Most states used "rainy day funds" in recession

Student protestors hold signs while they block the Sather Gate at the University of California at Berkeley March 4, 2010 to protest against fee increases and budget cuts.

WASHINGTON (Reuters) - Almost all U.S. states relied on their "rainy day funds" when the economic recession began to ravage their budgets, showing that the reserves will be critical during the next downturn and states should consider putting even more money away, a think tank said on Thursday.

The Center on Budget and Policy Priorities, which closely tracks states' fiscal situations, found that over 70 percent have used their reserves to address budget gaps.

"States with rainy day funds were able to avert over $20 billion in cuts to services and/or tax increases in the recession of the early 2000s and again in this most recent recession," CBPP said.

The recession that officially ended in 2009 created an historic revenue collapse in many states and some blunted the effects at first by tapping their reserves.

Fairly quickly, though, states turned to slashing spending and hiking taxes and by early 2009 they were also relying on more than $150 billion in help from the federal government.

At the beginning of the recession, 41 states had rainy day funds and reserves that totaled at least 5 percent of their budgets. By 2010, only 22 states had reserves, CBPP said.

A report released by Michigan Governor Rick Snyder on Monday said the state's rainy day fund has been drained to just $2.2 million -- not enough to cover 30 minutes of state government operations -- from $1.2 billion in fiscal 2000.

"Because state shortfalls have been so much larger in the recent recession, reserves have played a more limited role this time around, closing less than 5 percent of state budget gaps, on average," CBPP found.

But "if states had maintained larger rainy day funds equal to 15 percent of spending they would have had $85 billion ... on hand," the center added.

All states except Vermont must by law end their fiscal year with balanced budgets. Over the course of the recession, states wiped out $425 billion in budget gaps and "will continue to face large shortfalls in fiscal 2012 and beyond," CBPP said.

For most states fiscal 2012 begins in July.

While struggling states currently may not have the dollars to deposit into a rainy day fund, they may find that political will to build up reserves is strong, CBPP said.

"The experience of the fiscal crisis is fresh in people's minds. This has led taxpayers to critically examine what went wrong with their state budgets and what could have been done to mitigate the situation," it said.

CBPP said that voters in Hawaii, North Dakota, Oklahoma, South Carolina and Virginia passed measures in November to strengthen their funds.

(Reporting by Lisa Lambert; Editing by James Dalgleish)