May has been a roller coaster month for local governments as almost all states begin to ease restrictions tied to Covid-19. Within the next few weeks state and local governments will begin to implement long term plans for pandemic management. The details of these pandemic management plans and the nature of a locality’s economic base will determine whether a particular local government will face either a genuine cash crunch or merely a cashflow issue as the Covid-19 recovery gets underway.
The Differences Between a Cash Crunch and Cashflow Issue
While neither a cash crunch or a cashflow issue are desirable, a cashflow issue is considerably easier for local governments to manage successfully. In a cash crunch, anticipated revenue does not materialize due to a shock (such as a global pandemic) whereas with a cashflow issue, anticipated revenue will still be realized, merely at a slightly modified rate. For example, during a pandemic collections may be suspended as courts are closed for non-emergency matters. These collections are likely to resume and have tolled statutes of limitations once pandemic closures are eased. The crucial issue in this type of scenario is how to maintain government functions if collections are suspended for an extended period of time (i.e. a cashflow issue is much easier to manage if it is for a month or two rather than for a year or two). To solve this problem, there are a variety of solutions, some involving lines of credit from the market, some involving deferring the government’s own obligations until the emergency measures are eased, and some involving arbitrage of existing resources where possible. Fundamentally, none of these solutions require dramatic pain because they are marginal changes intended only for short durations as an emergency may require.
With a cash crunch, there is a much more significant issue to tackle, one that must result in some pain because underlying conditions have altered. For example, in a pandemic that has made many consumers weary of dining in restaurants or attending concerts, any tax revenue derived from such activities may not return to pre-pandemic baseline for years. In a tax revenue model that is highly dependent on consumption taxes derived from such public spaces, the revenue will be permanently lost for a substantial period of time. The options for local governments caught in such a predicament are highly varied and strongly dependent on the local factors affecting the community. For example, one community might engage in ready substitution with other consumer spending, perhaps diverting a good deal of the dollars that used to be spent on restaurants and concerts and instead spending more on home improvement projects or personal gardens (especially as families spend more time at home). Another community, perhaps one with smaller homes with limited improvement potential, may divert those restaurant and concert dollars towards personal vehicles or electronic gadgets, etc. The crucial information policy makers at the local level will need to know is what new choices consumers are making, and whether tax policy is adequately prepared for such a change.
Even after such tax policy adjustments, some local governments may find themselves short on anticipated revenue, and must therefore make difficult tradeoffs as public services are reduced. All of these different choices represent pain for some members of the community and will require delicate balancing.
How to Anticipate Whether Your Community Is Facing a Cash Crunch or a Cashflow Issue
If you believe your local government will be facing either a cash crunch or a cashflow issue, or if you’re not sure and would like to learn more, please feel free to leave a comment or use the Contact link on this website.