded pensions will be expensive. “We calculate increases in contributions required to achieve full funding of state and local pension systems in the U.S. over 30 years. Without policy changes, contributions would have to increase by 2.5 times, reaching 14.1% of the total own-revenue generated by state and local governments. This represents a tax increase of $1,385 per household per year, around half of which goes to pay down legacy liabilities while half funds the cost of new promises.” from Josh Rauh and Robert Novy-Marx.
3. Pension performance meaningfully affects state spending and employment. “State governments manage large defined-benefit pension plans for which they bear the investment risk. Using a newly-collected dataset on the returns and portfolios of these plans, I show that the idiosyncratic component of their returns is a strong predictor of subsequent state government spending. Instrumenting with this ‘windfall’ component of returns, I find that state government spending has a large positive effect on income and employment. Baseline estimates indicate that each dollar of spending raises in-state income by 2.12, and that 35,000 of spending generates one additional job.” from Daniel Shoag.
4. “I find that states financed the mandated increases in Medicaid spending by paring back only other welfare spending (such as low-income energy assistance or foster care). ” from Katherine Baicker.