Staff Working Paper Series: State and Local Government Grants in the Federal Budget
The federal government is sending more money to state and local governments, resulting in states to become increasingly reliant on debt-financed federal funds.
- The federal contribution of money going to states is growing.
- States are more reliant than ever on borrowed money that taxpayers will have to pay for.
- Federal funds contributing to health care is growing exponentially.
Federal Spending Going to State and Local Governments Have Increased
According to the White House Office of Management and Budget (OMB), spending going to state and local governments has risen significantly. Over the last decade, the federal government has increased the amount of funds provided to state and local governments by an average of 9.0 percent per year.
- In fiscal year (FY) 1946, the federal government provided $819 million to state and local governments, equivalent to 0.4 percent of gross domestic product (GDP).
- After the creation of the Great Society programs in the 1960s, federal grants to state and local governments skyrocketed, growing from $10 billion (1.5 percent of GDP) in 1964 to $50 billion (3.1 percent of GDP) in 1975.
- By 2019, annual federal grants to state and local governments reached $721 billion (3.4 percent of GDP). These grants spiked during the response to COVID-19, reaching $1.2 trillion in 2022 (4.8 percent of GDP).
Federal Spending For State and Local Governments Are Consuming The Federal Budget
Grants to state and local governments are consuming more and more of the federal budget. Spending to state and local governments as a share of total federal spending has risen to its highest level ever in FY 2022, where 19 percent of federal outlays went to states.
Since FY 1990, state and local governments received at least 11 percent of the total spent federal funds each year.
- Under the Biden Administration, 18.3 percent of all federal funds went to state and local governments.
- On the other hand, the Obama Administration sent 16.6 percent of federal funds to state and local governments.
- Meanwhile, the Trump Administration sent 16.1 percent of federal funds to state and local governments.
State General Fund Revenue is Increasingly Dependent on the Federal Government
While the federal government has been sending more money to state and local governments, states have been seeing both larger amounts and a larger share of their revenue come from the federal government.
- According to the U.S. Census Bureau, the share of federal funds as a part of state revenues in FY 2020 was at 35.9 percent, or about 36 percent higher than the 26.3 percent federal share of state revenue seen in FY 2000.
- In FY 2020, federal funds were the second largest source of state revenue, just behind state and local taxes.
- States raked in nearly $1.1 trillion in revenue from taxes, but they also received around $828 billion in federal funds in FY 2020.
Below is a chart showing the federal share of state general revenue, which is all sources of state revenue except for insurance trust funds, utilities, and state-owned liquor stores. Although the trend for the increase has been growing slowly, certain events, such as the response to the Great Recession and the COVID-19 pandemic, have led to temporary upward jolts in state governments receiving a greater share of their revenue from the federal government.
States increasingly depend on federal funding for a significant part of their budget each year. However, this money is debt financed by the federal government, leading to interest payments that burden all taxpayers now and in the future. Relying on a seemingly unlimited inflow of federal funds may provide short-term relief for states but can contribute to rising national debt and poses long-term fiscal risks.
Federal Grants to State by Function
While the federal government has provided more money to state and local governments from the 1940s to the present, the distribution of funds by function has drastically changed. As a share of the grants provided to state and local governments, funds for education, commerce and housing credits, and income security programs have greatly declined since 1940, dropping from around 61 percent of the share of all funds to around 31 percent.
On the other hand, health care-related grants were 2.5 percent of all federal funds provided to states in FY 1940 but ballooned to 54.3 percent by FY 2022.
- In nominal terms, federal health care-related funds provided to states was $22 million in FY 1940 and grew to around $648 billion in FY 2022.
- Out of the nearly $648 billion provided to states in FY 2022, nearly $592 billion was for Medicaid, over double the amount provided in FY 2013 and over three times the amount provided in FY 2003.
- Although much of these increased Medicaid funds going to states can be attributed to Obamacare, even prior to the passage of the law, federal health care-related funds going to states had been increasing dramatically.