U.S. local governments need more financial independence
“The lack of federal funds will affect public safety, road repair, housing, and other essential services,” said Steve Benjamin, the mayor of Columbia, South Carolina, and the president of the U.S. Conference of Mayors.
The federal government’s partial shutdown is over, for now. Nevertheless, the consequences for local governments that rely on federal funding for long term investments — housing, infrastructure projects, and recovery from climate related disasters — underscore their over-dependence on Washington D.C.
What if higher taxes or local government austerity were not required to build bridges, repair crumbling infrastructures and provide for citizens? While cities and urban counties scramble to find new revenue streams, they are sitting on wealth they don’t even know they own.
The IMF’s Fiscal Monitor found governments own public assets worth two-times gross domestic product. Professionally managed, these assets could mobilize revenues that would double the amount of money available for infrastructure and other future obligations (i.e. pensions) and risk (i.e. climate change).
Properly structured and managed in vehicles called ‘Urban Wealth Funds’ this could be as successful in the US as it has been in both Europe and Asia. A localized effort would be a viable alternative to the proposed federal infrastructure bank — a federal initiative funded by taxes and managed beyond the input of local needs.
Local control over debt and assets has a long tradition in the US, although extreme local government fragmentation has the potential to create inefficient policies leading to poorer fiscal health.
There are many reasons for resources being wasted and obligations hidden, but the antiquated official guidance published by the Governmental Accounting Standards Board (‘GASB’) deserves much of the blame. Elected officials are encouraged to low-ball the value of both public assets and the cost of promises made to public-sector workers. These circumstances have resulted in inefficient governance and in some cases outright corruption.
Since modern accounting was invented 800 years ago, private sector corporates have had to develop high quality information for decision-making held comprehensively accountable for both the debt and assets under their control. This has helped generate the prosperity enjoyed today. But the same progress has not been made by governments.
The absence of a proper balance sheet, fully integrated into the budget, distorts the incentive for politicians. Local governments still focus mainly on debt, without recognizing the value of the physical assets, using measures such as ‘debt/GDP’ as key targets. This has led to wasteful short-term decisions, such as the Chicago Parking Meters transaction, or privatizing utilities or other vital public assets because of the need for large scale investments.
With proper accounting, governments could focus on net worth – the measure used in the private sector, instead of a focus on debt alone. Using net worth, an increase in debt to finance an investment is matched with an increase in assets. This would incentivize investments in government-owned assets and the yield these assets produce, rather than encouraging wholesale privatization — which may be for the wrong reasons and at the wrong price.
A focus on debt alone has also led to governments embracing much-criticized financial techniques such as Public Private Partnerships (PPP), resulting in an undue transfer of public wealth to the private sector. Where the main advantage was keeping debt off the government’s balance sheet.
Adopting the same accounting standards used by private companies for a local government-owned portfolio of public commercial could be done without waiting for federal reforms or using unfavorable financial techniques.
An Urban Wealth Fund is in essence a wholly-owned government holding company that develop and capture the financial upside of underutilized assets such as a Hudson Yards in New York City or the Charles Street Jail in Boston.
Unlike the public sector institutions plagued by politicized decision-making and declining financial viability, such as the Port Authority of New York and New Jersey, local governments from Copenhagen to Hong Kong, have been able to generate substantial amount of revenues to invest and maintain vital infrastructure, including housing and subways — without raising taxes.
There is a strong demand from investors to take on significantly more long-term dated local government debt, be it taxable or tax-exempt. With modern accounting standards and dedicated asset management, rating agencies would be able to overcome the current short-term rating horizon.
The many distressed cities that struggle and deal with inefficient policies and structural budget imbalances must first of all put in place corrective long-term policies. But America’s fiscally healthy local governments would do well to shift focus towards unlocking the wealth of public assets to help spur growth in the U.S. economy — to the benefit of society as a whole.