City Service Cuts and the Bigger Picture

Constrained by sharply lower revenues from income, property, and sales taxes, state and local governments across the country are facing another round of spending cuts. The adjustment in revenue has been most difficult in states where the housing boom and resulting increases in property and sales taxes swelled state and local coffers leading up the recession. Absent the federal government’s freedom to incorporate large deficits into their budget proposals, regional governments in the United States must rein in spending or increase taxes when their economies sour and revenues fall.

New York City is no exception to the nationwide strains on public finances. According to Mayor Michael Bloomberg’s preliminary budget proposal, released just last month, the city’s fiscal imbalance will foment deficits running into the billions of dollars. The city had generated operating surpluses in each year between 2003 and 2008, but lost ground in 2009. The coincidence of a 6.8 percent decline in revenues and a 2.7 percent rise in expenses pushed the budget from a surplus of $2.8 billion to a shortfall of $2.5 billion. Although revenues are projected to grow in 2010 and accelerate in 2011 and 2012, expenses are rising at a more rapid pace.

In addressing the fiscal shortfall, the city’s Independent Budget Office has presented a number of options for narrowing the deficit. Unfortunately, the most far-reaching measures are likely to be amongst the least popular. A “pay-as-you-throw” charge for household garbage disposal would cost the average household $98 per year and would result in a net savings of $327 million annually. Changes to police officers’ schedules and the elimination of a paid 20-minute “wash up” time could save $128 million. Increasing school class sizes by two students could save $222 million by facilitating a workforce reduction of almost 2,400 teachers. Through a similar mechanism, increasing municipal employees’ workweeks from 35 hours to 40 hours could save $144 million.

All told, the IBO has presented 35 options for reducing costs. But only seven of these options promise savings in excess of $100 million each. In order to narrow the deficit further, the IBO has quantified the revenue gains from an array of potential tax increases. Extensions and expansions of various real estate taxes could raise over $200 million, but might impede the recovery of residential and commercial investment activity. Tolls over the East River and Harlem River bridges could raise $925 million but may be politically infeasible. By the IBO’s accounting, taxes on sweetened beverages could raise $222 million, but may be perceived as regressive, “falling more heavily on low-income consumers.” On the other hand, a tax on cosmetic surgery, which would raise $55 million, is unlikely to see similar criticisms.

Amongst the taxes promising the largest short-term revenue increases, a more progressive income tax and a progressive commuter tax could generate annual revenues of $387 million and $1.3 billion, respectively. While these taxes would allow the city to cut the deficit dramatically, the long-term consequences for the city’s economic health are almost certainly negative. New York City introduced a commuter tax in 1966. It was repealed by the state Legislature in 1999, at which time it generated $350 million per annum on a 0.45 percent levy. In the unlikely event that the Legislature opted to reinstate a commuter tax, the decision has the potential to erode the profitability and competitiveness of the city’s keystone employment generators.


WHILE RESOLVING THE city’s budgetary challenges will undoubtedly require difficult choices, these choices will be made in the context of a local economy that has shown remarkable resilience. In the latter part of 2008, following the dramatic upset of the financial system, the evidence weighed in favor of New York’s lagging the national recovery. But leading indicators in the early part of 2009 anticipated a return to growth by later in the year. In its most recent economic update, the IBO projected that the city would lose 157,000 jobs from its employment peak in the third quarter 2008. Seasonally adjusted, the city had shed 145,000 jobs as of December 2009. By this accounting, net job losses have nearly run their course and any additional declines will be offset by occasional months of increasing employment. From 2010 to 2011, the IBO now projects that tax revenue will rise in every major category-including property, income, sales, and corporate taxes-with the sole exception of cigarette taxes.

Robust profits at some financial services firms contribute to the brighter outlook. There is no doubt that banks and insurance companies have pulled back over the last year. But in its December report, the IBO writes: “For Wall Street firms that have survived the financial crisis, however, the current picture is surprisingly bright. With greatly reduced interest expenses resulting from interest costs near historic lows, various forms of Federal Reserve backing for financial firms’ securities and loans, the field of competitors reduced, and workforce and other operating costs down, securities firms have enjoyed staggering profits so far this year.” With a more stable base, the wider employment is positive. “By the third quarter of 2010, total employment in the city is expected to resume growing, albeit slowly for several years … Overall employment growth is expected to accelerate from the second half of 2010 through late 2012.”

We can reasonably expect that banks’ heady profits will normalize once their short-term borrowing costs rise. As in past cycles, New York will likely emerge from the current downturn with a reduced dependency on financial services payrolls. The long-term diversification of the city’s employment base into other areas is a welcome trend, in part because it can smooth the occasional spikes and slumps in the banking compensation.

Overall, the city has managed its way through a shallower contraction than most other large markets. While risks to the outlook remain a necessary feature of the current inflexion, it seems that reports of the city’s death were greatly exaggerated. 

Sam Chandan, Ph.D., is global chief economist and executive vice president of Real Capital Analytics and an adjunct professor of real estate at Wharton.

  City Service Cuts and the Bigger Picture