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Summer 1996
   
Mayor Giuliani’s Economic Wrong Turn
William J. Stern
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The Giuliani administration's economic policy is about to take a serious wrong turn. As spending threatens to outstrip revenues and the city's ability to borrow, city hall is not mobilizing for the sharp, deep spending cuts needed to close the looming budget gap and, beyond that, to jolt the city's stagnant economy back to vitality. Instead, the administration is planning to increase its borrowing power by sliding around a constitutional limitation on how much debt it can carry. The Giuliani team is seeking to do what New York State and City administrations have done for 40 years: create an authority that would be used to subvert the state's Constitution.

The authority, to be called the New York City Infrastructure Authority, would enable city hall to pirouette around the state law that prohibits the city from issuing debt in excess of 10 percent of the average full value of New York's real estate for the most recent five years. As of June 30, 1995, the city's debt limit was $35 billion, and it owed $26.6 billion. (That year, debt stood at 7.3 percent of real estate value, compared to 3.8 percent for the median U.S. city with a population above 500,000.) What Giuliani is worried about is that the city's total real estate valuation will continue the decline that it began in 1988. Estimates are that in fiscal 1997 the debt ceiling could drop to $31 billion, and debt will grow to $27.7 billion, leaving a margin of only $3.3 billion. If the decline in real estate values continues, the city could run out of borrowing power as early as 1999. But if the city uses the new authority as its borrowing vehicle, the debt incurred will not count against the legal limit.

It was some 35 years ago that Nelson Rockefeller invented this device for getting around the law's inconvenient limitation of the government's ability to borrow—in his case, the state Constitution's requirement that voters approve the issuance of state debt. New York State voters have a habit of rejecting debt proposals that are on the ballot. So Rockefeller, with the help of John Mitchell (of Watergate fame), created "moral obligation bonds," issued by newly created state authorities and consequently not requiring voter approval. These bonds are the financial responsibility of the issuing authority and do not carry the full faith and credit of the state.

For New York's taxpayers, that turned out to be a distinction without a difference. In the mid-1970s, the New York State Urban Development Corp., which had been merrily issuing bonds to build massive amounts of low-income housing, ran into financial trouble and could not meet its debt obligation. That's when the state found out that investors drew no distinction between "moral obligation" and "full faith and credit." If any authority connected to the state defaulted, the state would be held accountable, sending the state's borrowing costs through the roof. Thus began the financial crisis of the mid-1970s, which took the state over three years to recover from—and then only partially.

The framers of the state Constitution, who insisted on voter approval of debt issuance, knew what they were doing: they understood government's tendency, if unchecked by taxpayers, to spread like crabgrass and to spend money more for the benefit of politically connected insiders than for ordinary citizens. Since the Rockefeller-Mitchell emasculation of the law, total state debt has reached some $28 billion—of which a mere $5 billion is voter-approved general-obligation debt.

Mayor Giuliani, who promised something different, now seems determined to follow these failed methods—methods that have brought what was the premier urban economy of the twentieth century into a state of sharp decline. No wonder real estate valuations have drooped since 1988: real estate investors and businessmen fear that New York's economy is failing. They see that government has created a huge welfare state, on both the city and state level, that New York's economy cannot support. To fund this bloated public sector, state and local taxes are much higher than anyplace else in the nation: $4,150 per capita in 1993, compared to a national average of $2,299. In addition, New York City has gone on a municipal borrowing spree so extreme that it now requires $3.1 billion a year in city funds just to service the debt, 9 percent of the city's total budget. As of 1995, the city's debt stood at a gargantuan $4,152 per capita, 367 percent more than the $890 per-capita debt in the median U.S. city with a population above 500,000.

Such high taxes drive away people with incomes and property to tax—exactly the enterprising people who make an economy vibrant. According to the city comptroller, only 6 percent of income earners in New York pay almost 50 percent of the income tax collected. That 6 percent is a tiny fraction of the electorate—but these people can vote with their feet, and their leaving town would cripple the city's future. They are the people who create and staff businesses that bring in revenue from beyond the city's and the state's borders. They are people whose spending on goods and services creates jobs for other New Yorkers. And sure enough, New York was one of two states in the union to lose population last year (Rhode Island being the other). Within the city itself, three quarters of a million native-born New Yorkers have left town in the nineties. Disproportionally present among these emigrés are the educated young and the affluent elderly, two core groups vital to the maintenance of a stable tax base. We are seeing something like the former East Germany, in slow motion.

To reverse these inauspicious trends, New Yorkers need a genuine tax cut big enough to make the city competitive not with such flourishing low-tax towns as Raleigh, North Carolina, but with the nearby cities in Connecticut and New Jersey to which some two-thirds of the companies that have fled Gotham have gone. Though some of these places have local taxes up to 85 percent lower than New York City's, towns like Hartford, Connecticut, or Secaucus, New Jersey, have managed to attract New York companies with local taxes some 38 percent lower than New York's. Let's assume that companies and individuals would be willing to pay some premium to live in Gotham rather than Hartford; they could swallow, let's say, a 20 percent difference, if not a 38 percent one. That would take a cut of 18 percent in New York City taxes, which would require an even bigger proportion cut out of the city's $32 billion budget than $5.8 billion (or 18 percent), since cuts in local spending trigger cuts in the state and federal contribution to the city's budget.

Some of the cuts would require hard-to-get approval from the tax-and-mandate-and-spend state Legislature—cuts like the approximately $2.7 billion the city would save if the state would, like almost all other states, pay all the non-federal share of Medicaid, or the nearly $1 billion it would save if Albany would at least reduce Medicaid benefits to the level of other populous, industrialized states. But other cuts would be achievable more or less at the stroke of the mayor's pen. He is on the way, for example, to saving New York taxpayers hundreds of millions of dollars simply by enforcing the existing eligibility standards for welfare, weeding out the many applicants who don't qualify. But to get the massive budget cuts New York needs to put itself on the same spending planet as other big cities, the mayor needs to go where the money is, and that is straight to the $16 billion—fully one-half of the total budget—that New York spends on the salaries and fringe benefits of its grossly overmanned, unionized workforce, which (inefficiently) provides services that, in many cases, the city should not provide at all.

Some extremely rough calculations will suggest how spectacularly out of line New York's spending on personnel is by comparison with other big cities. Compare personnel spending in such far-flung cities as Chicago, Houston, and Los Angeles, making the adjustments necessary to make the figures comparable and ignoring all those New York workers supported by several billion dollars of city contracts with private social-services agencies.

When you do these calculations, the results are breathtaking. Spending per New Yorker for municipal salaries was $2,143 in 1992, the latest year for which the Census Bureau has figures for all four cities. The per-capita burden in the three others was $1,122, with a low of $1,042 in Houston and a high of $1,258 in Los Angeles. What accounts for the difference is that New York has many more employees per capita, and it pays them more, mostly in extremely rich fringe benefits. Spending per New Yorker on the fringe benefits for these employees was $410 a year in 1987 (again, the latest year for which the Census Bureau has figures), compared to $177 in the other three cities. If, just for illustrative purposes, it is permitted to add together numbers from two different years, the New York total for salary and fringe benefits would be $2,553, compared to an average of $1,299 in the three other cities—around half.

Let's assume, for argument's sake, that New York is special—so special that it should pay more for its municipal employees than other cities do—or, to put the matter differently, that it should have many more municipal employees per citizen. But surely the tax burden per capita doesn't have to be 97 percent more for total salary and benefits. Suppose we cut that bloated difference in half, paying only 46 percent more for salaries (instead of 91 percent) and 66 percent more for benefits (instead of 132 percent). We would end up saving $3.73 billion on salaries and $842 million on benefits, for a total savings of over $4.57 billion.

In terms of head count, what that means is a reduction from a recent high of 225,000 city workers to around 170,000. Again, all these savings would not accrue to New York City taxpayers, since state and federal funds go to pay some difficult-to-calculate portion of the total. But New Yorkers would get the lion's share of this 14 percent cut in the budget, a big chunk of what it would take to start making New York City economically competitive again. And New York's municipal workforce would still be very far from lean.

Not only has the mayor resorted to the discredited borrowing schemes of the past, but he has walked away from his own tax-reduction proposals, in what seems to be an effort to balance the budget in the manner that best suits his reelection campaign. Though he has trimmed such levies as the hotel-occupancy tax and, for some businesses, the commercial-rent tax, he has backed away from his pledge to end the 12.5 percent income-tax surcharge imposed by the Dinkins administration to pay for hiring additional police officers—in effect, raising taxes permanently.

True, he has reduced the number of city employees some 8 percent by attrition and buyouts since he took office, but that is only a modest first step toward the head-count reduction the city needs. By agreeing to a three-year no-layoff pledge in the contract that he signed late in 1995 with DC 37, the biggest municipal employees' union, the mayor has compromised his ability to do what most needs to be done for the city's economy. The recent contract with the teachers' union contains a similar pledge, expiring in June 1998, and other municipal unions will insist on using these contracts as models for their own agreements, yet to be negotiated. The mayor may have his own political reasons for not confronting the unions, but New York's future requires that confrontation. Any polity that gives vast political might to those who live off the taxes imposed on their neighbors is inherently unstable.

There is nothing unusual about Mayor Giuliani's actions. For decades New York politicians have used a "let's make it through the night" approach to the budget. One-shot revenue scams, borrowing, short-changing pension and other trust funds—all these help create the fiction of a balanced budget each year, as the law requires. But many expected more from this particular politician. After all, he has not only promised to improve public safety—he has delivered. He appointed an outstanding police commissioner, who in turn assembled a first-rate team that went about the task of crime reduction in a skilled and innovative manner.

One would have thought that the mayor, fresh from a truly outstanding public policy triumph, would go on to the perhaps even more difficult task of changing the policies that have wrecked the city's economy. It is time for him to regroup and resume his effort to re-energize the City of New York. He could begin by using the forum of the mayor's office to tell people the truth, which is that New York does not have a budget problem or a debt limit problem. These are merely symptoms of the real problem: the economy is in decline.

The evidence of this is overwhelming, and the mayor should bring it forcefully to the public's attention. The city lost some 400,000 private-sector jobs in the early 1990s, and despite a national economic recovery, it has regained only a fraction of these jobs. It may not be so surprising that employment in an industry like commercial printing declined some 45 percent from 1983 to 1995. But when premier city industries like finance, insurance, and real estate (a single category for the Labor Department), or business services, lose 4 percent and 7 percent of their total jobs, respectively, in those years; or when advertising employment drops 15 percent between 1983 and 1991, that's troubling. Not only are these industries in which New York is supposed to have a strong comparative advantage, but they are also the industries that have been growing strongly elsewhere and promise to keep surging in the future. As recently as the first quarter of 1996, when the nation experienced a surprisingly strong growth of some 2.3 percent in gross domestic product, the Federal Reserve reports that New York alone, of 12 Federal Reserve districts, had a weak economy.

There are some bright spots. Tourism has shown strong growth, thanks to both a weak dollar that makes travel cheaper for international visitors and Giuliani's cut in the hotel tax. But New York cannot be satisfied with becoming Venice, a once-premier city that now depends on tourists' whims to provide jobs for its citizens. If New York fails to adopt forward-looking policies, it too will wind up as little more than a living museum to a glorious past.

There has been growth in the "new media," an assortment of computer-related companies, but the real story here is that compared to Los Angeles and San Francisco, the city has created only a handful of new jobs tied to an explosively growing industry. (See "Silicon Island?")

New York's colleges and universities are among the finest in the world, turning out graduates who want to stay in the city if it provides them economic opportunity. But young entrepreneurs know the city is hostile to them, and so after being educated in New York they often go elsewhere to pursue their dreams. The Microsofts, Biogens, and other twenty-first-century businesses have almost no presence in New York City, which in other eras would have been their natural home.

The mayor must outline an economic development strategy that aims to make New York once more the economic leader of the nation, a position the city has held for most of the twentieth century. That strategy, not short-term fiscal expediency, should shape budget decisions. So far, all we have seen in the way of conceptual strategy is a continuation of the Dinkins administration policy of cutting tax deals with big corporations that threaten to leave town. This is a strategy, at best, for slowing our decline, not for resuming growth, since the big corporations, over time, have accounted for an ever smaller share of the nation's economy and employment.

It is a strategy, too, that shifts the tax burden from the favored big corporations to small businesses—exactly where it should not weigh heaviest. Small business has been the nation's engine of economic growth since the late 1970s, and yet New York has done little to foster it. The city is blessed with a talented, energetic, entrepreneurial immigrant population, too many of whom flee to the suburbs when they succeed. To keep them here, the mayor needs to contemplate ending the commercial-rent tax and the unincorporated-business tax altogether, as well as reducing the city income tax.

The mayor has almost ceased to speak about the economy. His new economic development team looks less high-powered than his original one. In the all-important area of the city's economic health—where bold measures today really can have life-or-death consequences—New Yorkers are ready for the leader that Giuliani promised to be and (especially when his no-layoff pledges expire) still can be. They don't need just another pol trying to get through the reelection cycle.

 

 

 
More borrowing isn’t the remedy for an economy crushed by high taxes and a bloated city payroll.
City Journal Summer 1996.
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