City Fiscal Conditions Take a Turn for the Worse, by Chris Hoene and Amanda M. Straub

Today, NLC released the City Fiscal Conditions in 2008 report, which finds a troubling combination of developments that will likely affect the financial health of cities over the next several years.

Just as American families are facing economic stress from rising costs, increasing health care premiums, and a collapse in home prices, American cities seem to be facing the same fiscal burdens.

“Cities are getting hit with an alarming wake up call about city budgets,” said NLC President Cynthia McCollum, council member, Madison, Ala. “Because of these declining financial factors, cities are going to have difficulties meeting budget requirements with their normal revenue streams this year. Cities, however, have prepared responsibly and many have historically high rainy day funds to get them through these tough economic times.”

The report found that the decline in property tax revenues (3.6 percent from the prior year, in inflation-adjusted terms) is having an impact on the fiscal health of local governments. Unlike the previous economic downturn in 2001, when property tax revenues were able to buffer the effects of declining income and sales tax receipts, the weak housing market is likely to affect city budgets until 2010.

Moreover, the report found that other sources of revenue are headed downward as well, with sales tax receipts declining by 4.2 percent and income tax revenues expected to decline by 3.3 percent in inflation-adjusted dollars in 2008 compared to 2007.

As a result, 64 percent of city finance officers surveyed expect cities to have a harder time meeting fiscal needs in 2008, and 79 percent forecast even bigger problems ahead in 2009.

“Even if economic conditions improved immediately, the nation’s cities are likely to be realizing the effects of the current downturn through 2010,” said Michael A. Pagano, co-author of the report and dean of the College of Urban Planning and Public Affairs at the University of Illinois at Chicago. “The sharp decline in property tax receipts erodes a critical buffer that has helped cities through economic downturns for the last three decades.”

On the spending side, increases of 3.0 percent in 2007 were met with flat or declining revenues, according to the report. Taken together, city finance officers project a budget gap of 2.8 percent in 2008, with revenues declining by 4.3 percent and spending declining by 1.5 percent in inflation-adjusted dollars over 2007.

The areas affecting city budgets most heavily include prices and inflation (including energy prices), which were identified by 98 percent of respondents. Increases in infrastructure (85 percent) and public safety spending (83 percent), and employee-related costs for wages (95 percent), health care (86 percent), and pensions (79 percent) were also cited as budget-busters.

To meet budget shortfalls, half of the cities responding (49 percent) have increased fees, while 28 percent have increased the number or types of fees and 23 percent increased the level of impact and development fees.

Regionally, cities in the West are being hit hardest, with 74 percent of finance officers stating that their cities are worse off in 2008, followed by cities in the Midwest (67 percent), Northeast (61 percent) and the South (53 percent).

The situation also varies depending upon local tax authority. Finance officers in cities reliant upon the property tax were most likely to say their cities are worse off (75 percent), compared to cities that utilize a mix of sales and property taxes (60 percent), or cities that use a mix that includes a local income tax (52 percent).

The pessimistic assessment is registered regardless of city size. Sixty-nine percent of the nation’s largest cities reported a lessening ability to meet needs, 68 percent for cities with populations 100,000-299,999, 65 percent for cities 50,000-99,999, and 61 percent for cities with populations under 50,000.

“Cities have implemented creative solutions for making do with less, while managing their budgets responsibly in the face of legal requirements that they be balanced annually,” said NLC Executive Director Donald J. Borut. “There is, however, only so much cities can do when faced with the macro-economics of a housing market in crisis, flat revenues and soaring health care and energy costs. It’s time we recognize that we must support strong cities if we are to expect to benefit from a healthy, growing economy. Federal and state policies need to support local economies if we want to improve the national outlook.”

The City Fiscal Conditions Survey is a national mail survey of finance officers in U.S. cities. Surveys were mailed to a sample of 1,055 cities, including all cities with populations greater than 50,000 and, using established sampling techniques, to a randomly generated sample of cities with populations between 10,000 and 50,000. The survey was conducted between April and June 2008. The 2008 survey data are drawn from 319 responding city finance officers, for a response rate of 30.2 percent. The responses received enable NLC to generalize about all cities with populations of 10,000 or more.