There is nothing to prevent state and local governments from running budget deficits in the same manner as the U.S. federal government. However, most state governments are required by law or their constitution to balance their budgets.

A fiscal deficit occurs when revenue is insufficient to support spending. The National Conference of State Legislatures reports that Vermont is the only state that lacks some form of a balanced budget requirement. However, the group notes Wyoming, North Dakota and Alaska are sometimes cited as having no balanced budget requirements, as various laws and requirements are open to interpretation. Some states explicitly require balanced budgets, while others place constitutional caps on state indebtedness or have other spending limits.

Generally speaking, state balanced budget requirements come in three forms:

  • The governor is required to propose a balanced budget
  • The state legislature is required to pass a balanced budget
  • No deficit can be carried over into the next fiscal year

While the federal government can raise money by selling treasury securities, this option is not available to state and local governments. Debt requires approval of the legislature or even the voting public. Another major constraint is the democratic process itself. Officials who run up government debt can be voted out of office if they fail to uphold their own laws.

State and local governments do not have the economic ability to run fiscal deficits to encourage aggregate demand like the federal government. With this macroeconomic handicap, many state and local economies ask for federal aid during times of hardship.