Does Fiscal Slack Buffer Against Budgetary Shocks? Exploring the Heterogeneous Impacts of Unabsorbed and Absorbed Slack on Credit Ratings of Municipal Governments in the United States

Previous studies have dedicated considerable effort to exploring the determinants and implications of fiscal slack. Most of the academic literature has focused on unabsorbed slack, such as budget stabilization funds and unreserved general fund balances, while absorbed slack, tied up with governments’ daily operations, remains relatively understudied. I contribute to differentiating between these two types of slack and offering empirical insights into their divergent roles in buffering credit ratings against budgetary shocks in the U.S. municipal government context. Analyzing data from 265 Massachusetts municipalities spanning 2004 to 2021, the empirical results strongly support that unabsorbed slack positively correlates with credit ratings and successfully buffers against budget shocks’ adverse effects. These findings hold robustly across models with one-year and two-year shock lags. In contrast, absorbed slack exhibits more nuanced effects, where its various components may operate distinctly. Generally, absorbed slack shows a tendency toward negative associations with credit ratings and demonstrates a lagged buffering effect against previous budget shocks.