Output fluctuations and fiscal policy: US state and local governments 1978-1994

We study the cyclical properties of U.S, state and local government fiscal policy. The budget surpluses of both are procyclical over short- and medium-term horizons. Procyclical surpluses are the result of strongly procyclical revenue and weakly procyclical expenditure. These results hold whether aggregate (U.S.-wide) fluctuations are controlled for or not. Federal grants to state and local governments are procyclical, but this is due to aggregate output fluctuations: With respect to state-level output fluctuations, federal grants are countercyclical. The budget surpluses of trust funds and utilities are also procyclical, but there is no evidence that this effect is stronger in states where balanced budget rules are tighter. The cyclical patterns of state and local budget surpluses are affected by various political institutions; for example, budget surpluses are less procyclical in conservative states. In an election year that occurs in 'good times', state governments refrain from accumulating a larger surplus. In 'bad times', no such asymmetry between election and non-election years is apparent. (C) 2001 Elsevier Science B.V. All rights reserved.