Normative Narratives

Economic Outlook: Time to Bring Federal Oversight to State / Local Government Deals

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Everybody wants good jobs (both public and private) and good public services–both have positive and immediate benefits for the municipalities securing them. However, there are also costs associated with bringing in jobs and providing public services. If these costs (even if they seem far off) outweigh the benefits, in the end everyone suffers.

It has become abundantly clear that local and state officials are (generally) either unable and/or unwilling to conduct meaningful C-B analyses when making deals with taxpayer money. They are unable to strike sustainable deals because of power asymmetries; large corporations and powerful unions have more legal clout and can out-negotiate municipalities. Furthermore, in the case of private sector jobs, a company can threaten to move to a different municipality, leading local / state officials to bid against each other in a “race to the bottom“. They are unwilling to strike sustainable deals because while benefits are realized immediately (look at the jobs / roads / services I brought!), the costs are paid gradually over time, usually long after said decision maker is out of politics.   

Two examples highlight the bad deals taxpayers are getting due to a lack of political will–subsidies for corporations and municipal budget deficits.

Subsidies for Corporations

A few months back, when NN was in it’s infancy, I picked up on a NYT article highlighting how out of control subsidies for private corporations had become in America. Here are some highlights from that post:

One form of government subsidy, which was brought to light by a recent NYT article/study, highlighted how state and local governments often engaged in bidding wars to lure private corporations to their markets. Billions in taxpayer dollars go toward subsidizing these companies operations, with NO INTENTION of ever paying the money back.

It is hard to believe such an archaic system exists in today’s modern world. Small municipalities come to the negotiating table with huge multinational corporations. A  power asymmetry exists; companies often outright lie about other municipalities bidding for their business to drive up prices. A “fight to the bottom” ensues, where each party is trying to give the best deal for the business, which on the flip side is going to be the worst deal for the taxpayer as they will be financing the subsidy. No real cost-benefit analysis goes into the decision. Politicians dedicate funding because they want the short term benefits of added employment on their record, without any long term accountability on the part of the company that receives the benefit or the politician securing the financing.

At a time when fiscal responsibility is on the agenda, how can we justify taking money from schools and public goods and giving them blindly to corporations with the hope that it ends up working out in the taxpayers benefit? How can we justify paying companies, not on a needs-based basis, and not hold them at all accountable for anything?

Municipal Deficits:

The ongoing bankruptcy of Detroit–the largest municipality to ever attempt such a bankruptcy–brought the concept of municipal waste to the forefront. However, Detroit’s problems could be seen coming from a mile away; once a symbol the strength of American manufacturing, economic decline and associated emigration have left Detroit unable to pay it’s bills. Nobel Prize winning economist Joseph Stiglitz wrote an excellent Op-Ed on the subject, entitled “The Wrong Lesson From Detroit’s Bankruptcy“.

Detroit’s bankruptcy makes sense, it is the combination of government excess and economic decline. Much less understandable is the story of San Jose’s municipal budget deficit:

This metropolis of nearly a million residents is the third-largest city in California, home to tens of thousands of technology industry workers, as well as many thousands more struggling to get by. Yet even here, in the city that bills itself as the capital of Silicon Valley, the economic tidal wave that has swamped Detroit and other cities is lapping at the sea walls.

San Jose now spends one-fifth of its $1.1 billion general fund on pensions and retiree health care, and the amount keeps rising. To free up the money, services have been cut, libraries and community centers closed, the number of city workers trimmed, salaries reduced, and new facilities left unused for lack of staff. From potholes to home burglaries, the city’s problems are growing.

“We’re Silicon Valley, we’re not Detroit,” said Xavier Campos, a Democratic city councilman representing San Jose’s poor East Side. “It shouldn’t be happening here. We’re not the Rust Belt.”

The situation in San Jose is not anywhere near as dire as it is in Detroit or two other California cities, Stockton and San Bernardino, already in bankruptcy. But government officials and municipal bankruptcy experts across the country are watching San Jose closely because of a plan to reduce benefits — drafted by Mayor Chuck Reed, a Democrat, and passed by 70 percent of voters in areferendum last year.

The plan is being opposed in court by unions that represent city workers and say it is illegal under state law. It would introduce a second tier for new city employees involving much lower pension and health benefits. It would also alter pension benefits for existing workers, allowing them to choose either a similar, second-tier benefits plan or to pay significantly more out of their own pockets for the benefits they had come to expect.

The outcome of the case is expected to have a major impact on municipal budgets around the state and, perhaps, the country. If a state court rules later this year or early next year that the referendum allows San Jose to alter pension plans for existing workers, and it survives appeals, similar measures are expected to pop up elsewhere.

“These employees did nothing wrong, and their unions did nothing wrong for pushing for these benefits,” said David Crane, a lecturer at Stanford University and special adviser to former Gov. Arnold Schwarzenegger on pensions and other issues. “Nobody forced government officials to make these promises and not fund them. And now you have some really brutal things happening to people who had counted on a certain level of retirement.” 

Cities in California are under particular pressure because it is so difficult to raise property taxes in the state, and because in 1999, at the height of the tech bubble, the Legislature voted for a huge benefit increase allowing, for instance, police officers to retire at age 50 with 90 percent of their salaries.

“We have this all over the state of California,” said Karol K. Denniston, a bankruptcy lawyer with the firm of Schiff Hardin in San Francisco, who is advising a number of local taxpayer groups. “There is growing recognition that there is not enough money to keep doing what they’re doing, and something’s got to change.”

As in San Jose, public employees’ unions sued. In March, a state administrative labor-law judge found that the city had failed to bargain as required with its workers. The city went ahead with the ballot-measure change, but the administrative finding portends further litigation.

Mr. Crane blames the political leadership in Sacramento, San Jose and all similarly struggling cities for failing to deal with the pension problem while it was still manageable. Mr. Reed agreed. “I have to accept my share of the responsibility,” he said. “There’s plenty of blame to go around.”

Now, he said, city workers must understand that the 10 percent pay cut they accepted a few years ago, in a previous attempt to right the city’s imbalance, was not sufficient to solve the problem and that deep, painful pension and retiree health care changes were needed.

State and local officials have failed their constituencies with unsustainable spending. Instead of pursuing “counter-cyclical fiscal policy”, saving when times are good to have a cushion when times are bad, these officials have used taxpayer money to show all the “benefits” that have accrued during their time in office. The end result of ignoring the costs is that during times of economic downturn–when public services and jobs are most needed–there is no money to fund these essential services.

The Federal government must step up to fill this void in the name of the interests of American taxpayers.

In terms of private corporate subsidies, the federal government has the resources to negotiate with large corporations. It also has the resources to conduct strong cost-benefit analysis and determine needs based subsidies, as opposed to a money grab under the guise of maximizing shareholder value. And perhaps most importantly, the federal government will not have to bid against any other parties, as it represents every municipality within the United States. It will be able to secure the best deal for the municipality, not the worst deal.

When it comes to public services, the federal government has the benefit of being insulated from the short-sighted demands of taxpayers. While local and state officials rely on being re-elected, an appointed federal committee should in theory be able to consider the costs and benefits of any potential deal with greater prudence.

State and local governments have failed to secure good deals for their taxpayers when negotiating with both the private and public sectors. These bad deals are systematic; they are the manifestation of short-sighted political aspirations and power imbalances. It is time the Federal government got into the business of making sure that American tax-payers are getting their moneys worth.

Federal oversight would be in public  workers best interests as well; while they may get slightly less generous benefits, they will have the comfort of knowing that the deals they have struck will not be reneged. It would also help avoid ugly litigation which pits civil society against the civil servants who serve them, and want only to receive what they were promised in the first place. 

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4 thoughts on “Economic Outlook: Time to Bring Federal Oversight to State / Local Government Deals

  1. Hello,
    May I suggest you read Matt Taibbi’s latest article in Rolling Stone. In it he points out that the public pensions suffered enormous losses because of mortgage backed securities (junk derivatives) sold, with the collusion of corrupt ratings agencies’ AAA lies, to public pension plan managers (who knows what corruption occurred in those transactions). I think anyone concerned with the financial problems of cities like Detroit must read Taibbi’s article. Cops, firefighters, teachers and others are getting screwed big time.
    Thanks,
    Jerry

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  2. Thanks for the input Jerry,

    I am sure there is often an element of corruption involved in these bankrupt municipalities, it is up to voters to vote in politicians with greater integrity (social / civil accountability). I am sure there are also examples of well intended investors being duped or making bad investment decisions on the behalf of municipal workers.

    But what I am referring to is more structural, the negotiation process when everything is done “by the books”. If these contracts are negotiated in a short-sighted manner (which I have argued they tend to be), then eventually it will be to the detriment of future taxpayers (not being able to afford public services due to fiscal imbalances).

    This is unfair, there should be oversight to ensure municipalities do not kick the can down the road, but are establishing sustainable policies. I forget who I am paraphrasing, but every-time you kick the can down the road it gets bigger and heavier. At the end of the day, people are not going to want to live in places that cannot afford basic public goods and services; ultimately in the states best interests to enact sustainable policies. It is whats fair to civil society and civil servants, two important aspects of American society whose interests should unquestionably be represented by our elected officials.

    However, good luck trying to convince a politician to have foresight when he/she is trying to make a name for them-self.

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    • I don’t advocate stiff penalties like China imposes where certain financial criminals are sentenced to death, but the doors which financial salesmen walk through to get at citizen’s money has to be shut tight and triple-bolted. For example social security money deducted from every paycheck does not come to be invested in fraudulent derivatives or other complex financial products. The same should be the case for public pensions. Some call the profit at all costs, including massive fraud if possible, finance industry operators as “money junkies”, and those people must be shut down, period. It’s a huge issue which Taibbi’s article exposes, but how many mainstream media corporations will report the important information that he writes about?
      Ah, well at least I’m a Detroit Tigers fan.
      Thanks for the give and take.
      Jerry

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      • I couldn’t agree with you more, all the more reason that there should be greater oversight too prevent these things from happening. Once they happen, you can never get 100% accountability. Financial crime pays and until it doesn’t people will continue to exploit the most vulnerable people they can find.

        But there are also structural issues behind rampant inequality, such as too big to fail and preferential tax rates for speculative investments that must be addressed in addition to the corruption and illegal predatory activities. These loopholes rob the government of tax revenue needed to finance programs which promote equality of opportunity, social mobility, and meritocracy.

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