Washington’s rainy day fund, the budget stabilization account (BSA), is expected to have $1.916 billion at the end of the current biennium. When the Legislature goes back into session, it could use those funds to help address the state revenue shortfall. This is certainly a rainy day, if ever there was one.

As a recent Pew article pointed out, though, using rainy day funds can sometimes negatively affect a state’s credit rating.

However, interviews with senior officials at the three largest credit rating agencies—Fitch, Moody’s, and S&P Global—and additional research by Pew make it clear that withdrawals from reserves at appropriate times may not be a credit negative. In fact, tapping the rainy day fund can reduce the chance of a credit downgrade.

Rating agencies typically favor states that design their rainy day funds to align with turns in the economic cycle by depositing revenue during good times and spending those reserves when things turn bad. The funds can be one tool in covering budget shortfalls.

In Washington, our BSA is set up to align with the economic cycle: Annually, 1 percent of general state revenues must be transferred to the BSA. Biennially, three-quarters of any extraordinary revenue growth must also be transferred to the BSA. Withdrawals are easier to make when employment growth is less than 1 percent or the governor declares a state of emergency.

This setup is one reason Washington has a high credit rating, which makes borrowing less expensive.

But it’s important to remember that reserves are a one-time fix, as Pew notes:

Rainy day funds are most effective if used as part of a multiyear strategic plan. Accessing reserves early can buy time in the budget cycle to explore other options. Still, Emily Raimes, vice president and senior credit officer for Moody’s Investors Service, said her agency looks more favorably when states do not fully deplete the fund early in a downturn.

Such an approach, she said, “signals that states are willing to look for all of the tools instead of using the easiest thing first.”

Raimes continued: “If a state has used all of its reserves to close the fiscal ’20 budget, that may signal that later decisions will be harder for them than other states.”

As we wrote in a recent brief, depleting the BSA in 2019–21 won’t help with the 2021–23 problem. Spending cuts in 2019–21, on the other hand, would flow through and help address the 2021–23 shortfall.

Pew concludes:

To earn and maintain strong ratings, state leaders should establish reserve policies that take advantage of revenue volatility in economic cycles. If they have taken such steps, states that make withdrawals from reserves during recessions—or when a global event such as the COVID-19 pandemic lowers revenue—are unlikely to see their creditworthiness decline as a result.

On the other hand, in a June update of Washington’s credit rating, S&P Global wrote, “We could lower the rating if lawmakers delayed taking corrective action in addressing revenue shortfalls or relied extensively on one-time solutions to remediate budget gaps. We could also lower the rating if Washington’s reserve balances were to decline precipitously and the state lacked sufficient plans for timely replenishment.”