Study: New Jersey and Connecticut are the most financially distressed states

A new Reason Foundation analysis of every state in eight key, standardized financial metrics to assess long-term solvency and short-term liquidity finds New Jersey is the most fiscally distressed state, registering six out of eight possible fiscal red flags.

Connecticut is in the second-worst shape, with four red flags. California, Hawaii, Illinois, Massachusetts, North Dakota and Pennsylvania each have three red flags, according to the Reason Foundation report. Vermont, Washington, New York, and Delaware have two red flags.

State governments collectively carried $2.7 trillion in total liabilities at the close of their 2023 fiscal years, according to Reason Foundation’s extensive database compiled from audited annual comprehensive financial reports (ACFRs) across all 50 states. This substantial figure constitutes almost half of the nationwide $6.1 trillion in combined state and local government debt.

On a per-resident basis, state-level liabilities alone average roughly $8,000 per U.S. resident, though the actual burden varies widely depending on each state’s population, economic base, policy history, and especially the scale of unfunded retirement and health benefit obligations for state employees.

This report delivers an objective analysis of financial health across America’s largest state and local governments. Using Reason Foundation’s unique database, compiled from the audited annual comprehensive financial reports of more than 20,000 local government entities, the analysis applies eight standardized financial metrics to assess both long-term solvency and short-term liquidity. Entities that exceed the objective standard on any metric are awarded a “red flag,” indicating a concerning trend.

A single red flag does not necessarily signal an immediate fiscal crisis, but each one points to structural weaknesses that deserve urgent attention.

Multiple red flags may indicate an entity is in a precarious financial position in both the short and long term.

These eight objective metrics include:

Long-term indicators

• Debt Ratio (total liabilities ÷ total assets): Entities should not hold more debt than assets.
• Unrestricted Net Position: Negative values indicate insufficient discretionary resources.
• Revenues Less Expenditures: Spending in excess of revenues leads to a deterioration of the balance sheet.
• Liabilities per Capita: Liabilities exceeding $10,000 per resident (or $20,000 per student for school districts) become increasingly difficult for taxpayers to service.

Short-term indicators

• Quick Ratio: Entities should hold at least enough liquid assets to cover bills scheduled to fall due over the next year.
• Quality of Receivables: If receivables are valued at greater than 30% of annual revenues, the entity may be experiencing difficulty collecting its assessments.
• Cash as Percentage of Assets: Holding less than 10% of assets as cash leaves governments vulnerable to cash crunches.
• Solvency Ratio (liabilities ÷ annual revenues): If liabilities are greater than double annual revenues, the entity’s ability to issue new debt may be limited, and taxpayers may have difficulty servicing debt.

Ranking states by the number of red flags across the eight core metrics reveals a stark geographic and structural divide.

Northeastern and Pacific states consistently show the highest concentrations of red flags, largely attributable to decades of underfunding of public pensions, generous retiree health benefits for public employees, expansive compensation packages for public employees, and operating budgets that have chronically outpaced revenue growth.

By contrast, many states in the South, Midwest, and Mountain West maintain far fewer or zero red flags, reflecting more conservative budgeting practices, balanced operating results, and stronger reserve positions.

The highest-stress states (those with four-to-six red flags)

Reason Foundation finds New Jersey stands out as the most distressed state, registering six out of eight possible fiscal red flags.

New Jersey’s total liabilities approach $213.3 billion, equating to approximately $22,968 per capita—one of the highest rates nationally. The state’s unrestricted net position is deeply negative at -$190.4 billion and is the largest among all states when expressed as a percentage of overall assets. This reflects structural deficits accumulated over years, including through insufficient contributions to employee retirement systems.

The bill for these negative long-term trends is also falling in the short term as liquidity measures have deteriorated. Cash assets amounted to less than 0.5% of total assets at the end of FY23, and the quick ratio was well below healthy territory at 0.38, calling into question the state’s ability to meet its pending obligations. New Jersey’s combination of high debt service requirements, rising pension contribution demands, and limited revenue growth potential places it in an especially precarious long-term position.

Connecticut follows with four red flags. Connecticut leads the nation in per-capita state debt at approximately $26,187, with long-term obligations per resident exceeding $23,900. Connecticut has more than twice as much debt as assets, resulting in a deeply negative unrestricted net position of -$60.8 billion. Its liabilities are also greater than two years’ worth of revenues. On the bright side, Connecticut has maintained a healthy cash balance to ensure short-term liquidity.

Other notably stressed states with three red flags

California, Hawaii, Illinois, Massachusetts, North Dakota and Pennsylvania each have three red flags, according to the Reason Foundation analysis.

Hawaii faces long-term challenges and carries $27.5 billion in total liabilities, or $18,909 per capita. Although assets exceed liabilities overall, restrictions on the use of cash leave Hawaii’s unrestricted net position negative at -$7.4 billion. Its cash assets amount to only 7.5% of total assets, although it holds sufficient cash to service current liabilities. Hawaii also boasted a healthy annual operating surplus of $2,566 per capita in FY23.

California, despite holding the largest absolute state debt at $496.8 billion, registers only three red flags. Its enormous population (nearly 39 million) dilutes this debt to $12,565 per capita at the state level.

California grapples with an enormous negative unrestricted net position of -$249.3 billion. Its diverse economy produced strong per-capita revenues at $11,376 in FY23, but Sacramento’s spending habits have left the state with the second-smallest operating margin among all states, at $200 per capita. California barely exceeds healthy liquidity thresholds, with a quick ratio of 1.03. Nonetheless, long-term solvency concerns remain prominent.

Illinois records three red flags. The state reported total liabilities of roughly $223 billion, translating to $17,391 per capita at the state level alone. That contrasts against just $81 billion in assets, for a debt ratio of 276%—the highest among all states. Illinois owes far more than it owns. Accordingly, its unrestricted net position is also deeply negative, at -$195 billion. A bright spot is that debt issuances have infused the state with short-term liquidity, and its immediate cash balances exceed its current obligations.

Massachusetts, Pennsylvania, and North Dakota each register three red flags.

In Massachusetts and Pennsylvania, these are driven by high debt loads. Those states have unrestricted net positions of -$70.2 billion and -$19.7 billion, respectively.

In North Dakota, debt loads are moderate—liabilities amount to only 24.0% of assets, and the state held a positive unrestricted net position. However, North Dakota displayed clear liquidity concerns at the close of FY23, with cash amounting to less than 2% of assets and receivables equivalent to 54.1% of revenues. North Dakota is the only state government to trigger a red flag based on the quality of receivables.

Vermont, Washington, New York, and Delaware have two red flags.

Alabama, Alaska, Kentucky, Louisiana. Maine, Maryland, Michigan, Mississippi, Missouri, Nebraska, New Hampshire, New Mexico, Rhode Island, Texas, and Wyoming each have one red flag.

States with zero or minimal red flags

Nearly half of all states—23, to be exact—display zero red flags. These states demonstrate that prudent financial management is possible even when certain interest groups inevitably demand greater public spending. These include high-growth states that have attracted strong inward migration. According to the U.S. Census Bureau’s estimates for the period between 2020 and 2025, nine of the 10 states with the highest rates of net domestic migration triggered zero red flags. The lone exception was Alabama, which triggered one red flag for a negative unrestricted net position.

Conclusions for state performance

The state-level analysis paints a bifurcated picture of American fiscal health.

A relatively small group of states exhibit multiple red flags, signaling chronic structural stress that may eventually require significant tax increases, benefit reductions, service cuts, or constitutional reforms to restore sustainability.

Meanwhile, a much larger cohort of states maintains zero or very few red flags, offering practical models of prudent budgeting, adequate reserves, sustainable benefit design, and countercyclical fiscal policies.

These divergent outcomes remind us that fiscal outcomes are not inevitable; they reflect decades of policy choices, actuarial discipline, revenue management, and spending restraint.

States with strong track records demonstrate that it is possible to deliver public services while preserving long-term solvency and liquidity—lessons that remain highly relevant as the nation confronts rising interest rates, slowing population growth in some regions, and the ongoing need to address unfunded retirement obligations.

State and local government finances in America: A comprehensive analysis of debt and liquidity

New Jersey and Connecticut are the most financially distressed states

Chicago and New York City are most fiscally stressed cities in the nation

Nassau County and Miami-Dade are nation’s most fiscally stressed counties

Fort Bend (TX) and Gwinnett County (GA) are the most fiscally stressed school districts in the nation

Full report: State and local government finances in America: A comprehensive analysis of debt and liquidity

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Source: https://reason.org/policy-study/state-local-government-finances-debt-liquidity/states/