Rainy Day Funds: Alaska’s Experience and the Permanent Fund

Most states in the nation have adopted some form of a Rainy Day Fund (RDF) to mitigate downturns in the economy. RDF’s are established to help governments stabilize operating budgets by saving in boom times and using the RDF savings to cover expenses during recessions. The resource-based economy of the State of Alaska has a history of following this sort of a boom and bust cycle. In 1976, the State of Alaska began making payments into the Alaska Permanent Fund in part to save for a rainy day. It would be an understatement to say the fund could now to fund any state fiscal gap. Jackstadt and Lee point out in their paper, Economic Sustainability: The Sad Case of Alaska, that Alaska was one of the few states that could have produced a permanently sustainable economy. The political means to develop this type of economy was never up for the task. It also demonstrates the danger associated with depending on politics to implement long-term economic policy.

Many scholars point out that being fiscally conservative dictates saving for a rainy day when surplus revenues are available. Political conservatives are likely to rebate taxes in situations were there are surpluses to the treasury. Establishment of mechanisms for funding appropriations to a RDF will ensure their success. RDF’s are a double-edged sword for many states. There needs to be political support to establish a RDF and political pressure to spend from the fund increases as the fund grows. States need to judge their vulnerability to recession and how their revenue base is dependant on the economic cycle.

The generally accepted norm for a RDF is 5% of the annual general fund expenditures of a state. Funding formulas that are not constitutionally mandated will allow state legislatures to ignore required appropriations. There are many ways to determine funding levels for RDF’s. Suggestions include spending 99% of the approved budget and retaining 1% to cover the cash reserve and emergencies. States can skim off excess revenue that occur during the year, taking those funds that are beyond forecast revenue into the RDF. One state gauges deposits to its fund based on the growth of personal income. Taxes collected on personal income beyond 2.5% in one year go to the RDF. Literature suggests revenue diverted to a fund will dampen unsustainable growth.

States vary widely on requirements for tapping their RDFs. One method is the use of super majority vote of the legislature. Virginia allows use of its RDF when projected revenues drop below 2% of estimate. The government is then only allowed to recoup half of the shortfall. The purpose of most RDFs is to cushion short-term drops in revenue and not to attempt to recession-proof an economy. Tight constrictions on the use of RDF resources can also mean the loss of other economic opportunities. Virginia, Alaska, Colorado, Delaware, Louisiana, Oklahoma, South Carolina and Texas have instituted constitutional protections to protect the RFDs against all but true emergencies.

Knight and Levinson (1999) summarize the impacts of RDFs on state fund balances. RDF balances boost overall savings. States that have successful RDF programs also have higher rates of savings. RDF balances seem to increase total saving on a dollar-for-dollar basis. States with fully funded RDFs experience less volatile fiscal cycles. Budget stabilization funds have real impacts on state fiscal policy and economic wellbeing