By Paul Ballew, senior vice president, Customer Insights & Analytics at Nationwide Mutual Insurance CompanyNEW YORK ( TheStreet) -- In spite of the Greek debt crisis and concerns about the euro, first-quarter GDP results confirm that the U.S domestic recovery continues to solidify. Consumer spending growth, aggressive fiscal and monetary policy, and the need to rebuild inventories are all feeding the rebound from the Great Recession of 2008 and 2009. But as the markets focus their attention "across the pond," investors and consumers should be just as concerned about threats to the recovery that lurk closer to home. The cost of the recession will continue to be felt over the long term. As I have laid out previously, a number of headwinds will restrain growth and could derail the upturn. In addition, certain sectors of the economy are still coping with the aftershocks of the downturn, particularly state and local governments. And for these governmental entities, a solidifying recovery is insufficient to fix what ails them. Heading into the downturn, state and local governments were among the most vulnerable sectors of the U.S. economy. Surging spending and increasing long-term obligations meant that many states and cities could ill afford to experience a dramatic decline. Unfortunately, that's exactly what occurred over the last few years as tax revenues have fallen off. This drop has meant that a whopping 48 states have faced deficits over the last two years, and the gap to a balanced budget was an incredible 28% of spending. The only thing working in their favor was the federal stimulus package that temporarily bought them some time. Assuming the recovery continues to gain momentum, the lift will be modest, and state and local governments will continue to scramble for new ways to balance their budgets and meet their future obligations. Most troubling for nonfederal governments are the commitments they have made to their workers. More specifically, there have been rapid increases in pension expenses because of lucrative terms for employees. In an era where defined-benefit pension plans have largely disappeared from the private sector, governmental entities maintain these programs for their employees. Frankly, these commitments are beyond what state and local governments can afford to fund going forward. In fact, by some measures the gap is in excess of $1 trillion, and some states face the very real prospect of going broke because of future obligations.
Investors can take comfort that no state has filed for bankruptcy, and municipalities are still considered safe investments. However, let's not kid ourselves. State and local governments are not risk-free going forward. The fiscal imbalances that exist are structural in nature and will require substantial changes -- including concessions by labor unions -- to prevent these entities from being in a perpetual state of fiscal crisis. Sound outlandish? Well, who would have thought a year ago that a small EU member would cause financial and political shocks throughout the continent because it was unable to address its fiscal woes? As the crisis in Europe continues to unfold, wise investors should be mindful of the coming challenges in our own backyard.