Because of the slumping economy and uncertain financial markets, officials managing government budgets across the nation can expect a tough year or two. But recent press reports and a review of new reports from New York City's fiscal monitors suggest that the federal government and New York State face deeper problems in the immediate future than the city does.
Why the difference? The answer for the fiscal monitors seems to be that the Bloomberg administration has done a good job of managing its short-term budget problems. Their reports include, however, some details and caveats that suggest some of the short-term political calculation built into the city's four-year financial plan. It says little about the city's major budget problems beginning in fiscal year 2011, just after the current, term-limited administration and City Council leadership depart. The few actions mentioned for the longer-term - such as property tax increases and labor savings - are vague and politically difficult.
First the larger context: The federal budget problems are enormous. The Times recently reported that the deficit for the 2009 fiscal year (beginning Oct. 1, 2008) will exceed $500 billion. That can only be bad news for the city -- and other local governments -- whoever wins the presidency and control of Congress in the fall elections. Of course, Congress and president can manage the deficit in the short run just as they have for several years -- borrowing more money to balance the budget, something New York City and New York State can't do.
Closer to home, the New York State budget problem is less clear. A flurry of remarks and actions by Gov. David Paterson in late July suggested big trouble just ahead. But there is some doubt how deep the problem is. In fact, the Times found at least some anonymous critics who think the governor is crying wolf.
With state revenues, particularly from Wall Street, falling faster than anticipated, the governor projected that the deficit in the state's next fiscal year (FY 2010, beginning April 1, 2009) will be $6.4 billion, up from $5.0 billion, and the total deficit for the next three years from 2010 to 2012, will be $26.2 billion, up from the $21.5 billion originally projected.
But to put these big numbers in perspective, the New York State Financial Control Board July report on the city's adopted budget for 2009 and financial plan for 2009-2012 says city deficits could total more than $19 billion over the next three fiscal years, 2010 to 2012. (The city's total budget is generally only about half of the state's budget.) Yet neither the Financial Control Board nor the other two city fiscal monitors reporting in July, the city comptroller and the state deputy comptroller for New York City, seem unduly concerned about the city's ability to meet those gaps.
Certainly if the state has a major problem, the city will have a problem, dependent as it is on state aid. (It accounts for nearly 20 percent of the city's total revenues.)
As required by state law, the adopted budget for fiscal 2009, which began July 1, 2008, is balanced. Beyond that, the financial plan projects budget deficits of $2.3 billion in 2010, $5.2 billion in 2011, and $5.1 billion in 2012. The Financial Control Board projects the possibility of much higher deficits those years: $4.3 billion, $7.5 billion and $7.5 billion, respectively. The state comptroller's report projects roughly similar risks.
The city comptroller's July report estimates much smaller risks for 2011 and 2012, averaging $5.6 billion, and, in fact, projects a smaller deficit for 2010 ($2.0 billion) than does the mayor. The main reason for the comptroller's lower deficit number in 2010 is his projection that the mayor is underestimating tax revenues for that year by $570 million. (For more on the mayor's proclivity for underestimating revenues, see the July finance column.)
The biggest variable for 2010, however, is a projected 7 percent increase in the average property tax rate (the rate was cut by 7 percent last year). The $1.2 billion that this would generate in 2010 is in the four-year plan. That would increase to $1.3 billion in 2011 and $1.4 billion in 2012. But the revenue is not there until the City Council votes to adopt it. The mayor and city comptroller assume the council will do so; the other two monitors aren't so sure, so they call its inclusion in the plan a risk.
Since it is nearing legacy time for the term-limited mayor and City Council leadership, it is a little hard, from a political perspective, to see their parting on the heels of a significant tax increase, particularly when so many members of the council, including Speaker Christine Quinn, will be seeking higher office. A more likely scenario is some forthcoming plan that generates a $1.2 billion substitute for the tax increase.
One possibility: another round of the mid-year cuts across agencies that were made last fall. However, the monitors' reports suggest that further reductions might provoke more opposition than last year's cuts, which generated savings of $618 million in FY 2008 and $1.145 billion in 2009.
Education got cut last year and, given its size, presents a likely target in a new round of cuts. The city's 2009 education budget is $21 billion (including education's share of pension and debt service costs), or 35 percent of total expenditures. Cuts, though, would put the mayor's legacy in his priority area - education -at risk.
The Bloomberg years have seen very large increases in city funding for education. From 2003 to 2008, according to the state deputy comptroller's report, city education funding increased at an annual average rate of 10.9 percent; during the same period, state funding increased at an annual average rate of 6.7 percent.
But 2009 is a different story. In spite of the City Council's last minute restoration of $125 million in education cuts made by the mayor in the executive budget, city-funded education this year is up only 1.9 percent. (State funding - which currently represents 41 percent of all education funding -- is up 5.6 percent in 2009.)
The reason the 2009 and 2010 budgets look manageable is mostly because fiscal year 2008 ended with a $6.6 billion surplus. That surplus had to be spent, by state law, in 2008, so $3.81 billion was used to pre-pay 2009 expenses and $2.45 billion to pre-pay 2010 expenses.
But the huge rollovers of surplus revenues are over. The most sobering line in the three July reports may be the state deputy comptroller's: "In FY 2009, spending is projected to exceed current-year resources by $4.5 billion, a clear sign of fiscal stress."
The current plan anticipates only an $812 million surplus in 2009. There is also a separate, $300 million reserve fund for 2009 in the plan. Either fund could be drawn down from to make up for any threat in the next few months to this year's budget.
The real trouble looks to be in 2011 and 2012, with the potential of $7.5 billion deficits each year. One reason is a big new expenditure - paying for pollution remediation in the expense budget -- which will add $500 million to each of the 2011 and 2012 deficits. All three fiscal monitors point this out, but the financial plan does not address it.
The Government Accounting Standards Board has said governments must place the remediation costs in the operating budget, not in the capital budget, as New York City has been doing. Placing those costs in the operating budget means the city has to pay the full bill each year. Using the capital budget allowed the city to borrow the needed money and pay it back over the long term, say 30 years, much as a mortgage is paid off.
There are other smaller, but interesting details, in the monitors' reports.
The mayor has slowed down the four-year capital plan, extending it over five years, partly to ease debt service costs. However the cutback, amounting to about $1.7 billion in capital expenditures, will take a toll in jobs and economic activity in the struggling local economy. Meanwhile, the short-term savings on debt service savings are slim: a total of $27 million in 2009 and 2010. (The savings increase in later years, peaking at $143 million in 2015, then diminishing.)
The plan eliminates four years of $200 million-a-year pay-as-you-go capital financing, a move favored by fiscal monitors because the city pays cash for capital projects, rather than incurring the long-term interest costs of capital borrowing. In addition, the plan projects, but provides no details on, savings of $200 million a year in health costs for city workers. The plan also underestimates overtime costs by $100 million a year from 2010 to 2012, according to the city comptroller. (Overtime cost $756 million in 2008, including police overtime of $371 million.)
Lastly, for readers who have followed the bizarre history of property tax politics the past few years (see "Property Tax Reform - NOT"), the Financial Control Board notes that once again the state legislature quietly saved New York City private homeowners from what would have been a higher property tax rate in 2009. Had the complicated law governing annual adjustments to property tax assessments been followed without new legislation, "residential properties would have experienced a much larger tax rate increase."
Paterson has called the state legislature back into session on August 19 to deal with the $26.2 billion in deficits projected for state fiscal years 2010-2012 He has already cut spending for the current 2009 fiscal year to meet a $630 million shortfall this year.
Bloomberg, in the meantime, has expressed no such sense of urgency. His financial plan, at least for the 17 months remaining in his term, looks pretty solid. The fiscal monitors seem happy. Sound management and clever politics suffice for the moment.
Glenn Pasanen, who teaches political science at Lehman College, has been in charge of Gotham Gazette's finance topic page since 2001.Â
If there were any doubts about the severity of the nation's economic ills, the financial panic engulfing mortgage giants Fannie Mae and Freddie Mac quickly dispelled them last week. As with the mid-March failure of Bear Stearns and its takeover by J.P. Morgan Chase, overnight our economic "leaders" pledged billions of taxpayers' dollars to avert an even greater financial calamity. Once again, the average person is reminded that in our "free enterprise" financial system, profits get privatized while losses get socialized.
The latest bailout provides a further sign that a seriously slumping housing market is dragging down the entire economy. Along with other developments this indicates that the national economy likely will not rebound this year and that the malaise will persist well into 2009.
New York City will not be able to insulate itself from the steadily contracting economy. The markers of a slipping local economy are multiplying with rising unemployment, snowballing job losses, rising food and energy prices, mounting foreclosures and extreme nervousness in Wall Street boardrooms and at city and state budget offices.
Fannie and Freddie began life decades ago as creations of the federal government to support mortgage lending, buying mortgages from banks and vastly expanding the pool of inexpensive mortgage money. Together they hold nearly half of the $12 trillion in outstanding mortgage debt in the U.S. Although that is not technically a debt of the U.S. government, Fannie and Freddie's enormous size mean that the government cannot let them fail.
Four months after the Federal Reserve handed J. P. Morgan Chase $28 billion to buy Bear Stearns, the U.S. Treasury is prepared to lend Fannie and Freddie as much as it takes to save them and, if necessary, to directly invest taxpayer money in equity shares of the mortgage giants. The price tag will make it the mother of all bailouts -- $250 billion or more.
The mortgages Fannie and Freddie buy and hold are all prime. But during the real estate boom, lenders issued many mortgages based on the expectation that housing prices would stay high -- and go even higher. Dean Baker, one of the few economists who warned long ago about the housing bubble, says that Fannie and Freddie helped fuel the bubble through their eagerness to purchase loans made in over-heated markets. With housing prices falling about 20 percent in many parts of the country and certain to fall further, ordinary folks who once had good credit are now walking away from their dream homes. Fannie and Freddie have taken $11 billion in losses so far. That number will continue to grow as the housing slump worsens, compounded by mushrooming defaults in sub-prime mortgage and a general economic recession.
We're not officially in a "recession" until the economic sages of the National Bureau of Economic Research's Business Cycle Dating Committee announces that we are. Always reluctant to make such a declaration this close to an election, the non-governmental committee probably will not render that determination until later. However, six straight months of national job losses already totaling a half million jobs make it pretty clear that if this is not a "recession," it's tantamount to one. The unemployment rate has started to shoot up and for certain demographic groups, such as black men, official unemployment already reaches 9.3 percent.
At the same time, record oil and soaring grain prices have created havoc for consumers and threaten hundreds of millions of poor people worldwide with deprivation and starvation. In the U.S., hikes in the cost of energy and food have forced consumers to curtail spending on everything else, exacerbating the downturn. The $100 billion in tax rebates paid out over the past two months as part of the federal stimulus package did little to lift retail sales since many households are paying so much more now for necessities and trying to make up for disappearing and shrinking pay checks.
New York City is starting to see monthly job declines, with a combined loss of 5,000 jobs in May and June. For the past three calendar years (2005 to 2007), New York City job growth averaged about 1.8 percent a year, or 67,000 jobs annually. For the first half of this year, job growth has slowed to a crawl. Wall Street has shed 7,500 jobs since last fall, still far below the 22,000 suggested by news accounts. (The Labor Department attributes this discrepancy to the fact that many Wall Streeters facing layoffs are kept on payrolls while they receive severance pay. Eventually, the layoffs will reduce the Wall Street headcount.)
Job declines have also occurred this year in employment agencies, management consulting, business services, hospitals and corporate headquarters located in New York City. Law and accounting firms and advertising agencies have all seen job levels remain flat over the past year.
Record tourism due to the low value of the U.S. dollar has contributed to continued job growth in retail stores and in restaurants, sectors that would normally slow in a weakening job market.
As job losses spread to more sectors and deepen in finance and professional and business services, the city's overall job level will shrink much further. City and state budget forecasters foresee sizable net job losses over the next several months with the mayor's office projecting the city will lose approximately 90,000 jobs by the spring of 2009.
Over the past two months, the city's unemployment rate jumped by seven-tenths of a percent from 4.7 percent in April to 5.4 percent in June, matching a similar increase at the national level. Initial claims for unemployment insurance in the city are running about 10 percent higher than they were a year ago.
While daily papers seem to relish reporting continued high prices for Manhattan condos, city tax records show home values in the other boroughs are falling and mortgage foreclosures are mounting. By early this year, 15 percent of all sub-prime mortgages in Brooklyn were already in foreclosure with many more headed that way. The slowing job market and rising food and energy prices are beginning to severely pinch household budgets across the city. More families must turn to food pantries; the New York City Coalition Against Hunger reports a 9 percent increase in the number of meals food charities served in March and April compared to a year ago. Skyrocketing energy prices pushed up the New York metro Consumer Price Index by one percentage point in each of the past two months.
The unprecedented Fannie Mae and Freddie Mac bailout, the prospect of rising bank failures and reports of continued losses at major Wall Street banks paint a picture of severe and deep-rooted problems in the nation's financial sector. These problems, together with the continuing fallout from the bursting of the housing-market bubble, have pushed the economy down and are likely to keep it there for the next several months. National economic policymakers are facing their greatest challenge since the Great Depression as we grope our way toward a new financial order.
For New York City this means that the near-term economic outlook is for a moderate recession at best. Job losses over the next year may turn out to be less than earlier in this decade, but the loss of 80,000 or 90,000 jobs (about 2.7 percent of all private jobs) is still substantial. We also face financial and housing problems and rising food and energy prices that did not exist during the last recession.
Moreover, the city's economic outlook is clouded as never before by Wall Street's uncertain fate. Over the past quarter century, the financial sector has dominated the city's economic fortunes, taking it for a roller coaster thrill ride through both up and down cycles. Right now, the ride is a lot more harrowing than we bargained for: We're moving fast and headed down, and we don't know what lies ahead around the corner.
James Parrott is deputy director and chief economist of the Fiscal Policy Institute. He has been studying and writing about the New York economy since he landed in New York City a quarter century ago.Â
The economic mood is sour. Unemployment is up. The cost of gas is up, food is up and healthcare is up. One thing that is down, though, is New York City’s budget outlook. The city budget approved last month cuts money for senior centers, youth programs and other services. And officials warn this might only be the beginning.
That is what happens in a recession. We have to make some painful cuts. But we also have to have the nerve to talk about how to bring in more revenue. It’s the same as when you hit a financial crisis in your household budget. You make some cuts, but you also figure out how to bring in more income. That is why lots of New Yorkers work two jobs.
During the recent budget negotiations, the mayor wanted to suspend rollbacks in the property tax. The City Council reportedly preferred an increase to the hotel tax. Both proposals pose real problems. The first hurts working families and the second hits tourism, critical for the local economy. Though we avoided both taxes in the budget that just passed, they remain on the table for the foreseeable future.
What if, instead, we could raise money to save vital programs by simultaneously bringing fairness back to the city tax code? What if we could close an appallingly unfair loophole for the wealthiest New Yorkers and, according to the Fiscal Policy Institute, make more than $200 million in revenue appear to plug the budget gap?
Well, we can.
State Assemblymember Micah Kellner has introduced legislation that would change the city’s Unincorporated Business Tax to eliminate an unfair exemption for private equity and hedge fund managers. This loophole allows some the richest people in the city to avoid paying business income taxes on a major source of income called “carried interest” – fees charged by managers of investment firms based on the returns they deliver to investors.
Most economists agree that carried interest really is a fee, and therefore should not be eligible for preferential tax treatment. At the federal level, carried interest is treated as a capital gain – taxed at 15 percent -- rather than as personal income, which would be taxed at 35 percent. (Citizens for Tax Justice, a national advocacy group, has assembled an information sheet on the tax break.)
Here in New York, the carried interest exemption completely prevents billions in investment profits from being taxed at all.
For years, this loophole went largely unnoticed. But the explosion of private equity firms and their unique structure has made this an issue. As the industry has grown by leaps and bounds, the amount of carried interest and the revenues that could be reaped from it has grown exorbitantly. Closing this loophole would raise $25 billion in taxes nationally over the next 10 years, according to Citizens for Tax Justice.
One beneficiary of this loophole is New York financier Henry Kravis, whose massive private equity fund owns everything from Toys R Us to Sealy mattresses and lots more. His firm – Kohlberg, Kravis and Roberts – banks much of its profit on returns from investors. Kravis, a billionaire many times over, can certainly afford to pay his fair share.
Instead, much of his firm’s income is exempt from the city’s business income taxes. The result: Millions of New York taxpayers with middle-class incomes pick up the slack while also losing government services to budget cuts. To level the playing field somewhat, Kellner's measure would close this loophole and tax Kohlberg, Kravis and Roberts' profits at a 4 percent rate.
An effort to close the federal loophole passed the House last year, but not the Senate. Barack Obama favors closing it, John McCain opposes such a move. So there’s a chance something will happen on this in Washington next year.
New York, though, should not wait to act on its own. For starters, the City Council through a home rule measure could direct the state (as it did with congestion pricing) to act on its behalf and tax the fees. A majority of City Council members are on record in favor of closing the “Rich Guy” loophole.
Unless there is a special session, the legislature will not get to act on Kellner's bill this year. But with the city and state both looking at budget gaps over the next several years, this is an issue that isn't going away.
It is not often that you can raise money for the public coffers by doing the right thing. This is most certainly one of those times. We cannot let it pass us by. We are out of time and money. The mayor and governor must act to close this loophole, or the rich in New York will just continue to get richer as the rest of us suffer.
Dan Cantor is the executive director of the Working Families PartyÂ