Meredith Whitney’s Fate of the States provides a focused and mostly pessimistic economic outlook based on still lingering impacts from the combined housing and financial meltdown. Rather than looking at the overall American economy, Whitney concentrates instead on the economic prospects for individuals states. Particularly disturbing are Whitney’s long term projections for certain states, such as California and Illinois.
According to Whitney, three major factors fueled the past decade’s housing boom: the federal government’s promotion of home ownership, low interest rates, and securitization of mortgage debt (chapter 2). While many manufacturing jobs disappeared during the decade, housing construction related jobs helped to both sustain employment levels and provide funds for state and local government spending growth.
Whitney points out that following the housing market collapse, individuals found themselves saddled not only with greater personal debt than experienced following earlier economic crises, but also left them burdened with much greater levels of state and municipal debt (page 77). Moreover, this state and municipal debt load now consists not just of bond obligations but also the much less visible long term pension and post-retirement healthcare costs for government retirees (chapter 4).
Whitney notes that although state and local governments have eliminated thousands of positions, expenses for many states and municipalities continue to rise and outpace revenue growth (page 66). For the past few years, three factors have helped temporarily to mitigate the impact of this continued spending growth: recent low long-term interest rates, increased taxes and fees (page 55) and funding from the American Recovery and Reinvestment Act (ARRA), of which California alone received $40 billion. According to Whitney, “…more than 37% of this (ARRA) money was used to cover state budget shortfalls, effectively ‘kicking the can’ of tough cutbacks a few years forward.” (Page 68).
Absent significant state and local spending reductions and greater control over long term obligations, Whitney sees certain states getting caught in what she terms “The Negative Feedback Loop from Hell” (chapter 5). Under this scenario, politicians who delay making structural reforms will face ongoing budget deficits coupled with continuing service cutbacks and tax hikes. This process will in turn drive away jobs, further erode the tax base and deepen the budget crisis (pages 113-114), especially as “smart money” companies and high wealth individuals exit for lower cost, higher service states (page 167).
Readers will find Whitney’s text to be clearly written, well documented, and easily understood, though there are two enhancements that would strengthen the book’s overall appeal. First, although Whitney quantifies her comments and provides some charts, additional tabular data would help readers get a better sense of the overall picture, rather than at times feeling that they are receiving just individual data points on each topic. Second, although Whitney does address critics of her highly publicized 2010 analysis on state and local budget problems (chapter 9), Whitney’s positions in this text would be strengthened if greater effort were expended in exploring possible opposing arguments, rather than mostly concentrating on advocating her own positions. For example, I think readers would likely appreciate Whitney comparing and contrasting her position to the one espoused by Carmen M. Reinhardt and Kenneth Rogoff in This Time is Different: Eight Centuries of Financial Folly (Princeton, NJ: Princeton University Press, 2009). In the preface of that text, Reinhardt and Rogoff state their basic premise, “We have been here before,” seemingly agreeing with Whitney on the risks associated with excess debt accumulation but also apparently disagreeing with Whitney on the uniqueness she attributes to the most recent American financial crisis.
Overall, Fate of the States provides significant and interesting insights, especially on the major disconnect between ongoing state spending and borrowing practices and likely slower revenue and economic growth patterns.