The economic downturn that began in 2001 resulted in sizable budget shortfalls and arguably the worst fiscal conditions for state governments in decades. The use of savings to stabilize cyclical fluctuations in the budget has been institutionalized in most states in the form of budget stabilization funds. In this article, the authors explore how state expenditure volatility is affected by the existence, size, and structure of stabilization funds using multiple measures of expenditure cyclicality over the period from 1969 to 1999. The results indicate that while most states have not witnessed a reduction in expenditure volatility over the business cycle, states with rule-bound stabilization funds experience significantly less expenditure volatility from utilizing a budget stabilization fund. In fact, the authors find that state expenditures are approximately 20 percent less volatile following the adoption of a rule-bound budget stabilization fund.

Slowdowns in economic activity often leave state policymakers facing severe budget shortfalls and the prospects of reducing services. In this paper we apply a Markov switching regression to monthly state-level data to model the distribution of expansions and contractions. This allows us not only to construct distributions of the revenue shortfalls states are likely to confront during recessions, but also to construct savings rate rules that depend on the uncertain duration in both expansions and contractions. Our results have important implications for policymakers who may wish to smooth cyclical fl uctuations in the budget via a rainy day fund.

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Pension underfunding in the public sector has received considerable attention recently and is often cited as the next looming crisis. The majority of recent research has focused on appropriately measuring the underfunding. In this paper, we employ a political economy framework to show that increases in partisan polarization and electoral uncertainty lead to greater underfunding. Using an unbalanced panel of individual pension plans, we find robust empirical evidence that higher legislative turnover rates, more electoral competition, and term limits all lead to more pension underfunding. The political environments of state and local governments play a pivotal role in pension underfunding.

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