“In the event you took the president-elect at his word and he were to implement tariffs exactly as he proposed on the campaign trail, that may be a major hit to the U.S. and global economies,” said Fitch’s Eric Kim.

Fitch Rankings

Overall state and native government credit quality is well-positioned for 2025 and credit conditions will remain neutral as pre-pandemic fiscal conditions resume, in accordance with Fitch Rankings.

A Fitch report, released Wednesday, noted that almost all state and native government rating outlooks are currently stable.

“The soundness reflects the elemental strengths of state and native governments, including broad and diverse revenue bases, control over revenues and spending, moderate long-term liabilities and sound financial cushions,” Fitch said.

Still, the report lists 4 scenarios to look at: an unexpected recession; weakening tax base fundamentals; a failure to regulate spending to align with normalized revenue growth; and deep revenue declines, especially for states that made tax policy changes lately and native governments that relied on one-time budget balancing measures.

Eric Kim, Fitch senior director and head of U.S. state rankings, told The Bond Buyer there are other aspects Fitch is keeping track of, but “probably probably the most significant risk is the primary one by way of the potential for an unanticipated economic downturn.”

In a separate quarterly global economic outlook report published this month, Fitch warned of looming U.S. tariff hikes and said that if president-elect Trump keeps his campaign guarantees, his tariffs would drive a 3% rise in the patron price index.

“In the event you took the president-elect at his word and he were to implement tariffs exactly as he proposed on the campaign trail, that may be a major hit to the U.S. and global economies,” Kim said. “And that raises the potential for a downturn, which obviously has direct implications for state and native governments.” 

Nonetheless, “social media posts are usually not actually policy,” he added.

Kim noted that no matter who won the election, there was at all times going to be a downshift in federal aid: “The pandemic aid was already rolling off; it was clear that it was one-time money,” he said. “So there was already a major decrease in federal support to state and native governments, no matter who won.”

University of Chicago Harris School of Public Policy research professor Justin Marlowe said “rule primary” isn’t to make use of one-time revenues to pay for ongoing expenses. That rule was not at all times followed for pandemic relief.

University of Chicago

One other concern for the Midwest specifically is the extent to which many states within the region depend on sales taxes, especially the state sales tax, said Justin Marlowe, research professor on the University of Chicago’s Harris School of Public Policy and director of its Center for Municipal Finance.

“When you concentrate on tariffs and the increased costs for all the pieces, including and particularly imported goods, suddenly a number of durable goods change into loads costlier,” he said. “It does create the potential that individuals see a slowdown within the kinds of spending which can be so vital to those sales tax bases.”

Infrastructure projects is also impacted, he said. If barriers crop as much as the import of key commodities — steel, aluminum and other key materials — and people commodities must be sourced domestically, costs could skyrocket quickly: “If you’ve got a project underway, otherwise you’re about to launch a project, and suddenly the associated fee of that project increases 20 or 30 percent… that is a really different project,” Marlowe said.

Worsening those cost concerns could be the realities of getting to borrow right into a steeper rate of interest environment, he added. And with sales tax revenues required to support a number of those projects, any decline in revenues would compound the issue.

The Fitch report also flagged weakening tax bases as a priority: increased home price uncertainty and climbing home insurance and mortgage costs on the one hand, and pressure on business real estate on the opposite.

Marlowe said on the business real estate front, “it’ll take time, and it’ll take creativity,” including different excited about how you can utilize downtown spaces. 

“It has been interesting within the last three months or so to see a bit of little bit of a contrarian view emerge on the query of what is going on to occur to business real estate values,” he said, noting that Cook County, Illinois, Assessor Fritz Kaegi has taken a sunnier view of business real estate values, especially in downtown Chicago.

For local governments within the Midwest and elsewhere, though, a key query going forward shall be how they used their pandemic relief funds and adjust to their absence.

Fitch’s Ashlee Gabrysch said local governments that used federal stimulus funds to pay for brand spanking new ongoing commitments face a bleaker outlook within the event of a downturn.

Ashlee Gabrysch, Midwest region manager for local government rankings at Fitch, observed a “bifurcation within the style that local governments selected to adopt” around federal funds. Chicago Public Schools, for instance, opted to delay a fiscal reckoning and spend one-time funds on the creation of latest positions. Now, with those funds running out, the district is left without easy answers.

Marlowe said the pandemic didn’t create latest trends, but it surely did speed up existing trends and established habits amongst local governments.

“After I teach financial management and budgeting to my students, rule primary isn’t use one-time revenues to pay for ongoing expenses,” he said. “And the pandemic relief from the federal government was the final word test of that principle. For those who did follow it fastidiously, they built reserves, they were capable of put it into capital projects.”

For governments that did not follow that rule, the specter of an economic downturn is exacerbated because the federal relief money runs out.

“Depending on how local governments used the federal stimulus funds, it also results in several fund balance levels,” Gabrysch said. “And if you happen to were strategic with the federal stimulus monies and also you used them for one-time things, you are more likely to be sitting on a fairly healthy fund balance.

“Those issuers that used pandemic funding for recurring operations, a few of them have been drawing on fund balance to attempt to course correct or delay fiscal reckoning for a structurally balanced budget,” she added. “And in those cases, a recession goes to be a good greater risk due to lack of strong reserves to attract on.”