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America's big cities are about to run out of money

Emily Stewart   

America's big cities are about to run out of money

Boston has a bit of a budget problem. The rise in remote work has caused a slow and steady decline in commercial real-estate prices, and, as a result, property-tax revenue is falling, leaving the city facing a $1 billion tax deficit over the next five years. The same issue, coupled with a persistent decline in tourism, is weighing on San Francisco's finances. Across the country, from Denver and Seattle to Washington, DC, and New York, cities are deciphering whether to slash their budgets. Even some states, including California, Maryland, and Arizona, are facing financial woes.

Each place is dealing with its own set of circumstances, but at the root of all these woes is the struggle to figure out what the new normal is, budget-wise, and how to deliver the services and investments citizens depend on without breaking the bank.

"I wouldn't say that we are in a budget crisis at the state and local government level at the moment," Justin Marlowe, a research professor at the University of Chicago Harris School of Public Policy and the director of its Center for Municipal Finance, told me. "Where we are, I think, is at the very beginning of the probably three-to-five-year what we might call structural adjustment that's going to need to happen to state and local budgets in a post-pandemic, post-AI world."

States and cities struggling financially is a perennial problem. Unlike the federal government, local governments can't run large deficits for long stretches, and many places have balanced-budget amendments. States do have rainy-day funds — according to the Pew Charitable Trusts, a public-policy nonprofit, the funds hit all-time highs in 38 states at the end of fiscal 2023. (Most states' fiscal years run from July 1 to June 30.) But even that cash will only get them so far, in the near term and in the long run.

With expiring federal funds, the fiscal outlook looks really troublesome for many states and localities

The recent financial troubles are a bit of a turnaround from the past four years. When the pandemic hit, there was widespread concern that states and cities would run out of money. Instead, they started to see an increase in revenue. Stimulus from the federal government to individuals via unemployment insurance and stimulus checks kept households afloat, and many people started spending, which boosted sales-tax revenue. People's paychecks increased, along with their income taxes. The federal government also provided financial support to states and cities. Now those sources of cash are starting to dry up.

"With expiring federal funds, the fiscal outlook looks really troublesome for many states and localities," said Lucy Dadayan, a principal research associate with the Urban-Brookings Tax Policy Center at the Urban Institute.

In some cases, states and cities used the extra federal money to start new programs and make investments they'd long wanted to make; now they need to figure out permanent funding sources. In other cases, funds helped temporarily paper over long-standing budgetary issues, or places took advantage of their surpluses to cut taxes.

"It certainly was the case in New York City that they spent one-time money on ongoing expenditures or even new programs," said Carol O'Cleireacain, an expert on fiscally troubled states and localities who has worked on budget and planning issues in New York, New Jersey, and Detroit. "There was a lot of money that came in from COVID. There was a lot of revenue volatility that happened, so nobody knew exactly how things were going to land, and it's taken a while for people to sort out where it's actually landing."

On the revenue side of the equation, some places have seen dips. Sales-tax revenues have declined, primarily in downtown areas that are still suffering the consequences of remote work. The same goes for lodging taxes and revenue related to the tourism economy, and it's not clear the extent to which the drivers of that — trade shows, conventions — will come back. Places that enacted tax cuts, like Arizona, are now having those policies come back to bite them. It's not clear what will happen with property taxes as office occupancy remains low and commercial real-estate falls in value. The office apocalypse has put cities in a doom loop that's hard to escape as they struggle to reinvent themselves and attract new interest and investment.

There are issues on the spending side, too. Inflation is hitting states and cities as it is people's budgets. Governments, like private businesses, are having to pay more for labor, healthcare, and even construction materials.

"What you had was just rising prices for all of the basic inputs into the things that local government does — into road salt, basic commodities," Marlowe said. "That's increasing costs generally. And so you're also then having to see pay increases as a result of that. And so that's a huge chunk of it."

In big cities, the migrant crisis has also been a financial drain. Places such as Denver and New York are spending millions of dollars to provide housing and social services for immigrants coming across the southern border, and with a border deal on ice in Congress, it's a problem seemingly without a solution on the horizon.

"This does not come cheap, and no one can see the end of it, so you don't know how much management adjustment you have to make programmatically," O'Cleireacain said.

Even if a state kind of feels like it's doing OK right now, the long-term picture is a little bit more concerning

Beyond more-immediate problems in specific places, broad warning signs are flashing. Josh Goodman, a senior officer with the Pew Charitable Trusts who focuses on state fiscal health, said most states that do long-term budget projections show shortfalls. And even states that don't anticipate shortfalls have some fairly pessimistic outlooks.

"Even if a state kind of feels like it's doing OK right now, the long-term picture is a little bit more concerning," he said.

States and cities are facing pressure from societal issues that will weigh on tax revenue and increase costs for years to come. Aging populations mean a smaller percentage of the population that's of working age, putting downward pressure on tax revenue. States and cities also have to contend with paying for those populations — their healthcare, their social services. Changes in how Americans get around could be an issue, too.

"If you look at transportation revenue, the gas tax is a big source of that," Goodman said. "And as vehicles become more fuel efficient or people switch to electric vehicles, that is creating problems for transportation budgets."

Often, costs that can't really be anticipated come up. Take Maryland. The state has been plagued by long-term structural deficits, said Liz Farmer, an officer with the Pew Charitable Trusts who focuses on states. Like many places, it did OK for a couple of years during the pandemic. But as federal funds have petered out, structural problems have resurfaced. In late March the state had another wrench thrown into its fiscal plans when Baltimore's Francis Scott Key Bridge collapsed after a ship hit it. Though the federal government is promising to step in and help, reconstructing the bridge is likely to cost the state.

"While there's a lot of hope that federal funding will cover most of that, it's one more thing that Maryland is looking at," Farmer said. "They're looking at emergency legislation for economic relief for the workers in Maryland who are affected by this, and it appears as if the state is going to dip into the rainy-day fund."

It's not entirely doom and gloom on the state and local budgetary front. The United States is not in a recession, and the macroeconomy is strong — we're not in a 2008-esque situation where there are mass layoffs and the bottom falls out on tax revenue. States' rainy day funds are in decent shape. But there are clearly some stressors; no one knows how long the migrant crisis will last, and there's no obvious fix for the deterioration of in-office culture. Ultimately, what happens next will be a policy question. Deciding how to address the conflicting priorities that come with budgets is politics as usual — some people in government have one set of priorities, others have another, and there you go.

"Every budget season, people write budget-crisis stories," O'Cleireacain said. "Making a budget is political trouble."

Emily Stewart is a senior correspondent at Business Insider, writing about business and the economy.

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