The Need for Direct Assistance to Local Governments in Response to the Coronavirus

Streaks in the sky form at sunset behind the U.S. Capitol, November 2019.

In response to the COVID-19 pandemic engulfing the United States, there is a need for a massive infusion of direct and flexible federal aid to local governments to avoid the need to furlough or lay off the workers most needed to respond to the public health crisis and bring the country out of the economic crisis it now faces. This aid must be in addition to—and separate from—the substantial aid that is required for state governments. Therefore, CAP recommends an immediate commitment of federal aid directly to local governments on the order of at least $400 billion in addition to state aid—and notes that doing too little is more dangerous than doing too much. This timely funding would get localities through the next fiscal year (FY 2021)—which runs from July 1 through the middle of 2021 for the overwhelming majority of localities—and prevent steep cuts that will otherwise be locked into budgets within the next few weeks.

Local governments employ 14.5 million people, including the overwhelming majority of first responders and teachers. The jobs and pay of nearly half a million firefighters, 900,000 police officers, 1 million hospital and health care workers, and more than 5 million teachers who work in local governments are on the line without federal fiscal intervention.* Indeed, out of 3 million municipal government workers, a recent survey predicts nearly 300,000 to more than 900,000 will be furloughed, laid off, or have their pay cut or frozen in the absence of further federal aid to local governments. In fact, the cuts are already underway: This month’s employment report showed local governments cut 800,000 jobs in April alone. Moreover, without further federal assistance, local governments will have to reduce the assistance they are providing to constituents to cope with the effects of the pandemic. And they will have to reduce normal government services provided to their citizens, including police and fire protection, health care services, and the educational work of teachers and librarians. Finally, without federal aid, the furloughs, layoffs, and spending cuts will reduce consumer spending and exacerbate the recession in which the country now finds itself.

In the United States there are a wide range of local governments. For the purposes of this analysis, the term “local governments” refers to all cities, counties, townships, towns, villages, boroughs, school districts, and special-purpose districts, such as those for public libraries, though the lack of complete data means many statistics will represent a subset of these entities. U.S. territories and tribal governments, which are receiving aid in conjunction with aid provided to states, are not considered as local governments in this analysis.

The need for local assistance resulting from the pandemic

There are many reasons why federal aid is needed for local governments as a result of the pandemic. First, local governments are providing massive resources for coping with the coronavirus crisis. Local governments support hospitals, health departments, other health providers, first responders such as emergency medical technicians, and testing for the virus. For example, estimates from a NACO (National Association of Counties) recent survey indicate that counties expect about a $30 billion increase in expenditures from the pandemic through FY 2021. And the same survey indicated that 76 counties might have to spend more than 50 percent of their budgets on COVID-19 costs. Moreover, a recent survey of cities by the U.S. Conference of Mayors and the National League of Cities indicates that 96 percent of cities face budget shortfalls this year—in large part due to COVID-19—with at least 43 percent of all cities reporting unanticipated spending increases this year on top of declining revenues.

Second, local governments are suffering huge revenue losses as a result of the pandemic. For example, sales tax revenues are dropping as businesses close and consumers stay at home. Income tax revenues are falling rapidly as workers are furloughed and laid off. Charges and fees—such as highway tolls, business licenses, as well as fees from recreational centers, courts, libraries, and real estate transactions—are down as well. And some local jurisdictions have already delayed the collection of property and income taxes to provide some relief to hard-hit households.

The recent survey of cities by the U.S. Conference of Mayors and the National League of Cities demonstrates the depth of the problem. The survey found that 88 percent of cities expect a revenue shortfall this year as a result of COVID-19, rising to 98 percent for cities with populations of 50,000 to 500,000. The survey by the National Association of Counties underscores the challenge of making it through the next fiscal year. Counties with more than 500,000 in population project a combined revenue loss of more than $70 billion. Counties with populations between 50,000 and 500,000 will lose more than $30 billion in revenue. Counties with populations under 50,000, estimate that they will lose about $10 billion in revenue and face another $10 billion of increased expenditures due to the pandemic, requiring a 24 percent reduction in their budgets.

Third, in a typical year, local governments receive roughly 35 percent to 40 percent of revenue through intergovernmental transfers, the vast majority of it coming from state governments that now face budget crises of their own. This will lead to further budgetary shortfalls for localities. Finally, in addition to heightened expenditure needs and falling revenues, local jurisdictions must balance their budgets and are heavily penalized for borrowing for operating expenses. Thus, these governments are faced with only two choices—cut spending or raise taxes. Both of these actions will deepen and lengthen the economic recession, as they did during the last recession.

Based on prior recessions, most local jurisdictions are likely to use spending cuts rather than tax increases to balance their budgets—indeed, many local governments already face relatively strict limits on their taxing authority. These spending cuts will not only lead to furloughs and layoffs for first responders and teachers, deepening the recession, but will also lead to service cutbacks in police protection and education, to name a few areas. The survey by the U.S. Conference of Mayors and the National League of Cities found that of cities with populations of 50,000 to 500,000, “55% reported they expect that furloughing employees will be necessary [and] 38% of these cities say they expect to lay off workers.” And “52% of all cities [responding to the survey] say budget cuts will impact police and public safety.” Indeed, before the jobs report showed 800,000 local jobs disappeared in April, the National League of Cities also estimated nearly 300,000 to more than 900,000 local government workers will be furloughed, laid off, or have their pay cut or frozen as a result of the pandemic.

More specifically, another survey by the National Association of Counties found that, by the first week of May, 48 counties had already furloughed or laid off employees because of the pandemic. Likewise, cities are reducing workforces and pay to address pandemic-related strains to their budgets. The City of Los Angeles has indicated that thousands of city workers will have to be furloughed 26 days in the next fiscal year—a 10 percent pay cut. According to the National League of Cities, more than 25 percent of the city workforce in Tulsa, Oklahoma, 15 percent of the Aurora, Colorado, city workforce, and 30 percent of the city workforce in Oxford, Mississippi, are being furloughed. The story is much the same in Augusta, GA, in Boulder, Colorado, and in Portland, Oregon, where nearly 35 percent of that city’s workforce is being hit by budget cuts. The budget crises will also result in decreases in the assistance that local governments provide constituents and entities within their borders for coping with the pandemic outbreak.

The problems with the CARES Act

The CARES Act provided $150 billion for fiscal assistance to state and local governments. Local governments are estimated by the Congressional Research Service to receive about $29 billion of these funds—around 2 percent to 3 percent of their 2017 revenues—a pittance relative to total need, as discussed below. Moreover, for local governments, there are many more problems with this CARES Act program. First, the funds for local governments are only available to entities with populations above 500,000. Jurisdictions with smaller populations—where more than 100 million Americans live and work—get no funds at all. This problem must be fixed. Rep. Joseph Neguse (D-CO) has introduced legislation in the House of Representatives to do just that. His legislation, which is co-sponsored by many others in the House, would provide direct aid to all localities with populations below 500,000. There is also companion legislation in the Senate, which has many co-sponsors as well. And if there is legislation to provide direct aid to localities, those with populations greater than 500,000 should be made eligible for funds in addition to what they received from the CARES Act. This is because the need is great relative to the small allocation and the narrow applicability of funds under the CARES Act program, as discussed below.

Second, the CARES Act assistance to localities with populations greater than 500,000 is provided via a zero-sum game with the states. The money that is provided to the localities in a particular state is subtracted from the amount going to that state. This would be an unfortunate policy to continue for any future funds for state and local fiscal assistance. The states and the localities each have need for fiscal assistance and for much the same reasons—that is why localities should be provided with their own direct funds. Moreover, it would be poor policy both economically and politically for localities to be dependent on states for intergovernmental transfers. So, to stress again—separate, direct aid should be provided to each, states and localities.

Third, the CARES Act does not provide fiscal assistance to localities (or states) on a flexible basis. The money cannot be used to make up for revenue shortfalls arising from COVID-19. For example, if a locality has a significant revenue shortfall and cannot pay the salaries of all of its police and other public safety officials, it cannot use the money it receives from the $150 billion provided by the CARES Act to pay its police and public safety employees. This defeats the purpose of having the fiscal assistance. Therefore, it is important that legislation appropriating additional funds for fiscal assistance to localities (and states) make it clear that the funds can be used to pay for expenditures that would otherwise have to be cut because of revenue shortfalls. Moreover, this use of funds should be made retroactive to cover any funds derived from the pool of $150 billion in the CARES Act.

Fourth, the CARES Act funds for localities were nowhere near the amount needed to cope with the size of the problem. As mentioned before, the CARES Act omits most local jurisdictions from receiving any funds. Even the amount of money provided to localities with populations larger than 500,000 is inadequate to the size of the problem. Estimates from the Congressional Research Service indicate that the CARES Act will provide only about $29 billion to these localities. In addition, an even smaller pot of money—$5 billion—was provided by the CARES Act for grants to many localities through the Community Development Block Grant program. These two sources of funds are much less than the true need for assistance.

Scoping the true fiscal relief need of local governments

The financial obligations of all localities are considerable, even in normal times. Unfortunately, the lack of complete and timely data make it extremely difficult to precisely estimate the actual shortfalls all localities are facing, but it is safe to say that the scale is considerable. Economist Timothy Bartik, of the Upjohn Institute, proposes an approach that estimates the fiscal assistance need of local governments based on local unemployment rates, similar to proposals from Jason Furman, Matthew Fiedler, and Wilson Powell for aiding state governments. These approaches for timely aid estimate the approximate scale of need based on the historical relationship between national unemployment rates and state and local budget shortfalls. In addition, Bartik’s proposal includes a thoughtful discussion of why past measures may understate the need for funding in this crisis. In an update to his original proposal based on revised CBO projections, Bartik estimates a combined shortfall for state and local governments of roughly $1 trillion through all of 2021.

While these proposals are important and inform both the mechanisms to automatically extend aid based on economic conditions and the type of estimates detailed below, CAP uses a different approach to scoping local aid. Specifically, CAP’s approach allows for more explicit consideration of shocks to different revenue sources, including individual tax bases as well as the nontax revenues that make up the majority of local government revenues. These sources, particularly fees and charges and intergovernmental transfers, are growing concerns for local governments over the coming fiscal year.

In order to scope the true size of the need for fiscal relief for local governments, CAP started by considering the most recent data from the census’s Annual Survey of State and Local Government Finances from 2017 (using category measures compiled by the Urban Institute’s Exploring the Census of Governments). The census survey is “the only known comprehensive source of state and local government finance data collected on a nationwide scale using uniform definitions, concepts, and procedures.” Despite the publication lag, the Federal Reserve determines the maximum borrowing limits for eligible localities under its Municipal Liquidity Facility (MLF) program using this same 2017 data. This granularity is important because while the official census count of counties is 3,141—which covers the whole United States—the census count of governments is roughly 90,000, owing to a large number of overlapping jurisdictions and special districts, many of which have their own budgets and can collect their own taxes and fees.

Estimating even the near-term revenue shortfalls of localities is challenging for a variety of reasons. First, is the lack of data and experience with a crisis this severe. Second, state and local taxes have become more volatile relative to GDP since 2000—and even more so since the great recession. Third, as states face significant budget shortfalls of their own, additional pressure is placed on one of local governments’ largest sources of revenues—transfers from state governments. Notwithstanding these constraints, CAP presents its best estimate of the need—at least $400 billion from now through the end of FY 2021—but cautions that this projection could significantly understate the budget shortfalls local governments face.

In testing the strain each of these local governments may face, CAP considered annual state and local revenue using this more inclusive measure of governments (data that come from the survey of 90,000 local entities noted above) and sketched the impacts of a simple 10 percent revenue shock as well as one that more closely mirrors the projections of the National Association of Counties Note that these shocks are significantly larger than the shock to municipal revenues in any single year of the great recession reported by Michael A. Pagano in 2013.

Including state transfers with the Fed’s preferred measure of revenues (own-source general revenues in addition to utility revenue), local governments operated off revenues of $1.85 trillion in 2017 (with about one-third of that coming from state transfers and another one-third coming from fees and charges). Starting from this 2017 estimate, CAP dropped utility revenues due to forecasting difficulty and updated these revenue figures to project FY 2020–FY 2021 using the growth rates of local revenues from the Annual Survey of State and Local Government Finances for 2015–2017 and of tax collections from the Census Quarterly Summary of State and Local Tax Revenue for 2018 and 2019. More specifically, CAP extended the projections into 2020 and 2021 by assuming a growth rate of 3.4 percent—the average over the past four years for which data are available. This gives baseline local revenue of $2.2 trillion for the upcoming fiscal year (FY 2021), and revenues for the current quarter the final quarter of FY 2020 — of roughly $540 billion. An across the board revenue shock of 10 percent over the last quarter of this fiscal year (FY 2020) and the four quarters of the next fiscal year (FY 2021) would leave local governments with a revenue shortfall of roughly $270 billion. Even if states maintain the same level of transfers, local governments would still be short by about $190 billion before even considering the effects of increased expenditures. However, more detailed projections, as described below, suggest a much more dire picture than this, as do some preliminary data from a group of California localities, which show declines of 22 percent or more in corporate, income, and sales tax collections.

The National Association of Counties (NACo), using the same census of governments data, sees much larger shocks to sales taxes, corporate taxes, and charges and fees than 10 percent. When CAP applied a similar approach, even with slightly more conservative revenue definitions and shocks to most tax bases for all local governments, there is a revenue shortfall of about $310 billion over the last quarter of this fiscal year and the four quarters of the next fiscal year, assuming no decline in state transfers.** If state transfers are reduced by 10 percent, the revenue shortfall would be about $370 billion. Of course, state transfer reductions may be much higher than 10 percent, and in general, CAP finds total local revenue shortfalls increase about 2 percent for each percent decrease in transfers from state governments, underscoring that the dangers of doing too little in this ever-worsening pandemic are greater than the dangers of doing too much.

CAP believes it is preferable to use the estimates building on the NACo projections rather than the estimates based on a 10 percent across-the-board reduction in revenues because there is more clarity on what drives local budget gaps. NACo also points to the burden of increased expenditures resulting from the coronavirus and economic response comprising anywhere from 13 percent to 50 percent of county revenue shortfalls through the end of FY 2021 (June 2021). Furthermore, it estimates these additional expenditures will raise average county budget shortfalls by more than 25 percent. If this proportion holds true across all localities, it would increase CAP’s estimate of the potential total shortfall facing all localities by an additional $77 billion to about $390 billion if there are no reductions in state transfers and by an additional $90 billion*** to about $460 billion with a 10 percent reduction in such transfers. These are massive shortfalls. And they come in addition to unprecedented shortfalls at the state level that threaten to cascade to larger local government cuts. Given the balance of risks cited by Fed Chairman Jerome Powell, CAP believes Congress should consider $400 billion as a minimum level of support to get localities through the middle of 2021.

Importantly, the long-term decline of property tax revenues has left local governments far more economically exposed to revenue shocks than they have been historically—this is a point that has been underrepresented in policy discussion thus far. While property taxes may prove less stable in this recession, they are still one of the most stable revenue sources for localities in the early years of an economic downturn. Unfortunately, property taxes account for a much smaller portion of the tax base in lower-income areas than in higher-income localities, with sales taxes exhibiting the opposite trend. Budget shortfalls push low-income localities to become more reliant on the fines and fees that lie at the root of so many equity problems for low income communities and trap low income Americans in poverty, a disturbing trend over the last two decades. This also means the local governments where the most vulnerable families live are likely to experience the largest revenue shocks, reducing their ability to respond to short-term needs.

Key elements that aid to localities should possess

There are several qualities that future direct aid to localities should possess to ensure that local governments get the assistance that they need. Aid must be provided immediately to cover the end of the current fiscal year and cover budgeting for the next fiscal year (FY 2021). Aid should also be provided automatically for periods beyond that date using triggers based on economic conditions. Moreover, states must be precluded from cutting existing transfers to localities if the federal government steps up with direct assistance to local governments.

Speed of enactment

Any additional direct aid to localities must be provided immediately. There are two reasons for this. First, many local jurisdictions are facing balanced budget requirements for the current fiscal year, which ends on June 30, with many of these jurisdictions facing large revenue shortfalls and increased expenditures right now. This includes revenue shortfalls arising from delays in collecting property taxes and income taxes. As a consequence, many jurisdictions are being forced to furlough or lay off workers right now, exacerbating the recession and causing cuts to key public services such as police protection. For example, 48 counties and countless cities have, as noted above, already furloughed or laid off workers, including police officers, firefighters, and librarians. For example, Franklin County, Pennsylvania, has already furloughed 25 percent of its workforce. In Santa Barbara, California, local librarians are not working. Dayton, Ohio, has called for furloughs at nearly every agency. And in Arlington, Texas, police officers and firefighters may see painful cuts in the near future.

Second, many local jurisdictions are already in the middle of negotiating their budgets for the fiscal year beginning July 1 and building in deep spending cuts in for next 13 months. In many cases, these spending cuts mean furloughs and layoffs. Again, these actions exacerbate the recession and will snuff out any chance of keeping the economic shock confined to the short term, even as they cause cuts to key public services such as police protection and push frontline workers to the financial brink. Moreover, these sorts of actions have a very negative effect on public morale. Even if the spending cuts do not involve deep furloughs and layoffs that cut critical public services, they can hurt the provision of other important public services. For example, infrastructure investments could be curtailed, including road and bridge maintenance.

For these reasons, it is imperative that additional fiscal assistance to localities be enacted immediately.

Certainty based on economic conditions

Direct aid to localities should be coupled with automatic triggers—tied to economic conditions that determine when that aid phases down and ends. Aid should not be enacted without providing for a mechanism for extending it automatically, such as a trigger related to local economic conditions. Rather than reducing aid by arbitrary amounts based on calendar dates, lawmakers should rely on rules that phase down aid gradually, as economic conditions improve.

Currently, there is too much uncertainty about how long the pandemic will last, how severe the pandemic will be, how deep the economic decline will be, and how long the economic downturn will last. Therefore, it is impossible to know how much direct federal aid to provide to localities and how long to continue that aid. Even if policymakers could transcend uncertainty, the legislative process is too slow, too partisan, and too unpredictable to provide regular extensions of aid in a timely manner, putting local governments, their constituents, and the local, state, and national economies at substantial risk.

Local governments also need lead time to plan their budgets properly—this is being seen already in job cuts from local governments that can’t wait until the federal government passes legislation. In future years, this will continue to make planning exceptionally difficult. Localities need to know if aid that is enacted now is likely to be supplemented with future appropriations in the upcoming fiscal year and in the years beyond or they may cut jobs and spending. Moreover, some local expenditures, such as for infrastructure, require multiyear plans for that spending. It is not easy to include such programs and projects in this year’s budget if the availability of funds in future years is highly uncertain due to the pandemic.****

The best way to extend aid is to tie future funds to future economic conditions, such as unemployment rates at the national, state, or local level. The amount of future aid could be tied to a jurisdiction’s unemployment rate or tax revenues or—as Timothy Bartik proposes in detail—a combination of the two. The Bureau of Labor Statistics already produces monthly unemployment data at the county level. Extending this work to include additional labor-market measures and to ensure sufficient data accuracy is precisely the type of technical challenge federal government statistical agencies are proficient in solving in an apolitical manner. Moreover, tying policy to longer-term average measures of economic performance, as may be required for statistical precision in smaller localities, can ensure that slow-to-recover communities, especially in rural America, get the longer-term assistance and certainty that they need.

Safeguards to prevent reductions in intergovernmental aid

If the federal government provides direct fiscal relief to localities, there is concern that states could react by reducing the amount of annual aid they already provide to such jurisdictions. However, this outcome could be prevented—fully or partially—by including strong maintenance of effort requirements for the states in any legislation providing direct aid to localities, aid to states, or to both. Such provisions are relatively straightforward in the coming fiscal year, as many states had already proposed FY 2021 budgets before the COVID-19 shock hit their economies, offering a serviceable baseline for intergovernmental transfers.

Borrowing from the Federal Reserve does not solve the problem

Recognizing the extraordinary challenges facing state and local governments, the Federal Reserve has initiated, and expanded, a Municipal Liquidity Facility, (MLF), which some have suggested could substitute for aid to states and localities. While MLF is an important tool for cities and states facing short-term liquidity challenges—a significant issue given the delayed federal tax-filing schedule—the program was not meant to backfill revenue shortfalls. Short-term loans, with interest, are not the solution to a large economic shock that is hitting all 50 states, the District of Columbia, and all localities. This crisis calls for more governmental aid—not less.

It is clear from the details of the MLF program, even after the late April expansion, that the Fed does not envision this outcome either. As the New York Fed explains, “Under Section 13(3) of the Federal Reserve Act and the Board’s Regulation A, the interest rate on the Eligible Notes must be a penalty rate.” This belies the notion that the program is a solution for the problems facing localities. Moreover, the program also leaves out many of the localities that will need it most. Even after its late April expansion, the population of all eligible cities and counties is well-under 200 million people, and technical limits on the program appear to restrict the Fed to, at most, providing roughly two-thirds of the $500 billion. And even with the extension of loan terms in late April—so that new notes can be paid back over 36 months rather than the 24 months originally required—a short-term loan is a recipe for drawn out fiscal austerity throughout what may well be a long recovery.

Conclusion

A massive amount of fiscal assistance from the federal government to local governments is needed to counter the budgetary effects of the coronavirus crisis. This aid must be provided directly to all local jurisdictions, separate and in addition to considerable additional aid that must be provided to state, territory, and tribal governments. The aid that is provided must be flexible so that the local governments can use it to make up for revenue shortfalls arising from the pandemic. Moreover, the assistance should be provided immediately and include triggers tied to economic indices so that the assistance continues into the future as long as the pandemic and its economic effects last. Finally, maintenance of effort requirements on the states should be legislated so that the states do not reduce annual aid already being provided by the states to local governments.

The amount of direct, federal aid needed by local governments is enormous: A commitment on the order of at least $400 billion of fiscal assistance, in addition to state aid, should be provided now to get localities through budgeting for the next fiscal year (FY 2021). This figure should be considered a minimum level of support given the risks to long-term growth cited by the Federal Reserve. The effort would need to be significantly greater if states reduce their transfers to local governments in response to very tight state budgets and make such reductions before any local aid is enacted.

Budgeting by localities for the upcoming fiscal year will be taking place during the next six weeks. Without federal aid now, local governments will be forced to furlough and lay off workers, deepening the recession and cutting back on critical services to constituents, such as police protection. In addition, local governments would be forced to reduce the assistance they provide to constituents and entities within their borders for coping with the effects of the pandemic. These highly undesirable outcomes can be prevented if sufficient federal fiscal relief is provided to local jurisdictions, but the clock is ticking.

On May 12, 2020, the House Democrats released their comprehensive HEROES Act legislation, which is designed to further cope with the effects of the pandemic. The legislation is consistent with most of the structure for direct aid to localities put forward in this analysis. The legislation includes direct federal aid to localities, and these funds are separate and in addition to funds provided to states, territories, and tribal governments. The funds may be used for replacing revenue shortfalls experienced by the localities, and the legislation allows the same to be true for the monies previously made available to localities under the CARES Act. The funds are to be distributed by formulae to all localities—not just those with populations exceeding 500,000 people.

The most significant departures of the legislation from the recommendations made in this analysis are in the size of the aid and the certainty of the aid. First, the legislation provides $375 billion of aid, $250 billion of which would be awarded within 30 days of enactment and $125 billion of which would be awarded near the end of FY 2021. All of these funds would remain available until expended. Thus, the second tranche of funds would mostly spill over into FY 2022 and beyond. This analysis recommends that at least $400 Billion of aid be provided by the end of FY 2021. It would have been better if the legislation awarded the second tranche of funds much sooner in FY 2021 so that it could all be spent in FY 2021. The second departure is that the legislation fails to include automatic stabilizers that extend future aid based on economic conditions. In view of the uncertainty of the duration of the pandemic and its economic effects, it would have been safer to include automatic stabilizers in the legislation. This is, in part, to ensure sufficient future aid arrives quickly should it be needed, and, in part, to guarantee local governments don’t have to weigh austerity in future years against current budgets, which could prevent stimulus money from being fully spent earlier.

Alan Cohen is a senior fellow at the Center for American Progress. Michael Madowitz is an economist at the Center.

*Authors’ notes: These figures likely understate totals, as the most current data reflect March 2018. Estimates include full-time and part-time workers employed by local governments.

** We use components of Census’ General Revenues measure as opposed to Total Revenues, to exclude categories like unemployment insurance funds and retirement contributions for employees, in an approach that parallels the one used by the Federal Reserve. The estimates cover five quarters running from April 1, 2020 to June 30, 2021.

*** The $90 billion figure could be greater if the reduction in state transfers requires greater compensating local expenditures.

**** Infrastructure projects may be financed by borrowing rather than as part of operating budgets, but the same need for avoiding uncertainty pertains to borrowing plans.

To find the latest CAP resources on the coronavirus, visit our coronavirus resource page.