The Local Squeeze

QUICK SUMMARY

State aid and property taxes are dropping simultaneously for the first time since 1980, while demand for government services continues to rise. More tough choices lie ahead as leaders look to balance the day-to-day needs of their communities with their long-term prospects.

Executive Summary

While states slowly recover in the wake of the Great Recession, local governments have been hit with a one-two punch: State aid and property taxes, which together account for more than half of local revenues, are dropping simultaneously for the first time since 1980. The blow comes as demand for government services rises, driven by stubborn unemployment rates, population growth, and other factors.

State Aid

State aid funds nearly a third of local government budgets on average. It fell by $12.6 billion, or 2.6 percent, in fiscal year 2010, the most recent year for which comparative data are available.^[i] This trend has continued, with 26 states reporting cuts for fiscal year 2011 and 18 doing so thus far for 2012.^[ii] Some cities, counties, and school districts are fighting back with lawsuits. Before 2010, state funding was covering a smaller share of local localities' growing expenses, falling from 33 percent in 2000 to 30 percent in 2009.

Property Tax

Property taxes, which amount to 29 percent of local government revenues, also are shrinking, reflecting the drop in real estate prices during the recession. In 2010, property tax revenues were $11.9 billion, or 2.5 percent, lower than the year before, the first annual decline since the mid-1990s and the largest in decades. They fell again in 2011, by another 3.1 percent, or $14.6 billion, and are expected to decrease further in 2012 and 2013.[iii] This is different from past economic downturns, when home values and property tax revenues remained relatively stable.

The Local Squeeze

Some localities have raised taxes and fees to try to generate more revenues. But most have tackled budget pressures by reducing spending. Policy makers have increased class sizes and shortened school days; cut a wide range of services, from public safety to trash collection; and privatized or consolidated certain functions, such as maintaining parks and handling 911 calls. They also have eliminated public sector jobs, shedding half a million employees, or more than 3 percent of the local government workforce, since September 2008 through layoffs and attrition. Half of those were teachers and other school administrators or staff members.^[iv]

The local squeeze will be felt for years to come. The nation's ongoing housing crisis and fragile economic recovery, the likelihood of additional cuts in federal and state aid, and greater demand for services all presage a rough road ahead for local governments.

OVERVIEW

A Drop in Key Revenues

In 2011, Ohio state policy makers cut $36 million from Cleveland's fiscal year 2012 budget, about 7 percent of the city's annual general fund revenues.^[i] Cleveland laid off more than 300 employees that year—more than half of them police officers and firefighters—and left another 145 vacant positions unfilled. It also shut down five fire companies. With six trash crews eliminated, residents waited longer to have their refuse and recycling collected.^[ii]

Meanwhile, the small town of Saline, Michigan, has struggled to balance the school district's budget with less state aid, fewer federal grants, and a drop in student enrollment. To close a deficit in fiscal year 2012, the school board dipped into its fund balance, cut 18 teachers, and negotiated union concessions. It was “the most difficult budget year in the last three years” and appears to be “the end of the road,” Scot Graden, superintendent of schools, told a reporter for AnnArbor.com in 2011.^[iii]

On the other side of the country, Stockton, California, saw its property tax revenues plummet and its foreclosure rate jump to the second highest in the nation in 2011, just below that of Las Vegas. The city now teeters on the verge of bankruptcy. This is a dramatic change from its boom years, when construction in Stockton tripled between 1997 and 2005 as new residents flocked to Silicon Valley.^[iv] But when the housing market crashed, state aid also fell. Revenues flowing to Stockton from California's sales and use taxes dropped by more than 30 percent between 2006 and 2010.^[v]

A Fiscal Vise

Cities, counties, and school districts across America are struggling with unprecedented challenges that have slowed their recovery from the recession. Many are in a fiscal vise, squeezed on one side by reduced state aid and property tax income—which together make up more than half of local revenues—and growing demand for services on the other. In fiscal year 2010, local governments lost 2.6 percent of their state aid and 2.5 percent of their property tax revenues from the previous year, for a total of $25 billion. The two revenue sources had not declined simultaneously since 1980.^[vi]

In recent decades, state aid and property taxes most often counterbalanced one another—one would rise as the other fell, effectively softening the blow. Since 2006, however, the growth of both sources slowed relative to local spending, and then dropped. By 2009, state aid and property taxes together covered a smaller share of local expenditures than at any time since the Census began tracking these funds in 1972.^[vii]

 

State Aid

The Great Recession was devastating for states. By late 2009, their tax revenues were 13 percent lower than before the downturn. In the majority of states, this income has crawled back above its 2007 peak level, but growth remains slow.^[i] With expenditures continuing to rise, states had to find more than $500 billion to close budget shortfalls between fiscal years 2009 and 2012.^[ii] While some states raised taxes and used one-time fixes, most closed their gaps with cuts, including in funding to municipalities. Nearly every local budget and service has been affected, including education, libraries, police and fire protection, roads and transportation, health, and housing. “Over the last three or four decades, every time there's been a recession and states have made cuts, those aid programs have taken the hit,” said Chris Hoene, director of the Center on Research and Innovation at the National League of Cities.^[iii]

States fund on average close to a third of local budgets.^[iv] Many states provide grants for general operations; in other cases, money is set aside for certain uses, such as road repair. States also sometimes share a portion of tax revenues with cities, counties, and school districts based on factors like population, need, and the community's existing tax burden.

Even with an infusion of federal stimulus funding, state aid overall declined in 2010 by more than $12.6 billion, or 2.6 percent.^[v] Cities of all sizes were hit. In Phoenix, for example, Arizona cut $58 million in shared revenue, more than 11 percent; in Wheaton, the seat of Minnesota's least populous county, a loss of just $82,500 amounted to a 12 percent reduction in its aid from the state.^[vi] Some of the hardest-hit localities have been in the Sunbelt area of the Southwest. In New Mexico, for instance, funding shrank by more than 10 percent, or nearly $500 million. California cut more than $5.7 billion in state support, a 6 percent reduction from the year before. Arizona and Nevada reduced their aid by more than 5 percent. Minnesota, Texas, Virginia, and Wyoming also were among those that made the largest cuts that year.^[vii]

Elementary and secondary education—traditionally shielded from cuts—is now a common target. In the 2011–2012 school year, 37 states cut aid to local school districts.^[viii]

For many localities, state aid was dropping even before the recession. In Florida, for example, it fell by $3 billion, or 14 percent, between 2007 and 2009.^[ix] Even when these funds were not shrinking, on a national level they were covering a smaller share of local governments' growing expenses, dropping from 33 percent in 2000 to 30 percent in 2009.^[x]

More recently, at least 26 states reported they reduced aid to localities for fiscal year 2011 and at least 18 have done so to date for 2012.^[xi] Nebraska, for instance, canceled all funding to cities and counties in 2011.^[xii] In Maryland, state aid for local health services declined more than 40 percent, and support for counties and municipalities dropped 60 percent between 2007 and 2012.^[xiii]

Not all states have had to make cuts. Alaska is one of a few that could afford to be generous to localities in recent years because of its severance tax revenue from oil. In fact, Alaska helped municipalities pay down unfunded pension obligations by more than $1.7 billion between fiscal years 2010 and 2013.^[xiv] Even though Connecticut faced a budget gap larger than a quarter of its general fund in 2010, the state increased local aid by more than 10 percent that year, and has not reported cuts since then.^[xv]

 

The State-Local Relationship

Some policy leaders who believe that cuts will encourage efficiency and force tough spending choices have promoted longer-term changes. For example, after reducing state aid by nearly $500 million for fiscal years 2012 and 2013, Ohio established the Local Government Innovation Program to provide $45 million in competitive grants for localities that enter into shared-service agreements or that centralize certain services.^[i] Governor John Kasich (R) said he hopes the financial incentives, along with cuts in state aid, will force Ohio's cities to change the way they do business.

In New Jersey, Governor Chris Christie (R) is taking a hard line on streamlining local governments to save money. He has led the charge for a cap on property taxes, local salary freezes, and regional cooperation. “If the state comes in and says, ‘If you share services with the guy next door and you can save a certain amount of money,' and you choose not to do it, then we will reduce municipal aid by that amount,” Christie said at a town hall meeting in March 2012.^[ii]

---

Profile: Pasadena Independent School District

Pasadena Independent School District is one of hundreds of school systems suing Texas over $4.3 billion in education cuts they believe are unconstitutional. In a community where 80 percent of families live below the poverty line, the school district laid off 340 employees, more than half of them teachers; others were bus drivers, crossing guards, and security personnel.

"Everything has been on the chopping block. There's not been a sacred cow," Candace Ahlfinger, an associate superintendent for Pasadena, told NPR.

---

 

As state aid decreases, some local governments are reducing their expectations for state aid going forward, but other localities are fighting back. In Texas, for example, more than half of the school districts sued the state for cutting $4.3 billion from school funding in fiscal year 2012. Many of the districts that have not joined the lawsuits say they cannot afford the litigation. The trial is expected to take place in October 2012.^[iii]

In 2011, the League of Minnesota Cities supported a petition by the attorney general to keep $725 million in appropriated local government assistance despite a state government shutdown that July. The court ruled in favor of the league, but the legislature and governor agreed to reduce the amount by $138 million the day before the funds were distributed.^[iv]

Federal Aid

Meanwhile, measures to reduce the federal deficit could hurt the portion of state revenues—about a third—that comes from federal grants, an impact likely to be shared with local governments.^[v] In particular, if the automatic spending cuts put in place as part of the 2011 Budget Control Act go into effect, grants to states and localities for education programs, low-income housing vouchers, community development, and workforce development programs could be among those affected. On the other hand, according to the Congressional Budget Office, federal deficit reduction could have long-term benefits for state and local budgets by stabilizing the national economy and keeping borrowing costs low.^[vi]

 

Property Taxes

With less money from federal and state governments, many localities are relying increasingly on their own revenues. Property taxes currently amount to nearly a third of their total revenues, more than any other locally raised source, especially in small towns and school districts.^[i] In 2010, however, collections fell by 2.5 percent nationally, or $11.9 billion. This was the first real decline since 1995 and the largest in three decades.^[ii] The drop was even greater in 2011, bringing total property tax revenue down by an additional $14.6 billion, or 3.1 percent from its peak.

The Housing Crisis

In previous economic downturns, the property tax was steadier than other major revenue sources, including sales and income taxes, primarily because home prices remained stable in those periods.^[iii] This time, the housing market collapsed and was a key driver of the Great Recession.

The impact on local budgets, however, was not immediate. Because properties in many communities are not assessed annually, tax collections between 2006 and 2009 were largely shielded from the consequences of plummeting home values.

Home prices fell by almost 20 percent between 2007 and 2011, with some states seeing much sharper declines. In Arizona, for example, values dropped almost 50 percent over that period.^[iv] These losses led to millions of mortgages going underwater, with unpaid principal balances larger than what the properties are worth. Meanwhile, 1.5 million houses were sold nationally because of default or foreclosure, fueling a downward spiral in prices and reducing the number of homeowners paying local property taxes.^[v]

Besides reducing the value of nearby homes and shrinking the tax base, vacant and foreclosed properties can drive up local costs for demolition, legal proceedings, and public safety.^[vi] In Baltimore, Detroit, and Chicago, the money required to demolish significant numbers of vacant and abandoned properties is eating up more of city budgets than they can afford, according to officials. Federal funds that have helped localities address these problems in the past also are beginning to shrink or expire.^[vii]

 

Rate Changes and Limits

Lags in assessments, along with additional foreclosures and the sheer magnitude of the drop in home values, will likely prolong the time it takes for revenues to recover. Moody's Analytics predicts that average property tax revenues will decrease by another 1 percent during 2012. The hardest-hit states—Arizona, California, Florida, Georgia, Illinois, Michigan, and Nevada—could experience even higher losses.^[i] The Government Accountability Office projects that property tax receipts peaked as a share of the national economy in 2009, and will not surpass that peak until 2039.^[ii]

---

Profile: Cleveland

Cleveland had a problem with vacant and abandoned properties even before the national housing bubble burst. In 2006, nearly 6 percent—more than 7,000—of the residential properties in the city were vacant. As a result, Cleveland lost $30 million in property tax revenue that year. It also collected less money from building permits and found it more difficult to issue bonds, because it borrows against its assessed property values. These problems have only intensified; by 2010, the vacancy rate had risen to more than 19 percent.^[iii]

There are other related costs. Fires broke out in vacant and abandoned properties much more often than in occupied homes, costing the city about $5,000 per incident. In addition to maintaining these properties, Cleveland spent more than $9 million over two years to demolish close to 1,000 properties that were beyond repair.^[iv]

---

 

Some local governments have responded by raising property tax rates. Sarasota, Florida, for example, has lost nearly a third of its tax base, or $3.5 billion, over the past three years. In September 2011, the city closed its budget shortfall by increasing property rates for the first time since 2007.^[v] In Washington, local governments set a target amount of property taxes to collect each year. If values fall, as they did in 2010, the tax rate rises automatically.^[vi]

But in many cases, states limit what municipalities can do to generate revenue. Following California's Proposition 13 in 1978, all but four states now in some way restrict their local governments from raising taxes.^[vii] Recently, in 2008 and 2011, respectively, Indiana and New York enacted caps on tax rates despite objections from localities.^[viii] States also can limit the amount levied on a given resident, the total revenue generated, or the share of property assessed as taxable.

 

The Impact

With little margin in their budgets, even small declines in revenues can present huge challenges for local governments. Many counties, cities, and school districts are rethinking the level of services they provide, the way they do business, and how they spend money. “Imagine that each of these local governments had 70 cents on the dollar,” explained Frank Shafroth, director of the Center for State and Local Government Leadership at George Mason University. “They cannot simply cut every budget line by 30 percent. One could hardly opt to respond to only 70 percent of 911 calls, or fill only 70 percent of potholes.”^[i]

Policy makers have shrunk the workforce and trimmed back services or found new ways to deliver them, among other actions. Meanwhile, they are monitoring the long-term impacts of the squeeze on public-sector pensions, debt, and credit ratings.

Downsizing Workforces

In 2009, localities spent $572 billion, more than 35 percent of their total costs, on salaries and wages.^[ii] Through a combination of layoffs, attrition, hiring freezes, and furloughs, local governments shed half a million jobs, or 3.4 percent of their overall workforce, between September 2008 and December 2011, with half of this loss coming from the education sector. At the same time, states eliminated an additional 150,000 jobs, or about 2.9 percent of their workers.^[iii]

Cities, counties, and school districts in Nevada, for example, lost nearly 15,000 jobs, 13.5 percent of all employees, in this three-year period. Localities in California trimmed close to 100,000 from their public sector workforce. Some states, like Texas, added net employees, but at a rate slower than population growth; as a result, the number of local government workers per capita there declined nearly 5 percent.^[iv]  

 

Cutting Key Services

From trash pickup and public safety to welfare programs and schools, local services affect residents' everyday lives. In many places, the recession has put greater strain on government programs by driving up demand. A number of their costs result from state mandates that require localities to provide specific services, such as special education, or to comply with certain reporting or competitive bidding requirements.

Welfare and Social Services

Many counties and some cities administer and partially fund public welfare programs such as cash or food assistance, healthcare, low-income housing, and workforce development. During the recession, the number of Americans in poverty grew to 46 million—a 14 percent increase between 2007 and 2010. In some states, the growth was at least 20 percent.^[i] Meanwhile, national unemployment reached a high of 9.6 percent in 2010; by March 2012, it had fallen somewhat to 8.2 percent.^[ii]

 

 

---

Profile: Riverside County

At the same time most localities are looking to cut back programs and services, some are being forced to take on new responsibilities. In 2011, California began diverting nonviolent, non-serious, non-sexual offenders to local jails and shifting responsibility for parole violators and parolees to county probation officers. The state is also increasing county responsibility for various mental health programs, drug and alcohol programs, child welfare and foster care, and adult protective services.

With a budget shortfall of $80 million in fiscal year 2012, Riverside County needed a way to pay for these new obligations. The county decided to charge inmates $142 per day for food, healthcare, and other expenses, taking it out of their wages once they are released. The county hopes to raise between $3 million and $5 million in annual revenue.

---

 

As in past recessions, all of this has driven demand for local health and safety net programs.^[iii] In Racine County, Wisconsin, for instance, participation in programs for rent assistance, energy assistance, Medicaid, Wisconsin Food Shares, and child-care support all grew about 12 percent between 2008 and 2011. In Maryland, the number of residents coming to Harford County for food stamps has more than doubled since 2007.^[iv]

But many local offices serving these constituencies are shrinking budgets and staff. For example, overloaded county-based systems in California, Ohio, and Alabama now rely on workers specializing in child protective services to also cover adult cases involving elders and people with disabilities.[v] The New York City Housing Authority has struggled with backlogs in repairing and renovating public housing units. In June 2011, the agency launched a Work Order Task Force to deal with the issue, but 280,000 outstanding repairs remained in the queue at the end of the year.^[vi]

Education

Public school resources also are being stretched in the wake of the recession. Rising poverty rates have resulted in more poor students who require greater attention and resources—as evidenced by the number of students receiving federally subsidized lunches, which increased 17 percent since the 2006–2007 school year.^[vii] Some school officials also are seeing a growing number of students whose parents choose to send them to public instead of private schools.^[viii]

Meanwhile, many schools are receiving less financial support from states. Since 2008, 17 states have reduced per-student funding by more than 10 percent. The impact was buffered by the infusion of about $90 billion in federal stimulus funds for education in 2010 and 2011. ^[ix] But the expiration of the funds this year leaves local governments on their own in the face of additional reductions in state aid.

Changes in state aid hit some districts harder than others. After Texas enacted $4.3 billion in cuts to school districts in 2012, for example, poorer districts wound up with $800 less per pupil than wealthier ones.^[x]

With fewer resources, some school districts have eliminated courses; reduced the school week from five to four days; laid off teachers, support staff, and guidance counselors; or asked families to pay for sports and extracurricular activities.

In Portland, Oregon, class sizes grew as the school district was forced to eliminate teaching positions to balance its budgets in 2010 and 2011. To mitigate the impact, high schools replaced class time with study halls supervised by teaching assistants or other adults.^[xi] Similarly, the loss of 5,100 school employees across Pennsylvania, including more than 1,600 teachers, led to larger class sizes and fewer electives, such as foreign languages and music. In fiscal year 2012, the Philadelphia school district—the state's largest—cut 12 percent of the workforce, eliminated programs, and received a $53 million aid package from the city, funded by property tax and parking fee increases.^[xii]

 

---

Public Safety

Maintaining safe streets is another critical responsibility for most cities and counties. With budgets increasingly tight, local leaders have begun weighing the costs and, in many cases, trimming services.

Foley, Minnesota, near Minneapolis, stopped paying nearby Benton County Sheriff's deputies to patrol streets, replacing them with private security guards who, while cheaper, do not have the authority to investigate crimes or make traffic stops.^[xiii] Los Angeles' budget for fiscal year 2012 cut overtime pay for police by $80 million, and eliminated ambulances and fire trucks at one in four fire stations throughout the city.

Nearly two-thirds of finance officers said that public safety costs have increased in recent years, putting pressure on city budgets, according to a 2011 survey by the National League of Cities.^[xiv] Some counties have seen costs rise even though crime rates have remained constant or even declined during the recession; among other reasons, offenders spend more time in jail because they have less money to pay bail or because public employee layoffs cause backlogs in criminal trials. ^[xv]  

Other Services

A range of other day-to-day responsibilities long provided by local government also have been hit, taking a toll on residents' quality of life. Services such as trash pickup, park maintenance, and library programs are now often on the chopping block.

The small town of Belvidere, New Jersey, for instance, opted in early 2012 to cut garbage collection entirely, but still faced a projected deficit of $250,000.^[xviii] Residents now have to haul their own trash to the landfill or pay for private service. Trash collection also has had an unexpected impact on Tampa, Florida, where foreclosures and hard economic times have translated into less volume dumped in the city's incinerator, reducing the revenue from that facility. Local officials have maintained regular trash services, but only by imposing a 15 percent fee increase.^[xix]

As Dallas closed a $130 million budget shortfall for fiscal year 2011, it cut its workforce by 450 employees—nearly 4 percent of the total—with more than half from the parks department. As a result, park maintenance was performed less frequently and recreation centers reduced their hours.^[xx]

Cities across the country are struggling to keep libraries staffed and open, even as the numbers of visitors climb. Since the start of the recession, Phoenix laid off a quarter of its full-time library staff and trimmed hours by nearly 40 percent. When budget gaps grew in Philadelphia in 2008, Mayor Michael Nutter's (D) proposal to close 11 of the city's 49 library branches sparked public outcry, protests, and litigation. Nutter backed down, calling the attempt his “biggest mistake” as mayor. But the city still reduced library funding by nearly 20 percent over the next two years.^[xxi]

 

Other Options

Increasing Efficiency

Some policy makers have promoted privatization, regional partnerships, or technological innovations to try to reduce costs and increase efficiency. The New Jersey Privatization Task Force, commissioned by Governor Christie in 2010 and composed primarily of business leaders, concluded that “through sensible planning and implementation, privatization offers a variety of benefits to governments and taxpayers, including lower costs, improvements in the quality of public services and access to private sector capital and professional expertise.” The report cited cost savings in other localities, such as when Indianapolis opened more than 80 services to competitive bidding throughout the 1990s.^[i]

In recent years, Anaheim, California, and Luzerne County, Pennsylvania, contracted out park maintenance, graffiti removal, and the collection of delinquent taxes to the private sector. Facing a $190 million deficit in the 2010 budget, the Dallas City Council turned over the operations of the city zoo to a nonprofit organization.^[ii]

Others have restructured departments or consolidated services with other localities. The city of Olathe, Kansas, recently partnered with surrounding Johnson County to build and run a single 911 dispatch facility, saving the city more than $300,000 in annual staffing and equipment costs. In Nevada, Washoe County and the cities of Sparks and Reno have started issuing streamlined, multi-jurisdictional business licenses from a single location in an attempt to improve efficiency.^[iii]

Even before the recession, some localities made investments in technology that reduced the number of workers needed to deliver services. For example, trucks that lift and dump garbage cans using hydraulic arms, such as those used in Beaverton, Oregon, require only one worker per route. Santa Clara County, California, implemented an online tool for visitation requests for inmates in its large jail system, lowering the demand for staff and reducing complaints.^[iv] Officials in Glendale, Arizona, now employ remote technology to monitor outages in traffic lights instead of having volunteers drive around the city once every three to six months.^[v] On the other hand, these improvements and the cost savings they yield often require large upfront investments that tight budgets may make impossible.

Using One-Time Fixes

Some localities have turned to one-off measures, including spending emergency funds or selling assets to avoid drastic cuts. For instance, in fiscal year 2011, Minneapolis moved $1.8 million from its general contingency fund to the fire and police departments to avoid cutting staff or closing stations. The transfer saved 31 firefighter positions.^[vi]

In a 2011 survey, 40 percent of counties reported using rainy-day funds, and almost half said they delayed purchases and repairs to keep their finances in order the previous fiscal year.^[vii] Cory Booker (D), mayor of Newark, New Jersey, sold the police and fire headquarters and symphony hall at the end of 2010 to fill budget gaps anticipated in the following year.^[viii] In 2008, Chicago leased its parking system, the third largest in the country, to a consortium led by Morgan Stanley to balance that year's budget. The city received more than $1 billion, but the company now expects to make at least $11 billion over the course of the 75-year deal.^[ix]  

 

Long-term Obligations

Exacerbating Pension and Debt Woes

Local governments are legally obligated to pay for some large-ticket costs, such as debt service and pension obligations, which can consume a large share of their budgets. For many municipalities, those costs had been growing for years, but the Great Recession exacerbated the impact.

In 2010, for example, debt service on incinerator bonds in Harrisburg, Pennsylvania, had grown to $68 million, more than the city's entire general fund budget.^[i] The capital city soon found itself unable to make payments, and the state passed legislation allowing the governor to mandate oversight of Harrisburg's finances.

When Central Falls, Rhode Island, filed for bankruptcy in 2011, the small city owed $80 million to its public-sector retirees. Since then, the state-appointed receiver for the insolvent city signed new contracts with retired employees that reflected deep concessions, reducing the unfunded pension liability by almost 50 percent.^[ii]  

Risking Credit Ratings

Despite the fiscal squeeze, true debt crises at the local level—defaults and bankruptcies—are rare. Only 54 of more than 15,000 municipal issuers rated by Moody's Investor Service defaulted between 1970 and 2009, and most were in the healthcare and housing sectors.^[iii] Bankruptcy is equally uncommon; since 1980, less than half a percent of all issuers have gone through the process, a rate that remained unchanged during the recession.^[iv]

Reneging on obligations to bondholders has traditionally been a last resort for struggling localities, in part because of the associated costs—penalties, fees, and potentially higher borrowing costs in the future. States, also concerned with these costs, have gone to great lengths to prevent local defaults and bankruptcies. Fearing ripple effects in the credit markets, for instance, Pennsylvania in 2011 appointed a receiver for Harrisburg and blocked the city from filing for bankruptcy.^[v] Michigan also seized control over several struggling communities, including Flint and Pontiac, to restore stability and prevent default. Under Michigan law, emergency managers in these takeovers can change union contracts, lay off workers, and recommend the consolidation or privatization of functions.^[vi]

Still, state aid cuts, declining property tax collections, and a slow recovery have hampered some localities' ability to borrow. Early in 2011, Moody's warned that it would be the “toughest year yet” for local government budgets, and in some instances, their credit ratings have begun to reflect that—based on declining core revenues, high unemployment, and falling real estate values.^[vii]

In 2010 and 2011, there were 87 municipal super credit downgrades—downgrades of three or more ranks. A third of these involved cities, counties, or school districts (the remainder occurred in special purpose governments, largely in the housing sector). In November 2010, Atlantic City, New Jersey, was downgraded by three notches, based on the likelihood of declines in gambling revenues following the recession. Sarasota County, Florida, largely because of its eroding property tax collections, fell by six ranks in fall 2011.^[viii]

 

Conclusion

Localities' dependence on two faltering sources of revenue—property taxes and state aid—presents profound challenges. The housing market is still struggling and additional cuts in federal and state funding are likely. At the same time, demand for government services is rising. More tough choices lie ahead as leaders look to balance the day-to-day needs of their communities with their long-term prospects. Their decisions may produce temporary fixes or permanent changes. Either way, the impact of the local squeeze will be felt for years to come.

REFERENCES

Executive Summary

[i] All data in real, inflation-adjusted terms. According to U.S. Census definitions, federal funds passed through states to localities are considered intergovernmental revenue or “state aid” to local governments. Any federal funds from the American Recovery and Reinvestment Act (ARRA) passed to localities through states are captured in this intergovernmental revenue data. Between 1987 and 2009, federal grants that did not pass through the state, but that flowed directly to localities, made up an additional 3 to 4 percent of local expenditures. Pew Center on the States analysis of U.S. Census Bureau “Annual Survey of State Government Finances.”

[ii] Pew Center on the States analyzed survey responses from state legislative and governor's offices on whether the state cut local assistance. The two sources did not always coincide, possibly due to definitional differences or reporting discrepancies between the offices. Pew reported a cut if either the legislative or governor's office reported a cut. National Conference of State Legislatures Survey of Legislative Budget Offices, March 2011; National Governors Association and National Association of State Budget Officers, The Fiscal Survey of States, Fall 2010 and 2011.

[iii] Property tax receipts in 2010 and 2011 decreased in nominal terms as well, by $4.8 billion and $529 million respectively. 2010 was the first decline in nominal terms since 1979. All years are fiscal years. Pew Center on the States analysis of U.S. Census Quarterly State and Local Tax Survey; National League of Cities, Cities Cut Jobs and Infrastructure as Finances Continue to Weaken, September 27, 2011.

[iv] Pew Center on the States analysis of Bureau of Labor Statistics National Employment, Hours, and Earnings Database. Seasonally adjusted local employment has fallen from 14.6 million in September 2008 to 14.1 million in December 2011.

A Drop in Key Revenues

[i] The cut was applied to fiscal years 2011 and 2012, but with 2011 already under way, the change effectively altered the 2012 budget cycle. City of Cleveland, “State Imposes Budget Deficit on City of Cleveland,” May 16, 2011; City of Cleveland, “2011 Budget Book,” March 28, 2011, page 16.

[ii] City of Cleveland, “State Imposes Budget Deficit on City of Cleveland,” May 16, 2011; Tracy Carloss, “Cleveland mayor says all departments affected by city layoffs,” Newsnet5, May 16, 2011.

[iii] Lisa Allmendinger, “Saline School Board approves ‘structurally deficient' $51.5 million operating budget for 2011 – 2012,” AnnArbor.com, June 29, 2011.

[iv] In 2011, more than 5 percent of homeowners in the Stockton Metro Area filed for foreclosure. “2011 Year-End Foreclosure Report: Foreclosures on the Retreat,” RealtyTrac, January 9, 2012; Alison Vekshin, “Stockton Going Broke Shows Cop Pay Rising as Property Collapsed,” San Francisco Chronicle, March 8, 2012.

[v] City of Stockton Comprehensive Annual Financial Report, June 30, 2010, page 188–189.

[vi] Pew Center on the States analyzed historical trends in property tax receipts and intergovernmental transfers from states to localities. Adjusting for inflation, at least one of these revenues grew each year from 1981 to 2009. Census State Government Finance Database, the U.S. Census State and Local Government Finance Database, and the U.S. Census Quarterly Tax Survey.

[vii] Pew Center on the States analysis of U.S. Census State and Local Government Finance Database.

State Aid

[i] U.S. Census Bureau, “Local Governments and Public School Systems by Type and State,” 2007.

[ii] Christopher Hoene and Michael A. Pagano, “Cities & State Fiscal Structure,” Research Report on America's Cities, National League of Cities, 2008.

[iii] Lucy Dadayan, “Tax Revenues Surpass Previous Peak But Growth Softens Once Again,” The Nelson A. Rockefeller Institute of Government, State Revenue Report, April 2012.

[iv] Pew Center on the States analysis of U.S. Census data on Historical State Tax Collections by State; National Conference of State Legislatures, State Budget Update, Fall 2011, page 1.

[v] Rob Gurwitt, “As states cut aid, localities learn to do less with less,” Stateline, October 3, 2011.

[vi] U.S. Census Bureau State and Local Government Finance Database.

[vii] Pew Center on the States analysis of U.S. Census State Government Finance Database. For many reasons, comparing transfers from the state to localities is challenging. Constitutional requirements regarding K–12 education funding, state mandates for certain social services and statutory oversight of local fiscal stress all vary across states. Additionally, states may have different relationships depending on the type of locality, as cities, counties, and school districts are often engaged in very different functions.

[viii] City of Phoenix Arizona, Comprehensive Annual Financial Report, 2011, page 218; Jay Weiner, “Even small cuts in state aid can cause big problems for Minnesota's small towns and counties,” MinnPost, October 27, 2010.

[ix] State aid declined by $574 million in Arizona, $5,715 million in California, $927 million in Minnesota, $498 million in New Mexico, $214 million in Nevada, $2,199 million in Texas, $1,016 million in Virginia, and $185 million in Wyoming. All amounts are in 2010 dollars. Pew Center on the States analysis of U.S. Census State Government Finance Database.

[x] Phil Oliff, and Michael Leachman, “New School Year Brings Steep Cuts in State Funding for Schools,” report by Center on Budget and Policy Priorities, October 7, 2011.

[xi] As a result, aid from the state in Florida went from covering 27 percent of local expenditures in 2000 to just 19 percent in 2009. Pew Center on the States analysis of U.S. Census State and Local Government Finance Database.

[xii] In 2000, transfers from states to localities totaled $327 billion, compared to local expenditures of $996 billion. By 2009, transfers had grown to $491 billion, but it was not enough to keep pace with local expenditures, which climbed to $1.641 trillion that year. Pew Center on the States analysis of U.S. Census State and Local Government Finance Database.

[xiii] National Conference of State Legislatures Survey of State Legislative Fiscal Offices, March 2011; National Governors Association and National Association of State Budget Officers, The Fiscal Survey of States, Fall 2010 and 2011.

[xiv] Rob Gurwitt, “As states cut aid, localities learn to do less with less,” Stateline, October 3, 2011.

[xv] Department of Legislative Services, Maryland, Overview of State Aid to Local Governments Fiscal 2012 Allowance, January 2011.

[xvi] David Teal, “Unfunded Liability in Alaska's Retirement Systems: Where it Came From and How to Eliminate It,” Legislative Finance Division, Alaska, September 2011; Pew Center on the States interview with David Teal, Director of Legislative Finance Division, January 27, 2012.

[xvii] Elizabeth McNichol, Phil Oliff and Nicholas Johnson, “States Continue to Feel Recession's Impact,” Center on Budget and Policy Priorities, March 21, 2012; Pew Center on the States analysis of U.S. State and Local Government Finance Database.

The State-Local Relationship

[i] Rob Gurwitt, “As states cut aid, localities learn to do less with less,” Stateline, October 3, 2011; Ohio Legislative Service Commission, Budget in Brief, HB 153 as Enacted, page 3.

[ii] Kenny Walter, “Christie touts shared services at town hall meeting,” Alanticville, March 15, 2012.

[iii] Anna Whitney, “Districts Avoid School Finance Lawsuits, Cite Finances,” The Texas Tribune, April 3, 2012; Sharie Harvin, “CCSD School Board President Wants to Sue State” 8NewsNOW, March 19, 2011; Claudio Sanchez, “Texas Schools Grapple with Big Budget Cuts,” National Public Radio, December 22, 2011.

[iv] Pew Center on the States interview with Gary Carlson, Intergovernmental Relations Department, League of Minnesota Cities, December 20, 2011; Minnesota Department of Revenue, “2011 First Special Session Chapter 7,” July 20, 2011. Pew calculations determined the total reduction in appropriated funds by the state to cities and counties in fiscal year 2011 and confirmed the data using Minnesota Department of Revenue documents provided by an official at the League of Minnesota Cities.

[v] Claudio Sanchez, Texas Schools Grapple With Big Budget Cuts, National Public Radio, December 22, 2011; Cynthia Cisneros, “Pasadena ISD hit hard by budget cuts,” ABC13, KTRK-TV, Houston, Texas, August 19, 2011.

[vi] Cherryl H. Lee, Robert Jesse Willhide, and Nancy I. Higgins, “State Government Finances Summary: 2010,” Government Division Briefs, U.S. Census Bureau, December 2011.

Property Taxes

[i] Federal Funds Information for States, “State-by-State Analysis of BCA Sequester,” FFIS Special Analysis 11-06, December 2, 2011; “The Macroeconomic and Budgetary Effects of an Illustrative Policy for Reducing the Federal Budget Deficit,” Congressional Budget Office, July 14, 2011.

[ii] Property taxes represented about 29 percent of all local government revenues, over $400 million, in 2009. This was by far the largest source of revenue from taxes. These shares are even higher for townships and school districts. U.S. Census Survey of State and Local Government Finances.

[iii] The decline from Q4 2009 to Q4 2010 was the largest in real and nominal terms since 1988. Pew Center on the States analysis of U.S. Census Bureau State and Local Quarterly Tax Summary Data, inflation adjusted. To reflect differences in the Census Bureau's survey methodology for property tax revenue data, property tax revenue prior to the fourth quarter of 2008 has been adjusted upward by 7.7 percent; this is in accordance with the changes described in the Bureau's bridge study. To read the full bridge study, please refer to: www2.census.gov/govs/qtax/bridgestudy.pdf.

[iv] Richard Dye and Andrew Reschovsky, “Property Tax Responses to State Aid Cuts in the Recent Fiscal Crisis,” prepared for State and Local Finances After the Storm: Is Smooth Sailing Ahead?, March 30, 2007. 

[v] Federal Housing Finance Agency Home Price Index.

[vi] Homes were sold off between December 2006 and May 2010. Laurie Goodman, “Dimensioning the Housing Crisis,” Financial Analyst Journal, Vol. 66, No. 3, May/June 2010.

[vii] Some academic studies have found relationships between vacant or foreclosed properties and crime. William C. Apgar, Mark Duda, and Rochelle Nawrocki Gorey, The Municipal Cost of Foreclosures: A Chicago Case Study, Housing Finance Policy Research Paper 2005-1, Homeownership Preservation Foundation (Minneapolis, Minn.: 2005); Christiana McFarland, Casey Dawkins, and C. Theodore (Ted) Koebel, “Local Housing Conditions and Contexts: A Framework for Policy Making” (Washington: National League of Cities, 2007); and Dan Immergluck and Geoff Smith, “The Impact of Single-family Mortgage Foreclosures on Neighborhood Crime,” Housing Studies 21, no. 6 (2006): 851–866.

Rate Changes and Limits

[i] Moody's Analytics regularly updates their forecasts. In September 2011, they predicted that absent policy change average property tax revenues will decrease by 4.4 percent in 2012. Dan White, “Timing is Everything,” Government View: State & Local, Moody's Analytics, June 2012; Moody's Analytics, U.S., Regional, and Southeast Economic Outlook presentation, Washington, D.C, September 22, 2011.

[ii] According to Moody's estimates, absent policy change, these states are predicted to see losses in property tax revenue above 5 percent in 2012. In Michigan, California and Florida, declines are forecasted to be greater than 10 percent. Moody's Analytics, U.S., Regional, and Southeast Economic Outlook presentation, Washington, D.C, September 22, 2011.

[iii] State and Local Governments' Fiscal Outlook April 2012 Update, United States Government Accountability Office.

[iv] Community Research Partners, “$60 Million and Counting: The cost of vacant and abandoned properties to eight Ohio cities,” February 2008, page 5-4 and 5-47; Rich Exner, “Vacant homes for sale numbered more than 20,000 in greater Cleveland: Sunday's numbers,” Cleveland.com, May 15, 2011.

[v] This amounts to approximately $7,775 per property. Community Research Partners, “$60 Million and Counting: The cost of vacant and abandoned properties to eight Ohio cities,” February 2008, page 5-22, 47.

[vi] David McSwane, “City of Sarasota will raise property tax rates” Herald-Tribune, September 20, 2011.

[vii] Between 2009 and 2010 the total assessed valuation of property in Washington fell by 6.2 percent, but levies increased 1.8 percent. To achieve this, the statewide average tax rate rose from $9.41to $10.28 per $1,000. Tom Christensen and Beth Leech, “Property Tax Statistics 2010,” Department of Revenue, Washington State, accessed January 27, 2012.

[viii] Proposition 13 was the first and most famous outcome of the property tax revolts of the late 1970s and early 1980s. The proposition was passed on June 6, 1978. It rolled back assessment values to 1976 levels and limited growth in these values at 2 percent per year while ownership remained the same. The proposition also imposed a 1 percent limit on the property tax rate. The measure was approved with the support of two thirds of Californians. See Bing Yuan, Joseph Cordes, David Brunori, and Michael Bell, “Tax and Expenditure Limitation and Local Public Finance,” in Erosion of the Property Tax Base: Trends, Causes and Consequences edited by Nancy Y. Augustine, Michael E. Bell, David Brunori, and Joan M. Youngman, Lincoln Institute of Land Policy, 2009; Pew Center on the States analyzed data on revenue limits that set the maximum rate of growth for total revenue or spending, levy limits that cap total property tax collections, rate limits that set a ceiling on the rate at which properties are taxed, and assessment limits that cap the share of property considered taxable from the Significant Features of the Property Tax, Lincoln Institute of Land Policy and George Washington Institute of Public Policy, 2010.

The Impact

[i] “Governor signs property tax relief and reform bill,” State of Indiana Office of the Governor, Mitchell E. Daniels Jr., News Release, March 19, 2007; “Historic Property Tax Cap Becomes Law,” New York State Senate, Press Release, June 30, 2011.

[ii] Pew Center on the States Interview with Frank Shafroth, director of the Center for State and Local Government Leadership at George Mason University, April 20, 2012.

[iii] By contrast, states spent only 13 percent of their budget on employees that year. U.S. Census Bureau State and Local Government Finance Database.

[iv] Seasonally adjusted local employment has fallen from 14.6 million in September 2008 to 14.1 million in December 2011. Pew Center on the States analysis of Bureau of Labor Statistics National Employment, Hours, and Earnings Database.

Cutting Key Services

[i] Nevada had the largest relative drop in local government employment of all states. The loss in California amounted to 5.1 percent of the total workforce. Texas added 22,000 local workers, but 1.4 million residents. Pew Center on the States analysis of Bureau of Labor Statistics State and Metro Area Employment, Hours, and Earnings Database.

[ii] U.S. Census Bureau, Current Population Survey, 2008 to 2011, Annual Social and Economic Supplements.

[iii] U.S. Bureau of Labor Statistics, Local Area Unemployment Statistics; “Regional and State Employment and Unemployment – March 2012," Bureau of Labor Statistics, April 20, 2012.

[iv] U.S. Government Accountability Office, “State and Local Governments: Knowledge of Past Recessions Can Inform Future Federal Fiscal Assistance,” GAO-11-401, March 31, 2011.

[v] Jonathan Delagrave, director of the Human Services Department, reported statistics on Racine County's safety net programs. Lindsay Fiori, “Racine County children faring badly in recession, too,” The Journal Times, September 23, 2011; Allison Trobiano, “Harford families need $62,000 to cover basic costs, study says,” The Baltimore Sun, February 23, 2012.

[vi] Melissa Maynard, “Anatomy of a backlog: How Vermont fell behind on adult protective services,” Stateline, December 14, 2011. See the Stateline series “Backlogged” at http://www.pewstates.org/projects/stateline/special-features/backlogged-the-growing-wait-for-state-services-85899374142 for more information on how agencies at the state level also have struggled with this experience.

[vii] Chris Le, “An Uphill Battle: City Cuts Into Backlog of Public Housing Repairs,” The Uptowner, December 20, 2011.

[viii] Localities with a high fraction of at-risk students have high costs; it has been estimated that “the cost of providing a given output is 9.69 percent higher if 10 percent of a district's students are poor than if none are poor.” Thomas A. Downes and Thomas F. Pogue, “Adjusting School Aid Formulas for the Higher Cost of Educating Disadvantaged Students,” National Tax Journal, 47.1 (1994); Sam Dillon, “Lines Grow Long for Free School Meals, Thanks to Economy,” The New York Times, November 29, 2011.

[ix] From 2006 to 2010, public schools saw an increase of 1.5 percent, while private school enrollment decreased by 2.91 percent, according to enrollment data from the U.S. Department of Education. Greg Toppo, “Recession fuels shift from private to public schools,” USA Today,  January 6, 2010.

[x] P. Oliff and M. Leachman, “New School Year Brings Steep Cuts in State Funding for Schools,” report by Center on Budget and Policy Priorities, October 7, 2011; Recovery.gov: Track the Money, “Contract, Grant and Loan Programs,” http://www.recovery.gov/Transparency/fundingoverview/Pages/contractsgrantsloans-details.aspx#Education, accessed March 19, 2012. Total education funds paid out figure is updated frequently. Amount reported in the brief is from March 19, 2012.

[xi] Claudio Sanchez, “Texas Schools Grapple With Big Budget Cuts,” National Public Radio, December 22, 2011.

[xii] Molly Hottle, “Portland Schools to see widespread layoffs, but deeper cuts to PE and high schools avoided for now,” The Oregonian, July 20, 2010; Betsy Hammond, “Portland School Board OKs budget that flat-funds schools, cuts 70 teaching jobs,” The Oregonian, May 24, 2011.

[xiii] Associated Press, “Nearly 70 percent of Pa. school districts increased class sizes, survey shows,” September 16, 2011; Associated Press, “When Pa. cut school aid, poorer districts lost,” August 7, 2011.

[xiv] Nate Berg, “Privatizing Police Work,” The Atlantic,October 21, 2011.

[xv] National League of Cities, City Fiscal Conditions in 2011, September 2011.

[xvi] Pew Center on the States interview with Jacqueline Byers, Director of Research, National Association of Counties, November 21, 2011.

[xvii] Rob Gurwitt, “In California, a state and local war over revenues and responsibilities,” Stateline, October 5, 2011.

[xviii] Phil Willon, “Riverside County to make inmates pay jail costs,” Los Angeles Times, November 20, 2011, accessed March 6, 2012; Aaron Smith, “California county to charge prisoners for their jail stay,” CNNMoney, November 9, 2011.

[xix] Lynn Olanoff, “Belvidere still faces 13 percent tax increase despite garbage cut,” The Express-Times, February 9, 2012.

[xx] Kevin Wiatrowski, “Tampa leaders work to bolster solid waste finances,” The Tampa Tribune, March 1, 2012.

[xxi] Rudolph Bush, “Dallas city manager expects to cut 500 jobs,” Dallas Morning News, July 15, 2010; Jason Whitely, “450 City of Dallas workers get layoff notices,” WFAA Dallas, August 6, 2010.

[xxii] The Library in the City: Changing Demands and a Challenging Future, The Pew Charitable Trusts Philadelphia Research Initiative, March 7, 2012. www.pewtrusts.org/our_work_report_detail.aspx?id=85899373217.

[xxiv] Tammy Daniels, “Stamford rejects school budget, cuts town budget,” iBershires.com, March 6, 2012; Town of Stamford Selectboard Meeting Minutes, March 15, 2012.

[xxv] Meghan Foley, “Stamford's budget hits snag,” North Adams Transcript, March 7, 2012.

Other Options

[i] The New Jersey Privatization Task Force, Report to Governor Chris Christie, May 31, 2011, page 1.

[ii] Motoko Rich, “A Hidden Toll as States Shift to Contract Workers,” The New York Times, November 6, 2011; Leonard Gilroy, Harris Kenny, Katrina Currie, and Elizabeth Stelle, “Privatizing ‘Yellow Pages' Government,” The Commonwealth Foundation and the Reason Foundation, May 26, 2011.

[iii] The jury is still out on whether these measures save money without compromising the quality of services. Empirical studies show that privatization of local waste and water management is not systemically cost saving. Consolidation can save in one area, but generate new costs in other areas, balancing out the net effect. Germà Bel and Mildred Warner, “Does privatization of solid waste and water services reduce costs? A review of empirical studies,” Resources, Conservation and Recycling, 52 (2008) 1337–1348; Daniel Vock, “Governors look to consolidate, eliminate, follow lead of Depression-era leaders,” Kennebec Journal Morning Sentinel, February 23, 2009; Examples of recent consolidations from Brian Heaton: “2011 Digital Cities Survey Winners Announced,” Government Technology, November 2, 2011; “Washoe County and the Cities of Sparks and Reno, NV Initiate One-Stop Shop for Business License,” International City/County Management Association, November 21, 2011.

[iv] “Online Inmate Information and Jail Visit Reservation,” 2009 Finalist, Innovations in American Government Awards, Ash Center for Democratic Governance and Innovation.

[v] Sarah Rich, “Light Monitoring System Keeps Glendale, Ariz. Out of the Dark,” Government Technology, October 24, 2011.

[vi] Minneapolis Mayor's Office News Center, “Mayor, Council President Propose Contingency Funds to Mitigate State LGA Cut,”August 9, 2010.

[vii] “The Recession Continues: An Economic Status Survey of Counties,” National Association of Counties, March 2011.

[viii] Michelle Conlin, “States and cities selling public assets to cover their costs,” Associated Press, March 13, 2011.

[ix] Darrell Preston, “Morgan Stanley Group's $11 Billion Makes Chicago Taxpayers Cry,” Bloomberg News, August 9, 2010.

Long-term Obligations

[i] Tamara Keith, “Harrisburg, Pa., Incinerator Burns Hole in City Pocket,” National Public Radio, June 21, 2010.

[ii] Ted Nesi, “Why Central Falls owes its retirees $80 million in benefits,” WPRI.com Eyewitness News, July 19, 2011; Dee DeQuattro, “Judge approves agreement between receiver and retirees,” 630WPRO.com, January 9, 2012.

[iii] Presentation by Bob Kurtter, Moody's Investor Service, U.S. Municipal Credit Update, Charlotte, North Carolina, March 31, 2011, page 3.

[iv] The Pew Center on the States, “Harrisburg and a Brief History of Municipal Bankruptcies,” October 19, 2011.

[v] Pennsylvania Senate Bill 1151 amended the state's fiscal code to prevent cities of the third class from declaring bankruptcy, General Assembly of Pennsylvania, Senate Bill 1151, Session of 2011; Pennsylvania Office of the Receiver of the City of Harrisburg, “About the Office of Receiver,” accessed April 30, 2012, http://www.portal.state.pa.us/portal/server.pt?open=514&objID=1052658&parentname=ObjMgr&parentid=5&mode=2.

[vi] State of Michigan Department of the Treasury, Emergency Manager Information, http://www.michigan.gov/treasury/0,1607,7-121-1751_51556-201116--,00.html, and Summary of the Local Government and School District Fiscal Accountability Act Process, http://www.michigan.gov/treasury/0,1607,7-121-1751_51556-198770--,00.html. 

[vii] “2011 Sector Outlook for U.S. Local Governments: Toughest Year Yet,” Moody's Investor Service, March 17, 2011.

[viii] Moody's Investor Service, “Munis' Tough Conditions Likely to Endure,” MuniMonitor, December 5, 2011, page 3; Moody's Investor Service, “U.S. Municipal Rating Revisions Through the Great Recession,” Special Comment, August 31, 2011; Moody's Investor Service, “U.S. Public Finance: Third Quarter Sets New Peak for Ratio of Downgrades to Upgrades,” Special Comment, November 1, 2011.