Tag Archives: Tennessee

More reasons why intergovernmental grants are harmful

In a recent blog post I explained how intergovernmental grants subsidize some businesses at the expense of others. But that is just one of several negative features of intergovernmental grants. They also make local governments less accountable for their fiscal decisions by allowing them to increase spending without increasing taxes. The Community Development Blog Grant (CDBG) money that local governments spend on city services or use to subsidize private businesses is provided by taxpayers from all over the country. Unlike locally raised money, when cities spend CDBG money they don’t have to first convince local voters to provide them with the funds. This lack of accountability often results in wasteful spending.

These grants also erode fiscal competition between cities and reduce the incentive to pursue policies that create economic growth. If local governments can receive funds for projects meant to bolster their tax base regardless of their fiscal policies, they have less of an incentive to create a fiscal environment that is conducive to economic growth. The feedback loop between growth promoting policies and actual economic growth is impaired when revenue can be generated independently of such policies e.g. by successfully applying for intergovernmental grants.

Some of the largest recipients of CDBG money are cities that have been declining since the 1950s. The graph below shows the total amount of CDBG dollars given to nine cities that were in the top 15 of the largest cities in the US by population in 1950. (Click on graphs to enlarge. Data used in the graphs are here.)

CDBGs 9 cities 1950

None of these cities were in the top 15 cities in 2014 and most of them have lost a substantial amount of people since 1950. In Detroit, Cleveland, St. Louis, and Buffalo the CDBG money has not reversed or even slowed their decline and yet the federal government continues to give these cities millions of dollars each year. The purpose of these grants is to create sustainable economic development in the recipient cities but it is difficult to argue that such development has occurred.

Contrast the amount of money given to the cities above with that of the cities below:

CDBGs 9 cities 2014

By 2014 the nine cities in the second graph had replaced the other cities in the top 15 largest US cities by population. Out of the nine cities in the second graph only one, San Antonio, has received $1 billion or more in CDBG funds. In comparison, every city in the first graph has received at least that much.

While there are a lot of factors that contribute to the decline of some cities and the rise of others (such as the general movement of the population towards warmer weather), these graphs are evidence that the CDBG program is incapable of saving Detroit, Buffalo, St. Louis, Cleveland, etc. from population and economic decline. Detroit alone has received nearly $3 billion in CDBG grants over the last 40 years yet still had to declare bankruptcy in 2013. St. Louis, Cleveland, Baltimore, Buffalo, and Milwaukee are other examples of cities that have received a relatively large amount of CDBG funding yet are still struggling with population decline and budget issues. Place-based, redistributive policies like the CDBG program misallocate resources from growing cities to declining cities and reduce the incentive for local governments to implement policies that encourage economic growth.

Moreover, if place-based subsidies, such as the CDBG program, do create some temporary local economic growth, there is evidence that this growth is merely shifted from other areas. In a study on the Tennessee Valley Authority, perhaps the most ambitious place-based program in the country’s history, economists Patrick Kline and Enrico Moretti (2014) found that the economic gains that accrued to the area covered by the TVA were completely offset by losses in other parts of the country. As they state, “Thus, we estimate that the spillovers in the TVA region were fully offset by the losses in the rest of the country…Notably, this finding casts doubt on the traditional big push rationale for spatially progressive subsidies.” This study is further evidence for what other economists have been saying for a long time: Subsidized economic growth in one area, if it occurs, comes at the expense of growth in other areas and does not grow the US economy as a whole.

Municipalities in fiscal distress: state-based laws and remedies

The Great Recession of 2008 “stress tested” many policies and institutions including the effectiveness of laws meant to handle municipal fiscal crises. In new Mercatus research professor Eric Scorsone of Michigan State University assess the range and type of legal remedies offered by states to help local governments in financial trouble.

“Municipal Fiscal Emergency Laws: Background and Guide to State-Based Approaches,” begins with some brief context. Most municipal fiscal laws trace their lineage through the 1975 New York City fiscal crisis, the Great Depression and the 19th century railroad bankruptcies. Writing in 1935, attorney Edward Dimock articulated three pieces to addressing municipal insolvency:  1) oversight of the municipality’s financial management 2) stop individual creditors from undermining the distressed entity and 3) put together a plan of adjustment for meeting the creditor’s needs.

These general parameters are at work in state laws today. The details vary. Some states are passive and others much more “hands-on” in dealing with local financial troubles. Scorsone documents these approach with a focus on the “triggers” states use to identify a crisis, the remedies permitted (e.g. can a municipality amend a collective bargaining agreement?), and the exit strategies offered. Maine has the most “Spartan” of fiscal triggers. A Maine municipality that fails to redistribute state taxes, or misses a bond payment triggers the state government’s attention. Michigan also has very strong municipal distress laws which create, “almost a form of quasi-bankruptcy” allowing the state emergency manager to break existing contracts. Texas and Tennessee, by contrast, are relatively hands-off.

How well these laws work is a live issue in many places, including Pennsylvania. In 1987 the state passed Act 47 to identify distressed municipalities. While Act 47 appears to have diagnosed dozens of faltering local governments, the law has proven ineffective in helping municipalities right course. Many cities have remained on the distressed list for 20 years. Recent legislation proposes to allow a municipality that can’t “exit Act 47” the option of disincorporating. Is there a middle ground? As the PA State Association of Town Supervisors put it, “If we can’t address the labor issues, if we can’t address the mandates, if we can’t address the tax exempt properties, we go nowhere.”

Municipalities end up in distress for a complex set of reasons: self-inflicted policy and governance failures, uncontrollable social and economic shifts, and external shocks. Unwinding the effects of decades of interlocking problems isn’t a neat and easy undertaking. The purpose of the paper isn’t to evaluate the effectiveness various approaches to helping municipalities out of distress, it is instead a much-needed guide to help navigate and compare the states’ legal frameworks in which municipal leaders make decisions.

 

 

 

Pension reform from California to Tennessee

Earlier this month Bay Area Rapid Transit (BART) workers went on their second strike of the year. With public transport dysfunctional for four days, area residents were not necessarily sympathetic to the workers’ complaints, according to The Economist. The incident only drew attention to the fact that BART’s workers weren’t contributing to their pensions.

Under the new collective bargaining agreement employees will contribute to their pensions, and increase the amount they pay for health care benefits to $129/month.  The growing cost of public pensions, wages and benefits on city budgets is a real matter for mayors who must struggle to contain rapidly rising costs to pay for retiree benefits. San Jose’s mayor, Chuck Reed has led the effort in California to institute pension reforms via a ballot measure that would give city workers a choice between reduced benefits or bigger contributions, known as the Pension Reform Act of 2014. Reed is actively seeking the support of California’s public sector unions for the measure that would give local authorities some flexibility to contain costs. Pension costs are presenting new threats for many California governments. Moody’s is scrutinizing 30 cities for possible downgrades based on their more complete measurement of the economic liability presented by pension plans.  In spite of this dire warning, CalPERS has sent municipalities a strong message to struggling and bankrupt cities: pay your contributions, or else.

Other states and cities that are looking to overhaul how benefits are provided to employees include Memphis, Tennessee which faces a reported unfunded liability of $642 million and a funding ratio of 74.4%. This is using a discount rate of 7.5 percent.  I calculate Memphis’ unfunded liability is approximately $3.4 billion on a risk-free basis, leaving the plan only 35% funded.

The options being discussed by the Memphis government include moving new hires to a hybrid plan, a cash balance plan, or a defined contribution plan. Which of these presents the best option for employees, governments and Memphis residents?

I would suggest the following principles be used to guide pension reform: a) economic accounting, b) shift the funding risk away from government, c) offer workers – both current workers and future hires – the option to determine their own retirement course and to choose from a menu of options that includes a DC plan or an annuity – managed by an outside firm or some combination.

The idea should be to eliminate the ever-present incentive to turn employee retirement savings into a budgetary shell-game for governments. Public sector pensions in US state and local governments have been made uncertain under flawed accounting and high-risk investing. As long as pensions are regarded as malleable for accounting purposes – either through discount rate assumptions, re-amortization games, asset smoothing, dual-purpose asset investments, or short-sighted thinking – employee benefits are at risk for underfunding. A defined contribution plan, or a privately managed annuity avoids this temptation by putting the employer on the hook annually to make the full contribution to an employee’s retirement savings.

Third Edition of Freedom in the 50 States

Today the Mercatus Center released the third edition of Freedom in the 50 States by Will Ruger and Jason Sorens. In this new edition, the authors score states on over 200 policy variables. Additionally, they have collected data from 2001 to measure how states’ freedom rankings have changed over the past decade. While several organizations publish state freedom rankingsFreedom in the 50 States is the only one that measures both economic and personal freedoms.

Ruger and Sorens have implemented a new methodology for measuring freedom. While previously the authors developed a subjective weighting system in which they sought to determine how significantly policies limited the freedom of how many people, in this edition they have use a victim-cost method, assigning a dollar value to each variable that restricts freedom measuring the cost of restricting freedom for potential victims. The authors’ cost calculations are designed to measure the value of the states’ freedom for the average resident. Since individuals measure the cost of policies differently, readers can put their own price on each freedom variable on the website to find the states that best match their subjective policy preference.

In addition to an overall freedom ranking, Freedom in the 50 States includes a breakdown of states’ Fiscal Policy Ranking, Regulatory Ranking, and Personal Freedom Ranking. On the overall freedom ranking, North Dakota comes in first followed by South Dakota, Tennessee, New Hampshire, and Oklahoma.  At the bottom of the ranking, New York ranks worst by a significant margin, with rent control and burdensome insurance regulations dragging down its regulatory freedom score. New York is behind California at 49th, then New Jersey, Hawaii, and Rhode Island.

The authors note that residents respond to the costs of freedom-reducing policies by voting with their feet. Between 2000 and 2011, New York lost 9% of its population to out-migration. In addition to all types of freedom being associated with domestic migration, the authors find that regulatory freedom in particular is associated with states’ growth in personal income. They conclude:

Freedom is not the only determinant of personal satisfaction and fulfillment, but as our analysis of migration patterns shows, it makes a tangible difference for people’s decisions about where to live. Moreover, we fully expect people in the freer states to develop and benefit from the kinds of institutions (such as symphonies and museums) and amenities (such as better restaurants and cultural attractions) seen in some of the older cities on the coasts.

[…]

These things take time, but the same kind of dynamic freedom enjoyed in Chicago or New York in the 19th century — that led to their rise — might propel places in the middle of the country to be a bit more hip to those with urbane tastes.

New Medicaid Case Study Highlights the Role of Politics in Policy

Last week, Scott Beaulier and Brandon Pizzola released new research on Medicaid, conducting case studies of five states that have implemented reform measures designed to control program costs. They find that the political climate is essential to the success of reforms.

Medicaid is a cost driver in state budgets for several reasons, but an important factor is that most states have designed the program so that a formula determines the amount of federal money they receive based on state-level Medicaid spending. Reforms which move to essentially a block grant program, as implemented in Rhode Island and Washington, have so far successfully reduced Medicaid spending by eliminating this incentive. These two states have moved to a system where the federal government pledges a fixed yearly amount toward their Medicaid spending. If the full amount is not spent, the remainder can be transferred to the general fund. This reverses the incentive from spending as much as possible to searching for cost savings. Both states have also introduced measures of individual patient responsibility, requiring, for example, that Medicaid recipients do not rely on emergency rooms for routine care. While it is too soon to tell if Rhode Island and Washington will manage to control costs in the long run, both states appear to have achieved improved incentive structures for doing so.

These states passed reform bills not by making a gradual transition to new policies, but by moving decisively. In contrast, Florida lawmakers attempted to test reforms in two counties before expanding them to apply to the rest of the state. This time lag served as an opportunity for interest groups to block further changes. Rhode Island and Washington developed support from these interest groups by framing the issue as the state against the federal government rather than one of winners and losers within the state. In Tennessee reform has not been successful because key interest groups like the Tennessee Medical Association did not get behind proposed reforms, making them unworkable in practice.

Despite the apparent successes in Rhode Island and Washington, the federalism research that Ben and Eileen explored last week reveals that block grants are not a panacea. Block grants, like all intergovernmental spending, carry with them fiscal illusion. This obfuscates program costs to taxpayers by spreading the funding across multiple layers of government. While moving from a matching funds formula to a block grant is an improvement in transparency, total spending is still obscured. Furthermore, while neither state has failed to keep spending within the the budgeted block grant so far, it’s hardly inconceivable that program costs will outpace grants at some point, leading states to seek bailouts after implementing reforms.

The demonstrated reasons to be pessimistic about the viability of programs whose costs are shared across state and federal governments leave reason to question whether or not block grants are successful tools for curbing costs in the long run. However, Rhode Island and Washington have chosen a path that is at least more sustainable than other states, which face incentives to increase Medicaid spending with no limit in sight.

How a US downgrade affects the states

Last night’s news of a downgrade of long-term US debt from AAA to AA+ by S&P will have a ripple effect. But whether or not interest rates rise depends on how the market incorporates this information and whether it has anticipated this.

As far as states go, in July, Moody’s put five states on a downgrade watch list: Tennessee, South Carolina, Virginia, Maryland and New Mexico. And they gave six reasons: 1) employment volatility; 2) high federal employment relative to total state employment, 3)  federal procurement contracts as a percent of state GDP, 4) Size of Medicaid expenditures relative to state spending, 5) variable interest rate debt as a percent of state resources and 6) the size of the operating fund balance as a percent of operating revenues.

On August 4th these states were removed from the list and retain their AAa rating.

Places with a lot of exposure to risk, or a “high dependence on federal economic activity,”  include Virginia and Massachusetts. This doesn’t mean that these states and their local governments will see their interest rates rise, or be downgraded, or that they are in any danger of default.  It simply means their books will be scrutinized with this risk exposure in mind.

 

 

 

Race to the Top a Mixed Bag

After Delaware and Tennessee were awarded funds from the newest federal aid to education program, Race to the Top (RTTT), many states are still competing in an attempt to be awarded funds in the second round.

RTTT has several advantages over the former federal education program, No Child Left Behind, in that Race to the Top encourages innovation and competition at the state level rather than prescribing one top-down solution for all schools.

However, RTTT suffers from the problems that will plague any top-down education reform, in that it exponentially increases the bureaucracy of education. Because federal regulators do not have the local knowledge necessary to evaluate programs in individual schools, they must rely on statistics to evaluate school performance. A Washington Post blogger opines:

Part of the problem for D.C. may have been the trouble it has had in developing a data information system. Millions of dollars have been spent over the years but still no real system exists. And using “data” to drive reform is one of Duncan’s core principles, even though we all know that data is vulnerable to manipulation.

[…]

Duncan uses a lot of jargon too, but it is easy to understand what he is trying to do with education: expand charter schools, increase student standardized testing, link teacher pay to test scores and close down the nation’s lowest-performing schools.

Unfortunately, what is not easy to understand is why President Obama’s education secretary is pushing those initiatives. This administration was supposed to bring some reason back into education reform after the failed era of No Child Left Behind.

Furthermore, the lack of local knowledge regarding schools at the federal level forces federal officials to allocate RTTT funds based on metrics that may not reflect the actual quality of state and local education reforms. The lack of transparency behind the allocation of federal funds led Colorado Governor Bill Ritter to consider dropping out of the second round of the competition. The New York Times reports:

Colorado, which had hoped to win $377 million, ended in 14th place. Now Mr. Ritter says the scoring by anonymous judges seemed inscrutable, some Coloradans view the contest as federal intrusion and the governor has not decided whether to reapply for the second round.

“It was like the Olympic Games, and we were an American skater with a Soviet judge from the 1980s,” Mr. Ritter said.

Colorado is not the only state where the initial results of the Obama administration’s signature school improvement initiative, known as Race to the Top, have left a sour taste. Many states are questioning the criteria by which winners were chosen, wondering why there were only two that won and criticizing a last-minute cap on future awards.

RTTT’s emphasis on accountability and competition between schools offer some improvement over No Child Left Behind’s focus on multiple-choice standardized testing. However, RTTT’s failures so far demonstrate the reasons that education policy should not be managed at the federal level.