Public Policy Institute analysis of the Ravitch Proposal
March 12, 2010
Following is an analysis of the long-term budget proposal put forward by Lt. Gov. Richard Ravitch. The analysis was written by Steven Taylor, research director of The Public Policy Institute. This analysis should be helpful as we decide on an official Business Council position on the Ravitch proposal.
Public Policy Institute analysis of the Ravitch Proposal
Lieutenant Governor Richard Ravitch recently announced a plan to end the structural imbalances plaguing the New York State budget process. Although the plan has been touted, by both supporters and detractors alike, as bold and new, in effect what he is recommending is to impose the New York City budget system, which was placed on the City in response to the 1975 crisis, on the state to as great a degree as possible.
Seen in this light, the overarching goal of the recommendations is very clear. The aim is to guarantee, that each year New York State adopts and maintains a budget that balances spending commitments and actual outlays with realized revenues. Its primary focus is not immediately centered on giving us budgets that will foster the health and well being of our citizens and will grow our economy. Yet, if this proposed path of the Lieutenant Governor resulted in the State’s finances reaching true and lasting equilibrium, then no small feat would be accomplished.
We must keep in mind that the state is not the city, it is no longer 1975, and very serious and reasonable doubts can be raised concerning the propriety of this course. The first impression of the plan leaves us wondering how it really deals with the immediate problem. It only has a concrete recommendation to close $2 billion through borrowing of the $9.2 billion estimated gap in the upcoming fiscal year, and is basically silent on how the other $7 billion in shortfalls can be dealt with other than insisting that hard choices have to be made. Unfortunately, the plan is silent on what these choices should be.
It is helpful to review the history of the New York City crisis of the seventies, and whether those lessons can serve us now at the state level.
Gotham’s public finances in the seventies crisis were restructured in fundamental ways that markedly increased the stability of the city’s fisc and greatly expanded the transparency of the budget process. Overall, no one can reasonably argue that these reforms were not essential in keeping New York City the greatest urban center in the world and the globe’s financial headquarters.
The 1975 reforms were highlighted by the following measures:
- The growing practice of the city to commit to spending levels in excess of realized revenues was prohibited. Specifically, the city was floating more and more short-term revenue anticipation notes to cover its immediate bills. The true crisis erupted when the markets no longer believed that incoming revenues would cover these notes and the ever increasing bills the city was confronting. Richard Ravitch was a central part of a team of financial experts that devised a scheme to force the city to adopt and quarterly modify a budget certified to be in balance on a GAAP basis in no more than five years. In addition, the Mayor was required to submit, and the Council to adopt, a budget that lays out a five year financial plan to meet the new GAAP requirements.
- Existing short-term debts were repackaged into medium and long term bonds, and debt was floated and covered by a revenue stream backed by the imposition of a new public benefit corporation the Municipal Assistance Corporation (MAC) with one percent sales tax backed by MAC and ultimately the state. However, the new debt would only be issued if the city found and implemented a plan to provide for extensive and recurring spending reductions including major reductions in the city’s public workforce. The new debt and financing strictures actually resulted in these reductions agreed to by all major parties in the city and in Albany.
- The Mayor was granted broad new powers to manage the city’s finances, and the Mayor was also required to provide quarterly updates to demonstrate if the budget still maintained structural balance. If, in any year, the Mayor’s budget office determines that an intra-year gap is arising, the Mayor could devise and implement a plan to eliminate the gap to bring the finances back into balance.
- The state imposed a Financial Control Board (FCB) on the city. If the FCB at any time determined that the budget was going out of balance, it could order new revenue measures, spending cuts, and debt limitations. The FCB was granted these powers until such time as all MAC debt obligations were retired.
- Major debt reforms were adopted to prohibit the use of future debt to cover operating expenses, and strict caps were put on the ability of the city to access credit through general obligation or city based authority bonds. Caps that could only be raised with the express consent of the state legislature.
It is clear that Lt. Gov. Ravitch’s new plan attempts to duplicate much of this 1975 pattern on the state in 2010.
- His plan would lock the state into closing its existing structural budget gap within five years. The Governor would have to present a budget that would lay out estimated expenditures and revenues for the following five fiscal years now and in the future.
- It would require a quarterly assessment by an independent financial review board of the State’s progress toward permanent balance.
- The Governor could unilaterally make pro rata budget modifications if the review board determines that a quarterly evaluation determines a gap is appearing according to a GAAP basis, and the Legislature and Governor do not agree on a gap elimination plan.
- The proposal would limit the Governor’s ability to make policy through language in budget appropriations to match the Mayor of New York’s submission practice.
- It would allow $2 billion of personal income tax (PIT) backed debt a year for three years, but only if the debt is relatively short term, (not laid out specifically but presumed to be 10 year notes) and significant and recurring cuts or new revenue sources are determined and implemented. If the bonding is approved, most analysts do not believe that the PIT increase enacted last year could be allowed to sunset unless the state experiences an economic rebound of unheard of scope.
Lt. Gov. Ravitch is well aware that there are differences between the program proposed for the state now and what was imposed on the city 35 years ago. It is clearly unconstitutional to strictly force in statute a full control board on the state. The New York State government is a sovereign power under the U.S. Constitution that has to be structured as a republic so there are limits on the strictures that can be imposed on future legislatures, outside of constitutional amendments or expressed voter mandates, to restrict the ability to increase spending and raise revenues. So the proposed review board cannot have actual powers to control finances, but can only point out the imbalances.
It is argued in the plan that the current end of the State Fiscal Year on March 31 comes before a fairly accurate estimation of available revenues, especially personal income tax receipts, can be made. So the proposal requires that the current fiscal year be extended to June 30, and this will become the new fiscal year end date in the future.
Some serious difficulties in the plan are readily apparent.
- The state is not the city in its primary fiscal purpose. Eighty percent of the states finances are collected and disbursed to local governments. The city, on the other hand, funds and administers most programs directly. Quarterly modifications every year in state disbursement levels would produce absolute havoc on local programs and make it nearly impossible for local governments, school districts, health providers and higher education institutions to rationally plan their activities.
- The problems with the state budget are not primarily on the state operations side, but in “local assistance”, especially in the areas of health care and education which together take up seventy percent of state expenditures. The plan is silent on how these two huge areas can be made more efficient to lessen the true cost drivers on the state budget.
- The state, to a much greater degree than a local government, has to set long-term priorities and implement strategic programs. If forced to operate under the same GAAP strictures as the city, the state, for example, could not adopt a major business tax credit program designed to foster job retention/creation or investments without reserving funds to cover those credits in the year of implementation.
- You cannot hold the state legislature to future spending, debt and tax limits as you can with a city council. No statute, bond covenant or other contrivance will keep a future sovereign entity from undoing the strictures and making plans on their own. The legislature in SFY 2013-14 could say thank you very much for the spending the $6 billion in new debt supported, but now we will add billions more in taxes and programs. No one except the voters in the next election can stop them from spending and taxing forever.
- It is very doubtful in a state like New York that an advisory board would be free from politics and would make truly independent recommendations. Its very existence could not be guaranteed unless it was placed in the state Constitution, and therefore, the temptation would be very strong not to make recommendations likely to antagonize the sitting Governor or legislature.
- Changing the state fiscal year without also changing the timetable for approval of school budgets would make it near impossible for local governments and school districts to have a good sense of how much state support they can expect before they must get voter approval in May for school budgets or many local governments need to adopt budgets by July 1. Such uncertainty will almost certainly force these local jurisdictions to “plan for the worst” and recommend even higher local tax levels.
It should also be pointed out that the 1975 New York City reforms have had some rather bizarre and unfortunate consequences. The FCB lost its reason for being when the MAC bonds were retired in 2003, and the debt was taken over by the state through yet another largely unaccountable public benefit corporation. However, the state legislature appreciated the role the FCB had played and the board was retained, but now it has a purely advisory role, and it only exists at the pleasure of the state legislature.
An even stranger result is that, because of GAAP requirements to adequately cover debt service, hardly any debt in New York City is ever truly retired. In order to keep required cash reserves and debt service payments lower, on a thirty year bond the city generally capitalizes interest for the first twenty-two years, just outside the GAAP window cash requirements. Then, when faced with huge principal and interest payments for the last eight years, the city must refinance the entire principal of the bond in order to avoid a debt crisis. This is the main reason why New York City’s debt is actually higher than the state’s. Little city debt actually ever goes off the books. New York State would probably end up with a similarly wacky debt structure if the Ravitch GAAP plan is adopted.
Unfortunately, and predictably, the one percent sales tax imposed in the city to support the MAC bond debt service survived the retirement of the bonds and the funds were used to support additional spending. In fact, the city requested, and was authorized by the state, to raise its local sales tax another one-half percent in 2009.
We must conclude then that although, the overall effect of the reforms imposed on the city were undeniably positive, sadly, it does not seem that repeating this course will produce an overall good for the state. Clearly New York State’s fundamental problem is that is spends and borrows too much for the already too high tax levels it imposes. The bullet must be bit, and bit hard, if true and reasonable budget reform is to take place.
We need to find the will to do the following.
Absolutely no more debt floated to cover operating costs. No more gimmicks like using sales taxes to turn short term debt floated to cover deficits in state owed payments to local governments into long term bonds; or taking over $9 billion in future tobacco settlement revenues to provide a $4.5 billion one shot as in 2003; using PIT backed bonds to cover teachers raises or other public benefit contrivances that saddle our children and grandchildren with expenses to pay for our lack of discipline.
By the way, the Division of the Budget already lays out a five year GAAP forecast that reflects a good picture of the structural imbalance the state faces. However, clearly GAAP is not the panacea its proponents are hoping for. Cash basis accounting can and should work fine for the state with the right self-imposed discipline, and may be the best way for New York to adopt rational and well running budgets. This holds if, and only if, we do not allow expenditures or revenues to be floated, spread, spun-up or whatever other clever bean-counting contrivances have been produced to immediately create new and growing structural imbalances by moving receipts and expenses out of the year they actually come in or are due, or debt to again be used to cover operating spending holes.
There is one important structural change the state should adopt to eliminate its structural imbalances and provide transparency to the budget process.
Instead of a financial advisory board, the state legislature should create an independent legislative budget office modeled after the Congressional Budget Office to provide binding estimates on proposed changes to revenues and expenditures and to give a sense of how proposed and continuing programs will affect the state’s economy and its businesses and research institutions competitive place in the national and global economy.
No budget bill, or any other measure affecting state finances, could be adopted until the legislative budget office weighs in on costs and benefits. This would assure that members and the public would have a sense of how the budget comes together and how they would be affected.
Most importantly, the state must reduce its spending for its own operations and its commitments to local governments. Property taxes must be capped, mandates must be reduced on local governments, and taxes and regulations radically reduced on the companies that produce the jobs and incomes that can prevent this cycle of crisis from repeating. The state and its local governments must also take further steps to control the exploding liabilities that public employee wage and benefit programs are creating.
The state also must start making targeted investments in its infrastructure, despite, and really because of, the current downturn we are in. New York must position itself to take the forefront in the emergence of the new economy and the highly compensated jobs that will make this state a place the world wants to come to rather than get away from. This is the only real method by which New York will be able to support the services and quality of life its citizens need and deserve.
Finally, we all must work and support those that are committed to making our budget process better. No plan, no matter how well designed, will work unless the political will and leadership exists to make this state work again. The Lieutenant Governor has earned all of our respect and admiration for focusing us on these vital questions for our future despite everything else that is currently swirling around the Capitol.