U.S. States Maintain Fiscal Health Amid Caution Over 2026 Economic Outlook

Several factors contribute to this cautious approach. The federal government's fiscal challenges, including debates over the debt ceiling and potential reductions in federal funding, create uncertainty for state budgets. The U.S. Government Accountability Office (GAO) has highlighted the nation's unsustainable fiscal path, projecting that public debt will reach unprecedented levels by 2027, underscoring the need for a comprehensive fiscal strategy.

States are also contending with the expiration of federal pandemic aid, which previously bolstered state revenues. The Council of State Governments notes that nearly every state and territory is addressing significant budget gaps in critical areas such as education and infrastructure, compounded by the end of federal pandemic assistance.

In response to these challenges, states are implementing conservative fiscal strategies to ensure long-term financial stability. For instance, Georgia's Governor Brian Kemp has proposed a $4.4 billion increase in state spending for the final three months of the current fiscal year, funded partly by the state's reserves. This approach aims to address immediate needs without committing to long-term spending increases, reflecting caution due to projected flat or reduced revenues resulting from ongoing income tax cuts.

Similarly, California anticipates a budget surplus in the upcoming year, a significant turnaround from previous deficits. Governor Gavin Newsom attributes this improvement to stock market gains by wealthy taxpayers and prior budget cuts. However, proposed federal spending cuts, particularly in programs like Medicare and Medicaid, could pose challenges to the state's fiscal health. Newsom plans to allocate funds to defend state laws against potential federal challenges, highlighting the state's cautious approach amid fiscal uncertainties.

In the Midwest, Indiana faces a slowdown in revenue growth over the next two years, following the end of pandemic-era federal stimulus funding. Fiscal analysts predict near-flat growth in the second year of the upcoming budget, complicating efforts to address rising Medicaid costs, reduce state income tax, and pursue other priorities such as expanding school choice and increasing teacher pay.

Additionally, states are grappling with increased Medicaid costs due to sicker-than-expected enrollees who delayed medical treatment during the pandemic. For example, Pennsylvania plans to increase Medicaid spending by $2.5 billion in the next fiscal year, accounting for a 5% rise in overall state spending. This trend is prompting states to reconsider Medicaid program efficiencies and explore potential cost-saving measures.

In summary, while U.S. states currently exhibit fiscal health, a combination of federal fiscal challenges, the expiration of pandemic aid, and rising healthcare costs is prompting a cautious approach to budgeting. By adopting conservative fiscal strategies, states aim to mitigate potential risks and ensure long-term financial stability in the face of anticipated economic pressures in 2026.