How Does A City Turn Around Its Fiscal Future?

Good Morning! In this a.m.’s eBlog, we consider a state’s response to a municipal fiscal insolvency, before turning to the challenge the Windy City is facing in the virtually politically insolvent State of Illinois, before finally turning to the uncertain political, governing, and fiscal future of East Cleveland, Ohio.  

Addressing Disparate Municipal Fiscal Distress. More than a century ago, Petersburg, Virginia, was a highly industrialized city of 18,000 people—and the hub and supply center for the Confederacy: supplies arrived from all over the South via one of the five railroads or the various plank roads; it was also the last outpost. Today, it is one of the last fiscal outposts, but, mayhap, because of its fiscal distress, set to be a model for the nation and federalism with regard to how the Commonwealth of Virginia—unlike, for instance, Ohio, is responding. More than 53 percent of Virginia’s counties and cities have reported above-average or high fiscal stress, according to a report by the Commission on Local Government. Petersburg, a city grappling with a severe financial crisis, placed third on the state fiscal stress index behind the cities of Emporia and Buena Vista. Del. Lashrecse Aird (D-Petersburg) noted: “Petersburg does have some financial challenges, but they’re actually not unique. There are a lot of counties and localities within the commonwealth right now that are facing similar fiscal distressers.”  

The Virginia Legislature has dropped a proposed study of local government finances in its just completed legislative session, a legislative initiative which co-sponsor Rosalyn Dance (D-Petersburg) had described to her colleagues as necessary, because:  “Currently, there is no statutory authority for the Commission on Local Government to intervene in a fiscally stressed locality, and the state does not currently have any authority to assist a locality financially;” nevertheless, Virginia’s new fiscal year state budget did revive a focus on fiscal stress in Virginia cities and counties. Motivated by the City of Petersburg’s financial crisis, Sen. Emmett Hanger (R-Augusta County), who co-Chairs the Virginia Senate Finance Committee, had filed a bill (SJ 278) to study the fiscal stress of local governments: his bill proposed the creation of a joint subcommittee to review local and state tax systems, as well as reforms to promote economic assistance and cooperation between regions. Under SJ 278, a 15-member joint subcommittee would have reviewed local government and state tax systems, local responsibilities for delivery of state programs, and causes of fiscal stress among local governments. In addition, the study would have been focused on creating financial incentives and reforms to promote increased cooperation among Virginia’s regions. We will have to, however, await developments, as his proposal was rejected in the House Finance Committee, as members deferred consideration of tax reform for next year’s longer session; however, the adopted state budget did incorporate two fiscal stress preventive measures originally introduced in Sen. Hanger’s bill.

Del. Aird had identified the study as a top priority for this session, identifying: “what we as a Commonwealth need to do to put protections into place and allow localities to have tools and resources to prevent this type of challenge from occurring into the future,” noting: “I believe that this legislation will help address fiscal issues that localities are experiencing: ‘Currently, there is no statutory authority for the Commission on Local Government to intervene in a fiscally stressed locality, and the state does not currently have any authority to assist a locality financially.’” In the case of Petersburg, the city received technical assistance from state officials, including cataloging liabilities and obligations, researching problems, and reviewing city funds; however, state intervention could only be triggered by a request from the municipality: the state’s statutes forbid the Commonwealth from imposing reactive measures to an insolvent municipality.

To modify the conditions to enhance the ability of the state to intervene, the proposal set guidelines for state officials to identify and help alleviate signs of financial stress to prevent a more severe fiscal crisis, proposing the creation of a workgroup established by the Auditor of Public Accounts, who would have been responsible to create an early warning system for identifying fiscal stress, taking into consideration such criteria as a local government’s expenditure reports and budget information. In the event such distress was determined, such a local government would be notified and entitled to request a comprehensive review of its finances by the state. After such a review, the state would be responsible to draft an ‘action plan’ detailing: purpose, duration, and the requisite state resources for such intervention; in addition, the governor would be offered the option to channel up to $500,000 from the general fund toward relief efforts for the local government in need. As Del. Aird noted: “It is important to have someone who can speak to first-hand experience dealing with issues of local government fiscal stress: This insight will be essential in forming effective solutions that will be sustainable long-term, adding: “Prior to now, Virginia had no mechanism to track, measure, or address fiscal stress in localities…Petersburg’s situation is not unique, and it is encouraging that proactive measures are now being taken to guard against future issues. This is essential to ensuring that Virginia’s economy remains strong and that all communities can share in our commonwealth’s success.”

What Might Be a City’s Weakest Link? The state initiative comes as the city intends to write off $9 million in uncollected internal debt Petersburg has accumulated over the past 17 years: debt representing loans from Petersburg’s general fund to other city enterprises since 2000 which its leaders now concede they will never collect—or, as former Richmond City Manager—and now consultant for the city Robert Bobb notes: “This is something that the leadership should have addressed between 2000 and last year, but the issue was not being addressed.” As a result, when Petersburg officials receive the city’s financial audit for FY2017, it will show a negative fund balance that will make it even harder to secure financing for capital projects, albeit, it is expected to clear the uncollected debt from the books for the current fiscal year and the upcoming fiscal year—or, as Virginia Finance Director Ric Brown notes: “They’re taking it on the chin in FY2016 by clearing it all out of the books: To me, the most important thing is not how bad ‘16 is—it’s going forward whether FY2017 and FY2018 improve.” With its bond rating downgraded last year to BB with a negative outlook, Petersburg already faces a stiff fiscal challenge in raising capital—the municipality recently experienced an inability to raise capital to purchase police cars and fire equipment—making manifest the connection between public safety and assessed property values.

Nevertheless, Mr. Bobb has promised that this fiscal year will end without an operating deficit and the next one will begin with the first structurally balanced budget in nearly a decade—to which Secretary Brown notes: “It’s going to take some time, but I believe the sense of everyone is he’s making progress.” The Secretary noted that when the Commonwealth acted to come to Petersburg’s assistance last summer, he discovered the municipality had ended the fiscal year with $18.8 million in unpaid bills and $12 million over its operating budget; ergo, he testified the bottom line was “not going to be good” in the city’s FY2016 CAFR; however, Petersburg has worked in phases to pay its bills, reduce its costs, and rebuild its underpersonned, overwhelmed bureaucracy: The city has reduced its unpaid bills to $5.5 million, with the largest remaining obligation a $1.49 million payment to the Virginia Retirement System—a payment the city has agreed to pay by the end of December. The city’s school system has some $1.3 million in debt to its public retirement system due next month for teacher pensions. Nevertheless, in the school of lost and found, Mr. Bobb reports that city employees have scoured “every desk drawer” and discovered an additional $300,000 in unpaid bills, some of them dating back to 2015—unsurprisingly describing it as “[A] mess to clean up things from the past to where we are today.” Petersburg also has a gaping $1.9 million hole in the school system budget, in no small part by making payments this year to last year’s budget, a practice Mr. Bobb notes to be a [mal]practice the city has followed for 10 years—putting the city’s school budget near the minimum required by the Virginia Standards of Quality.

Nevertheless, Petersburg completed the first phase of recovery, focusing on short-term financing concerns, at the end of March. That has allowed it to focus on long-term financing and a fiscal plan, including developing policies for capital improvements, debt, and reserves to ensure financial stability. In the final stage, from July 1 until Mr. Bobb’s contract ends on September 30th, the city will develop five-year financial and capital improvement plans, as well as a budget transition plan, for ongoing financial performance and monitoring—as well as refilling the fiscal architecture via filling critical positions, including a finance director, which Mr. Brown notes, will be critical to filling middle management positions, such as accountants, which are vital to maintain the city’s financial stability: “If they don’t get that in place, there’s a real risk they’ll slide back.”

Petersburg wasn’t even at the top of the list of the most fiscally stressed localities ranked by the Virginia Commission on Local Government in 2014. It was third, behind Emporia and Buena Vista, and just ahead of Martinsville and Covington. “We’re only as strong as our weakest link,” said Sen. Rosalyn R. Dance, D-Petersburg, who served as the city’s mayor from 1992 to 2004. “We’re not the only ones there.”

Whither Chicago? The Windy City, nearly 350 years old, named “Chicago,” based upon a French rendering of the Native American word “shikaakwa,” from the Miami-Illinois language, is today defined by the Census Bureau as the city and suburbs extending into Wisconsin and Indiana; however, it is, today, a city experiencing population decline: last year it lost just under 20,000 residents—and its surrounding state, Illinois, saw its population decline more than any other state: 37,508 people, according to census data released last December. During the Great Recession, families chose to stay in or move to core urban areas, and migration to the suburbs decelerated; however, in the recovery, there is a reverse trend: families are deciding it is time to move back to the suburbs.

Thus, by most estimates, Chicago’s population will continue to decline, with the Chicago Tribune, from a survey of dozens of former residents, reporting the depopulation stems from reactions to: high taxes, the state budget stalemate, crime, the unemployment rate, and weather—with black residents among those leaving in search of safe neighborhoods and prosperity: it seems many are heading to the suburbs and warm-weather states: Chicago lost 181,000 black residents between 2000 and 2010, according to census data. Just under 90,000 Chicagoans left the city and its immediately surrounding suburbs for other states last year, according to an analysis of census data released in March, marking the greatest outflow since at least 1990. It appears that, more than any other city, Chicago has relied upon the increase in Mexican immigrants to offset the decline of its native-born population: during the 1990s, that immigration accounted for most of Chicago’s growth. After 2007, when Mexican-born populations began to fall across the nation’s major metropolitan areas, most cities managed to make up for the loss with the growth of their native populations, but that has not been the case for Chicago (nor Detroit, which, according to census data, realized a decline of 3,541 residents from 2015 to 2016). While Chicago’s changes may be small in context, they could be a harbinger of more losses to come.

As we had noted in our fiscal report on Chicago, Mayor Rahm Emanuel focused on drawing in new businesses, concerned that any perception that assessed property taxes might have to increase—or that schools and crime rates would not improve—would adversely affect companies’ willingness to come to Chicago—meaning an intense focus on confronting fiscal challenges: such as credit quality threats: e.g. avoiding having a disproportionate percent of the city’s budget devoted to long-term pension borrowing obligations instead of critical future investments: the more of its budget the city had to divert to meeting unsustainable pension obligations, the less it would have to address its goal of investments in the city’s infrastructure, schools, and public safety—investments the Mayor believed fundamental to the city’s economic and fiscal future.  We noted a critical change: Investing in the Future: Mayor Emanuel created enterprise funds so that a greater portion of municipal services were not financed through property taxes and the operating budget: some 83 percent of its budget was focused on schools and public safety, in an effort to draw back young families. Nevertheless, amid growing perceptions that Chicago’s cost of living has become too high, rising property taxes, and perceived growth in crime; some are apprehensive Chicago could be at a tipping point: the period in a city’s time when an increasing number of residents believe it is time to leave—or, as one leaver noted: “It’s just sad to see that people have to leave the city to protect their own future cost of living.”

Does East Cleveland Have a Fiscal Future? In the small Ohio municipality of East Cleveland, a city waiting on the State of Ohio for nearly a year to obtain permission to file for chapter 9 municipal bankruptcy, there is an upcoming Mayoral election—an election which could decide whether the city has a fiscal future—and where voters will have to decide among an array of candidates: who might they elect as most likely to turn the fortunes of the City around, and avert its continuing slide towards insolvency? One candidate, who previously served as Chairman of the East Cleveland Audit Committee, noted a report to the Council detailing twenty-four budget appropriations totaling approximately $2,440,076 in unauthorized and questionable expenditures—and that his committee had provided documentation to the Auditor of State’s Office of Local Government Services regarding the hiring of 10 individuals in violation of a Council-mandated hiring freeze, costing the City approximately $408,475 in unauthorized payroll costs, adding: “All told, the Audit Committee uncovered approximately $3,055,351 in illegal and suspicious spending by the Norton Administration…The truth is, as I stated in the beginning, the municipal government of East Cleveland is afflicted with the cancer of corruption that has been allowed to grow because of two main reasons: The first being, the indifference displayed by Ohio and Cuyahoga County government officials who failed in their respective responsibility when confronted with documented facts.  They collectively have turned a blind eye to what was, and is, happening in East Cleveland.  No one wants to get their hands dirty with so-called ‘black politics,’ even if the legal and financial evidence is given to them on a ‘silver platter.’  Personally, I smell the stench of secret political deals which produced a ‘hands off policy.’”

He added that a symptom of what he described as “this cancer” included some “$41, 857, 430 in unwarranted expenses and debt that was generated during the first 3 years of Mayor Norton’s first term as Mayor. I anticipate that whenever an audit is conducted for 2013 thru 2016, the $41 million figure will grow by an additional $25 million to $35 million.” Addressing the unresponsiveness of the State of Ohio, he described the Governor’s Financial Planning and Supervision Commission as a “joke:  It has been wholly unimpressive and has not provided the necessary oversight and forced accountability one would have expected from the Commission at the beginning.  Furthermore, The Commission became tainted when Governor Kasich appointed Helen Forbes Fields to the Commission.  She has a number of personal conflicts of interests that prevent her from being an impartial member of the Commission.  I can recall a conversation I had with the former Commission Chair, Sharon Hanrahan when she admitted to me that the State Government did not have the ‘political will’ to clean up the mess we were trying to get them to address.” He added, that, if elected, in order to bring accountability for the mismanagement of public funds, he would seek assistance from Ohio and federal law enforcement agencies to ensure those responsible for the mismanagement of East Cleveland’s financial resources would be held accountable, estimating that between $5 million and $15 million dollars could be recovered. 

Fiscal Challenges Key to Municipalities’ Futures

eBlog, 04/26/17

Good Morning! In this a.m.’s eBlog, we consider the kinds of fiscal challenges key to a municipality’s future—focusing on the windy city of Chicago, before examining the complex federalism issues conflicting the U.S. Territory of Puerto Rico’s efforts to return to solvency—and deal with a Congressionally-imposed oversight board.

What Is Key to the Windy City’s Future? Chicago, the third most populous city in the U.S. with 2.7 million residents, is one which, when Mayor Rahm Emanuel was first elected, was what some termed a “time bomb:” He took office to find a $635 million operating deficit. However, he did take office as the city’s demographics were recovering from the previous decade—a decade which witnessed an exodus of 200,000, and the loss of 7.1% of its jobs—creating an exceptional fiscal challenge. At his inception as Mayor, the city confronted a debt level of $63,525 per capita—so deep that one expert noted that if one included the debt per capita with the unfunded liability per capita, the city would be a prime “candidate for fiscal distress.” Chicago then had an unemployment rate of 11.3%. The then newly-elected Mayor was confronted by a Moody’s downgrade of  Chicago’s $8.2 billion of general obligation and sales tax backed bonds with a three-level downgrade—and a bleak warning that the Windy City could face further adverse ratings actions absent progress in confronting growing unfunded pension liabilities, adding that the city’s $36 billion retirement-fund deficit and “unrelenting public safety demands” on the budget would, absent significant growth in the city’s operating revenues, increasingly strain the city’s operating budget, as pension outlays competed with other spending priorities, including “debt service and public safety.” Thus at a session last week moderated by former Crain’s Chicago Business Publisher David Snyder, a key focus was: what makes a city attractive to a corporation looking to relocate? Mr. Snyder provided some background and context for that discussion, noting how the makeup of the corporate community in Chicago has changed since the 1980s, when Chicago’s economy was driven by large public corporations. He said that the era of the large corporation is over: today healthcare and logistics firms lead the way, with private or family-held middle-market businesses driving growth in the Chicago region and an entrepreneurial culture experiencing a renaissance; while John Lothian, the Executive Chairman of John J. Lothian & Co., provided an overview of the extraordinary technology changes which he believes fundamentally altered how the financial sector in Chicago operates. He noted that today, getting hired in the Windy City more often than not requires a degree in science, technology, engineering, or mathematics—a change which has closed off jobs from young people, who used to join the sector as runners, gaining experience and contacts. He also noted that Chicago, a world-class city, is now not just competing with New York City, but also in a global competition with other cities around the globe. The stock yards of old—cattle—have been transformed into shares of corporations. Providing some scope to this urban transformation, Dr. Caralynn Nowinski Collens, Chief Executive Officer of UI Labs, a tech accelerator for digital manufacturing, noted that a decade and a half ago, there was virtually no tech scene, funding, or support: students graduating from Illinois schools with technology degrees had to leave the state to pursue their careers. In contrast, she noted, today there are over 100 incubators and accelerators and 300 corporate R&D centers in Chicago; there are 275 digital startups every year. No sector of the city’s economy is growing more rapidly; indeed, today Chicago has the third fastest growing tech sector in the nation. Dr. Collens said that Chicago’s economic diversity and legacy of industry make it an excellent place for the technology industry to flourish as its legendary older industries have become among the world’s most sophisticated, noting, however, that there are many challenges which could put a snag in the Windy City’s aspirations to become the digital industrial center of the world—specifically noting that the importance of getting young Windy Cityites to focus on the threat of the displacement of jobs by automation, in order to enable the city to become a global leader in technological innovation and, thereby, economic growth.

Another speaker, Jerry Szatan, the founder of site selection consulting firm Szatan & Associates, came at the issue of municipal fiscal stability from a different perspective: he noted that risk and higher municipal taxes no longer are such key factors that can lead a company to flee a municipality. Instead, he said, the critical issue is talent: he noted that all corporate headquarters need highly skilled, educated, and creative professionals, and that there are only so many cities in the U.S. where such a wide talent pool exists. Unsurprisingly, Chicago, he noted, is one—stating that the diversity of the residents of Chicago is very important for corporations, particularly those with an international workforce; second, he noted that connectivity is crucial, citing the city’s international airport at O’Hare with being a critical asset, as well as the city’s dense downtown—which he noted facilitates interactions between coworkers and peers in other industries. Mr. Szatan balanced his enthusiasm with fiscal warnings: noting that corporations are risk averse, he warned against Chicago’s fiscal instability and the possibility of higher taxes. Mr. Szatan’s perspective was shared by Chicago Civic Federation Chairman Kent Swanson, who noted that Chicago has the infrastructure assets, educated workforce, and international appeal of a global city, but not at the steep price of a New York or a San Francisco. Thus, he said, office space costs are much more competitive, thereby more attractive to startups and smaller businesses. Ergo, he noted, he perceives the recent movement of headquarters to Chicago as a microcosm of what is happening across the world as people move from smaller cities to the cores of large cities. A third speaker, Chicago Planning and Development Commissioner David Reifman, noted that despite the fiscal challenges of the State of Illinois, there appears to be a commitment to address the state’s public pension crisis and improve the state’s dysfunctional funding and financial practices—and he extolled the city’s efforts to attract corporations, particularly via amenities in near proximity to downtown, such as an expanded O’Hare, new transit stations, and enhanced service on the Chicago Transit Authority, as well as programs to leverage high-density investments in the downtown area to generate funding for underdeveloped areas.

The Complexity of Federalism & Addressing Insolvency. The Justice Department has confirmed to D.C.-based Commissioner Jenniffer Gonzalez that it will review and send Puerto Rico’s Governor, Ricardo Rosselló, an assessment/evaluation of amendments to the U.S. territory’s pending amendments to the upcoming plebiscite on alternative status, with the confirmation coming as Puerto Rico’s main opposition party, the Popular Democratic Party, has voted to boycott the plebiscite scheduled for June 11th. The proposed plebiscite, the revised language of which the ruling New Progressive Party rejected last Sunday, appears to have exacerbated tensions between Puerto Rico House Minority Leader Rafael Hernández Montañez and three House Representatives. It comes as Gov. Ricardo Rosselló and the NPP legislators had approved a ballot that just had options for independence and statehood—and as Puerto Rico’s Secretary of Public Affairs, Ramón Rosario Cortés, yesterday warned of the possible elimination of the Christmas bonus and the reduction of the work week for Puerto Rico’s employees as still being a possibility if Puerto Rico is unable to cut spending as contemplated in the plan approved by the PROMESA Oversight Board–with the Board, when it approved the plan last month, warning that by July 1st’s commencement of the new fiscal year, there appeared to be a gap of $190 million to close: to cure said fiscal gap, the Board has proposed to reduce the work week of public employees and eliminate the Christmas bonus—an option the government rejected; nevertheless, it looms in the event Puerto Rico is unable to achieve the projected savings—leading Secretary  Rosario Cortés to say: “If we meet these metrics, there’ll be no reduction of the work week. But, if we fail, the (PROMESA) Board has established it can do it automatically. (That is), if we don’t get the savings, it’ll mean reduction of work week and full elimination of the Christmas bonus.” As part of the legislative package of measures submitted by the Executive, House Bill 938 would seek savings with a cutback on spending and efficiencies totaling $1.623 billion, with the proposal including savings of $434 million for mobility, a hiring freeze, and leveling of benefits; $439 million in “government transformation” via consolidations, public-private alliances and efficiencies; and $750 million in reduced subsidies. The Puerto Rican House of Representatives had been anticipated to consider the bill yesterday; however, the House leadership decided to allow for additional time to hear leaders from unions representing public employees, after the former marched to the Capitol in defense of the rights of their members.

Unsurprisingly, the political dynamics of changing administrations in the nation’s capital have added to the fiscal challenges—mayhap best illustrated by a Trump administration Deputy U.S. Attorney General writing the ballot options are unfair, and that he would not recommend the U.S. Congress release federal money allotted for the plebiscite with the planned ballot choices—triggering a response from Puerto Rico legislators, who voted to revise the language to add a third option: remaining a “territory.” However, unsurprisingly, Puerto Rico’s PDP party has argued that Puerto Rico is more than a territory of the United States, thus it has objected to this ballot language. Members of the party wanted to have part of the current name of Puerto Rico, “Estado Libre Asociado,” be the option rather than “territory.” (The former can be translated as “Free Associated State,” though it is usually translated as “commonwealth.”). Thus, over the weekend, the PDP’s Governing Board, General Council, and General Assembly voted against participating in the plebiscite because of the use of the term “territory” on the ballot. In addition, the Puerto Rico Independence Party has also said it would boycott the plebiscite. Nevertheless, notwithstanding that the review process may take a few weeks, Commissioner Gonzalez believes the federal government will end up confirming a status consultation, noting: “They are waiting to be sent documents related to the plebiscite that have not yet been delivered, according to the Commissioner in the wake of a conference call with interim federal Secretary of Justice, Jesse Panuccio. Governor Rosselló had requested a response by April 22nd, with the hope that that would leave time for the House Appropriations committees to authorize the $2.5 million disbursement allowed by federal law to hold the consultation for June 11; that delivery of the $ 2.5 million is conditional, however, on receipt of a formal opinion from the US Attorney General in order to determines that the electoral ballot, the educational campaign of the State Commission of Elections, and the materials related to the plebiscite comply with the constitutional, legal, and public policy norms of the federal government.

Meanwhile, Puerto Rico’s Treasury announced that March revenues exceeded budgeted projections for the month by 7.1%, noting that through the first nine months of the fiscal year, the territory’s General Fund revenues ran 4.1% ($250 million) above projections, with the key contributor being Puerto Rico’s corporate income tax, which added 86.8% more than budgeted, or $130.4 million. Similarly, a separate tax on non-Puerto Rico based corporations’ income (Act 154) continued to outperform last month, coming in 9.8% higher or $18 million more than projected. Last Friday the Bureau of Labor Statistics announced improved employment statistics for Puerto Rico from its household survey: according to the survey, the total number of Puerto Ricans employed increased in March by 0.7% from February and 0.4% from March 2016, while the island’s unemployment rate dipped 0.5% in March from February, with the March rate tying the statistic’s low point since June of 2008, when it was 11.4%. The BLS employment survey showed continued contractions, with total nonfarm employment down by 0.2% since February and 0.3% since March 2016. The employer survey indicated that Puerto Rico’s private sector employment in March was little changed from February, but has slipped 1% since a year ago March. (The discrepancy in the direction of the household and establishment surveys may be because the former includes agricultural and self-employed workers, while the latter does not.)

Death Comes to the Archbishop? Meanwhile, the Puerto Rico Commission for the Comprehensive Audit of the Public, which is charged with reviewing the legality of Puerto Rico’s debt died Wednesday; however, it appears on the road to recovery in the wake of Gov. Ricardo Rosselló’s signing a measure terminating the Puerto Rico Commission for the Comprehensive Audit of the Public Credit, after the measure was approved by the Puerto Rico Senate and House of Representatives. Governor Rosselló and legislators from his New Progressive Party said it should be up to the legal system to pass judgment on the validity of various bonds, and that the audit commission’s work was interfering with negotiations seeking to restructure Puerto Rico’s debt. Demonstrations outside Puerto Rico’s capitol building on Monday and Tuesday had apparently failed to sway Senators and Representatives inside as they debated and then voted against keeping it. (The commission was set up by the Puerto Rico legislature in July 2015 to examine the circumstances surrounding the issuance of the debt—especially to identify invalid debt.) Some members believed it was opening doors to municipal bondholder claims against those who prepared official statements or others involved with such bond issues. Since then, the group has released two “pre-audits” which raised questions with regard to the legality of much of Puerto Rico’s municipal debt.

What Lessons Can State & Local Leaders Learn from Unique Fiscal Challenges?

eBlog

Share on Twitter

eBlog, 04/25/17

Good Morning! In this a.m.’s eBlog, we consider the unique fiscal challenges in Michigan and how the upswing in the state’s economy is—or, in this case, maybe—is not helping the fiscal recovery of the state’s municipalities. Then we remain in Michigan—but straddle to Virginia, to consider state leadership efforts in each state to rethink state roles in dealing with severe fiscal municipal distress. Finally, we zoom to Chicago to glean what wisdom we can from the Godfather of modern municipal bankruptcy, Jim Spiotto: What lessons might be valuable to the nation’s state and local leaders?  

Fiscal & Physical Municipal Balancing I. Nearly a decade after the upswing in Michigan’s economic recovery, the state’s fiscal outlook appears insufficient to help the state’s municipalities weather the next such recession. Notwithstanding continued job growth and record auto sales, Michigan’s per-capita personal income lags the national average; assessed property values are below peak levels in 85% of the state’s municipalities; and state aid is only 80% of what it was 15 years ago.  Thus, interestingly, state business leaders, represented by the Business Leaders for Michigan, a group composed of executives of Michigan’s largest corporations universities, is pressing the Michigan Legislature to assume greater responsibility to address growing public pension liabilities—an issue which municipal leaders in the state fear extend well beyond legacy costs, but also where fiscal stability has been hampered by cuts in state revenue sharing and tax limitations. Michigan’s $10 billion general fund is roughly comparable to what it was nearly two decades ago—notwithstanding the state’s experience in the Great Recession—much less the nation’s largest ever municipal bankruptcy in Detroit, or the ongoing issues in Flint. Moreover, with personal income growth between 2000 and 2013 growing less than half the national average (in the state, the gain was only 31.1%, compared to 66.1% nationally), and now, with public pension obligations outstripping growth in personal income and property values, Michigan’s taxpayers and corporations—and the state’s municipalities—confront hard choices with regard to “legacy costs” for municipal pensions and post-retirement health care obligations—debts which today are consuming nearly 20 percent of some city, township, and school budgets—even as the state’s revenue sharing program has dropped nearly 25 percent for fiscally-stressed municipalities such as Saginaw, Flint, and Detroit just since 2007—rendering the state the only state to realize negative growth rates (8.5%) in municipal revenue in the 2002-2012 decade, according to numbers compiled by the Michigan Municipal League—a decade in which revenue for the state’s cities and towns from state sources realized the sharpest decline of any state in the nation: 56%, a drop so steep that, as the Michigan Municipal League’s COO Tony Minghine put it: “Our system is just broken…We’re not equipped to deal with another recession. If we were to go into another recession right now, we’d see widespread communities failing.” Unsurprisingly, one of the biggest fears is that another wave of chapter 9 filings could trigger the appointment of the state’s ill-fated emergency manager appointments. From the Michigan Municipal League’s perspective, any fiscal resolution would require the state to address what appears to be a faltering revenue base: Michigan’s taxable property is appreciating too slowly to support the cost of government (between 2007 and 2013, the taxable value of property declined by 8 percent in Grand Rapids, 12% in Detroit, 25% in Livonia, 32% in Warren, 22% in Wayne County values, and 24% in Oakland County.) The fiscal threat, as the former U.S. Comptroller General of the General Accounting Office warned: “Most of these numbers will get worse with the mere passage of time.”

Fiscal & Physical Municipal Balancing II. Mayhap Michigan and Virginia state and local leaders need to talk:  Thinking fiscally about a state’s municipal fiscal challenges—and lessons learned—might be underway in Virginia, where, after the state did not move ahead on such an initiative last year, the new state budget has revived the focus on fiscal stress in Virginia cities and counties, with the revived fiscal focus appearing to have been triggered by the ongoing fiscal collapse of one of the state’s oldest cities, Petersburg. Thus, Sen. Emmett Hanger (R-Augusta County), a former Commissioner of the Revenue and member of the state’s House of Delegates, who, today, serves as Senate Finance Co-Chair, and Chair of the Health and Human Services Finance subcommittee, has filed a bill, SJ 278, to study the fiscal stress of local governments: his proposal would create a joint subcommittee to review local and state tax systems, as well as reforms to promote economic assistance and cooperation between regions. Although the legislation was rejected in the Virginia House Finance Committee, where members deferred consideration of tax reform for next year’s longer session, the state’s adopted budget does include two fiscal stress preventive measures originally incorporated in Senator Hanger’s proposed legislation—or, as co-sponsor Sen. Rosalyn Dance (D-Petersburg), noted: “Currently, there is no statutory authority for the Commission on Local Government to intervene in a fiscally stressed locality, and the state does not currently have any authority to assist a locality financially.” To enhance the state’s authority to intervene fiscally, the budget has set guidelines for state officials to identify and help alleviate signs of financial stress to prevent a more severe crisis. Thus, a workgroup, established by the auditor of public accounts, would determine an appropriate fiscal early warning system to identify fiscal stress: the proposed system would consider such criteria as a local government’s expenditure reports and budget information. Local governments which demonstrate fiscal distress would thence be notified and could request a comprehensive review of their finances by the state. After a fiscal review, the commonwealth would then be charged with drafting an “action plan,” which would provide the purpose, duration, and anticipated resources required for such state intervention. The bill would also give the Governor the option to channel up to $500,000 from the general fund toward relief efforts for the fiscally stressed local government.

Virginia’s new budget also provides for the creation of a Joint Subcommittee on Local Government Fiscal Stress, with members drawn from the Senate Finance Committee, the House Appropriations, and the House Finance committees—with the newly created subcommittee charged to study local and state financial practices, such as: regional cooperation and service consolidation, taxing authority, local responsibilities in state programs, and root causes of fiscal stress. Committee member Del. Lashrecse Aird (D-Petersburg) notes: “It is important to have someone who can speak to first-hand experience dealing with issues of local government fiscal stress…This insight will be essential in forming effective solutions that will be sustainable long-term…Prior to now, Virginia had no mechanism to track, measure, or address fiscal stress in localities…Petersburg’s situation is not unique, and it is encouraging that proactive measures are now being taken to guard against future issues. This is essential to ensuring that Virginia’s economy remains strong and that all communities can share in our Commonwealth’s success.”

Municipal Bankruptcy—or Opportunity? The Chicago Civic Federation last week co-hosted a conference, “Chicago’s Fiscal Future: Growth or Insolvency?” with the Federal Reserve Bank of Chicago, where experts, practitioners, and academics from around the nation met to consider best and worst case scenarios for the Windy City’s fiscal future, including lessons learned from recent chapter 9 municipal bankruptcies. Chicago Fed Vice President William Testa opened up by presenting an alternative method of assessing whether a municipality city is currently insolvent or might become so in the future: he proposed that considering real property in a city might offer both an indicator of the resources available to its governments and how property owners view the prospects of the city, adding that, in addition to traditional financial indicators, property values can be used as a powerful—but not perfect—indicators to reflect a municipality’s current situation and the likelihood for insolvency in the future. He noted that there is considerable evidence that fiscal liabilities of a municipality are capitalized into the value of its properties, and that, if a municipality has high liabilities, those are reflected in an adjustment down in the value of its real estate. Based upon examination, he noted using the examples of Chicago, Milwaukee, and Detroit; Detroit’s property market collapse coincided with its political and economic crises: between 2006 and 2009-2010, the selling price of single family homes in Detroit fell by four-fold; during those years and up to the present, the majority of transactions were done with cash, rather than traditional mortgages, indicating, he said, that the property market is severely distressed. In contrast, he noted, property values in Chicago have seen rebounds in both residential and commercial properties; in Milwaukee, he noted there is less property value, but higher municipal bond ratings, due, he noted, to the state’s reputation for fiscal conservatism and very low unfunded public pension liabilities—on a per capita basis, Chicago’s real estate value compares favorably to other big cities: it lags Los Angeles and New York City, but is ahead of Houston (unsurprisingly given that oil city’s severe pension fiscal crisis) and Phoenix. Nevertheless, he concluded, he believes comparisons between Chicago and Detroit are overblown; the property value indicator shows that property owners in Chicago see value despite the city’s fiscal instability. Therefore, adding the property value indicator could provide additional context to otherwise misleading rankings and ratings that underestimate Chicago’s economic strength.

Lessons Learned from Recent Municipal Bankruptcies. The Chicago Fed conference than convened a session featuring our former State & Local Leader of the Week, Jim Spiotto, a veteran of our more than decade-long efforts to gain former President Ronald Reagan’s signature on PL 100-597 to reform the nation’s municipal bankruptcy laws, who discussed finding from his new, prodigious primer on chapter 9 municipal bankruptcy. Mr. Spiotto advised that chapter 9 municipal bankruptcy is expensive, uncertain, and exceptionally rare—adding it is restrictive in that only debt can be adjusted in the process, because U.S. bankruptcy courts do not have the jurisdiction to alter services. Noting that only a minority of states even authorize local governments to file for federal bankruptcy protection, he noted there is no involuntary process whereby a municipality can be pushed into bankruptcy by its creditors—making it profoundly distinct from Chapter 11 corporate bankruptcy, adding that municipal bankruptcy is solely voluntary on the part of the government. Moreover, he said that, in his prodigious labor over decades, he has found that the large municipal governments which have filed for chapter 9 bankruptcy, each has its own fiscal tale, but, as a rule, these filings have generally involved service level insolvency, revenue insolvency, or economic insolvency—adding that if a school system, county, or city does not have these extraordinary fiscal challenges, municipal bankruptcy is probably not the right option. In contrast, he noted, however, if a municipality elects to file for bankruptcy, it would be wise to develop a comprehensive, long-term recovery plan as part of its plan of debt adjustment.

He was followed by Professor Eric Scorsone, Senior Deputy State Treasurer in the Michigan Department of Treasury, who spoke of the fall and rise of Detroit, focusing on the Motor City’s recovery—who noted that by the time Gov. Rick Snyder appointed Emergency Manager Kevyn Orr, Detroit was arguably insolvent by all of the measures Mr. Spiotto had described, noting that it took the chapter 9 bankruptcy process and mediation to bring all of the city’s communities together to develop the “Grand Bargain” involving a federal judge, U.S. Bankruptcy Judge Steven Rhodes, the Kellogg Foundation, and the Detroit Institute of Arts (a bargain outlined on the napkin of a U.S. District Court Judge, no less) which allowed Detroit to complete and approved plan of debt adjustment and exit municipal bankruptcy. He added that said plan, thus, mandated the philanthropic community, the State of Michigan, and the City of Detroit to put up funding to offset significant proposed public pension cuts. The outcome of this plan of adjustment and its requisite flexibility and comprehensive nature, have proven durable: Prof. Scorsone said the City of Detroit’s finances have significantly improved, and the city is on track to have its oversight board, the Financial Review Commission (FRC) become dormant in 2018—adding that Detroit’s economic recovery since chapter 9 bankruptcy has been extraordinary: much better than could have been imagined five years ago. The city sports a budget surplus, basic services are being provided again, and people and businesses are returning to Detroit.

Harrison J. Goldin, the founder of Goldin Associates, focused his remarks on the near-bankruptcy of New York City in the 1970s, which he said is a unique case, but one with good lessons for other municipal and state leaders (Mr. Goldin was CFO of New York City when it teetered on the edge of bankruptcy). He described Gotham’s disarray in managing and tracking its finances and expenditures prior to his appointment as CFO, noting that the fiscal and financial crisis forced New York City to live within its means and become more transparent in its budgeting. At the same time, he noted, the fiscal crisis also forced difficult cuts to services: the city had to close municipal hospitals, reduce pensions, and close firehouses—even as it increased fees, such as requiring tuition at the previously free City University of New York system and raising bus and subway fares. Nevertheless, he noted: there was an upside: a stable financial environment paved the way for the city to prosper. Thus, he advised, the lesson of all of the municipal bankruptcies and near-bankruptcies he has consulted on is that a coalition of public officials, unions, and civic leaders must come together to implement the four steps necessary for financial recovery: “first, documenting definitively the magnitude of the problem; second, developing a credible multi-year remediation plan; third, formulating credible independent mechanisms for monitoring compliance; and finally, establishing service priorities around which consensus can coalesce.”

Addressing Municipal Fiscal Distress

eBlog

Share on Twitter

eBlog, 04/05/17

Good Morning! In this a.m.’s eBlog, we consider some unique efforts to address municipal fiscal distress by the Illinois Legislature, based upon tag team efforts by the irrepressible fiscal tag team of Jim Spiotto and Laurence Msall of the Chicago Civic Federation. The effort matters, especially as the Volker Alliance’s William Glasgall, its Director of State and Local Programs, has raised issues and questions vis-à-vis state roles relating to addressing severe municipal fiscal distress. As we have noted—with only a minority of states even authorizing municipal bankruptcy, there are significant differences in state roles relating to severe municipal fiscal distress and insolvency. Thus, this Illinois initiative could offer a new way to think about state constructive roles. Then we turn to Ferguson, Missouri to assess its municipal election results—and its remarkable, gritty fiscal recovery from the brink of insolvency.

Addressing Municipal Fiscal Distress. The Illinois Legislature is considering House Bill 2575, the Illinois Local Government Protection Authority Act, offered by Rep. David Harris (R-Arlington Heights), which would establish an Authority for the purpose of achieving solutions to financial difficulties faced by units of local government, creating a board of trustees, and defining the Authority’s duties and powers, including the ability to obtain the unit of local government’s records—and to recommend revenue increases. The legislation provides for a petition process, whereby certain entities may petition the Authority to review a unit of local government; it also sets forth participation requirements. The effort comes in the wake of distressed local governments struggling under the weight of pension, healthcare, and other debts: it would propose this new, special authority for fiscal guidance to fiscally strapped local units of government, but without mandating severe budget cuts—or, as Rep. Harris described it: a “cooperative effort between the state and financially unit of local government…(one which) involves local elected officials and local governmental bodies and taxpayers, workers, and business entities developing a plan of financial recovery — is the best way to find a permanent solution to current financial challenges.” According to the Chicago Civic Federation, which asserts the intent is to help the state’s municipalities recover without being forced into chapter 9 municipal bankruptcy, such an authority could be valuable—especially in a state which, like the majority of states, does not generally permit a city, county, or other municipal entity to file for bankruptcy. Under the proposal, nine trustees would oversee the new authority, including four appointed by the Illinois Municipal League; the Governor, Speaker of the House, and Minority Leader, and their state Senate counterparts would each appoint one member: the new authority would rely on the Illinois Comptroller’s office to provide reports and some operational support; the legislation would also set a fee schedule to enable coverage of its administrative costs.

The exceptional leader of the Federation, Laurence Msall, noted: “The LGPA would serve as a resource to assist distressed municipalities in making determinations as to what essential governmental services are sustainable and affordable and what combination of revenue increases and service cuts, and other actions would be necessary to ensure fiscal sustainability and access to critical services.” Under the proposed legislation, a municipality could petition the authority to intervene; but also, the Illinois Comptroller, a public pension fund, or even a large creditor owed a substantial debt could. The proposal would authorize a municipality to petition too—provided it committed to participate—and provided it met specific criteria, including inadequate liquidity, overdue debt, weak pension funding ratios, or signal budget imbalances. If triggered, the suggested new authority would be authorized to recommend budget cuts, tax increases, and/or pension funding actions: as proposed, the authority would be charged with reviewing whether the city, county, or other unit of government should:

  • try to negotiate a debt restructuring,
  • explore public-private partnerships, or
  • asset sales and consolidation.

The authority would be authorized to consider potential pension reforms, such as whether the municipality should offer more corporate-style retirement plans, as well as whether it should establish a trust to fund its OPEB post-retirement healthcare obligations.

The proposed legislation authorizes authority to set fiscal targets; it offers the option for the proposed new authority to serve as a mediator in negotiations between a municipality and debtors, to endorse tax increases—increases which might trigger a public referendum, and issue recommendations to the Illinois state government with regard to the diversion of funds to address specific municipal funding mandates—granting authority too to seek declaratory and injunctive relief with regard to the exercise of its powers and implementation of its findings and recommendations. Finally, as a last resort, the authority could recommend pursuit of chapter 9 municipal bankruptcy. The nation’s architect of the federal municipal chapter 9 municipal bankruptcy law, Jim Spiotto, notes: “This municipal protection authority concept could be the means of providing state and local government cooperation and oversight while allowing the municipality, its elected officials, workers and unions, creditors and bondholders to have a means of participation with a definitive end result.” For his part, Mr. Msall described the rationale as vital to establishing “a systematic means of evaluating and assisting these governments,” instead of taking on municipal fiscal distress on a case-by-case effort, noting that “The Civic Federation is very concerned about the financial condition of many local governments in the state of Illinois, and many of them which will not be able to seek assistance unless there is the creation of this authority.”

& The Winner is: Ferguson, Missouri voters have reelected incumbent Mayor James Knowles III to a third term in the municipality’s first mayoral election since protests erupted there three years ago in the wake of one of the city’s white police officer’s shooting of an unarmed black 18-year-old—a shooting which ignited a national protest and led to a federal Justice Department intervention and harsh fiscal penalties for the nearly insolvent municipality. Mayor Knowles won by a 56%–44% margin against Councilwoman Ella Jones, who is black, in a small municipality which was once an overwhelmingly white “sundown town” where, until the 1960s, African-Americans were banned after dark. Perhaps ironically, the Mayor’s reelection followed just one day in the wake of U.S. Attorney General Gen. Jeff Sessions’ order that the U.S. Justice Department review its existing consent decrees with municipal police departments—the agreement in Ferguson, imposed under the Obama administration, imposed unfunded federal mandates, including demands to levy new taxes. In its report, the Obama Justice Department had alleged that the Ferguson Police Department and the City of Ferguson relied on unconstitutional practices in order to balance the city’s budget through racially motivated excessive fines and punishments, so that former U.S. Attorney General Eric Holder stated the federal government would use its authority to dismantle the Ferguson Police Department—a threat, which at the time, Ferguson’s then-Mayor had warned could mark the first time in the nation’s history that the federal government might force a municipality into municipal bankruptcy, and led credit rating agency Moody’s to place the municipality’s municipal bond rating on review for downgrade because of threats to the city’s solvency—with the downgrade of the city’s general obligation rating reflecting what the credit rating agency described as “the continued pressure on the city’s finances from a persistent structural imbalance and incorporating the recently approved U.S. Department of Justice (DOJ) consent decree, projected to increase annual General Fund expenses over the next several years,” in the wake of Moody’s assessment after the U.S. Justice Department lawsuit against the small city, noting its downgrade then had reflected concerns related to the uncertainty of the potential financial impact of litigation costs from the federal lawsuit and the price tag for implementing the proposed DOJ consent decree, writing: “We believe fiscal ramifications from these items will be significant and could result in insolvency.”

Indeed, the Justice Department’s unfunded federal mandates included federally imposed financial penalties, and the mandate to levy new, municipal taxes: leading to voter approval of a utility tax hike projected to generate $700,000 annually—an increase which Mayor Knowles, at the time, described as a critical vote, because, had the measure failed, the city’s police force’s authorized number would have been cut to 44, and firefighter jobs would also have been cut; he had warned, in addition, that the vote was intended to make clear the city was fiscally viable. So, today, in the wake of resignations and elections, Ferguson features three black council members, a black police chief, and a black city manager—and, in the interim, Mayor Knowles has survived a recall attempt (in 2015), noting in a Facebook post during the campaign that he wanted to follow the example set by former President Abraham Lincoln: “For those familiar with history, during the Civil War, Lincoln was often criticized by people on both sides of the issues of slavery and the war because of his even-handedness and his resistance to the pressures of radicals on both sides. He knew radicalism, even after the war, would further divide us, which it has for generations.”

Mayor Knowles’ challenger, Councilmember Jones, ran, because, she said, it was “time for Ferguson to unite and become one Ferguson, and we cannot move forward under the leadership that we are under at this point,” harshly criticizing the U.S. Attorney General’s move to review the city’s consent decree—one which Mr. Sessions had previously claimed was based on a report that was “anecdotal” and “not so scientifically based,” with Councilmember Jones warning that the Attorney General’s action was “not going to help Ferguson at all,” adding: “We need that consent decree in order to keep Ferguson moving forward.” Nevertheless, the gritty, can-do leadership of the city’s elected officials appears to have defied the odds: City Manager De’Carlon Seewood recently wrote that in the wake of a “drastic decline” in revenue, “the city’s operating budget is beyond lean. It’s emaciated.”

 

Addressing Municipal Fiscal Disparities

eBlog, 03/01/17

Good Morning! In this a.m.’s eBlog, we consider the dire stakes for Chicago’s kids if the State of Illinois continues to be unable to get its fiscal act together; then we admire the recent wisdom on fiscal disparities among municipalities in Massachusetts and Connecticut by the ever remarkable Bo Zhao of the Federal Reserve Bank of Boston.

Bad Fiscal Math.  Chicago Public School CEO Forrest Claypool Monday warned the public schools in the city could be forced to close nearly three weeks early and that summer school programs could be cut if the district does not receive a fast-tracked, favorable preliminary ruling from a Cook County judge in the near future, stating: “These possibilities are deeply painful to every school community.” Mr. Claypool, a former Chief of Staff to Mayor Daley, in an epistle to families with children in the city’s school system, warned the school year could end June 1st instead of June 20th without action; moreover, he noted that CPS’s summer school could be eliminated for all elementary and middle-school students, except those in special education programs, as he sought to increase pressure on Gov. Bruce Rauner and the Illinois legislature to help, warning success would depend on the courts or what has been billed as a “grand bargain” in the state capitol of Springfield to resolve Illinois’ record budget impasse. The CEO’s actions were not coordinated with Mayor Rahm Emanuel, who campaigned hard in his first term to extend the year for CPS students—a campaign in which the Mayor sought to reverse what we had termed as a “time bomb,” how to reverse the tide of an exodus of 200,000 citizens and make the city a key demographic destination for the 25-29 age group—i.e., meaning a critical commitment to public schools and safety. Now the state’s inability to act on a budget threatens both: the city’s School Board earlier this month accused the state of employing “separate and unequal systems of funding for public education in Illinois” in its lawsuit filed against both Gov. Rauner and the Illinois State Board of Education, describing its suit as the “last stand” for a cash-strapped district which is “on the brink,” seeking to have Judge Franklin Ulyses Valderrama of the Cook County Chancery Division issue a preliminary injunction which would prevent the state from “continuing to fund two separate but massively unequal systems of education,” noting it intends to present its case for an injunction to the court on Friday. In addition to seeking judicial relief, the System, in its judicial filing, noted that reductions in summer school programs and the academic year could save about $96 million; however, a shortened school year could violate Illinois state requirements with regard to the length of the public school year.

Without any doubt, the threatened disruption is undermining the trust of teachers, students, taxpayers, and parents with regard to the system’s future—brought on here by the awkward math of Gov. Rauner’s veto last December of a measure which would have provided CPS with $215 million in state aid—a measure the Governor argued was contingent on Democratic leaders agreeing to broader state public pension reforms. The ante was upped further at the beginning of the week, when Illinois Secretary of Education Beth Purvis said that instead of threatening cuts to the school year, CPS should focus on pushing legislation to overhaul the state’s education funding formula, stating: “I hope that they would really look seriously at not cutting days from the school year…I think people need to understand that the CPS board adopted a budget with a $215 million hole in it. Why is the governor being held responsible for that instead of the CPS board?” Even as the city sought to pressure the state, however, the Chicago Teachers Union this week issued a statement accusing Mayor Emanuel and the school board of playing politics instead of turning to solutions to help schools such as raising taxes, with union President Karen Lewis stating: “The Mayor is behaving as if he has zero solutions is incredibly irresponsible…Rahm wants us to let him off the hook for under-funding our schools and instead wait for the Bad Bargain to pass the Senate or [Gov.] Rauner’s cold, cold heart to melt and provide fair funds.” For those kids imagining an earlier summer break, CEO Claypool would not say when the district would make a final decision to shorten the school year, noting: “We think it would be wrong to prematurely set a final date for a decision when we still have the opportunity to prevent a shorter school year.”

Revenue Sharing. Bo Zhao, the extraordinary writer for the Boston Federal Reserve who authored the very fine piece: “Walking a Tightrope: Are U.S. State and Local Governments on A Fiscally Sustainable Path?” has now completed another piercing study regarding municipal fiscal disparities: “From Urban Core to Wealthy Towns,” looking at fiscal disparities amongst municipalities in Connecticut, and comparing state policies and practices there with Massachusetts, noting: “Fiscal disparities occur when economic resources and public service needs are not evenly distributed across localities. There are equity concerns associated with fiscal disparities. Using a cost-capacity gap framework and a newly assembled data set, this article is the first study to quantify non-school fiscal disparities across Connecticut municipalities. It finds significant non-school fiscal disparities, driven primarily by the uneven distribution of the property tax base while cost differentials also play an important role. State non-school grants are found to have a relatively small effect in offsetting municipal fiscal disparities.

Unlike previous research focused on a single state, this article also conducts a cross-state comparison. It finds that non-school fiscal disparities in Connecticut are more severe than those in Massachusetts, and non-school grants in Connecticut are less equalizing than those in Massachusetts. This article’s conceptual framework and empirical approach are generalizable to other states and other countries.” Writing that his is the first article to quantify non-school fiscal disparities across the Nutmeg State, he notes they are “driven primarily by the uneven distribution of the property tax base, while cost differentials also play an important role,” as he assesses fiscal disparities amongst the state’s 169 municipalities, writing: “There is recent evidence that this longtime state neglect may have exacerbated non-school fiscal disparities…If state aid formulae are based only on local revenue raising-capacity and ignore cost disparities, they would not fully offset fiscal disparities.” This leads him to note: “Urban core municipalities exhibit the highest average per capita cost, mainly because they have the highest unemployment rate and population density, and the most jobs per capita…This means that nearly one-fifth of Connecticut residents live in the highest cost environments.” In contrast, he notes that “wealthier-property rural towns have the lowest average per capita municipal cost—more than 25 percent lower than the urban core municipal cost.” A key part of the fiscal challenge, he writes, is that in the state, the property tax is the only “tax vehicle authorized for municipal governments and virtually the only own-source revenue available to support the local general fund,” adding that the property tax makes up some 94 percent of own source general fund revenue. All of which led Mr. Zhao to assess or measure what he defines as the “Municipal Gap,” or the difference between municipal cost versus municipal capacity: a measure which he finds demonstrates that “a significant share of Connecticut municipalities and populations face municipal gaps”…with urban core municipalities confronting a gap of as much as $1,000 per capita.

Turning to the state role in addressing fiscal disparities, he notes that non-school grants in the state “do not have an explicit equalization goal.” Such grants are broadly spread, and not “well targeted to fiscally disadvantaged municipalities,” indeed, describing the gap as “very wide,” and noting that a comparison with neighboring Massachusetts would better enable Connecticut law and policy makers to better understand the “relative severity of Connecticut municipal fiscal disparities.” While noting that unlike many other states, neither of these two New England states have active county governments, so that municipalities bear much greater responsibilities for a wide range of public services—and property taxes are almost their sole source of municipal revenues, he distinguishes Connecticut’s greater municipal fiscal disparities in that it has a larger share of its population living in what he terms “smallest-gap” municipalities. Finally, he distinguishes the respective state roles by noting that Massachusetts has a “more explicit equalization goal and its main distribution formula directly considers the differences across municipalities in revenue-raising capacity.”

Federalism, Governance, & Bankruptcy

Share on Twitter

eBlog, 2/15/17

Good Morning! In this a.m.’s eBlog, we consider the evolving governance challenge in New Jersey and the state takeover of fiscally troubled Atlantic City—a breach into which it appears the third branch of government—the judiciary—might step. Next, we turn to whether governmental trust by citizens, taxpayers, and voters can be exhausted–or bankrupted–as the third branch of government, the judiciary–as in the case of New Jersey–could determine the fate of the former and current mayors of the fiscally insolvent municipality of Petersburg, Virginia. Finally, we try to get warm again by visiting Puerto Rico—where the territorial status puts Puerto Rico between a state and a municipality—what Rod Serling likely would have deemed a fiscal Twilight Zone—further complicated by language barriers—and, in a country where the federal government may not authorize states to file for bankruptcy protection, in a governance challenge with a new Governor. No doubt, one can imagine if Congress appointed an oversight board to take over New Jersey or Illinois or Kansas, the ruckus would lead to a Constitutional crisis.

We Await the Third Branch. The first legal action challenging the State of New Jersey’s takeover of Atlantic City finances will be decided at the local level in the wake of U.S. District Court Judge Renee Marie Bumb’s decision to remand the case back to Atlantic County Superior Court. The case involves a lawsuit from the union representing Atlantic City firefighters which alleges state officials are unlawfully seeking to lay off 100 firefighters and alter the union’s contract; Judge Bumb held that the federal court lacks jurisdiction, since the complaint does not assert any federal claims, thereby granting International Association of Firefighters Local 198’s “emergency motion” to remand the lawsuit to New Jersey state court, saying it was inappropriate for the defendants to remove the action to federal court. Thus, the case will revert to New Jersey Superior Court Judge Julio Mendez, who temporarily blocked the state-ordered firefighter cuts at the beginning of the month. The case involves the suit filed by the International Association of Fire Fighters, Local 198, and the AFL-CIO challenging the state’s action to proceed with 100 layoffs and other unilateral contract changes under New Jersey’s Municipal Stabilization and Recovery Act—the legislation enacted last November in the wake of the New Jersey Local Finance Board’s rejection of Atlantic City’s rescue plan. The suit claims the act violates New Jersey’s constitution. This legislation, which was implemented last November after the New Jersey’s Local Finance Board rejected an Atlantic City rescue plan, empowers the state alter outstanding Atlantic City debt and municipal contracts. Prior to Judge Mendez’s Ground Hog Day ruling, the state was planning to set up changes to the firefighters’ work schedule, salaries, and benefits commencing by cutting the 225-member staff roughly in half beginning in September.

Hear Ye—or Hear Ye Not. A hearing for the civil case brought against Petersburg Mayor Samuel Parham and Councilman and former Mayor W. Howard Myers is set for tomorrow morning. Both men are defendants in a civil court case brought about by members of registered voters from the fifth and third wards of Petersburg. Members of the third and fifth wards signed petitions to have both men removed from their positions. The civil case calls for both Parham and Myers to be removed from office due to “neglect, misuse of office, and incompetence in the performance of their duties.” The purpose of hearing is to determine trial date, to hear any motions, to determine whether Mayors Parham and Myers will be tried separately, and if they want to be tried by judge or jury. James E. Cornwell of Sands Anderson Law Firm will be representing messieurs Myers and Parham. (Mr. Cornwell recently represented the Board of Supervisors in Bath County, Virginia, where the board was brought to court over a closed-doors decision to cut the county budget by $75,000 and eliminate the county tourism office.) The City Council voted 5-2 on Tuesday night to have the representation of Mr. Myers and Mayor Parham be paid for by the city. Mayor Parham, Vice Mayor Joe Hart, Councilman Charlie Cuthbert, former Mayor Myers, and Councilman Darrin Hill all voted yes to the proposition, while Councilwoman Treska Wilson-Smith and Councilwoman Annette Smith-Lee voted no. Mayor Parham and Councilmember Hill stated that the Council’s decision to pay for the representation was necessary to “protect the integrity of the Council,” noting: “It may not be a popular decision, but it’s [Myers and Parham] today, and it could be another council tomorrow.” Messieurs Hill and Parham argued that the recall petition could happen to any member of council: “[The petitions] are a total attack on our current leadership…We expect to get the truth told and these accusations against us laid to rest.” The legal confrontation is further muddied by City Attorney Joseph Preston’s inability to represent the current and former Mayors, because he was also named in the recall petition, and could be called as a witness during a trial.

Federalism, Governance, & Hegemony. Puerto Rico Gov. Ricardo Rosselló has said that he is setting aside $146 million for the payment of interest due on general obligation municipal bonds, noting, in an address to the Association of Puerto Rico Industrialists, that he plans to pay off GO holders owed $1.3 million, because the Commonwealth defaulted on its payment at the beginning of this month, so, instead, he said the interest would be drawn from “claw back” funds, a term the government uses to describe the diversion of revenue streams which had supported other municipal bonds. Now the Governor has reported the $146 million would be held in an account at Banco Popular, ready to be used to meet subsequent general obligation payments to bondholders—noting that the funds to be used had not been “destined” to be used for essential services for Puerto Rico’s people; the Governor did not answer a question as to which bond revenues were being clawed back; however, his announcement creates the potential to partially address the nearly 9 month default on a $779 million payment.

But mayhap the harder, evolving governance issue is the scope of the PROMESA Board to “govern” in Puerto Rico: the statute Congress enacted and former President Obama signed does not vest authority in the PROMESA Oversight Board to review all legislation introduced by the current administration before its approval—thus, the growing perception or apprehension is the implication that Congress has created an entity which is violating the autonomy of the Government of Puerto Rico. It is, for instance, understood that Congress and the President lack the legal or Constitutional authority to take over the State of Illinois—a state which, arguably—has its own serious fiscal disabilities. Thus, it should come as no surprise that Gov. Rosselló’s administration is feeling besieged by disparate treatment at the receipt of a letter sent by the PROMESA Board at the beginning of this month—an epistle in which Board Chair José B. Carrión requested that the Puerto Rican Government discuss with the Board the implications of any new legislation before submission, citing §§204, 207, and 303 of PROMESA as part of the “many tools that can be deployed in terms of legislation.” Unsurprisingly, Elías Sánchez Sifonte, Gov. Rosselló’s representative to the Board, wrote that the Board’s “request to preliminarily review all legislation, as a right they can exercise, is not considered in PROMESA, and it violates the autonomy of the Government of Puerto Rico,” noting that Governor Rosselló’s administration “is working and will continue to work in cooperation with the Oversight Board on all issues” considered under PROMESA. Nevertheless, in the epistle, Mr. Sifonte wrote that “nowhere” in §204 is there any mention that the Government of Puerto Rico must submit its legislation for revision, rather: “It only requires that the legislation be submitted to the Board after it has been properly approved,” even as Mr. Sifonte acknowledged in the letter that after the Fiscal Plan has been certified, the Commonwealth must forward any adopted legislation to the PROMESA Board, accompanied by a cost estimate and a certification stating if it is consistent with the fiscal plan. Moreover, Mr. Sifonte added, because there is currently no fiscal plan, such a certification is not applicable, although a cost estimate is—the deadline for the fiscal plan is February 28th at the latest.

Moreover, according to Mr. Sifonte, “[o]nce the Plan is certified, every piece of legislation to be submitted will be consistent with the Fiscal Plan and will be accompanied by the proper certification, which, in his view, means that it should be protected from Board review, according to the Congressional report that gave way to PROMESA, adding that his purpose in communicating was to “help” both Puerto Rico and the PROMESA Board understand and respect each other’s authority—or, as he noted: “PROMESA’s broad powers are recognized, and we recognize all of the Board’s powers contained within the law. What shouldn’t happen is for them to want to go further, despite those extensive powers, and occupy a space that belongs to the officials elected by the people, because then that would in fact infringe upon the full democracy of our country,” adding that “the administration’s intention is not to interfere with the Oversight Board while the members carry out their mission under the federal statute, but the letter seeks to clarify “the autonomy of Puerto Rico’s Government, which is safeguarded under PROMESA.” The letter also states that the Government’s interpretation of PROMESA is based on Section 204(a)(6), which establishes that the Oversight Board may review legislation before it is approved “only by request of the Legislature.” Finally, Mr. Sifonte addressed a fundamental federalism apprehension: referencing §207 of PROMESA, which establishes that “the territory” cannot issue, acquire, or modify debt, he wrote that Puerto Rico has not issued, nor does it intend to issue any debt, referencing the Puerto Rico Financial Emergency & Fiscal Responsibility Act, and emphasizing this statute marks a change in public policy, with the intention of paying the creditors, just as Governor Rosselló this month had announced. Finally, he noted: the “inappropriateness” of the Chairman’s proposition, where—under the protection of §303 of PROMESA—he tells the Government that “the compliance measures under PROMESA should be a last resort and hopefully won’t be necessary,” noting that that provision “expressly says that the Government of Puerto Rico retains the duty to exercise political power or the territory’s governmental powers.”

What Could Be the State Role in Averting Municipal Fiscal Distress & Bamkruptcy?

Share on Twitter

eBlog, 1/27/17

Good Morning! In this a.m.’s eBlog, we consider the ongoing challenge in Petersburg, Virginia—and the role of the Commonwealth of Virginia. Because, in our federal system, each state has a different blueprint with regard to whether a municipality is even allowed to file for chapter 9 municipal bankruptcy (only 18), and because there is not necessarily rhyme nor reason with regard to fiscal oversight and response mechanisms—as we have observed so wrenchingly in the forlorn case of East Cleveland—the role of states appears to be constantly evolving. So it is this a.m. that we look to Virginia, where the now insolvent municipality of Petersburg had routinely filed financial information with the Virginia auditor of public accounts—but somehow the accumulating fiscal descent into insolvency never triggered alarm bells.   

Virginia Auditor Martha Mavredes this week, testifying before the House Appropriations Committee, told Chairman S. Chris Jones (R-Suffolk) it was “just hard for us to really get our minds around how that was missed,” telling the committee the state currently has no requirement for municipalities to furnish the kind of comprehensive information that would trigger awareness of insolvency; there appears to be no mechanism for the Commonwealth to step in and help. Indeed, that was the very purpose of Chairman Jones to call for the hearing: he wants to better understand options Virginia might consider to not just create some kind of trip wire, but, mayhap more importantly, to act on provisions which could avert future such municipal insolvencies. Auditor Mavredes indicated to the Committee she is scrambling to scrabble together some kind of tripwire or early warning system that would flag financial problems in Virginia’s municipalities at an earlier stage, telling the committee she is using a system devised by the state of Louisiana to help Virginia identify cities and counties in dire fiscal straits. Thus she plans to create a database of all localities in the commonwealth to rate or score their relative fiscal health. Under what she is proposing, her office will approach cities that show warning signs in order to assess more information. Her real issue, she told the committee, is what fiscal assistance tools might be available—or as she put it: the “piece I can’t solve right now is what kind of assistance might be there” once such problems come to light.” Virginia, like a majority of states, has no provision for the state to step in if a locality goes into default. Indeed, it was the thoughtful step of Virginia’s Finance Secretary Ric Brown, who took the unusual step last year to investigate Petersburg’s finances, which led him to discover the city had some $18 million in unpaid bills, an unbalanced budget, and a fiscal practice of papering over deficits with short-term borrowing—a practice that not only jeopardized the city’s bond rating, but also affected the cost of borrowing for the regional public utility. Secretary Brown stressed the need for training local elected officials about budgeting and best practices, and he suggested a program to allow outside management firms to help get cities on a better fiscal foundation. Interestingly, the Committee might want to avail itself of the pioneering work underway by the irrepressibly insightful Don Boyd of the Rockefeller Institute of Government to assess state responses to municipal fiscal distress, seeking to answer the kinds of thoughtful queries Secretary Brown is asking. In a chart for Rockefeller, we tried our own answer:

Understanding Municipal Fiscal Stress

Assessing State Responses to Growing Municipal Fiscal Distress and Insolvency:

  • The Ostriches (head in the sand): Do Nothings/modified harm: e.g. Illinois
  • Denigrators (Alabama is a prime example: when Jefferson County requested authority to raise its own taxes, the Legislature refused, forcing the county into chapter 9 bankruptcy);
  • Learners (Rhode Island is a very good candidate here—in the wake of Central Falls, the state evolved into a much more constructive partnership;
  • Thinkers (I put Colo. & Minn. here—especially because both seem to recognize potential benefits of tax sharing & innovation in intergovernmental fiscal policy);
  • Preemptors (Michigan, because it provides for the usurpation of any local authority through the appointment of an Emergency Manager); New Jersey seems to be fitting in with that category re: Atlantic City;
  • Substitutors: Pa.: Act 47
  • Maybe Do-Nothings: Ohio, even though it authorizes municipal bankruptcy, appears to have been totally non-responsive the petition by East Cleveland to file—and has appeared to play no role in the so-far dysfunctional discussions between Cleveland and East Cleveland).