April 30, 2015
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The Fiscal Challenge of Public Safety. The gun shots that caromed in Ferguson, Missouri last year in the wake of riots which broke out after a white police officer shot and killed Michael Brown, a black teenager, echoed this week with the death of a young black man, Freddie Gray, in Baltimore. How the city, which has demonstrated remarkable fiscal resiliency, but which now confronts a more challenging fiscal future, responds will be a grave fiscal, human, and governing challenge. What can the Mayor and Council do to quell the violence and not only prevent families from leaving the city and eroding its tax base, but also not discourage other families and businesses from coming in? The President has condemned as inexcusable the looting and arson that spread across the streets, even as U.S. House and Senate negotiators yesterday agreed to a joint budget resolution which not only retains a sequester on domestic discretionary spending, but also specifically bars, “except in the case of Federal assistance provided in response to a natural disaster, any entity of the Federal Government from providing funds to State and local governments to prevent receivership or to facilitate exit from receivership or to prevent default on its obligations by a State government.” In a federal budget under which federal spending for defense will grow more than $100 billion and spending on every other category of spending will grow, the conferees focused on the smallest part of the federal budget to exact a toll. President Obama implied that the Baltimore Police Department had “to do some soul-searching,” as can be understood from a meticulously reported investigation by The Baltimore Sun of lawsuits and settlements that had been generated by police-brutality claims―and which have imposed nearly $6 million in settlements and legal costs on the city’s budget since January 2011. The Sun report noted: “Over the past four years…more than 100 people have won court judgments or settlements related to allegations of brutality and civil rights violations.” For his part, the President this week said: “This has been a slow-rolling crisis…This has been going on for a long time. This is not new, and we shouldn’t pretend that it’s new.” The President added that addressing the problem would require not only new police tactics, but also new policies aimed at helping communities where jobs have disappeared, improving education, and helping ex-offenders find jobs. The big mistake, he warned, is that we tend to focus on these communities only when buildings are burning down. But the message to Baltimore from Congress this week was unequivocal: ‘don’t count on us for anything but further disinvestment.’
In our report on six cities in fiscal distress, we found that Baltimore, like Detroit and other major U.S. cities confronting serious fiscal challenges, had experienced a severe population erosion: the city reached a peak population of 949,708 in 1960—a time when 30% of Maryland’s population resided in the city, but by 2010, the population had dropped to 620,961 and the city’s share of the state’s population fell to 11%. Like Detroit and many Eastern and Midwestern cities, a significant portion of this loss in population is attributable to the decline of its industrial base and suburbanization: Baltimore lost 110,000 jobs between 1990 and 2010—about 24% of all jobs―with some seventy percent of those lost jobs in manufacturing and related industries. The combination of job losses and population declines left the city with approximately 16,000 vacant and abandoned properties in the city—the equivalent of one blighted property for every 40 residents; it left the city with a median household income 44% lower than that of the state, but with crime 86% higher. Nevertheless, unlike other cities in our report, Baltimore was never in a fiscal emergency: it has maintained a relatively healthy balance sheet. Its largest categories of spending are public safety (30%) and the transfer to the local board of education (13%)—compared to just 6% for debt service. The city’s primary sources of revenue are the property tax (44%), state grants (15%), local income tax (13%), and federal grants (10%). The latter, of course, is declining—while the city’s single most critical source of revenues, property taxes, has abruptly been rendered at greater risk by the recent events. In our studies for the MacArthur Foundation, we determined that what set Baltimore apart from our other case studies (San Bernardino, Providence, Pittsburgh, Chicago, and Detroit) was the absence of financial emergency. The city’s adoption of a 10-year financial plan in 2013 provided a blueprint to demonstrate the difference between projected levels of spending and revenue (if no changes were made in policy or operations). That action provided a substantive basis for proposing changes to policies and operations. That is, despite significant challenges related to poverty, blighted housing and the need for broad economic development throughout much of the city, we found that “Baltimore is on solid financial ground. It has an AA- bond rating and holds an unrestricted fund balance of $216.5 million (equal to approximately10% of the city’s budget).” The city’s pension liabilities for police officers and fire fighters were funded at 82% and for other city employees at 73%―figures comparable to national averages for local governments nationwide—or, as we noted at the time: “Baltimore serves as a valuable case study in that it provides an opportunity to distill key factors that have contributed financial resiliency spite of significant declines in population and employment.” Key factors in the city’s fiscal sustainability, we found, related to its five-member Board of Estimate, which plays a particularly strong role in developing the city’s budget and monitoring monthly finances of the city: under Baltimore’s charter, the City Council cannot increase the overall budget from what the Board proposes; it can only decrease it. The Board has three members who are elected at-large by voters: the Mayor, Council President, and Comptroller. The remaining members are the Director of Public Works and City Solicitor—both of whom are appointed by the Mayor. The Board is constituted so that all members have a citywide perspective (rather than a ward-based perspective); it holds public meetings weekly to approve all contracts and oversees all purchasing in the city. Finally, we concluded: “the confluence of professionalism in budgeting and financial administration combined with a political culture where the advice and guidance of those professionals is heeded by elected officials contributes to Baltimore’s fiscal resiliency.” That resiliency now will be tested as mayhap never before.
In Like Flint. Michigan Gov. Rick Snyder yesterday declared the four-year long state of financial emergency is over in the city of Flint—the same day on which a state board approved a $7 million emergency loan, which Flint plans to use to plug a general fund deficit. As part of the Governor’s declaration, a receivership transition advisory board made up of five state appointees will now replace Jerry Ambrose, Flint’s emergency manager: the board will oversee the city for an undetermined period of time, but Mayor Dayne Walling, the city administrator, and city council will assume authority and responsibility over most daily operations. Michigan has taken over Flint, located 60 miles from Detroit, twice in the last 10 years, most recently in 2011. For his part, Mayor Walling yesterday said: “The citizens are back at the table,” while Deputy Treasurer Wayne Workman noted that it is routine for Michigan to give local governments a loan as they exit emergency management. In restoring local control, the state said that Flint had achieved several goals under emergency management, including reducing long-term liabilities more than 70% from $850 to $240 million. The restoration of authority comes in the wake of the city council and mayor having enacted several long-term fiscal sustainability measures―including the adoption of a two-year budget, five-year projections, a strategic plan, establishment of a fund balance reserve, and a budget stabilization fund. In making the announcement, Michigan Gov. Rick Snyder noted; “This is a new day for Flint, and the city is ready to move toward a brighter future…These are important steps as we work together to transition back to local control in the city.” Nevertheless, the road ahead promises to be arduous: Flint’s retirees have filed suit against the municipality to block post-retirement health care benefit: should they prevail, the city could find itself back in a fiscal quagmire. Moreover, in the wake of its separation from the Detroit public water system, the city is encountering new, unanticipated fiscal challenges: in moving to draw its municipal water from the Flint River, the city has been found to be in violation of the Safe Drinking Water Act due to high levels of trihalomenthanes.
Ill Fiscal Winds in the Windy City. Nuveen Asset Management LLC , in a new research report, warns that the City of Chicago could sink into speculative-grade territory if it fails to make quick headway in tackling its pension and long-term budget challenges, with author Kristen DeJong writing: “Chicago faces many fiscal challenges, and failure to swiftly address these issues could lead to further rating downgrades into sub-investment grade territory…How the city addresses its unfunded liabilities, including a looming pension payment spike next year, will be key to the city’s fiscal trajectory.” Looming over Mayor Rahm Emanuel’s new term is the city’s $19 billion in unfunded pension obligations, including a $550 million public safety pension payment spike, and a roughly $400 million operating deficit. The ever insightful Ms. DeJong adds that Moody’s moody downgrading last Winter added fiscal insult to financial misery because it triggered termination events on four interest-rate swap contracts, exposing Chicago to payments totaling $60 million if demanded by the counterparties: Chicago has renegotiated the terms of one of the swaps, avoiding a potential $20 million payment, and is working with Wells Fargo to address another. But it is the city’s pension challenge that poses the greatest threat to the city’s fiscal sustainability, with Ms. DeJong noting that balancing the budget and addressing the Windy City’s massive pension strains after years of underfunding poses a formidable task―a task so formidable she warns that it makes a “property tax increase inevitable.” If inevitable, it confronts the wily Mayor with a different kind of challenge in the wake of his election-runoff reelection, during which he campaigned on a promise to balance the city’s budget without a property, sales, or gasoline tax increase—even going so far as to call a property tax hike a last resort if state lawmakers fail to come through on a wish list that includes reform legislation that phases in the public safety spike, approval of a casino, and other tax proposals. A critical challenge for the city, as Nuveen notes, is the city’s reliance on the Illinois legislature—as, absent favorable action, the city loses control of its own revenue destiny: “Additional revenue raising opportunities such as a Chicago-based casino or expanding the sales tax to apply to services would require legislative action by the state and may take too long to implement to fund the looming pension payment.” In one bright spot, the Nuveen report cited recent studies by the prestigious Chicago Civic Federation, which has reported in a recent analysis that determined Chicago has the lowest effective tax rate among cities in Cook County and was among the lowest in a larger five-county region. Yet, even such a property tax increase—notwithstanding the Mayor’s campaign pledge and the sheer challenge of gaining city council approval—would have to be very significant if the city is unable to gain some public benefit reductions. Ms. DeJong notes that the size of any property tax increase would, absent other governmental relief, be exorbitant: a Chicago homeowner of a $400,000 property with a current property tax bill for $6,873 would be confronted with a $3,355 increase to fully fund the city’s growing public pension liabilities. While Mayor Emanuel has gained support for reform legislation for laborers’ and municipal employees’ pension funds that raised contributions and cut benefits, even those gains could be at risk: they are the subject of a legal challenge and await final decisions by the Illinois Supreme Court. The gravity is such, Ms. DeJong notes, that the scope and growth of Chicago’s unfunded liabilities raise the question whether solvency is at risk.