Total state tax-supported debt levels remained relatively flat in fiscal 2022 compared with 2021, declining a modest 0.2%. The decline is attributed to quickly rising borrowing costs and record reserves, coupled with federal COVID-19-relief stimulus, allowing state governments to leverage pay-as-you-go financing.

The Federal Reserve began raising its benchmark rate in March 2022 and has continued with increases to temper higher-than-desired inflation--its target range is currently between 5.00%-5.25%, following a 25-basis-point increase in May and a pause in rate hikes during its June meeting. At higher rates, finding significant savings through refinancings has become challenging, but some opportunities still exist as issuers can accept the higher costs as long as a minimum level of savings is still available. New sale issuances could moderate, as states balance the costs of issuing debt in the comparatively higher-interest-rate environment against drawing down reserves and cash-financing projects while, at the same time, forecasting slower growth or, in some cases, declines in revenue. So far, revenue trends have largely remained stable, although monthly reports are starting to indicate some weaknesses in certain areas.

Inflation, which to date has had a greater positive impact on revenues than a negative effect on costs, has started to moderate partially due to the Fed's actions. However, project costs have often increased well above inflation, with some issuers reporting they revised project estimates upwards by more than 30%. States have not made significant adjustments to their capital plans in general and, where possible, have leveraged American Rescue Plan (ARP) Act and Infrastructure Investment and Jobs Act (IIJA) funds that will continue to flow into the economy over the next several years. ARP dollars must be obligated by December 2024 and spent by the end of December 2026. The IIJA, which authorized $1.2 trillion for transportation and infrastructure spending, requires that $550 billion must be spent before 2026.

Debt burdens have remained relatively stable for more than a decade

When evaluating a state's debt burden, S&P Global Ratings generally begins with a review of historical data. The trend of historical results and our understanding of the reasons for those trends inform our view of whether the debt burden will go up or down. We also consider a state's economic environment, our expectations for economic growth, and its likely impact on the debt burden in the future. The chart below shows that since 2010, the median state's debt burden has modestly decreased by most measures, including debt to personal income, debt as a percent of expenditures, and debt to gross state product (GSP). On average, tax-supported debt per capita has not changed significantly over the same period. However, it might increase over time if capital plans are not appropriately scaled as some states' population growth slows or declines.

We consider current debt levels sustainable for most states, with median debt to governmental expenditures and debt per capita viewed as moderate within our criteria and median debt to personal income and debt to GSP viewed as low. The five states with the most debt outstanding are California, New York, New Jersey, Massachusetts, and Illinois, which hold approximately 38% of state-tax-supported debt outstanding (and about 26% of the U.S. population).

The economic expansion following the Great Recession (2010-2020), fueled by a historically low-interest-rate environment and subsequent strong growth in personal incomes and GSPs, has helped states maintain stable debt metrics, even as nominal debt outstanding has increased over the same period.

While S&P Global Economics' most recent forecast projects a slowing economy (See "Economic Outlook U.S. Q3 2023: A Sticky Slowdown Means Higher For Longer," published June 26, 2023, on RatingsDirect), a lower level of debt issuance due to higher borrowing costs and a high availability of cash to fund capital will likely mitigate the negative impact that a shallow recession could otherwise have on debt metrics. Therefore, we generally expect ratios will remain stable over the near-to-medium term. Sophisticated debt management strategies and affordability requirements adhered to by many states further support our forward-looking view of stability when looking at median state debt burdens. We view a state's debt capacity and ability to pay debt service as correlated to its economic output, as taxes and fees generated by economic activity are the primary source to pay debt service. If recent trends reverse and debt burdens grow faster than the incomes servicing them, it could suggest fiscal stress and a decreasing capacity to service debt--this is not our near-term expectation but something that we constantly monitor.

Rating scale and debt burden: one component of our analysis

States with high fixed costs, including debt and other liability payments, typically have less flexibility to make necessary budget adjustments during periods of financial stress. We generally rate states with higher debt burdens lower, but debt and liabilities represent only one component within our rating analysis. Therefore, we could have states with comparatively higher debt burdens that also have a higher overall credit rating. We also expect states with more rapid economic growth that have greater capital needs can generally support higher debt levels.

Table 1

Some states have increased debt burdens because they provide higher support for programs and projects that generally receive a greater proportion of funding from local governments. Hawaii, for example, directly runs the public school, university, and community college systems, and Connecticut, in our view, generally provides a higher level of support to local needs resulting in a lower debt profile at the city and county level. Many states also have either constitutional or statutory requirements, or court-mandated minimums to provide adequate educational funding, which can also lead to higher debt burdens as it can be challenging for many states to reduce funding for these programs.

The metrics below represent what we view as a high level of debt and indicate the thresholds for what we would score weakest under our criteria. We would likely consider additional adjustments, either positive or negative, if we felt the score did not reflect the magnitude of the debt burden and the budgetary stress it could cause, or, if we felt debt metrics were likely to sustainably change due to debt paydowns, debt expectations, or economic conditions.

New accounting standard does not materially affect debt metrics

The Governmental Accounting Standard Board (GASB) statement 87, which applies to fiscal years after June 15, 2021, and therefore affects most states' fiscal 2022 audited financial results, requires that most leases, whether operating or capital, be capitalized and recorded on the balance sheet. We reviewed state transactions and found that the implementation of GASB 87 has only minimally increased most states' debt burdens. Wyoming recognized the largest increase in reported debt levels due to GASB 87, however, overall debt ratios remained low by most measures and the rating was not affected.

Debt Metrics

Table 2