The biggest economic story of the new year is the probable contraction of government employment at all levels, which will be accompanied in some states and cities by reductions in salaries and benefits and changes in rules governing collective bargaining. The driving forces are the changes in leadership in the US House and many state legislatures, which likely mean (1) federal stimulus dollars will no longer be keeping state and local governments afloat and (2) tax increases will not be a viable option for replacing those funds.
Salary levels in government lag behind the private sector, but this is offset by much more attractive health and pension benefits in government along with greater job security (a subject where I did the definitive study; it is hard to lay off a unionized government worker). The pension and health care liabilities facing state and local governments make Social Security look like a soundly financed program.
What should we expect? In many states unions are going to have a hard time maintaining the status quo, according to NYT. Some states are taking steps to make it more difficult for unions to collect dues via automatic payroll deductions whereas others are considering limits to the right to strike. In North Carolina, there is no collective bargaining for government workers, but there is talk aplenty of pay cuts and/or layoffs.
Unlike the federal government, almost all states must balance their budget year in and year out. Government services are labor-intensive, so some reduction in payroll costs will be necessary. I am not sure how much weight these looming cuts are getting in all of the suddenly rosy economic forecasts that have come out recently. There will need to be big boosts in consumption, investment and net exports to offset the probable declines in government spending that are on the way.