Anticipate 5-10% State Contract Reductions and Increased Business Fees as Federal Funding Declines

Hawaii's state budget faces significant strain as federal funding cuts loom, potentially leading to smaller state contracts and increased operating costs for numerous businesses. Small business operators, entrepreneurs, and tourism providers should prepare for budget recalibrations and potential fee hikes.

• Small Business Operators: Expect reduced state contract opportunities and potential for increased local taxes or fees.
• Entrepreneurs & Startups: Funding for state-backed initiatives may decrease, impacting grant availability.
• Tourism Operators: Potential for reduced state marketing support or increased regulatory fees.
• Action: Review state contract dependencies and explore diversification strategies before the state legislative session concludes.

The Change

The 2026 legislative session has opened with state leaders anticipating substantial reductions in federal funding. Following millions spent in the previous year to offset federal funding decreases, including the impact of a 43-day federal government shutdown, Hawaii is bracing for further cuts. This situation necessitates a proactive approach to budget adjustments at the state level, which will inevitably ripple down to businesses and residents.

The exact magnitude of these cuts remains uncertain, but projections suggest state agencies may need to reduce spending by 5-10% or more. This reduction will likely translate into fewer state contracts, scaled-back public services, and a potential increase in state-imposed fees or taxes to balance the budget. The timeline for these adjustments will align with the state's budgeting cycle and the confirmation of federal allocations. Businesses relying on state funding or operating within regulated sectors should prepare for immediate and medium-term financial recalibrations.

Who's Affected

Small Business Operators Small businesses, particularly those with existing state contracts for services or goods, face a direct risk of reduced demand. A 5-10% cut in state agency budgets could mean smaller contract values or outright cancellation of agreements. Furthermore, to bridge any state budget shortfalls, local businesses may see an increase in operating costs through new or higher fees, taxes, or permit costs. This could directly impact margins for restaurants, retail shops, and service providers dependent on consistent revenue streams.

Real Estate Owners While not directly receiving state contracts, real estate owners and developers could be indirectly affected. Reduced state spending might slow public infrastructure projects, impacting construction-related services and demand for commercial or industrial space. Property taxes could also increase if the state or counties seek new revenue sources to compensate for federal funding shortfalls, impacting landlords and property managers' profitability.

Investors Investors will need to assess the financial health and resilience of companies in their portfolios that have significant exposure to state contracts or are in sectors sensitive to state spending. A reduction in state support or an increase in the cost of doing business in Hawaii could affect profitability and growth projections for both local companies and those considering expansion into the islands. Emerging sectors that rely on state grants or incentives may also see a slowdown in development.

Tourism Operators While visitor numbers are a primary driver, state support for tourism promotion and infrastructure can be crucial. Reductions in state marketing budgets could impact the pace of future visitor growth. Additionally, tourism-related businesses, such as hotels and tour operators, might face increased regulatory fees or taxes if the state seeks to bolster its revenue, potentially affecting their competitive pricing.

Entrepreneurs & Startups Startups and entrepreneurs, especially those born out of state-funded incubators, research grants, or reliant on government contracts, will feel the pinch. Funding for initiatives aimed at fostering innovation and economic diversification could be reallocated or reduced, making it harder for new ventures to secure seed or growth capital. Access to state-supported talent development programs might also be curtailed.

Agriculture & Food Producers Farmers and food producers may see reduced state support for agricultural development programs, export initiatives, or water infrastructure projects. If the state faces revenue shortfalls, there's also a risk of increased land use fees or modified water allocation policies to generate revenue, potentially impacting operational costs and long-term planning.

Healthcare Providers Hawaii's healthcare sector could experience indirect impacts. Reduced state funding might affect public health programs, community clinics, and the availability of state-supported healthcare services. This could lead to increased demand on private providers or shifts in patient populations. Furthermore, if the state seeks new revenue, healthcare providers could face increased licensing fees or new regulatory burdens.

Second-Order Effects

Reduced federal funding → State budget shortfalls → Cutbacks in state agency spending/contracts → Decreased demand for services from small businesses → Potential layoffs or reduced hiring by affected businesses → Slower wage growth and increased competition for remaining jobs → Increased strain on social services and potential rise in demand for public assistance programs.

Alternatively:

Reduced federal funding → State budget shortfalls → Increased state taxes/fees on businesses → Higher operating costs for businesses → Pass-through of costs to consumers → Increased cost of living for residents → Potentially reduced consumer spending power, impacting retail and hospitality sectors.

What to Do

For Small Business Operators

Action: Proactively review all current and pending state contracts. Identify alternative revenue streams and begin exploring diversification. Begin financial modeling for a potential 5-10% reduction in state-related revenue and factor in a possible 2-5% increase in operating costs due to new fees or taxes. If you are a service provider, prioritize building a robust private client base. If your business relies heavily on state procurements, begin immediately to seek out private sector clients or government contracts from other jurisdictions that may be less affected.

Timeline: Initiate contract review and diversification strategy development within the next 30 days. Adjust financial forecasts and budgets within 60 days to account for potential revenue shortfalls and cost increases.

For Entrepreneurs & Startups

Action: Re-evaluate funding pipelines. Prioritize securing private investment or revenue-generating clients over relying on state grants or programs that may be curtailed. For startups depending on state contracts, pivot business models to target private sector demand. Network aggressively with private equity and venture capital firms, highlighting business resilience and market demand independent of government support. If your startup is in a sector that historically receives state grants (e.g., tech innovation, agriculture), prepare for longer application processes and potentially smaller award amounts.

Timeline: Within 60 days, update business plans to reflect reduced state funding availability. Within 90 days, actively pursue private funding or client contracts to offset potential grant reductions.

For Tourism Operators

Action: Assess reliance on state-funded marketing initiatives. Explore direct marketing channels and partnerships with airlines and private entities to supplement any potential reduction in state tourism promotion budgets. Evaluate operational costs for potential increases in regulatory fees or taxes and factor these into pricing strategies for the upcoming season. If your business is in a sector that might face new user fees (e.g., certain permits for tour operators), investigate the potential financial impact.

Timeline: Begin evaluating marketing dependencies and cost structures within the next 30 days. Adjust marketing plans and financial forecasts within 75 days.

For Investors

Action: Conduct due diligence on portfolio companies regarding their exposure to state contracts and government funding. Stress-test financial models for scenarios involving reduced state spending and increased business operating costs. Identify companies with strong private sector demand and diversified revenue streams as potentially more resilient. Monitor legislative developments closely for specific agency budget cuts or new fee proposals that could impact specific industries.

Timeline: Complete initial exposure assessment for key portfolio holdings within 45 days. Implement more rigorous stress testing and scenario planning within 90 days.

For Agriculture & Food Producers

Action: Review current state support programs and anticipate potential reductions in funding for agricultural development, research, or export assistance. Explore opportunities for private sector partnerships or direct-to-consumer sales channels to mitigate reliance on state initiatives. If water or land use fees are a potential revenue source for the state, model the impact of any likely increases on your operational costs.

Timeline: Assess current reliance on state programs and explore alternative revenue streams within 60 days. Model potential fee increases and adjust operational budgets within 120 days.

For Healthcare Providers

Action: Monitor potential impacts on public health programs and clinics that might increase demand on private practices or hospitals. Stay informed about any proposed increases in licensing fees or regulatory compliance costs that could affect your practice. Evaluate the stability of state reimbursements for any public health services you provide.

Timeline: Monitor legislative proposals related to healthcare funding and fees over the next 90 days. Adjust operational and financial plans as needed based on confirmed legislative changes.