This chart shows that real state and local government output, as measured by the BEA, has been effectively flat since 2001. To put it a different way, the stagnation at the state and local government level started way before the 2007 recession.
What do I make of this? State and local governments are the only large economic entities in the U.S. economy who are not allowed to borrow to meet operating expenses. Households can borrow, companies can borrow, the federal government can borrow–but state and local governments cannot.
Therefore they have been forced to match their size to the carrying capacity of the individual state and local economies. Hence we see the epic struggle of states such as California to trim their budgets and labor force.
In other words, the state and local fiscal crisis is less a failure of governance (though such obviously exists) and more a sign of weakness in the individual state and local economies going back a decade.