New Fiscal Rules for State and Local Government : A Question of Institutional Complementarity

New fiscal rules, referred to as tax and expenditure limits (TELs), were enacted in many states during the tax revolt launched in the 1970s. Over the past two decades a second generation of TELs, patterned after Colorado’s TABOR Amendment, was introduced in the states. The new fiscal rules have had a limited impact in constraining fiscal policy in the states. Many state and local governments are now incurring debt at an unsustainable rate, and citizens have lost confidence in the ability of these governments to pursue prudent fiscal policies. The problem with new fiscal rules enacted in the states is not just design flaws, it is the absence of complementary institutions that are prerequisites to effective fiscal rules. In this study we focus on three institutional reforms: fiscal autonomy for subnational jurisdictions; capital market and legal reforms to restore bankruptcy procedures for state as well as local government; and strengthening institutions of direct democracy to give citizens more ‘voice’ in enacting fiscal rules and pursuing fiscal policies. New fiscal rules are effective when enacted with broad support within the community, and with effective fiscal rules in place citizens can again gain confidence in their state and local governments. Growing this ‘dynamic credence capital’ will be essential for state and local governments to solve the debt crisis