Patterns of State Savings with Budget Stabilization Funds and General Fund Surplus

In pursuing a policy goal, government often reinforces one instrument with another. These policy tools are called “cofunctional instruments” for supplementation. But substitution effects may emerge in the supplementation process. This chapter examines such effects between BSF and GFS as two major instruments of the budget stabilization policy at the subnational level. American states used to keep savings as general fund surplus (conventionally but incorrectly referred to as general fund balance) and have over the past few decades added budget stabilization funds to store reserves during boom years. The new instrument interacts with the old, causing supplementation and substitution effects. This chapter conducts empirical analyses and contributes to the academic literature and policy practice with evidence over three recent economic cycles. The tests control for features and adoption of the budget stabilization fund, state economy, budgetary institutions, state politics, and time trend. Results from the empirical tests show that despite partial substitution (15%), supplementation dominates (85%) the interaction between the two policy instruments. The reinforcing effect from the new instrument, however, may trickle off over time. The chapter concludes that a reinforcing instrument can be effective over a certain span of policy duration.