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Local Government Finances: The Next Casualty?

State government budget problems have been a well-publicized element of the nation’s ongoing economic crisis. Less remarked upon has been a lower-profile meltdown: the nation’s soon-to-be ugly local government fiscal mess. And now it’s time to tune in. 

How do things look? The short answer is: brutal! And that is why four of America’s toughest-minded mayors--Mayors Michael Nutter, Elaine Walker, Scott Smith, and Chuck Reed of Philadelphia, Bowling Green, Ken., Mesa, Ariz., and San Jose respectively--will travel to Washington Thursday (read the joint Brookings/National League of Cities background paper here) and review what they are dealing with prior to remarks to be delivered by Vice President Biden’s chief economic advisor Jared Bernstein.

The mayors’ messages will likely be tart. With nearly nine in 10 city finance officers reporting a declining ability to meet local fiscal needs, city budget officers across America are projecting nearly a 3 percent average budget shortfall in 2009, and much deeper shortfalls in 2010 and 2011. What is more, while there is regional variation, the pressure is building in virtually all corners of the country, shaped by differences in metropolitan economies, state-local tax structure, and service demands. In Philadelphia Mayor Nutter has been hit by rising unemployment which has hurt income tax collections. In Mesa, Mayor Smith has been managing through the fiscal chaos generated by a colossal sales tax crash and maybe the nation’s worst foreclosure mess. And in all quarters things are almost certainly going to get much, much worse. That’s because while income and sales taxes are typically the earliest sources of city revenue to decline as job losses in a community increase and consumer purchases decrease, property tax collections--which make up the bulk of city revenue nationwide--decline much more slowly as real property assessments are adjusted to reflect declining housing values and have only just begun to slump.

The likely result: Local government layoffs and service cuts in 2010 and 2011 will almost certainly impose a significant drag on the nation’s economic performance just as the extraordinary interventions of the $787 billion American Recovery and Reinvestment Act of 2009 (ARRA) begin to trail off. As a result, it could be that a deepening local government fiscal crisis--less remarked upon than the one challenging state governments--could hobble the nation’s incipient recovery with several years of layoffs, cancelled contracts with vendors, and reduced services across a sector that represents a full 10 percent of non-farm employment in large U.S. metropolitan areas.

And yet, if this is bad news that the nation had better tend to, there is some good news too. To be sure, the local response to deteriorating conditions has so far consisted of a predictable round of unavoidable lay-offs, furloughs, and service cut-backs that reduce local economic demand just when it is needed. And yet, in a number of metros far-sighted city leaders are going beyond retrenchment and attempting to turn crisis into opportunity. In these cities executives are actually innovating as they grapple with fiscal stress, and so are leveraging budget challenges to strategically restructure government, rethink delivery systems, and find new ways to raise revenues. In Philadelphia, Mayor Nutter acted early to consolidate and streamline city operations and has so been able to minimize arbitrary cuts and forecasted deficits. In Mesa, Mayor Smith has focused on implementing new service delivery models, consolidating departments, and expanding the city’s use of outsourcing. And for her part Mayor Walker was able through sharp management to balance Bowling Green’s FY2008/2009 budget without cutting any major services, staff, pay, or benefits although she is worried about what comes next.

All of which points to the way forward. Local governments are innovating but they are unlikely to avoid a counterproductive round of additional service pull-backs, workforce reductions, and capital project delays without help. Which is why both the national interest and the realities of American federalism call for a renewed partnership between all levels of government to mitigate as much as possible the local government fiscal crisis. Without a little state, and especially federal, help America’s coming local government fiscal crisis could well undercut metropolitan area renewal. And that could hinder the whole nation’s still fragile recovery.