ll of my income each year, I leave nothing for when the economy goes in the tank and have a hard choice to make: cut services or take on debt.
Unfortunately, many state and local governments over the past several decades have chosen to take on debt all too often (in my opinion - you can decide for yourself if you agree - I suggest looking at how many of these are filing for or about to file for bankruptcy and default on their debts though). There are actually two nasty things about debt. We already know about the interest, but the worst bit is the over-reach it allows. Over-reach is when you buy or establish more legacy services than you can realistically sustain. This is made easy by cheap credit (low interest) and the willingness to borrow. It's politically very expedient and easy for me to agree to any terms, as mayor, that any of my public service unions bring to the table if I'm willing to over-reach. It takes some discipline, though, to have to say no to expansions in expenses and resist credit and the pain it brings later.
So - what can we afford? Only so much as we have coming in and/or have saved for.
What do we have to do when we run out of money? Stop spending or borrow - which is really just more spending. The obvious answer is stop spending.
Can a government just pull the plug on critical services? Emphatically, no. And that's the problem with over-reaching. Once you establish a level of service, especially in the public sector, you are going to have hell-to-pay to roll any of it back. It can be politically damaging to do so. But, if your goal is to keep your town, village or state from totally defaulting on its debts (making any future borrowing VERY expensive), cuts have to be made.
Some recent history illustrates the drastic side of this. In the State of Michigan, Flint and Detroit have had such a dramatic down turn in their local economies that they have had to actually SHRINK the size of the cities to keep basic services up and running. By reducing the extents of the city limits, they are reducing the miles of roads they maintain, the numbers of parks they keep in operation and the number of street lights they keep on all night, but they also remove some far flung properties from the property tax pool. It's a delicate balancing act trying to keep the city viable while providing a reasonably decent level of service.
Anyway, there you go. I hope that aids your understanding a bit without being too leading in terms of opinion. There are some (not as fiscally literate as you, since you read this blog) who think running up debt or even defaulting on debt is OK as long as there are no job cuts, pay cuts or reductions of services. The trouble with that is the same as for an individual in terms of credit worthiness... if you default on your debt, getting future credit when you REALLY need it becomes impossible. Just to put it in context, if a state can't agree to cut some public union jobs today and insists on keeping everyone to the point where they have to take on debt and persist till the debt is defaulted on, the next time the economy sours unexpectedly, that government body will not be able to get a loan. Then it won't be whether you cut a job or not, it will be time to shut the lights off and lock the doors... the government is out of business. Not exactly ideal for a whole host of reasons. That's why fiscal conservancy is important all the time. If you fail to plan for the future, the future will have you for lunch.