We are on our way home
Ilargi: I thought it might be a good time to take a look at the states within the States again. It's been close to a month, and what could already be foreseen in early September is indeed happening. That is, most states now have budget agreements, and that's about all the good news there is to report.
As for the rest of the news, a few months into the new fiscal year, with all these hard-fought budgets in their hands, all states that I could find already have sparklingly shining new deficits that they will claim could not have been foreseen by anyone. Tax revenues across the board are down 10-20-30%, and without looking at any details you just know the vast majority budgeted for maybe 5%.
Why? Well, there's political strategy, of course, which is a notoriously short-term. But most of all: They are all counting on a recovery! The hope that springs eternal forgives all foolishness in the short term. Which, conveniently, is the only term politicians understand and care about. Unfortunately, beyond the short term, and if that magical recovery doesn't show up, or even if it's a shallow one, it’ll be debt that springs eternal. Which will be a matter not for the present clique, but for their successors, whose empty promises will tempt their victims to vote for them instead.
A census estimate of a $350 billion combined shortfall seems a pittance compared to what Washington's been doling out recently, but it's easily enough to bankrupt a whole slew of states in the near future. 28% less in income taxes, 10% less in sales taxes, and neither an end nor a savior in sight.
We may be focused on Wall Street, the government and their proclaimed end to the recession, but where actual people live the misery is just getting started and nothing is being recovered, quite the contrary. Against the backdrop of a national health care debate primarily framed by arguments that seem to come straight out of some Monty Python skit, states are cutting budgets for care left, right and center and anywhere in between. Keeping up appearances at the expense of the weakest among you. That is the most predictable factor in all of it.
And if the president and the brightest minds in the country promise economic growth, why would a state governor not believe him -or pretend to- and budget accordingly?
If Tim Geithner says on Capitol Hill that no Plan B is needed for his plans, why would a simple state governor or representative draw up one?
Meanwhile, on the property tax front the rumble is taking off. How many people will lose their homes because they can't pay their property taxes? How many court cases will be fought in how many places?
The economy is being hollowed out from within, and there's nothing Obama can do about it, even if he wanted to. Of which there is no real evidence to date.
In all likelihood these are the issues that will come to haunt you first, before the effects of national policies become evident. However, by now we shouldn't underestimate the chance of sudden shifts in the system either. We’re moving towards an ever thinner edge of the knife.
Here's the story in bullets:
California: Will California become America's first failed state?
- The percentage of 19-year-olds at college in the state dropped from 43% to 30% between 1996 and 2004, one of the highest falls ever recorded for any developed world economy. California's schools are ranked 47th out of 50 in the nation. Its government-issued bonds have been ranked just above "junk".
- Between 2004 and 2008, half a million residents upped sticks and headed elsewhere. By 2010, California could lose a congressman because its population will have fallen so much [..]
- Much has been made globally of the problems of Ireland and Iceland. Yet California dwarfs both. It is the eighth largest economy in the world, with a population of 37 million. If it was an independent country it would be in the G8. And if it were a company, it would likely be declared bankrupt.
- "Do you ever feel like you're watching the end of the California dream?" asks the reporter. [..] Schwarzenegger answers thoughtfully and at length. He hails his own experience and ends with a passionate rallying call in his still thickly accented voice. "There is people that sometimes suggest that the American dream, or the Californian dream, is evaporating. I think it's absolutely wrong. I think the Californian dream is as strong as ever," he says, mangling the grammar but not the sentiment.
- One in four American mortgages that are "under water", meaning they are worth more than the home itself, are in California. In the Central Valley town of Merced, house prices have crashed by 70%. Two Democrat politicians have asked for their districts to be declared disaster zones, because of the poor economic conditions caused by foreclosures.
Recession's end marks start of states' budget woes
- Census figures show states' income taxes plunged almost 28 percent in the second quarter of 2009, falling even further in places such as Arizona and California that were among the hardest hit by the housing market collapse. States' quarterly sales taxes fell almost 10 percent compared to the previous year.
- Part of the reason for the prolonged recovery is that states are starting from a deep financial hole. They face a combined budget gap for 2010-2011 of more than $350 billion and, in some states, next year's shortfall is expected to exceed one-quarter of their general fund budgets [..]
- In Rhode Island, a proposal to avoid a government shutdown would require state employees to work 12 days without pay over the next two years. In return, they would get extra vacation days and could receive pay for some of their lost wages — but not until they retire or leave their jobs. In Minnesota, Gov. Tim Pawlenty is balancing the budget by delaying nearly $1.8 billion of payments to schools until after the end of the current school year. The state's action has created a ripple effect for school districts, which are tapping reserves and borrowing money to pay staff, food and utility bills.
Connecticut: Connecticut's new budget is already in trouble
- A continued drop-off in tax revenue threatens to plunge the new state budget into a $500 million deficit, Comptroller Nancy S. Wyman reported Thursday [..]
- "Although many of the revenue enhancements associated with the budget have not yet appeared within the revenue collection figures, the first-quarter revenue trends raise concerns," said Wyman in a letter to the governor, in which she noticed a 15 percent drop in income-tax revenue.
- [Senate Minority Leader John McKinney] said the $500 million revenue drop is added on to more than $473 million in unspecified savings that are supposed to be found in the current budget, creating a nearly billion-dollar problem in a spending package that's only three months old.
Pennsylvania: Hopes for state budget vanish
- Two weeks ago, leaders of three of the four legislative caucuses and Gov. Ed Rendell announced they had a framework for a new spending plan that would end a weekslong budget impasse. The deal fell apart after Thursday when House Democrats made changes that aren't expected to pass muster with Senate Republicans.
- The House Rules Committee on a party-line vote rejected a 20 percent tax on small games of chance by groups that hold liquor licenses and a sales tax on tickets for stage performances and admission to museums, zoos and cultural sites. Instead, the Democrats voted to create a tax on natural gas extraction and impose a 30 percent tax on the wholesale price on cigars and smokeless tobacco products. While Pennsylvania taxes cigarettes, unlike other states, it does not tax smokeless tobacco products.
New York: Is Anyone Willing to Cut the State Budget?
- The state faces a mounting budget deficit but accounts of its size vary. Early estimates pegged the gap around $2.1 billion, but because income tax revenue has been lower than anticipated, [Gov.] Paterson has said the gap could reach $3 billion or more.
- Critics like E.J. McMahon, director of the Empire Center for New York Policy, say that Paterson, despite his flagging poll numbers, needs to lead [..] Comptroller Tom DiNapoli bolstered McMahon's argument with his recently released Financial Condition Report for the 2008-2009 year. DiNapoli's report showed that the budget deficit could expand to $38 billion by the 2012-2013 fiscal year if current spending and income trends continue. The report finds that spending has increased 21 percent over the past four years and could go up another 22 percent by the 2012-2013 fiscal years.
Ohio: Supreme Court ruling throws state budget back into the wind
- Governor Ted Strickland and the Ohio General Assembly made a bet in mid-July that expanded gambling could fill a roughly $1 billion hole in the state's two-year, $50.5 billion operating budget. With the budget now finalized around that bet, it appears they could still lose it. The Supreme Court of Ohio ruled 6-1 last week that their plan to collect an estimated $933 million from as many as 17,5000 new video lottery terminals that are yet to be installed at the state's seven horse racetracks is subject to a possible voter referendum.
- Helping to complicate the issue is roughly $6 billion of one-time stimulus money from the federal government that Ohio lawmakers built into the state's two-year operating budget, [State Rep. Jennifer] Garrison said. "We have federal stimulus dollars in the budget and there are places you can't make any cuts because you have to spend the same amount you spent the year before to be eligible for the stimulus dollars."
Kansas: State revenue slides - big time - in September
- Early reports say Kansas state government took in $67 million less than expected this month.
Iowa: Iowa lawmaker expects another round of state budget cuts
- [..] the nonpartisan Legislative Services Agency issued a report indicating that state tax collections are running $141.1 million below last fiscal year's first quarter following a double-digit plunge again in September.
Massachusetts: State braces for more cuts as new taxes can't stop revenue dive
- Despite spending reductions and massive tax increases, state government continues to exceed taxpayers’ price range, new revenue data shows, as September receipts crashed $333 million below a year ago. State tax collections fell $243 million below estimates last month, the Patrick administration said Friday, likely triggering spending reductions just three months into the fiscal year. Monthly revenues were down 15.9 percent from a year ago, and the first quarter of the fiscal year has produced $477 million less than last year’s, $212 million below what budget authors thought they would have on hand.
Illinois: Budget problem worsens as time goes by
- [Gov.] Quinn received a major setback earlier this week, when a Southern Illinois judge ruled that the he could not proceed with the layoffs of 2,600 state employees until after union grievances are resolved. It's reasonable to expect that AFSCME won't move ahead with those talks quickly. To date, the union representing the largest number of state workers has fought Quinn's budget cuts at every turn. The union has refused to agree to furloughs or wage freezes, forcing Quinn to order layoffs. Now those layoffs are indefinitely delayed.
Mississippi: Budget: Worsening by the month
- State revenue collections are getting worse by the month - as they have been for the last 13 months. The State Tax Commission reported Thursday that Mississippi's tax collections fell 10 percent short of expectations in September.
- The Tax Commission said that for the first three months of the fiscal year, revenues were 7.7 percent below where experts thought they'd be. That's a shortage of $77.4 million for the first quarter. The biggest portion of that shortfall - $44.9 million - was in September.
Arizona: Arizona budget deficit jumps to $1.5 billion
- The state budget deficit has jumped to $1.5 billion as budget officials revised their estimates based on continued gloomy tax collections. At the Capitol, lawmakers and the governor are engaging in what's become a rite of fall, playing verbal footsie about whether they'll move sooner or later on closing the spending gap.
- The overall budget deficit was originally just under $1 billion. But it jumped to $1.5 billion when legislative budget analysts factored in lagging tax collections and a dose of skepticism that some of the money-making plans in the 2010 budget won't pan out.
Oklahoma: Oklahoma’s budget cuts hurt programs that help poor
- Dr. Edd Rhoades, deputy commissioner of family health services for the Health Department[..], said all programs at the department took cuts as the agency absorbed an overall budget cut of 7.5 percent. All state agencies are trimming their bottom line as the state sees a decrease in its cash flow. "The reductions have to be made somewhere,” Rhoades said. "We’ve tried to minimize them so they don’t impact delivery of services. But if we see future cuts, it’s going to start having a great impact on services.” Many programs that received Health Department funds serve the elderly, children and the disabled.
Michigan: State budget puzzle grows increasingly hard
- In the end, based on the actions, or lack thereof, thus far, we expect that important programs, including some that serve veterans, students, the poor and the hungry, will be cut well below effective levels. Some minor changes in taxation may or may not be approved. And federal money will fill in some — but not all — of the gaps.
- Then we’ll all come back next year, a gubernatorial election year, and do it all again. But the shrillness of the political debate will ratchet up to a higher level. The “structural deficit” will not have been corrected. Revenues will continue to fall as the need for all kinds of services rises. Lawmakers will struggle to make ends meet.
- It’s not a pretty prospect. Brace yourself, Michigan. Our state budget puzzle likely won’t truly begin to be solved until the national economy is recovering, the auto industry reaches a higher level of stability and more people return to work. And that’s simply going to take awhile.
Will California become America's first failed state?
Los Angeles, 2009: California may be the eighth largest economy in the world, but its state staff are being paid in IOUs, unemployment is at its highest in 70 years, and teachers are on hunger strike. So what has gone so catastrophically wrong?
California has a special place in the American psyche. It is the Golden State: a playground of the rich and famous with perfect weather. It symbolises a lifestyle of sunshine, swimming pools and the Hollywood dream factory. But the state that was once held up as the epitome of the boundless opportunities of America has collapsed. From its politics to its economy to its environment and way of life, California is like a patient on life support. At the start of summer the state government was so deeply in debt that it began to issue IOUs instead of wages. Its unemployment rate has soared to more than 12%, the highest figure in 70 years.
Desperate to pay off a crippling budget deficit, California is slashing spending in education and healthcare, laying off vast numbers of workers and forcing others to take unpaid leave. In a state made up of sprawling suburbs the collapse of the housing bubble has impoverished millions and kicked tens of thousands of families out of their homes. Its political system is locked in paralysis and the two-term rule of former movie star Arnold Schwarzenegger is seen as a disaster – his approval ratings having sunk to levels that would make George W Bush blush. The crisis is so deep that Professor Kenneth Starr, who has written an acclaimed history of the state, recently declared: "California is on the verge of becoming the first failed state in America."
Outside the Forum in Inglewood, near downtown Los Angeles, California has already failed. The scene is reminiscent of the fallout from Hurricane Katrina, as crowds of impoverished citizens stand or lie aimlessly on the hot tarmac of the centre's car park. It is 10am, and most have already been here for hours. They have come for free healthcare: a travelling medical and dental clinic has set up shop in the Forum (which usually hosts rock concerts) and thousands of the poor, the uninsured and the down-on-their-luck have driven for miles to be here.
The queue began forming at 1am. By 4am, the 1,500 spaces were already full and people were being turned away. On the floor of the Forum, root-canal surgeries are taking place. People are ferried in on cushions, hauled out of decrepit cars. Sitting propped up against a lamp post, waiting for her number to be called, is Debbie Tuua, 33. It is her birthday, but she has taken a day off work to bring her elderly parents to the Forum, and they have driven through the night to get here. They wait in a car as the heat of the day begins to rise. "It is awful for them, but what choice do we have?" Tuua says. "I have no other way to get care to them."
Yet California is currently cutting healthcare, slashing the "Healthy Families" programme that helped an estimated one million of its poorest children. Los Angeles now has a poverty rate of 20%. Other cities across the state, such as Fresno and Modesto, have jobless rates that rival Detroit's. In order to pass its state budget, California's government has had to agree to a deal that cuts billions of dollars from education and sacks 60,000 state employees. Some teachers have launched a hunger strike in protest. California's education system has become so poor so quickly that it is now effectively failing its future workforce.
The percentage of 19-year-olds at college in the state dropped from 43% to 30% between 1996 and 2004, one of the highest falls ever recorded for any developed world economy. California's schools are ranked 47th out of 50 in the nation. Its government-issued bonds have been ranked just above "junk". Some of the state's leading intellectuals believe this collapse is a disaster that will harm Californians for years to come. "It will take a while for this self-destructive behaviour to do its worst damage," says Robert Hass, a professor at Berkeley and a former US poet laureate, whose work has often been suffused with the imagery of the Californian way of life.
Now, incredibly, California, which has been a natural target for immigration throughout its history, is losing people. Between 2004 and 2008, half a million residents upped sticks and headed elsewhere. By 2010, California could lose a congressman because its population will have fallen so much – an astonishing prospect for a state that is currently the biggest single political entity in America. Neighbouring Nevada has launched a mocking campaign to entice businesses away, portraying Californian politicians as monkeys, and with a tag-line jingle that runs: "Kiss your assets goodbye!" You know you have a problem when Nevada – famed for nothing more than Las Vegas, casinos and desert – is laughing at you.
This matters, too. Much has been made globally of the problems of Ireland and Iceland. Yet California dwarfs both. It is the eighth largest economy in the world, with a population of 37 million. If it was an independent country it would be in the G8. And if it were a company, it would likely be declared bankrupt. That prospect might surprise many, but it does not come as news to Tuua, as she glances nervously into the warming sky, hoping her parents will not have to wait in the car through the heat of the day just to see a doctor. "It is so depressing. They both worked hard all their lives in this state and this is where they have ended up. It should not have to be this way," she says.
It is impossible not to be impressed by the physical presence of Arnold Schwarzenegger when he walks into a room. He may appear slightly smaller than you imagine, but he's just as powerful. This is, after all, the man who, before he was California's governor, was the Terminator and Conan the Barbarian. But even Schwarzenegger is humbled by the scale of the crisis. At a press conference in Sacramento to announce the final passing of a state budget, which would include billions of dollars of cuts, the governor speaks in uncharacteristically pensive terms. "It is clear that we do not know yet what the future holds. We are still in troubled waters," he says quietly. He looks subdued, despite his sharp grey suit and bright pink tie.
Later, during a grilling by reporters, Schwarzenegger is asked an unusual question. As a gaggle of journalists begins to shout, one man's voice quickly silences the others. "Do you ever feel like you're watching the end of the California dream?" asks the reporter. It is clearly a personal matter for Schwarzenegger. After all, his life story has embodied it. He arrived virtually penniless from Austria, barely speaking English. He ended up a movie star, rich beyond his dreams, and finally governor, hanging Conan's prop sword in his office. Schwarzenegger answers thoughtfully and at length. He hails his own experience and ends with a passionate rallying call in his still thickly accented voice.
"There is people that sometimes suggest that the American dream, or the Californian dream, is evaporating. I think it's absolutely wrong. I think the Californian dream is as strong as ever," he says, mangling the grammar but not the sentiment.
Looking back, it is easy to see where Schwarzenegger's optimism sprung from. California has always been a special place, with its own idea of what could be achieved in life. There is no such thing as a British dream. Even within America, there is no Kansas dream or New Jersey dream. But for California the concept is natural. It has always been a place apart. It is of the American West, the destination point in a nation whose history has been marked by restless pioneers.
It is the home of Hollywood, the nation's very own fantasy land. Getting on a bus or a train or a plane and heading out for California has been a regular trope in hundreds of books, movies, plays, and in the popular imagination. It has been writ large in the national psyche as free from the racial divisions of the American South and the traditions and reserve of New England. It was America's own America.
Michael Pollan, author of The Omnivore's Dilemma and now an adopted Californian, remembers arriving here from his native New England. "In New England you would have to know people for 10 years before they let you in their home," he says. "Here, when I took my son to his first play date, the mother invited me to a hot tub." Michael Levine is a Hollywood mover and shaker, shaping PR for a stable of A-list clients that once included Michael Jackson. Levine arrived in California 32 years ago. "The concept of the Californian dream was a certain quality of life," he says. "It was experimentalism and creativity. California was a utopia."
Levine arrived at the end of the state's golden age, at a time when the dream seemed to have been transformed into reality. The 1950s and 60s had been boom-time in the American economy; jobs had been plentiful and development rapid. Unburdened by environmental concerns, Californian developers built vast suburbs beneath perpetually blue skies. Entire cities sprang from the desert, and orchards were paved over into playgrounds and shopping malls.
"They came here, they educated their kids, they had a pool and a house. That was the opportunity for a pretty broad section of society," says Joel Kotkin, an urbanist at Chapman University, in Orange County. This was what attracted immigrants in their millions, flocking to industries – especially defence and aviation – that seemed to promise jobs for life. But the newcomers were mistaken. Levine, among millions of others, does not think California is a utopia now. "California is going to take decades to fix," he says. So where did it all wrong?
Few places embody the collapse of California as graphically as the city of Riverside. Dubbed "The Inland Empire", it is an area in the southern part of the state where the desert has been conquered by mile upon mile of housing developments, strip malls and four-lane freeways. The tidal wave of foreclosures and repossessions that burst the state's vastly inflated property bubble first washed ashore here. "We've been hit hard by foreclosures. You can see it everywhere," says political scientist Shaun Bowler, who has lived in California for 20 years after moving here from his native England. The impact of the crisis ranges from boarded-up homes to abandoned swimming pools that have become a breeding ground for mosquitoes. Bowler's sister, visiting from England, was recently taken to hospital suffering from an infected insect bite from such a pool. "You could say she was a victim of the foreclosure crisis, too," he jokes.
But it is no laughing matter. One in four American mortgages that are "under water", meaning they are worth more than the home itself, are in California. In the Central Valley town of Merced, house prices have crashed by 70%. Two Democrat politicians have asked for their districts to be declared disaster zones, because of the poor economic conditions caused by foreclosures. In one city near Riverside, a squatter's camp of newly homeless labourers sleeping in their vehicles has grown up in a supermarket car park – the local government has provided toilets and a mobile shower. In the Los Angeles suburb of Pacoima, one in nine homeowners are now in default on their mortgage, and the local priest, the Rev John Lasseigne, has garnered national headlines – swapping saving souls to saving houses, by negotiating directly with banks on behalf of his parishioners.
For some campaigners and advocates against suburban sprawl and car culture, it has been a bitter triumph. "Let the gloating begin!" says James Kunstler, author of The Long Emergency, a warning about the high cost of the suburban lifestyle. Others see the end of the housing boom as a man-made disaster akin to a mass hysteria, but with no redemption in sight. "If California was an experiment then it was an experiment of mass irresponsibility – and that has failed," says Michael Levine.
Nowhere is the economic cost of California's crisis writ larger than in the Central Valley town of Mendota, smack in the heart of a dusty landscape of flat, endless fields of fruit and vegetables. The town, which boldly terms itself "the cantaloup capital of the world", now has an unemployment rate of 38%. That is expected to rise above 50% as the harvest ends and labourers are laid off. City officials hold food giveaways every two weeks. More than 40% of the town's people live below the poverty level. Shops have shut, restaurants have closed, drugs and alcohol abuse have become a problem.
Standing behind the counter of his DVD and grocery store, former Mendota mayor Joseph Riofrio tells me it breaks his heart to watch the town sink into the mire. His father had built the store in the 1950s and constructed a solid middle-class life around it, to raise his family. Now Riofrio has stopped selling booze in a one-man bid to curb the social problems breaking out all around him. "It is so bad, but it has now got to the point where we are getting used to it being like this," he says. Riofrio knows his father's achievements could not be replicated today. The state that once promised opportunities for working men and their families now promises only desperation. "He could not do what he did again. That chance does not exist now," Riofrio says.
Outside, in a shop that Riofrio's grandfather built, groups of unemployed men play pool for 25 cents a game. Near every one of the town's liquor stores others lie slumped on the pavements, drinking their sorrows away. Mendota is fighting for survival against heavy odds. The town of 7,000 souls has seen 2,000 people leave in the past two years. But amid the crisis there are a few sparks of hope for the future. California has long been an incubator of fresh ideas, many of which spread across the country. If America emerges from its crisis a greener, more economically and politically responsible nation, it is likely that renewal will have begun here. The clues to California's salvation – and perhaps even the country as a whole – are starting to emerge.
Take Anthony "Van" Jones, a man now in the vanguard of the movement to build a future green economy, creating millions of jobs, solving environmental problems and reducing climate change at a stroke. It is a beguiling vision and one that Jones conceived in the northern Californian city of Oakland. He began political life as an anti-poverty campaigner, but gradually combined that with environmentalism, believing that greening the economy could also revitalise it and lift up the poor. He founded Green for All as an advocacy group and published a best-selling book, The Green Collar Economy.
Then Obama came to power and Jones got the call from the White House. In just a few years, his ideas had spread from the streets of Oakland to White House policy papers. Jones was later ousted from his role, but his ideas remain. Green jobs are at the forefront of Obama's ideas on both the economy and the environment. Jones believes California will once more change itself, and then change the nation. "California remains a beacon of hope… This is a new time for a new direction to grow a new society and a new economy," Jones has said.
It is already happening. California may have sprawling development and awful smog, but it leads the way in environmental issues. Arnold Schwarzenegger was seen as a leading light, taking the state far ahead of the federal government on eco-issues. The number of solar panels in the state has risen from 500 a decade ago to more than 50,000 now. California generates twice as much energy from solar power as all the other US states combined. Its own government is starting to turn on the reckless sprawl that has marked the state's development.
California's attorney-general, Jerry Brown, recently sued one county government for not paying enough attention to global warming when it came to urban planning. Even those, like Kotkin, who are sceptical about the end of suburbia, think California will develop a new model for modern living: comfortable, yes, but more modest and eco-friendly. Kotkin, who is writing an eagerly anticipated book about what America will look like in 2050, thinks much of it will still resemble the bedrock of the Californian dream: sturdy, wholesome suburbs for all – just done more responsibly. "We will still live in suburbs. You work with the society you have got. The question is how we make them more sustainable," he says.
Even the way America eats is being changed in California. Every freeway may be lined with fast-food outlets, but California is also the state of Alice Waters, the guru of the slow-food movement, who inspired Michelle Obama to plant a vegetable garden in the White House. She thinks the state is changing its values. "The crisis is bringing us back to our senses. We had adopted a fast and easy way of living, but we are moving away from that now," she says.
There is hope in politics, too. There is a growing movement to call for a constitutional convention that could redraw the way the state is governed. It could change how the state passes budgets and make the political system more open, recreating the lost middle ground. Recently, the powerful mayor of Los Angeles, Antonio Villaraigosa, signed on to the idea. Gerrymandering, too, is set to take a hit. Next year Schwarzenegger will take steps to redraw some districts to make them more competitive, breaking the stranglehold of party politics. He wants district boundaries to be drawn up by impartial judges, not politicians.
In previous times that would have been the equivalent of a turkey voting for Christmas. But now the bold move is seen for what it is: a necessary step to change things. And there is no denying that innovation is something that California does well. Even in the most deprived corners of the state there is a sense that things can still turn around. California has always been able to reinvent itself, and some of its most hardcore critics still like the idea of it having a "dream".
"I believe in California. It pains me at the moment to see it where it is, but I still believe in it," said Michael Levine. Perhaps more surprisingly, a fellow believer is to be found in Mendota in the shape of Joseph Riofrio. His shop operates as a sort of informal meeting place for the town. People drop in to chat, to get advice, or to buy a cold soft drink to relieve the unrelenting heat outside. The people are poor, many of them out of work, often hiring a bunch of DVDs as a cheap way of passing the time. But Riofrio sees them as a community, one that he grew up in. He is proud of his town and determined to stick it out. "This is a good place to live," he says. "I want to be here when it turns around." He is talking of the stricken town outside. But he could be describing the whole state.
Recession's end marks start of states' budget woes
The recession is probably over, which means states' financial troubles have only begun. History suggests it could take six or more years for sales and income taxes — which make up roughly two-thirds of states' revenue — to return to pre-recession levels. That augurs deeper cuts to state jobs and services in order to maintain funding for core programs such as public schools and Medicaid. What's different from the three previous recessions, which took states three to five years to recover from, is that employment and consumer spending aren't expected to bounce back as quickly.
To balance their budgets in the meantime, states are likely to further raise taxes on the money people earn and spend; increase college tuition; reduce funding for the arts and other cultural programs; and push costs into the future by delaying pay raises for employees and repairs of government buildings. Some states, including Massachusetts, Missouri and Arizona, already are making or considering fresh cuts just months after lawmakers agreed on new budgets.
Rising unemployment and a decline in consumer spending have put a big dent in states' tax revenues. Census figures show states' income taxes plunged almost 28 percent in the second quarter of 2009, falling even further in places such as Arizona and California that were among the hardest hit by the housing market collapse. States' quarterly sales taxes fell almost 10 percent compared to the previous year. Unlike the federal government, states generally must balance their budgets. That's why one-third of states have raised taxes this year. They've hit the wealthy with income tax surcharges, hiked sales taxes that disproportionately affect the poor and targeted smokers, drinkers and motorists with higher taxes and fees.
Hundreds of thousands of state employees have been furloughed. And government "rainy day" funds have been diminished to half their highs of just three years ago. Billions of dollars in federal stimulus money has enabled state lawmakers to maintain funding for programs like Medicaid and public schools. But that emergency aid will run out long before the labor market improves and states' budgets have healed. At that point, further cuts to less vital services are a near certainty. "Even though this national recovery will happen, state revenues are still going to be facing some pretty horrific times," says Sujit CanagaRetna, a senior fiscal analyst for the Council of State Governments.
After the recession that began in July 1981 it took three years before states' revenues fully rebounded, adjusting for inflation, population growth and tax increases, says Donald Boyd, a senior fellow at the Rockefeller Institute of Government at the State University of New York in Albany. He says it took states between four and five years to recover from the recessions that began in July 1990 and March 2001. Based on that analysis, "I wouldn't be surprised for it to take (states) six or seven years to get back to where they were" before this recession began in December 2007, he says. "What certainly is going to have to happen is several rounds of significant tax increases and, or, spending cuts."
State lawmakers responded to the early 1980s recession with three consecutive years of higher taxes that, when compounded, amounted to a nearly 11 percent hike over the pre-recession tax levels, Boyd said. The early 1990s recession resulted in a similar three-year tax pattern that affected virtually all economic classes by raising levies on individual and corporate incomes, retail sales and motor fuel. Part of the reason for the prolonged recovery is that states are starting from a deep financial hole. They face a combined budget gap for 2010-2011 of more than $350 billion and, in some states, next year's shortfall is expected to exceed one-quarter of their general fund budgets, according to the Center on Budget and Policy Priorities.
Another reason why most states can expect a slow rebound is that personal income taxes account for more than one-third of revenues, on average, in the 41 states that levy them, according to the National Association of State Budget Officers. Following the recession of the early 2000s, the national unemployment rate peaked at 6.3 percent. It now stands at 9.8 percent, but is above 10 percent in a dozen states. The last time the nationwide unemployment rate surpassed 10 percent was after the recession that began in 1981.
Federal Reserve Chairman Ben Bernanke says the recession is "very likely over," but that unemployment is likely to get worse before it gets better. Some economists say it could take at least four years for the jobless rate to drop down to a more normal range of 5 percent. While sales taxes typically rebound more quickly than income taxes, that is not necessarily going to happen this time around. Retail sales have fallen further this recession than in any other during the past four decades, according to Boyd's research. That's because jobs remain scarce, credit has tightened and home prices are down, instilling a frugality that appears to have staying power.
In anticipation of a slow budgetary recovery, some states are seeking to push costs into the future. In Rhode Island, a proposal to avoid a government shutdown would require state employees to work 12 days without pay over the next two years. In return, they would get extra vacation days and could receive pay for some of their lost wages — but not until they retire or leave their jobs. In Minnesota, Gov. Tim Pawlenty is balancing the budget by delaying nearly $1.8 billion of payments to schools until after the end of the current school year. The state's action has created a ripple effect for school districts, which are tapping reserves and borrowing money to pay staff, food and utility bills.
Complicating the recovery is the fact that some state services have barely rebounded from the last recession. Funding for Missouri's public colleges and universities, for example, peaked at just under $950 million in the 2001 fiscal year before getting sliced the following two years. State higher education aid didn't inch past the 2001 level until 2009. But core funding for Missouri's public colleges and universities now has been frozen indefinitely because of the recession.
Told that any requested funding increases would require equal cuts from elsewhere its budget, the Missouri Coordinating Board for Higher Education last month recommended yet another flat year of funding for 2011. The result is that Missouri's colleges and universities would get about the same amount of money as they did a decade ago, despite rising operating costs and enrollments that the state board says have grown as the recession prompts more people to seek new job training. "The economy might improve, but the state's budget is still going to have some serious problems," says Paul Wagner, Missouri's deputy higher education commissioner.
Connecticut's new budget is already in trouble
A continued drop-off in tax revenue threatens to plunge the new state budget into a $500 million deficit, Comptroller Nancy S. Wyman reported Thursday, after totaling first-quarter tax revenues. The announcement could further complicate Friday's special session on legislation to authorize the budget that started July 1. Minority Republicans in the General Assembly on Thursday called for further spending cuts. Majority Democrats said it's early in the fiscal year and while revenue seems to be eroding, there's still time for the trend to reverse and the new tax on the state's wealthiest to beef up the revenue stream.
Wyman, in a letter to Gov. M. Jodi Rell, agreed that it's early in the budget biennium and there's still time to "mitigate" the projected deficit if it persists. "Although many of the revenue enhancements associated with the budget have not yet appeared within the revenue collection figures, the first-quarter revenue trends raise concerns," said Wyman in a letter to the governor, in which she noticed a 15 percent drop in income-tax revenue. "If first quarter trends continue unabated, even after fully incorporating the projected revenue gains enacted as part of the budget, the revenue shortfall in the General Fund would exceed half a billion dollars," wrote Wyman, a Democrat.
"It is a house of cards, and it is falling," House Minority Leader Lawrence F. Cafero Jr., R-Norwalk, told reporters in the Capitol. Cafero and Senate Minority Leader John McKinney, R-Fairfield, said Democrats should consider massive spending reductions, an expansion of the recent state-employee retirement plan and the sale or privatization of state properties and services. McKinney said majority Democrats should pay greater attention to GOP proposals dating back to April, when Republicans called for budget cuts to address the grim fiscal reality caused by the recession. He said the $500 million revenue drop is added on to more than $473 million in unspecified savings that are supposed to be found in the current budget, creating a nearly billion-dollar problem in a spending package that's only three months old.
"We are going to be going in tomorrow to implement a budget that, based on the comptroller's numbers, may very well be close to a billion dollars in deficit," McKinney said. "It's mind-boggling that the Democrat leaders continue to bury their heads in the sand, ignore the real fiscal realities of what's happening in our state and are moving forward with implementing a budget that's already, we know, going to be out of balance." McKinney and Cafero predicted that a provision in the budget that would reduce the state sales tax to 5.5 percent, would never occur and it will stay at 6 percent because threshold requirements for revenue, put into law by Democrats, will never be met.
Senate President Pro Tempore Donald E. Williams Jr., D-Brooklyn, said Wyman's letter "does raise legitimate concerns" about the budget. "We remain hopeful that revenues will stabilize; the millionaire's tax and other measures included in the budget are sure to help bring in additional revenue as the economy rebounds," Williams said, noting that the Republican governor has to do more. "It is also imperative that the billions of dollars of spending reductions included in the budget are realized," Williams said in a statement. Speaker of the House Christopher G. Donovan, D-Meriden, said there have been more positive signals in the nation's troubled economy.
"It is very early in the budget year and economists agree there are signs that we are beginning to come out of the recession," Donovan said in a statement. "The budget is based on the numbers provided by our non-partisan budget office and contains deep cuts along with a responsible combination of revenues and borrowing. We started the year with an estimated deficit of over eight billion dollars and have put together a package of reasonable measures to fill that hole."
Pennsylvania: Hopes for state budget vanish
Pennsylvanians may need to revise the adage about not counting your chickens before they hatch to read: Don't count on a budget before it's passed. Two weeks ago, leaders of three of the four legislative caucuses and Gov. Ed Rendell announced they had a framework for a new spending plan that would end a weekslong budget impasse. The deal fell apart after Thursday when House Democrats made changes that aren't expected to pass muster with Senate Republicans.
The House Rules Committee on a party-line vote rejected a 20 percent tax on small games of chance by groups that hold liquor licenses and a sales tax on tickets for stage performances and admission to museums, zoos and cultural sites. Instead, the Democrats voted to create a tax on natural gas extraction and impose a 30 percent tax on the wholesale price on cigars and smokeless tobacco products. While Pennsylvania taxes cigarettes, unlike other states, it does not tax smokeless tobacco products.
A number of rank-and-file House Democrats have criticized plans to tax stage performances and cultural sites to provide funding for the arts and a reported 20 percent tax on small games of chance drawings to help fill the state budget deficit. The revisions increase the likelihood that Pennsylvania's budget stalemate will extend longer than expected. Senate Republican leaders have said the House revisions set back negotiations to the beginning, and they've sent their members home for the weekend.
That's bad news for municipalities, agencies and others trying to stay afloat while they wait for promised state funds. A new state budget was supposed to have been in place more than three months ago, but disagreements between legislators and the governor over how much to spend and where to get the money have created chasms that lawmakers have been unable to bridge. While the General Assembly passed a Senate budget plan in July, Rendell used his line-item veto to reject essentially everything but accounts needed to pay state employees.
Agencies, counties and schools have gotten nothing from the state in months. And it's putting them in a bind. Area county commissioners are looking at options on how to pay the bills, including loans, if the state money doesn't start flowing. Foster families, food pantries, day care facilities, libraries and others are struggling without promised state payments. Perhaps someone will be able to salvage the budget deal and reverse Pennsylvania's embarrassment about being the only state without a comprehensive spending plan. But given what we've seen over the past few months, residents shouldn't count on such an agreement until it's passed and signed.
New York: Is Anyone Willing to Cut the State Budget?
Gov. David Paterson fancies himself a financial doomsayer -- the man with the intestinal fortitude to stand up and shout the bad news. "The economy stinks and we have to cut the budget!" Paterson blames his historically low approval ratings on the economy and the "tough choices" he has had to make to keep New York out of devastating financial straits -- along the lines of what California is suffering through. New York has yet to issue IOUs to its debtors as California has done, and Paterson has trumpeted that fact -- even taunting his potential opponents, daring them to get off their "deck chairs" and join him in the "ocean" with the sharks.
But while Paterson has repeatedly sounded the alarm, he has not yet presented any kind of concrete plan to close the state's multibillion spending gap. The state faces a mounting budget deficit but accounts of its size vary. Early estimates pegged the gap around $2.1 billion, but because income tax revenue has been lower than anticipated, Paterson has said the gap could reach $3 billion or more.
Earlier this summer Paterson promised to introduce a budget plan in the fall. In a July report, his Division of the Budget said: "To address this issue, Gov. David A. Paterson today announced that he will work with Lt. Gov. Richard Ravitch to develop an Economic and Fiscal Recovery Plan that will eliminate the current-year budget deficit and improve the state’s long-term fiscal health. The governor’s plan will be released in September." September is now officially over.
As summer wore on, Paterson spoke of having a special legislative session in the fall to address the deficit, but legislators countered that they wanted to see a plan before returning to Albany. Paterson also readied what seemed to be his financial super weapon: Ravitch, whom Paterson asked to review the state's finances. Paterson continued to push for the legislature to return to address the deficit but to no avail. Finally, Paterson called a public leaders meeting. The meeting featured Paterson, Ravitch, Senate Conference Leader Sen. John Sampson, Senate Minority Leader Dean Skelos, Assembly Speaker Sheldon Silver and Assembly Minority Leader Brian Kolb. The meeting was designed to get the leaders to publicly agree at least on a path toward finally addressing the budget gap.
During that meeting last week, Paterson spoke again of his desire to make real cuts to spending rather than using the state's rainy day fund or raising taxes. If such cuts are not made, he said, "We would face the peril of being unable to meet our obligations, having our credit rating reduced, and getting ourselves into serious economic trouble." Rather than returning for a special session the attendees agreed that staffers from Paterson's office and the legislature will meet to formulate a plan. Beyond that it seemed the attendees didn't find much common ground -- even on the size of the deficit. Skelos reportedly said it was only $1.6 billion.
The Democratic leader, Sampson, responded to Paterson's $3 billion claim by saying his conference "doesn't believe in government by guess work. We need real numbers to provide real solutions." Silver and Kolb indicated they agreed with Paterson's projections. This may be where Ravitch comes in. At the leaders meeting the new lieutenant governor said little except to suggest leaders look for common ground before looking for solutions. ""If we start off, hopefully with a common view of the numbers that we have to address, then we can talk about solutions in the context of that agreement, rather than fighting about solutions because we disagree with what the underlying numbers are," he said.
Critics like E.J. McMahon, director of the Empire Center for New York Policy, say that Paterson, despite his flagging poll numbers, needs to lead -- he has to present a plan and shepherd it through the legislature while taking the heat for tough cuts. "You have to lay something on them," said McMahon. "You have to push for it and have to give them cover. You have to say it was hard but it had to be done." McMahon said that having legislative and executive staffs negotiate over the size of the deficit and solutions to cut it is simply futile. "Legislative staffs don't work that way. They are reactionary; they don't initiate," he said.
Sen. Liz Krueger agreed that the governor should present a plan for the legislature to consider. "That’s why I advised my conference leader not to move to a date for a special session until we have a plan," Krueger said. Krueger said that criticizing the legislature for holding up a deficit reduction plan is simply "not a rational objection." The legislature actually has a limited amount of input into the budget. The New York State constitution requires executive budgeting. In other words, the governor is responsible for presenting a budget plan after consulting with the appropriate departments. The legislature then can then strike things from the budget or reduce them but it cannot alter the budget in other ways.
Krueger pointed to the 2004 Court of Appeals decision Silver Vs. Pataki, which resulted in a ruling that the legislature had overstepped its bounds in a number of instances. In one example, former Gov. George Pataki argued that the legislature had overstepped its bounds in trying to postpone a prison project approved in the budget. After the budget was passed the legislature voted to bar construction until the project received legislative approval. The court found that the legislature was acting beyond its authority.
This does not mean the legislature has no say. During the extremely secretive budget negotiations last year, the legislature was seen as having won the budget battle with Paterson. Many of the large cuts to education and health care that the governor had sought were restored. To avoid making the large cuts that Paterson threatened, the budget imposed a tax on the rich and a number of newly implemented fees and surcharges, and used federal stimulus money. McMahon, whose organization advocates reducing spending on labor benefits, education and health care, said that Paterson can't expect the legislature to make the tough cuts needed to actually reduce spending. "They don't know how to say no to anyone," he said.
Comptroller Tom DiNapoli bolstered McMahon's argument with his recently released Financial Condition Report for the 2008-2009 year. DiNapoli's report showed that the budget deficit could expand to $38 billion by the 2012-2013 fiscal year if current spending and income trends continue. The report finds that spending has increased 21 percent over the past four years and could go up another 22 percent by the 2012-2013 fiscal years. "The state must look to the spending side of the ledger, rather than raising taxes and issuing large amounts of debt to pay for things it cannot afford,” DiNapoli said in the report. “New York needs a strong dose of fiscal discipline, which has been lacking for far too long. The State must make difficult choices today to fix New York’s persistent budget troubles.”
As McMahon points out, the legislature never wants to make spending cuts, especially in areas like education and health care, because of the cuts can incur the wrath o unions and the Working Families Party. Some legislators are delaying making cuts because they hope a new round of federal stimulus money could save them from making further reductions. "They've been propped up by stimulus," McMahon said. However, so far, there is no new stimulus plan and, McMahon said, "You'd be hard pressed to find anyone in Washington who thinks that" there will be.
Krueger said the state still is finding that certain money has been allocated to New York through the stimulus plan, and those funds help. "I would like to see the stimulus continued," she said, "but it's too early to tell." Ravitch warned that the state could face "cataclysmic impact" if the stimulus is not extended past 2010. In any event, Krueger said, real cuts must be made -- and quickly. "We need to make sure the savings is immediate. We can't make cuts that we find would take six months for savings to start," she said.
McMahon, who is a strong opponent of the income tax increases in this year's budget, said he fully expects labor groups and the Working Families Party to push for another tax increase rather than making cuts in the budget. "I would bet on it," he said. Krueger and Sampson, who both supported the income tax increase, have publically stated they do not support closing the budget gap with increased taxes or fees.
In the end, some say Paterson might desperately want to take the lead on the budget. He may very well want to make tough cuts and take a stand for fiscal responsibility, but with an approval rating of 17 percent the hard reality may just be that Paterson doesn't have the political leverage to push the legislature to accept any cuts. His only hope may be to negotiate with the legislature and hope its members understand the gravity of New York's financial situation. "The more Paterson says we can't wait while he does not offer a plan the more otherworldly this gets," said McMahon.
Supreme Court ruling throws Ohio state budget back into the wind
Governor Ted Strickland and the Ohio General Assembly made a bet in mid-July that expanded gambling could fill a roughly $1 billion hole in the state's two-year, $50.5 billion operating budget. With the budget now finalized around that bet, it appears they could still lose it. The Supreme Court of Ohio ruled 6-1 last week that their plan to collect an estimated $933 million from as many as 17,5000 new video lottery terminals that are yet to be installed at the state's seven horse racetracks is subject to a possible voter referendum.
Already facing billions of dollars of state funding cuts in the budget process, Ohio lawmakers needed the projected revenue from the new video lottery terminals to shore up a massive hole in the cost of implementing many of Governor Strickland's proposed education reforms. As part of their budget bill, lawmakers agreed to amend several codes to authorize Governor Strickland to order the installation and operation of the video lottery terminals. The bill included specific language stating that the gambling expansion would take effect immediately and be exempt from referendum by voters. The budget plan called for 80 percent of the video lottery terminals to be installed at the state's horse racetracks by May 2010.
That legislative language was quickly challenged by LetOhioVote.org after Ohio Secretary of State Jennifer Brunner refused to accept the group's petition to place on the ballot a statewide voter referendum on the video lottery terminal program. The group then filed a challenge with the Supreme Court of Ohio. With last week's 6-1 ruling, members of LetOhioVote.org have secured their ability to move forward with the referendum and potentially blasted a large hole in the state's revenue picture. The ruling compels the Ohio Secretary of State to treat the video lottery terminal program as subject to voter referendum and delays the effective date of the program by 90 days to allow LetOhioVote.org the full period of time prescribed by law to obtain the number of signatures needed to place a referendum on the ballot.
"We are not unmindful of the effect our decision may have on the state budget, nor the commendable efforts of the members of the executive and legislative branches of state government to fulfill their constitutional duties to balance the budget in Ohio; however, our own constitutional duty is to ensure compliance with the requirements of the Ohio Constitution irrespective of their effect on the state's current financial condition," Justice Terrence O'Donnell wrote in the court's majority opinion.
Having secured its desired outcome, LetOhioVote.org is moving forward with a statewide referendum on the video lottery terminal program. "We are very serious about protecting the voters' constitutional right to referendum. Millions of Ohioans deserve the right to vote on expanded gambling. Today's court decision and our filing bring us one step closer to that public vote," said Gene Pierce, a committee member of LetOhioVote.org. The soonest the group could have its referendum appear on the ballot is November 2010.
State Rep. Jennifer Garrison (D-Marietta), Majority Floor Leader in the Ohio House, called the Supreme Court of Ohio ruling unfortunate. "It will leave up to a $933 million hole in the state budget. It is very unfortunate they ruled that way and the governor is working on ideas on how to bridge that gap. I think the sooner we act the better. If that means making cuts we need to start right away," Garrison said.
Helping to complicate the issue is roughly $6 billion of one-time stimulus money from the federal government that Ohio lawmakers built into the state's two-year operating budget, Garrison said. "We have federal stimulus dollars in the budget and there are places you can't make any cuts because you have to spend the same amount you spent the year before to be eligible for the stimulus dollars. It's being evaluated carefully to see where you can make cuts without putting federal dollars at risk. We don't want to lose those," Garrison said.
Kansas state revenue slides - big time - in September
Early reports say Kansas state government took in $67 million less than expected this month. That puts a bigger dent in state coffers as the state struggles with significant budget cuts. Gov. Mark Parkinson said there's no cause for alarm, noting the state's revenues have bounced up and down in the last few months (last month's revenue figures came in $7.8 million above estimates).
"We knew there would be good months and bad months as we work our way out of this recession," Parkinson said in a statement. "August was up a little, September was down significantly. We can handle the September shortfall through a careful management of existing funds. It is too early to panic, and too soon to make rushed decisions. We will continue to monitor revenues closely over the coming weeks and months.” The Legislature returns to Topeka in January. More budget cuts are likely. Parkinson has already had to make emergency cuts once so far this fiscal year.
Iowa lawmaker expects another round of state budget cuts
The Iowa Senate's top leader said today he expects Democratic Gov. Chet Culver will have to order an across-the-board cut later this month to address a growing state budget imbalance. Senate Majority Leader Mike Gronstal, D-Council Bluffs, said he did not know how deep the spending reduction for current state programs would have to be, but he hoped Culver would take significant action now and lawmakers could restore some funding later if the revenue and economic outlooks improved next year. "It's going to be challenging and there will be some pain involved in this," Gronstal said during today's taping of Iowa Public Television's "Iowa Press" show.
The Senate leader's comments came one day after the nonpartisan Legislative Services Agency issued a report indicating that state tax collections are running $141.1 million below last fiscal year's first quarter following a double-digit plunge again in September. Culver administration officials indicate it is likely the governor will impose an across-the-board cut once the state Revenue Estimating Conference revises its fiscal 2010 tax receipt projections next Wednesday. Other budget-balancing options could include dipping further into the state's cash reserves, but the governor and Gronstal have ruled out any major tax increases as a way to address the drop in tax collections they blame on the national recession.
"We have a very bumpy road to go over next year," said Gronstal, who indicated he did not want to reduce the state's cash reserves below $200 million in the propose of making budget adjustments. Those reserves currently exceed $400 million. The leader of the Senate's 32-member Democratic majority said policymakers will try to protect priority funding areas, but added that education, human services and other areas likely will have to share in the reductions and state employees will see vacant positions go unfilled or some layoffs to bring spending in line with revenues. "Keeping everything whole is not going to happen," he said.
Legislative Republicans say the current budget mess is a result of too much spending and borrowing by majority Democrats. They also blame Culver for reacting too slowly to a likely budget deficit that now will require actions for a budget already into the fourth month of operation. "This year Gov. Culver and his majority Democrats in the Iowa Legislature passed the single biggest budget in Iowa's history - despite overwhelming evidence state revenue was still in a steep decline," said Iowa GOP Chairman Matt Strawn in a statement.
"Well, governor, you can't fool Iowans any longer and you can't hide behind your phony budget tricks. You spent too much, borrowed too much, and your refusal to aggressively act on the obvious warning signs is going to cost all Iowans dearly," he added. "Whether it will be deeper than necessary cuts in state services, higher property taxes that result from massive across the board cuts, or tax increases that the governor and majority Democrats pass to close this gaping hole, no one will be spared the pain caused by Governor Culver's continued mismanagement of our great state," Strawn said.
Massachusetts braces for more cuts as new taxes can't stop revenue dive
Despite spending reductions and massive tax increases, state government continues to exceed taxpayers’ price range, new revenue data shows, as September receipts crashed $333 million below a year ago. State tax collections fell $243 million below estimates last month, the Patrick administration said Friday, likely triggering spending reductions just three months into the fiscal year. Monthly revenues were down 15.9 percent from a year ago, and the first quarter of the fiscal year has produced $477 million less than last year’s, $212 million below what budget authors thought they would have on hand.
While there had been indications that the monthly figures would fall far short of the $2.166 billion benchmark, the gash in the state budget from September was markedly worse than state officials expected. As late as Thursday night, lawmakers received word the shortfall would be $228 million below benchmark. Senate budget chief Steven Panagiotakos said, “I think it’s as bad as we possibly could have imagined, and it means that we have not found the bottom of this revenue decline and some serious cuts are going to have to be made in the next few weeks to get this budget in line.”
His House counterpart, Charles Murphy, gave a similar assessment, calling the intake “obviously much worse than people had anticipated, worse than what I actually thought would be the worst-case scenario.” Gov. Deval Patrick, addressing reporters after a Cabinet meeting, said, “Although the private sector economy is beginning to recover, state government is still feeling the impact of the global economic collapse.” Cuts to local aid, Patrick said, were “certainly on the table.”
Patrick said he believed there is light at the end of the state's dark economic tunnel, pointing to signs of recovery in the private sector. "I think people would like to know when they're going to come to that light," said Patrick, surrounded by Cabinet members and advisers in his council chambers. "I'm not sure, but I know it's there. I can see it." Tax collections have continued to falter despite rounds of tax increases, including a higher sales, corporate and cigarette taxes and a new tax on alcohol.
Patrick said the state would likely have to cut more jobs, pointing out that 1,400 employees had already been laid off so far. "There very likely are going to have to be more," Patrick said. Murphy said September’s tax collections will likely prompt a more assertive effort from the Patrick administration to obtain expanded budget-cutting authority from the Legislature. Patrick has already requested the power to cut spending beyond executive branch agencies, but has been ignored so far by lawmakers uneasy with ceding that power.
“He’s asked, but from what I can tell it’s been asked but it really hasn’t been pushed a great deal. And I suspect that push will be made much more aggressively,” Murphy told the News Service. A fresh economic forecast for the full fiscal year is due Oct. 15. After that, the administration has 15 days to formulate and release a solutions set, aides said. Since last September, when state revenues began tanking, the state has repeatedly lowered revenue expectations, but have yet to catch up to the fiscal trends.
Patrick called the state’s information technology and banking sectors “strong and getting stronger,” and said recent investments in clean energy and life sciences were “the foundation for future growth.” Along with health care and education, he said, “These areas of our focus are, in fact, leading us out of the recession faster than other states.” Panagiotakos said he was “hopeful” but uncertain about Patrick’s optimistic descriptions of the private sector economy, and said that even if that sector perked, the state’s revenue intake lags by “at least 12 months.”
“We’re all hopeful for signs of recovery, however we’ve got to be realists, too,” Panagiotakos said. The Lowell Democrat said a commercial real estate bust that could materialize, inflation driven by national debt, and the likely disappearance of billions in federal stimulus aid were factors outside state government’s control that could frustrate an economic rebound. “We’re not creating any jobs,” Panagiotakos said.” You can’t have a jobless recovery, or if you do it’s artificial and it’s going to end up falling. The question is: where are those jobs are going to come from?”
Officials defended the sales tax hike, saying the revenue picture would be worse without the increase. Sales tax collections climbed 13.8 percent from a year ago, but still fell $37 million below the monthly benchmark. The increase took effect Aug. 1, with post-tax hike collections reflected in the September numbers. “Clearly, the rate increase in sales tax has mitigated the effects on the sales tax revenues from the underlying economy and the fact that people are not spending as much,” said outgoing Patrick budget chief Leslie Kirwan. “So it would be a worse situation without the tax that was ultimately included in the budget.”
Members of the Legislature's Revenue Committee, which has pushed several of the tax increases passed over the past year-plus, are planning to launch a statewide listening tour next Wednesday "to examine Massachusetts tax policy," according to an advisory issued Friday by the committee. According to the advisory, the tour will focus on how tax policy affects "the challenges of local government; economic development and job growth; vulnerable populations; property, and, income taxes and working families."
Regular sales tax revenues climbed $32 million, the Department of Revenue said, but fell $28 million short of projections. Retail industry business collections climbed $24 million, 24 percent, driven by an increase of up to $9 million from alcohol, which had previously been exempt from that tax. Business-to-business sales were flat, despite the tax increase. While the federal “Cash-for-Clunkers” program drove motor vehicle sales taxes in July and August, that trend fell off with the program’s end, bringing collections in $5 million below estimates for September.
Corporate and business taxes plummeted 29.6 percent, to $144 million below benchmark, which Department of Revenue officials attributed “at least in part to the impact of the declining economy on corporate profits, use of transferable tax credits, and faster processing of refunds this September.” For the first quarter, income taxes were $9 million beneath projections. Patrick ruled out additional long-term borrowing to pay for operating expenses, calling it “a very, very bad practice.”
Illinois budget problem worsens as time goes by
The state is about one-quarter of the way through its fiscal year with a budget that is seriously out of balance. To date, Gov. Pat Quinn has been unable to put in any meaningful expense savings that would help the state balance its financial situation. Also this week, those who want to tax the state out of this problem received a reminder of the damage that strategy can do.
Quinn received a major setback earlier this week, when a Southern Illinois judge ruled that the he could not proceed with the layoffs of 2,600 state employees until after union grievances are resolved. It's reasonable to expect that AFSCME won't move ahead with those talks quickly. To date, the union representing the largest number of state workers has fought Quinn's budget cuts at every turn. The union has refused to agree to furloughs or wage freezes, forcing Quinn to order layoffs. Now those layoffs are indefinitely delayed.
Meanwhile, the days of the calendar continue to go by. Every day the state government doesn't cut expenses to help balance its budget, the problem worsens. Legislators aren't helping much, either. We've seen plenty of politicians stating that prison employees shouldn't be laid off and guaranteeing to "fight" every time an organization is faced with fewer funds. If any legislators have spent time trying to actually solve the budget crisis instead of making political hay from it, they've been hard to hear.
It's expected that Quinn and the Democrats in the House and Senate will come up with a solution to the budget crisis in January. That date is conveniently after the filing deadline for the 2010 primary election. The solution is expected to be an increase in income taxes. But that is a risky strategy. A new report from the nonpartisan Tax Foundation points out that the business climate in Illinois now ranks 30th in the nation. That's a drop from the fiscal 2009 ranking of 23. Only Oklahoma had a deeper drop among the 50 states. Two of Illinois' border states, Indiana and Missouri, rank 12th and 16th. Iowa and Wisconsin rank below Illinois, at 46th and 42nd.
Businesses pay attention to these rankings, which means Illinois is less attractive to companies that are looking to build and expand. The state also is looking less attractive to companies that already are here. The long-term solution to the state's budget problems are increased revenues, which would come from an increase in jobs. But legislators need to make sure their short-term solution doesn't make the long-term one impossible. As time passes without any solution, the problem is only going to get worse.
Mississippi Budget: Worsening by the month
State revenue collections are getting worse by the month - as they have been for the last 13 months. The State Tax Commission reported Thursday that Mississippi's tax collections fell 10 percent short of expectations in September. Those numbers substantiate what most state agency heads, legislators and Gov. Haley Barbour have been saying since July - that additional budget cuts for the current fiscal year are almost a certainty one-quarter into the current state budget.
The Tax Commission said that for the first three months of the fiscal year, revenues were 7.7 percent below where experts thought they'd be. That's a shortage of $77.4 million for the first quarter. The biggest portion of that shortfall - $44.9 million - was in September. Barbour cut nearly $172 million, or about 2.9 percent, from the $6 billion annual budget in early September. He has maintained consistently since July that additional budget cuts are a distinct possibility.
In separate guest columns in today's Perspective section, Republican Lt. Gov. Phil Bryant and House Education Committee Chairman Cecil Brown, D-Jackson, agree on the fact that more budget cuts are likely and that there's no sentiment for general tax increases in this difficult economy. But lawmakers must take caution not to cripple essential services in the process. Cutting public education is self-defeating in a state with a high degree of poverty and a crying need for more workforce training to retool Mississippi workers for the jobs of the future.
The ongoing recession will make demand for public health care increase exponentially as well. Since public education and Medicaid remain the two most difficult budget fixes even in a good revenue scenario, the current dramatic revenue shortfalls create challenges that are worthy of being called crises. What the Legislature and Gov. Barbour can't afford to do in this revenue environment is fail to pull the budget cut trigger in a timely fashion. The earlier the cuts are made, the easier that agencies and institutions can adjust to the growing state budget pain.
Arizona budget deficit jumps to $1.5 billion
The state budget deficit has jumped to $1.5 billion as budget officials revised their estimates based on continued gloomy tax collections. At the Capitol, lawmakers and the governor are engaging in what's become a rite of fall, playing verbal footsie about whether they'll move sooner or later on closing the spending gap. A special session in late fall is possible. Meanwhile, state spending for the first three months of fiscal 2010 has slowed a bit, down $100 million over the same period last year.
It's a small step in the right direction, given that the warring lawmakers and Gov. Jan Brewer all agree that cuts are inevitable in this budget year. But against the backdrop of a $1.5 billion deficit, it's a drop in the bucket. "It's not enough," said state Treasurer Dean Martin, whose office tracks the flow of state money. "It needs to be more." Lawmakers are warming to the idea of a special legislative session to knock down part of the deficit, as well as restoring legislation that would address funding issues with several state agencies.
"There's a lot of appetite for it," House Speaker Kirk Adams said of the idea of taking a "chunk" out of the deficit. Senate Majority Whip Steve Pierce was even more certain. "I think it's 100 percent we'll get something done before January," he said. The question is what that "something" is.
Brewer had given lawmakers a Sept. 30 deadline to restore policy issues, such as giving the unclaimed-property fund back to the Department of Revenue, that were killed when she vetoed parts of the state budget on Sept. 4. She didn't want to mix a proposed special session on policy issues with legislators' call to restore some of the $464 million in cuts that she reversed. Brewer said restoring policy issues and funding cuts should be addressed separately, along with her push for a sales-tax referral.
The Sept. 30 deadline came and went without action, and now all parties are talking about combining the policy issues with deficit reduction. Brewer also wants lawmakers to deliver the tax referral, which hasn't sold well in the Legislature. Brewer will call lawmakers back to the Capitol for a special session "when they're ready with a plan to get something done," said spokesman Paul Senseman. It's important that the plan include the sales-tax referral, he said.
Brewer has already alerted agencies to throttle back spending. A month ago, when she restored spending to education and the state Department of Economic Security, she said those areas still need reductions. But she didn't want to move forward with the cuts without a sales-tax election to cushion the decreases. In addition, the governor last month directed all agency directors to send her plans by Oct. 9 showing 15 percent cuts in their budgets.
It's difficult to tell if agency officials are heeding the "spend less" directive. Martin said it takes time to cut spending. Contracts, for example, usually require a 30-day notice. Layoffs need staff evaluations and notices. And the spending numbers early in the year aren't a good predictor of trends because most state agencies make big expenditures at the front end, such as paying their annual rent or their insurance policies. DES, which provides social services, got back $172 million with Brewer's veto. But agency directors are taking a cautious approach and building their plans around the smaller budget that lawmakers passed in June, and again in August, according to a department memo.
That means the layoffs, child-care waiting lists and other cuts the agency has lived with since February continue, but no further cuts are expected. The overall budget deficit was originally just under $1 billion. But it jumped to $1.5 billion when legislative budget analysts factored in lagging tax collections and a dose of skepticism that some of the money-making plans in the 2010 budget won't pan out.
Oklahoma’s budget cuts hurt programs that help poor
For Shirley Harris, budget cuts at the state Health Department mean that she has to tell elderly and disabled patients who sometimes only have a few teeth left that she can’t help them find dental care. Harris is the executive director of D-Dent, a nonprofit group that works with dentists to provide free dental care to the elderly and developmentally disabled people. When the Health Department absorbs cuts because of state budget shortfalls, it often means a cut in services to people in need.
D-Dent has more than 3,000 people on its waiting list and serves about 800 patients a year, Harris said. This year the number of patients served will be greatly reduced after D-Dent’s state funding was cut by $10,000. Some of D-Dent’s clients waiting on dentures have lost so many teeth that they can no longer chew. They eat baby food, Harris said.
"You’ll see people come in who have two or three teeth in their mouth,” Harris said. "Dental health is a big issue. But for many people, when it’s the difference between eating or getting their medication, people let their teeth go.” In the 2008 State of the States Health Report, only about 58 percent of Oklahomans had regular dental visits, earning Oklahoma an "F” on the report. Most counties earned a failing grade for access to dental health, according to the report issued by the state Health Department. "The dental health in this state is very concerning,” said Dr. Edd Rhoades, deputy commissioner of family health services for the Health Department.
Rhoades said all programs at the department took cuts as the agency absorbed an overall budget cut of 7.5 percent. All state agencies are trimming their bottom line as the state sees a decrease in its cash flow. "The reductions have to be made somewhere,” Rhoades said. "We’ve tried to minimize them so they don’t impact delivery of services. But if we see future cuts, it’s going to start having a great impact on services.” Many programs that received Health Department funds serve the elderly, children and the disabled.
A $267,000 budget cut for the Children’s First program means that 300 to 350 families will lose out on prenatal counseling and education for young pregnant women, said Annette Jacobi, chief of family support and prevention services with the Health Department. The program serves first-time mothers who often lack financial services and education, Jacobi said. The program sends out nurses to meet with mothers and families in hopes of cutting down on child abuse and neglect. "Over half of the pregnancies in Oklahoma are unplanned,” she said. "It’s one thing for a family with a decent income to absorb that. But a surprise pregnancy and child can be really tough for some people.” Jacobi said with fewer family services available, parents could become overloaded with stress or make bad decisions that can sometimes lead to abuse and neglect.
As the state struggles to fund public health programs, the need for individuals to step upincreases, officials said. At D-Dent, Harris said she hopes more churches or people will donate to their cause. For Jacobi, she said she hopes more people become aware of the children around them and the conditions they live in. "I think this is really going to require every citizen to become a vigilant neighbor,” Jacobi said. "We need to keep eyes and ears open to all children, not just our own. People worry about poking their nose into other people’s business, but if we really care about children we’re going to have to step up. Maybe that’s the silver lining of the budget crunch, if there is one.”
Michigan: State budget puzzle grows increasingly hard
The state budget is like a Rubik’s Cube, only the colors on this puzzle may never line up, no matter how many combinations lawmakers try. We saw that again this past week when the Legislature ran up against the Oct. 1 budget deadline, ran a little over and then decided to give itself another month to do what it hasn’t been able to do for months already: Agree on a balanced budget for a state that’s economically hobbled. As anyone can plainly see, there are no simple, easy answers. Put yourself in the shoes of a state senator or representative and here is what you’d face:
- The pool of revenues with which to work has been falling for several years, made worse by the national recession, the automakers’ financial crisis, rising unemployment and home foreclosures.
- The cost of providing services to the people of Michigan is rising. Health care costs more each year. Those who are poor or jobless continue to need assistance. Law enforcement, courts and prisons are stretched thin and expensive to support.
- Nearly everyone agrees deep, rich education offers a long-term solution for a state that hopes to transform itself into something prosperous again, but schools and teachers and programs require significant funding.
- Nobody in the state has an appetite for a tax increase. But few people want to gut important and effective programs and services, either.
- There’s a short-term pool of federal money to help bridge the gap, but when it’s gone there still will be serious problems on both the revenue and the services sides.
It’s clear that the reason it’s been so difficult for lawmakers to finish the budget is that there are no good answers, no obvious solutions and very few “win-win” opportunities. What really needs to happen is fundamental change in a system now peopled with a majority of lawmakers who either lack the political will, the imagination or intestinal fortitude to grasp these times of turmoil as an opportunity to create something new and dynamic.
In the end, based on the actions, or lack thereof, thus far, we expect that important programs, including some that serve veterans, students, the poor and the hungry, will be cut well below effective levels. Some minor changes in taxation may or may not be approved. And federal money will fill in some — but not all — of the gaps.
Then we’ll all come back next year, a gubernatorial election year, and do it all again. But the shrillness of the political debate will ratchet up to a higher level. The “structural deficit” will not have been corrected. Revenues will continue to fall as the need for all kinds of services rises. Lawmakers will struggle to make ends meet.
It’s not a pretty prospect. Brace yourself, Michigan. Our state budget puzzle likely won’t truly begin to be solved until the national economy is recovering, the auto industry reaches a higher level of stability and more people return to work. And that’s simply going to take awhile.
As Property Taxes Become a Real Burden, Can Backlash Be Far Off?
The list from census data isn’t all that surprising, but there it is. Westchester County, No. 1. Nassau, No. 2. Hunterdon and Bergen in New Jersey, Nos. 3 and 4, respectively. And so it goes. Of the 10 counties in the country with the highest median property taxes, every one is in New York or New Jersey.
Or, to look at another table in the Census Bureau’s American Community Survey for 2008, of the 10 counties with the highest real estate taxes as a percentage of home value, all 10 are in New York. Or, to try one more, of the states with the highest median real estate taxes overall, New Jersey is No. 1, Connecticut is No. 2 and New York is No. 4 (tax-averse New Hampshire, which does not have a general sales tax or a personal income tax, sneaks in at No. 3).
This, as anyone who breathes oxygen knows, is a high-tax region. But as Richard Nathan packed up his office on Friday after 45 years of studying or participating in state, local and federal tax and budget policies, he wondered if we had finally reached a breaking point. “I’m a little surprised there hasn’t been more heat and more agitation about tax caps and tax burdens in the way there has been in other parts of the country,” said Dr. Nathan, who retired as co-director of the Nelson A. Rockefeller Institute of Government at the State University of New York at Albany. “I keep thinking, ‘When is this dog going to bark?’ And the numbers make you think it’s going to be soon. It just feels different right now.”
You can hear some pretty distinct yips in the New Jersey governor’s race, where the property tax burden could help the Republicans win their first statewide race this decade (or perhaps not, if the Republican candidate, Christopher J. Christie, looks like he doesn’t have answers either). But whether there’s anything more than resigned gnashing of teeth by suburban swing voters in all three states will say a lot about the future of local politics and particularly the fate of Democrats in what are supposed to be the bluest of blue states.
Property taxes are high around here in large part, of course, because property values are high. But there are several reasons why property taxes are higher here than in other costly parts of the country. Unlike California and Massachusetts, there are few, if any, longstanding brakes in place that kept property taxes down (and, in California, led to disastrous revenue shortages). Public employees unions are powerful and politically feared. And we’ve come to expect good services — top-rated schools, nearby police in little boutique towns — and have been willing to pay for them.
The Nassau County executive, Thomas R. Suozzi, whose “Fix Albany” mantra got him nowhere when he ran for governor against Eliot Spitzer in 2006 but looks pretty smart in retrospect, says that property taxes are inseparable from dysfunction in state government. He cites several reasons why property taxes are so high: unreasonable state mandates piled on local governments; income tax dollars inequitably distributed back to local governments; far too many local governments — more than 10,500 in New York — that need to be consolidated or eliminated; fraud and waste; and economic stagnation producing no expansion in the property tax base. You could throw in crippling Medicaid costs and unsustainable pension costs.
“It’s the No. 1 issue,” he said. “People have reached their breaking point. But we still have a long way to go in connecting the dots between dysfunction in state government and high property taxes.” Still, breaking point or not, who knows where this goes? A Proposition 13-style temper tantrum? Painful cuts — meaning teachers and police? Throw out the bums — most likely Democrats, who could be fat targets in an antitax backlash? Lots of grumbling but living with an increasingly unaffordable status quo?
Gerald Prante, an economist with the Tax Foundation in Washington, said at least people feel they get something tangible from their local taxes and can tolerate them if they believe they’re getting what they paid for. “If I told you I spent $40,000 on a car, it doesn’t tell you much unless you know what kind of car,” he said. “If it’s a Lamborghini, it was probably a good deal. If it was a Saturn, it’s not such a good deal.”
Thus, for all the angst, the fact that most local school budgets still routinely pass indicates we might be more likely to grumble than to cut close to home. The problem is that many suburbanites who bought the luxury car a few years back now can barely afford the Saturn. The New Jersey race will provide some signals. Whether Republicans regain control of the Nassau County Legislature might provide some more. But the status quo can’t last, and if there’s a huge backlash, Democrats have the most to fear politically.
“The longer we wait, the harder the reckoning is going to be,” Dr. Nathan said.
Homeowners are challenging property-tax assessments at a record rate
With the ebbing of the real estate market, a record-bursting tide of property-tax appeals is inundating assessment offices all over the region - and the nation - with appeal numbers double and triple what they were last year. What is happening locally "is a microcosm of the whole country," said John Garippa, a New Jersey tax lawyer and president of the American Property Tax Counsel in Chicago. "It's an incredible, incredible number of appeals."
New Jersey has smashed records for county-level and court filings, he said. Camden County's 1,260 appeals were triple last year's. More than 14,000 were filed in Ocean County, and with an April 1 appeal deadline, the county typically wraps up hearings during the summer; this year, they will be lapping into November. Before the Aug. 1 deadline, more than 5,000 appealed in Bucks County, the most in at least 11 years, and both Chester and Montgomery Counties reported the highest totals since the countywide mass appraisal of more than a decade ago. Delaware County is the exception; its numbers are about the same as last year's.
In Philadelphia, where the Board of Revision of Taxes is in turmoil, the appeal numbers aren't yet final. The board said last week that about a thousand appeals had been filed, about half last year's total. But more were expected before tomorrow's deadline. Philadelphia, which has a rolling reassessment and is trying to overhaul its entire system, sent out only 15,000 reassessment notices this year - compared with 413,000 in 2007. Almost a third of Montgomery County's came from Lower Merion Township, said Roseanne Weathers, the county Board of Assessment Appeals office manager.
It was hit with so many from the township's Green Hill Condominium complex that the appeals board has decided to make an unprecedented house call. Board Chairman Dennis Sharkey plans to send an assessor there next week to hold hearings for the primarily elderly residents. The appeals are part of the fallout from a stubbornly sluggish economy, and that fallout was evident last week in Weathers' office - covering her desk, piling up on the floor. As have other county boards, Montgomery County's has been under a state of paper siege. "It really keeps you busy," Weathers said on a day when the assessment board was hearing 56 appeals.
The assessment offices are in the recessionary cross-fire because, of all the major levies, real estate is the only one that a taxpayer can fight. Wage, sales, and head taxes are immutable, but a property-tax bill is arguable. The tax bill is based on the assessment - the portion of market value that is subject to taxation. And if a property owner can demonstrate that the true market value is less than the assessors' estimate, the tax bill can be lowered.
With property values sagging, the appeals business is surging. It's not surprising that the Garden State's appeals would be off the charts, said Jerry Cantrell, president of the New Jersey Taxpayers Association, because the state's real estate levy is among the nation's highest. "It hits everybody," Cantrell said. If the big driver in New Jersey is the sheer magnitude of the bills, the tax matrix is a tad more complicated in Pennsylvania. The most aggrieved class of Pennsylvania property owners consists of those who purchased new construction within the last five years, said Jeffrey DiAmico, an attorney representing about 50 appellants in Bucks and Montgomery Counties.
"That's unfortunately the way the assessment system works," said Michael Lewis, who is a case in point. Lewis purchased a newly built home in Solebury Township in 2005. His house was assessed at the top of the market, and by the county's estimate, it is worth about $1.7 million, yielding an annual tax bill of about $19,000. Lewis has appealed, saying the house might have lost up to 30 percent of its value as buyers have shied away from pricier properties. "At the higher end, there's not much of a market," he said.
Such value plunges - up to 40 percent - are common these days among the priciest residential properties, said Joseph O'Brien, a veteran Delaware County tax lawyer who represents property owners throughout the state. The recent construction tends to be assessed higher in Pennsylvania, where counties are responsible for affixing the values and are reluctant to conduct costly and politically unpopular mass appraisals to keep assessments up to date.
In New Jersey, assessing is done at the municipal level and mass appraisals occur more frequently. In Pennsylvania's countywide system, all county properties must be done simultaneously. The values then are frozen in time until the next reassessment - and that can be quite a wait. Lewis said he was astounded to learn that Bucks County had not reassessed since 1972. Under such a system, owners of older properties that appreciate get a break over time because their taxes are based on lower values.
Newer homes, however, carry fresher appraisals, closer to 100 percent of current value. It so happens that Lewis bought at the top of the market. But it's not just the new; the system works against any property that is depreciating. And more than Lower Merion's rising taxes, that steams Harry Epstein, 84, one of the Green Hill owners who have appealed.
Epstein and his wife bought their unit in the City Avenue high-rise in 2003 for $162,500, and by the county's estimate, it is worth more than $180,000, translating to a tax bill of $2,700. Epstein, who calls himself a "full-time golfer," begs to differ. "The values have dropped considerably," he said. Said Lewis: "I hope, one property at a time, we can convince the state to change this system." In the meantime, he said, "I'm paying too much, and others are too little." Lewis, who said he is between jobs, is among those who have felt the sting of the downturn firsthand. Carolyn DiMedio of Haddon Heights knows all about the down economy. Her 60-year-old husband runs a building-supply firm, and business is off 70 percent. Still, they must find a way to pay a $24,000-a-year tax bill. The assessor says their house is worth $954,000.
"If I could get $750,000, I would be really happy," she said. She appealed her bill this year and got a reduction - of $750. "My husband is going to have to work for the rest of his life," she said. They plan to look at a development in Delaware. Tax experts think that with values continuing to fall, the appeals business will continue to rise. In Norristown, Weathers, the Montgomery County office manager, held up three envelopes on her desk, and observed, "I am getting some in for next year." Said Sharkey: "I think next year is going to be worse."
New Jersey's broken property-tax system defies easy repair
New Jersey's broken property tax system is not a million-dollar problem. It's a billion-dollar problem, a $23,000,000,000 problem, to be exact. An overhaul of property taxes would require an unprecedented commitment from both politicians and the public, experts and reform advocates say. Residents and their elected officials would have to decide what types of spending cuts they could tolerate and how to raise the rest of the money through other taxes. "I argue that we are taking piecemeal approaches to problem-solving in this state," said Henry A. Coleman, a professor at Rutgers University's Edward J. Bloustein School of Planning & Public Policy who has studied New Jersey's tax issues for decades.
Coleman said New Jersey is unique because it requires property owners to pay most of the costs for local services, including education, but gives most towns just one main revenue source: the property tax. But if you shuffle the tax structure, what would the bottom line look like? How much would a change actually save you, the homeowner, in property taxes? It's a question that's easy to ask, but hard to quantify. The largest part of your property tax bill about 53 percent goes toward education. It was $12.4 billion statewide last year.
If just 10 percent of that burden is shifted away from property taxes, and the state picks up the tab, it would save property owners $1.2 billion. That would likely cut the average property tax bill by $370. Instead of an average property tax of $7,045, it would drop to about $6,675. But where would the state get the extra $1.2 billion? It would have to cut services, cut expenses or raise other types of taxes. "If you don't cut spending, you're just shifting taxes around to something else," said Joseph Henchman, Director of State Projects for Washington-based Tax Foundation. "New Jersey's residents and elected officials really need to sit down and discuss what their goals are and how they're going to change things."
Hammering out a solution everyone can live with has been the elusive Holy Grail of state politics. For every winner -- homeowners with tax cuts -- there will be losers, perhaps laid off government workers. And government unions have a powerful voting bloc that usually supports the Democrats, who control the State House. "This didn't happen in the past year or two years," said Jerry Cantrell, president of the New Jersey Taxpayers' Association. "Not a single politician has stepped up and said, "We were a part of creating this mess, we have to resolve it.' " Both taxpayers and pundits agree that New Jersey has reached a crisis point.
"If we're not at that critical point, it's going to happen in the near future," said Joseph Marbach, dean of the College of Arts and Sciences at Seton Hall University and an expert in New Jersey politics. "We're going to have to discuss both spending and the way we raise money." Fundamental changes to the tax structure are easier to achieve in states that do not have so many entrenched special-interest groups, according to Ingrid W. Reed, director of the New Jersey Project at Rutgers University's Eagleton Institute of Politics.
Interviews with economists, tax experts and taxpayers groups, and a review of other state tax systems, reveal several ways in which the state could fix its tax system to meet the needs of the public and make tax collection fair. Possible solutions include:
- Convene a constitutional convention. Every other fix so far has failed to stem the rise of property taxes. Some, such as changes that came out of the Legislature's 2006 special session on taxes, imposed some spending limits on towns and schools. But the total local tax levy still rose 5 percent between 2007 and 2008.
- The most direct way to address the complexity of the tax issue is to impanel delegates from all sectors of the state to sit down and work out amendments to the state Constitution. The Legislature and voters would have to approve such a convention, and votes would have to approve any changes to the constitution. "A major recasting has to be radical on the revenue side and radical on the cost side . . . to break the logjam," said Joseph J. Seneca, professor of economics and public police at the Bloustein school, Rutgers. If both spending and revenue are addressed, "then it is worth pursuing," he said.
- Cut expenses. Taxes and government spending go hand in hand. To reduce taxes, expenses have to drop. But cutting expenses means cutting government services, employees, programs, or all three. GOP gubernatorial candidate Chris Christie has said he wants to cut state jobs by the thousands, but has not set a specific number. But if 10,000 jobs were cut, at an average salary of $60,000 a year, that would be a $600 million savings. If all that money went to property tax relief, the average property tax bill of $7,045 would drop by 2.6 percent, or $184. But the 74,600-strong state work force would be reduced by 13 percent, which could lead to service cuts.
Democratic Gov. Jon S. Corzine said he has reduced government employees by 8,400 positions during the last three years, mostly through attrition. Those cuts combined with revamped pension rules will save taxpayers $6.4 billion over the next 15 years, the governor said, or an average of $426 million a year. That would translate to a 2 percent reduction in property taxes if all that saved money were used for property tax relief.
Still, are any cuts enough to make a dent in property taxes? If the number of local government employees and teachers were trimmed 10 percent, from 400,000 to 360,000, that would add up to $1.8 billion in salary savings alone. That could reduce the average property tax by $550. But would parents tolerate larger class sizes? Would homeowners embrace cutbacks in police, garbage collection and code enforcement for what works out to $1.50 a day in savings? And would a flood of 40,000 unemployed government workers cripple the state's already weak economy? Even freezing employee salaries would likely keep taxes near their current rates, but not lead to any reductions.
- Tax-base sharing. Municipalities would pool a portion of their revenues, and the money would be distributed on an equitable basis. This also could reduce the competition between municipalities seeking new businesses and developments, and encourage them to develop regional planning. In Minnesota, Minneapolis and St. Paul have had a regional tax-sharing system since 1971. Experts say that most municipalities in the regional district have lower property tax burdens than they would have if there was not tax-base sharing.
New Jersey also has one small regional tax base sharing system, among the towns and counties that are part of the state's Meadowlands Commission. The majority of residents in New Jersey would benefit from tax-base sharing, according to a 2003 study conducted by Myron Orfield of the University of Minnesota and Thomas Luce of Ameregis, a private research group.
- Shuffle the tax structure. This would move revenue away from property taxes and toward other taxes. Independent gubernatorial candidate Chris Daggett suggested expanding the state's sales tax to currently exempt services in order to raise nearly $4 billion. That would allow property taxes to be cut by 25 percent, he said. If the income tax were raised to offset property taxes, it would be a more fair taxation system. But it could also drive the rich to neighboring states where tax rates are lower.
- Local revenue diversification. The Legislature could allow municipalities to add new taxes for local revenue, such as a restaurant tax. A 2003 state law allowed municipalities to levy a local occupancy tax of up to 3 percent on hotel rooms, which is collected on top of the 5 percent state occupancy tax and 7 percent sales tax. Mount Laurel, Howell, West Long Branch and Brick are among the local municipalities that have adopted the extra occupancy tax. Fifty-six percent of mayors want the ability to collect additional local taxes, according to a 2008 League of Municipalities survey.
- Regionalization and consolidation. Would forcing municipalities and school districts to merge automatically reduce taxes? Studies indicate that there would be winners and losers in almost all consolidation cases, but combining some of New Jersey's 566 towns and 605 school districts could reduce duplication of services and future costs.
- Targeted property tax "circuit-breaker." If you're too poor to pay your property taxes, the state would step in with financial help. This income-sensitive program could take the place of the variety of property tax relief programs that now exist in the state, including the Senior Saver and Homestead Rebates. But this program could result in a decrease in property tax revenue for local municipalities, especially those with many lower-income residents.
Waves of new fund cuts imperil US nursing homes
The nation's nursing homes are perilously close to laying off workers, cutting services -- possibly even closing -- because of a perfect storm wallop from the recession and deep federal and state government spending cuts, industry experts say. A Medicare rate adjustment that cuts an estimated $16 billion in nursing home funding over the next 10 years was enacted at week's end by the federal Centers for Medicare and Medicaid Services -- on top of state-level cuts or flat-funding that already had the industry reeling.
And Congress is debating slashing billions more in Medicare funding as part of health care reform. Add it all up, and the nursing home industry is headed for a crisis, industry officials say. "We can foresee the possibility of nursing homes having to close their doors," said David Hebert, a senior vice president at the American Health Care Association. "I certainly foresee that we'll have to let staff go."
The funding crisis comes as the nation's baby boomers age ever closer toward needing nursing home care. The nation's 16,000 nursing homes housed 1.85 million people last year, up from 1.79 million in 2007, U.S. Census Bureau figures show. Already this year, 24 states have cut funding for nursing home care and other health services needed by low-income people who are elderly or disabled, according to the Center on Budget and Policy Priorities, a nonprofit research firm based in Washington, D.C.
Some facilities are now closed because of money problems -- including four in Connecticut -- and others have laid off workers because of what industry officials say are inadequate Medicaid reimbursement rates. Medicare cuts are troubling, they say, because the higher Medicare reimbursements have been used to compensate for the lower Medicaid rates. In Griswold, Conn., the community's only nursing home shut down earlier this year because of rising costs and an inability to pay for $4.9 million in needed renovations for the 90-bed facility.
"A 92-year-old woman was screaming and crying as she was loaded into the ambulance, saying 'This is my home,'" Griswold First Selectman Philip Anthony said. His 88-year-old mother was a resident of the same home at the time. Anthony sought and found a new facility for his mother, but she died of pneumonia before the Griswold Health and Rehabilitation Center closed in the spring. "To be hit with a sudden and deliberate closure like this, it just drained the heart right out of you," Anthony said.
Connecticut Gov. M. Jodi Rell and state lawmakers gave no Medicaid rate increases to nursing homes in the state last fiscal year and kept the funding flat for the next two years. The Griswold home was one of four nursing homes in the state that have closed since December because of financial problems, a higher rate than usual, said Deborah Chernoff, a spokeswoman for District 1199 of the New England Health Care Employees Union in Connecticut, which represents more than 20,000 health care workers in the state. We're really teetering on the edge of what we see as the collapse of the long-term care system," she said.
Chernoff said many of Connecticut's 240 or so nursing homes have been reducing workers' hours to deal with money problems, while two are in bankruptcy now. Also this year across the country:
- The Motion Picture & Television Fund said in January it would close a hospital and nursing home in Woodland Hills, Calif., founded to care for actors and other entertainment industry workers, because of financial losses.
- The Westchester Medical Center in suburban New York said it would close a nursing home and cut 400 jobs to deal with Medicaid and other fund cuts.
- The Dove Health Care nursing home in Glendale, Wis., near Milwaukee, closed this summer because of heavy debt.
- Medicaid reimbursement rates to nursing homes were cut this year by Rhode Island (5 percent); Michigan (4 percent) and Florida (3 percent).
- Washington state legislators whacked nursing home funding by $93 million for the next two fiscal years.
Gary Weeks, executive director of the Washington Health Care Association, said some of the organization's 400 assisted living and nursing homes have laid off workers. Some will not survive, he said.
At the request of Weeks' association, a federal judge in July issued a temporary restraining order blocking the cuts because state officials didn't do a required analysis of how the reductions would affect care quality and access. "There's a lot of pain going on everywhere, but it's clearly a crisis in long-term care," Weeks said. "You're going to find that some folks go out of business," he said. "Some will look for more Medicare patients -- Medicare pays more than Medicaid."
In Washington, D.C., health care interests are resisting President Barack Obama's plan to pay for his health care overhaul by slowing Medicaid and Medicare spending. Obama wants to trim $313 billion from the two programs over 10 years. It's not clear exactly how all the health spending cuts will affect nursing homes. A University of Pittsburgh study earlier this year found nearly 1,800 nursing homes nationwide closed from 1999 to 2005, about 2 percent each year.
One of the study's authors, health policy and management professor Nick Castle, said the annual closure rate is rising, for reasons that include inadequate Medicaid reimbursement rates and the push for more home and community care. "It's come to a head recently with state budgets being in such jeopardy that they're cutting in all areas," Castle said.
The federal stimulus package approved in February includes $87 billion in Medicaid funding to help states. But Connecticut and several other states are using a loophole in the legislation to divert the money to budget items unrelated to health care, according to a congressional study. On average, Medicaid payments by states to nursing homes fell short by $12 per patient, per day last year -- nearly $4.2 billion in unreimbursed costs for Medicaid-allowed expenses, according to the AHCA.
In New York City, the Metropolitan Jewish Health System laid off about 200 of its 1,000 employees at three nursing homes in Brooklyn because the state cut Medicaid funding by 10 percent to 14 percent, said President and Chief Executive Eli Feldman. "We understand there's a recession/depression," Feldman said. "But this is not health reform ... and the victims are basically the people who live in the facilities. The Legislature basically says, 'Too sick, too old, too bad."
Report on Bailouts Says Treasury Misled Public
The inspector general who oversees the government’s bailout of the banking system is criticizing the Treasury Department for some misleading public statements last fall and raising the possibility that it had unfairly disbursed money to the biggest banks. A Treasury official made incorrect statements about the health of the nation’s biggest banks even as the government was doling out billions of dollars in aid, according to a report on the Troubled Asset Relief Program to be released on Monday by the special inspector general, Neil M. Barofksy.
The report also provides new insight into the way the Treasury allocated billions of dollars to nine of Wall Street’s largest players. The report says that Bank of America appeared to qualify for more aid earlier, under the government plan. That assertion adds another element of intrigue to continuing investigations of the bank’s merger with Merrill Lynch and the role that regulators played in the deal, even as Merrill’s condition deteriorated.
The bailout formula called for banks to get an amount equal to as much as 3 percent of their risk-weighted assets, with aid capped at $25 billion for each institution, according to the report. By size, Citigroup, JPMorgan Chase and Bank of America could have qualified for more, and the first two received $25 billion. But Bank of America was given only $15 billion in October, since Merrill Lynch was earmarked for $10 billion. The two companies agreed to a merger, though their deal had not yet been approved by regulators or shareholders.
Bank of America ultimately received Merrill’s $10 billion in January — as well as $20 billion in additional bailout funds — but if the bank had not been involved in the Merrill deal, it would probably have received $25 billion at the outset, as did Citigroup and JPMorgan. Another company in the process of a merger was not treated the same. Wells Fargo was acquiring Wachovia, and it received both companies’ money at the start, according to the inspector general.
Mr. Barofsky’s office also says that regulators were wrong to tell the public last year that the earliest bailout recipients were all healthy. Former Treasury Secretary Henry M. Paulson Jr., for instance, said on Oct. 14 that the banks were “healthy,” and that they accepted the money for “the good of the U.S. economy.” The banks, he said, would be better able to increase their lending to consumers and businesses. In truth, regulators were concerned about the health of several banks that received that first bailout, the inspector general writes.
The inspector general said government officials need to be more careful when describing their actions and rationale. In a letter included with the report, the Federal Reserve concurred with Mr. Barofsky’s concern about the statements made last year, but the Treasury Department said that any review of announcements last year “must be considered in light of the unprecedented circumstances in which they were made.”
Group Tied to Obama Urges Tax Increase
A liberal think tank with close ties to President Barack Obama says the administration and Congress should consider raising taxes on Americans to help close federal budget deficits, an opening salvo in what is likely to be a protracted debate on tax policy. In a draft report, the Center for American Progress says the size of projected budget gaps requires considering options including tax increases as well as curbs on annual spending and entitlement programs supported by Democrats.
Such ideas could pose problems for Mr. Obama, who pledged during the campaign to not increase taxes on families making less than $250,000. The report, which will be released on Wednesday, said the administration can't rely on taxing richer Americans and companies to reduce the deficit to sustainable levels by 2014 because those groups would see 40% tax increases. "In all seriousness, responsible people know that additional revenue has to be part of the mix even if they believe in lower taxes in general," the report concludes.
The center's president and chief executive, John Podesta, who is an Obama adviser, said the administration should consider a tax on consumption, such as a value-added tax system similar to that in use in the European Union. Mr. Podesta suggested that its impact should be limited to protect lower-income people, who otherwise might be hit particularly hard. "As progressives we need to debate the policy merits and likelihood of enacting a range of options -- including designing a small and more progressive value-added tax, changes to the corporate tax code, and taxing upper income earners beyond reversing the Bush tax cuts," Mr. Podesta said in a statement Tuesday.
White House economic adviser Larry Summers and Treasury Secretary Timothy Geithner refused to rule out middle-class tax increases during Sunday talk-show appearances over the summer. "We have to bring these deficits down very dramatically," Mr. Geithner said on ABC's "This Week." "And that's going to require some very hard choices." But White House press secretary Robert Gibbs disavowed the comments. The center's report marks a sign of potential division between the administration and its supporters. Health-care legislation, Afghanistan troop levels and terrorist detainee policy are among other areas where the administration has sometimes found itself at odds with components of its liberal base.
Another liberal coalition, the labor-allied Campaign for America's Future, is preparing a push for more stimulus spending later this month, another idea that clashes with the administration's thinking. A conservative antitax group, Americans for Tax Reform, opposed Mr. Podesta's VAT idea, saying a value-added tax would apply to "most everything consumed by everybody." The White House didn't respond to requests for comment about the VAT proposal. As the government looks for ways to reduce its big long-term deficits, a debate over taxes will likely be protracted. The tax debate is expected to heat up later this year, when Congress takes up changes to the estate tax, as well as some corporate research breaks and energy-related provisions.
Republicans and some Democrats also have been sounding the alarm on spending, and Republicans are considering attempts to cancel or redirect some funds from the February stimulus bill if they aren't spent by the end of 2010, said Sen. Judd Gregg of New Hampshire, the senior Republican on the Senate Budget Committee. Congressional Democrats also appear increasingly concerned about the government's fiscal situation. House Democrats are considering including criteria for reducing long-term deficits in next year's budget resolution, Rep. John Spratt (D., S.C.), the chairman of the House Budget Committee, said in a recent interview.
For the moment, outspoken progressives say they are sticking with Mr. Obama. "In areas where the president may be going down the wrong road -- like in Afghanistan -- I'm going to be vocal in my opposition," said Rep. Jim McGovern (D., Mass.), who has led a House effort to dissuade the administration from sending more troops to Afghanistan. Still, "at the end of the day, anybody who tells you they're expecting perfection out of this administration from the progressive perspective is not living in the real world."
Goldman to be paid $1 billion if CIT fails
Goldman Sachs stands to receive a payment of $1bn – while US taxpayers would lose $2.3 billion – if embattled commercial lender CIT files for Chapter 11 bankruptcy protection, people familiar with the matter said. The payment stems from the structure of a $3bn rescue finance package that Goldman extended to CIT on June 6 2008, about five months before the Treasury bought $2.3bn in CIT preferred shares to prop it up at the height of the crisis. The potential loss for taxpayers would be the biggest to crystalise so far from the government’s capital injection plan for banks.
The agreement with Goldman states that if CIT defaults or goes bankrupt, it “would be required to pay a make-whole amount” that totals $1bn, the people familiar with the matter said. While Goldman is entitled to demand the full amount, it is likely to agree to postpone payment on a part of that sum, these people added. A CIT filing last week said that it was in negotiations with Goldman “ concerning an amendment to this facility”. Goldman said: “This would not be a windfall payment. The make-whole payment is simply the present value of the spread to be earned over the life of the facility.”
CIT declined to comment. In an effort to prevent bankruptcy, it is working on a debt exchange offer that would virtually wipe out equity holders. In the event of bankruptcy, Goldman would reap more than $1bn because it also holds credit insurance that would be paid off. Goldman said: “The credit default swaps Goldman Sachs purchased to prudently manage the risk associated with the CIT financing are not a directional ‘bet’ on CIT, but were bought to protect against the possibility of a precipitous decline in the value of the collateral.”
Goldman: Big Banks to Outperform
Goldman Sachs raised its rating on large banks to attractive Monday morning, drawing favorable comparisons with regional banks and saying stock prices still don't reflect the large banks' earnings power. Improved earnings, stronger balance sheets and bigger assets following a year's worth of acquisitions at several large banks have leavened some analysts' views of the sector. In particular, Goldman's own price targets and earnings estimates have been hiked by analysts at several other firms in recent weeks.
Bank of America Corp., which faces questions over who will succeed Ken Lewis as chief executive, is also drawing more favorable opinion after beating earnings estimates for two quarters. Goldman singled out Wells Fargo & Co. and Capital One Financial for upgrades, calling Wells Fargo "the big winner" in tangible assets and predicting Capital One will benefit from stronger consumer spending once unemployment growth slows. Thanks to acquisitions like Wells Fargo's of Wachovia Corp., tangible assets a share have risen 29% at large banks since the second quarter of 2007, compared to a 29% drop at regionals, Goldman said.
Wells Fargo's tangible assets were 70% higher in the second quarter of 2009 compared to 2007, the firm noted, predicting those assets will fuel earnings. Normalized earnings are now set to increase thanks in part to those deals, Goldman said, while the same measure for regionals banks has fallen on average. "We believe the gap between sustainable earnings per share and current share prices is too wide," analysts led by Richard Ramsden wrote.
Roubini, Prechter See Stock Declines as Soros Warns on Economy
New York University Professor Nouriel Roubini said stock markets may drop and billionaire George Soros warned the “bankrupt” U.S. banking system will hamper its economy, highlighting doubts about the sustainability of the global recovery. “Markets have gone up too much, too soon, too fast,” Roubini, who accurately predicted the financial crisis, said in an interview in Istanbul on Oct. 3. U.S. stocks may suffer a “major decline” after climbing to the highest levels in almost a year two weeks ago, according to technical analyst Robert Prechter, founder of Elliott Wave International Inc.
Stocks have surged around the world in the past six months as evidence mounts that the economy is emerging from its deepest recession since the 1930s. The Standard & Poor’s 500 Index has soared 51 percent from a 12-year low in March while Europe’s Dow Jones Stoxx 600 is up 48 percent. The euphoria contrasts with warnings from policy makers and investors like Soros, who said today that the U.S. economic recovery will be “very slow.” U.S. consumers are “overdebted” and the country’s banking system has been “basically bankrupt,” Soros said in Istanbul today. “The United States has a long way to go.” Group of Seven finance ministers and central bankers also struck a cautious tone after meeting on the shores of the Bosporus over the weekend, saying the prospects for growth “remain fragile.”
“The real economy is barely recovering while markets are going this way,” Roubini said. “I see the risk of a correction, especially when the markets now realize that the recovery is not rapid and V-shaped, but more like U-shaped. That might be in the fourth quarter or the first quarter of next year.” European stocks gained today after the region’s manufacturing and service industries expanded more than initially estimated. U.S. stocks rose before a report that may show service industries in the world’s largest economy have stabilized.
“Stocks are very overvalued,” Prechter, who advised betting against U.S. equities three months before the market peaked in October 2007, said in an Oct. 1 telephone interview. “Stocks peaked in September and are back in a bear market.” The S&P 500 will probably fall “substantially below” 676.53, the 12-year low reached on March 9, he said. His projection implies a drop of more than 34 percent from last week’s close of 1025.21. It rose to 1030.88 at 9:42 a.m. in New York today.
Gains in the index have pushed valuations to more than 19 times reported operating profits from the past year, data compiled by Bloomberg show. That’s near the most expensive level since 2004. U.S. stocks fell last week after manufacturing expanded less than anticipated and unemployment climbed to a 26-year high of 9.8 percent. In the 16-nation euro region, the jobless rate is at 9.6 percent, the highest in more than a decade.
HSBC Holdings Plc Chief Executive Officer Michael Geoghegan fears there will be a second global economic slump, the Financial Times reported today, citing an interview. Geoghegan forecast a W-shaped recovery and said the “reality is that profits will be quite reduced,” the newspaper reported. The International Monetary Fund predicts the global economy will expand 3.1 percent in 2010, led by growth in Asia, after a 1.1 percent contraction this year. That is still “anemic” and “very weak,” Roubini said. If growth doesn’t rebound rapidly, “eventually markets are going to flatten out and correct to valuations that are justified,” he said. “I see a growing gap between what markets are doing and the weaker real economic activities.”
Stocks will continue to advance, according to Byron Wien, vice chairman of Blackstone Group LP. The S&P 500 is poised for its biggest fourth-quarter rally in a decade as the economy recovers and earnings exceed analysts’ forecasts, Wien said in an interview on Sept. 28. The global equity rally has added about $20.1 trillion to the value of stocks worldwide since this year’s low on March 9. Governments have poured about $2 trillion of stimulus into the global economy while central banks have cut interest rates to close to zero in efforts to revive growth.
“In the short run we need monetary and fiscal stimulus to avoid another tipping point and to avoid deflation, but now this easy money has already started to create asset bubbles in equities, commodities, credit and emerging markets,” Roubini said. “For the sake of achieving growth stability again and avoiding deflation, we may be planting the seeds of the next cycle of financial instability.”
Greenspan Opposes New Stimulus Even With 10% Unemployed Likely
The federal government should not consider a new stimulus package, even with U.S. unemployment likely “to penetrate the 10 percent barrier and stay there for a while,” former Federal Reserve Chairman Alan Greenspan said. “The focus has got to be on trying to get the economy going, but you also have to be careful that in trying to do too much you can actually be counterproductive,” Greenspan said on ABC’s “This Week” program.
Greenspan appeared on ABC two days after the Labor Department reported an unemployment rate of 9.8 percent, the highest since 1983. The report prompted President Barack Obama to say he’s working to “explore any and all additional” measures to spur growth. Third-quarter economic growth is likely to be 3 percent and “possibly even higher,” Greenspan said yesterday on ABC. Only 40 percent of the $787 billion economic stimulus package approved in February is “in place,” he said.
“It’s far better to wait and see how this momentum that’s already begun to develop in the economy carries forward,” he said. While last week’s unemployment report was “pretty awful no matter how you looked at it,” the economy is recovering and it would be “premature” for Obama and Congress to enact another stimulus package, Greenspan said. “We are in a recovery and I think it would be a mistake to say the September (unemployment) numbers alter that significantly,” he said.
The “silver lining” to the unemployment numbers is that firms have cut jobs expecting “the economy would go down far more sharply than it in fact did” after the “whole financial system imploded” following the September 2008 bankruptcy of Lehman Brothers Holdings Inc., Greenspan said. U.S. firms “laid off a very substantial number of people to the point that the actual hours worked fell even more than the economy,” and this trend “can’t continue,” he said. “At some point we’re going to start to see an improvement in employment,” Greenspan said.
Still, to stop unemployment from rising the economy needs to add jobs at a rate of “more than 100,000 a month,” the former Fed chief said, adding he is “particularly concerned” about the number of people unemployed for six months or longer. The Labor Department’s September report said 5.44 million people have been unemployed for 27 weeks or longer, a 9 percent increase over August. Greenspan said he is worried about people who are “out of work for very protracted periods” losing their skills, which could be an “irretrievable loss” to the U.S. economy. “What makes an economy great is a combination of the capital assets of the economy and the people who run it,” the former Fed chief said.
While opposed to new stimulus measures, Greenspan said “temporary actions” such as extending unemployment benefits are justified. “I don’t actually consider those types of actions stimulus programs,” he said. The U.S. Senate is expected to debate this week an extension of unemployment benefits “by another 12 or 13 weeks” in states where the jobless rate exceeds 8.5 percent, and by four weeks in other parts of the country, Senator Charles Schumer, a New York Democrat, said on the ABC program. The House passed a similar extension Sept. 22 by a margin of 331-83. Lawmakers should focus on providing targeted assistance, such as extended unemployment benefits and tax credits for first-time homebuyers, while the remaining 60 percent of the $787 billion stimulus package is spent, Schumer said on “This Week.”
“Before doing a second stimulus, let’s see how the rest of the 60 percent works, and try to deal with the pain of some people in terms of the job front,” he said. While Republicans may be willing to support extended unemployment benefits and homebuyer incentives to reduce housing inventories that are “dampening the recovery,” they are likely to oppose another stimulus package, Senator John Cornyn, a Texas Republican, said on ABC. “There are things we need to do to help people who need help, like unemployment benefits and the like, but I think throwing more money at the problem and racking up more and more debt for our children and grandchildren to pay is not the answer,” Cornyn said on “This Week.”
Senator Barbara Boxer, a California Democrat, said Obama should consider legislation to limit U.S. greenhouse gas emissions as a means of stimulating the economy. Boxer is the co-author of a “cap-and-trade” proposal released last week that would create a system of pollution rights that firms could buy and sell. Venture capitalists “are ready to pour multibillions of dollars into clean energy” if Congress passes “some kind of bill that talks about energy independence and climate change,” Boxer said on CNN’s “State of the Union.”
Republicans have said cap-and-trade will hinder growth by raising the cost of existing energy sources, such as coal and oil, which currently fuel the economy. “Don’t be pushing bills like cap-and-trade, which are big job killers,” Senator Jon Kyl, an Arizona Republican, said on the same CNN program as Boxer. If Obama is looking for new ways to stimulate the economy, he should focus on tax cuts, Kyl said. “Targeted tax relief for Americans would be the quickest way out of this recession,” Kyl said.
Democrats Weigh Extending Key Parts of Stimulus
White House officials and Democratic leaders in Congress on Friday said they were weighing extending key elements of the economic-stimulus program as the nation grapples with a deteriorating job market. Obama administration economists said they would like the enhanced unemployment-insurance program to extend beyond its Dec. 31 expiration date. They also want to maintain a program that offers tax credits to pay 65% of the cost of health insurance policies under the COBRA program, which allows laid-off workers to purchase the health plans they had through their previous employer.
White House officials said they also are examining whether to extend a soon-to-expire tax credit for first-time homebuyers, but that provision faces a stiffer headwind. "The question is, does it need to be extended or would fiscal considerations lead us to not do so," one administration official said. "We've got a budget deficit to think about, too." Administration officials are reluctant to call these possible moves a second stimulus package because about 60% of the initial $787 billion stimulus package remains unspent and not contractually obligated to projects. They are focused on what they call the "safety net" parts of the original package, which expire Dec. 31. But since the extensions would require congressional action, they would likely reopen a debate about the fast-rising federal deficit and the effectiveness to date of the stimulus package.
For the fiscal year that ended Wednesday, the government is expected to post a record $1.56 trillion budget deficit. That rise is feeding criticism of the administration's spending, and sowing some worry among officials about spending. Indeed, Republicans jumped on Friday's gloomy jobs report, calling it proof that the original stimulus plan hadn't worked. Employers eliminated more jobs than expected in September and the unemployment rate climbed to 9.8%, another sign that a rapid recovery in the labor market is unlikely.
"Today's troubling report underscores the need for Democrats in Washington to scrap their job-killing agenda and act in a bipartisan way to put Americans back to work," said House Minority Leader John Boehner (R., Ohio). The administration countered that unemployment would be worse without the stimulus program. Nonfarm payrolls declined by 263,000 in September, the Labor Department said Friday, noting that the largest job losses were in construction, manufacturing, retail trade and government. Economists surveyed by Dow Jones Newswires had expected a 175,000 decrease.
National Economic Council Director Lawrence Summers, in an Internet interview for Atlantic magazine, said he wouldn't be caught using a loaded phrase such as "Stimulus 2." But he hinted at the legislative discussion. "We certainly need to continue to support people in need, whether through unemployment insurance or COBRA, which for the first time provides that people who get laid off get supported," he said. "The administration will consider ways of making unemployment insurance be there as a safety net to the extent practical," said Alan Krueger, assistant Treasury secretary for economic policy. Extending unemployment benefits through 2010 would cost about $100 billion, according to the Center on Budget and Policy Priorities, a liberal think tank.
The cost of the original stimulus plan is likely to shoot higher than the $787 billion estimate, as payrolls continue to be cut. Under the stimulus program, workers who lose their jobs up to Dec. 31 would get the full, expanded 79 weeks of unemployment benefits, including the $25-a-week expansion in the program. Those laid-off workers also would get nine months of COBRA support. So programs that nominally terminate at the end of the year would extend much of the way through 2010 for tens of thousands of Americans. Some people close to the administration believe that when likely extensions of jobless benefits are added in, the total cost of the original stimulus program could exceed $900 billion.
Wall Street's Fraud and Solutions for Systemic Peril
by Janet Tavakoli
Last week I gave a presentation to members of the International Monetary Fund (IMF) explaining the corrosive atmosphere that allowed the largest Ponzi scheme in the history of the capital markets to flourish. The following is a brief summary. Wall Street gave mortgage lenders large credit lines (similar to credit card debt) and packaged the loans into private-label residential mortgage backed securities (RMBS). Most of the RMBS was rated “AAA,” since subordinated investors absorbed the risk of a pre-agreed amount of loan losses. But many RMBSs were backed by portfolios comprising risky fraud-riddled loans.
Most of the “AAA” investment was imperiled, and subordinated “investment grade” components were worthless. Wall Street disguised these toxic “investments” with new value-destroying securitizations and derivatives. Meanwhile, collapsing mortgage lenders paid high dividends to shareholders (old investors) and interest on credit lines to Wall Street (old investors) with money raised from new investors in doomed securities. New money allowed Wall Street to temporarily hide losses and pay enormous bonuses. This is a classic Ponzi scheme.
Securities laws chiefly apply to financiers (the underwriters and traders) that create, sell, and trade securities. Underwriters are responsible for appropriate due diligence, an investigation into the risks.2 If you know or should know that investments are overrated and overpriced when they are sold, those facts must be specifically disclosed. If you fail to disclose material information, expect to be investigated for fraud. If you have a mortgage subsidiary, expect it to be investigated, too.
Wall Street protests that it sold toxic assets to sophisticated investors obliged to perform independent due diligence, so those investors may have trouble claiming damages. But the ballgame has changed. Massive fraud damaged the U.S. economy. (Housing prices didn’t just fall; they plummeted as the fraud unraveled.) U.S. taxpayers became unwilling unsophisticated investors funding Wall Street’s bailout. The Fed uses tax dollars to keep some of our largest banks—weakened by reverse-Glass-Steagall mergers with troubled entities—from collapsing under heavy loan losses.
Wall Street’s huge bonus payments were based on suspect accounting. Failure should not result in fortune. Yet, Wall Street once again proposes to pay out exorbitant bonuses. Many banks’ current illusion of profitability is only made possible by taxpayers' enormous subsidies including low cost borrowing, higher interest payments on bank capital deposits, a credit line for the FDIC (to be repaid with banks' subsidized profits), and continued government debt guarantees on bank debt. A large share of certain banks’ subsidized profits is due as reparation to unsophisticated investors, the U.S. taxpayers.
When you leverage fraud riddled fixed income securities, there is nowhere to go but down in a hurry. Confusion after the fraud falls apart leads to a vicious cycle of selling, as investors and lenders shun both good and bad assets. The deflating debt bubble is followed by a classic liquidity crunch. By the end of 2006, public reports of implosions of large mortgage lenders eliminated CEOs’ plausible deniability. By January 2007, many (including me) publicly challenged the failure to account for losses. Instead, toxic securitization accelerated in the first half of 2007—classic malfeasance as a Ponzi scheme collapses. In August 2007, I projected hundreds of billions in principal losses for mortgage loans alone—not counting other troubled asset classes, derivative duplication, and leverage. Fed Chairman Ben Bernanke contemporaneously said mortgage loan losses would be $50-100 billion.
At a lunch following my presentation, a senior officer claimed the IMF had estimated global losses of $1 trillion in its April 2007 Global Financial Stability Report. I averred the IMF’s Report followed a growing wave of billions in write-downs; by then Bloomberg News had reported potential global losses in the high hundreds of billions of dollars (Feb 2008). (Everyone’s estimates were too low.) Not so, other senior IMF officers said; they were “early” and had great political “courage.” But their heads were up their own hindsight bias. The IMF's estimate was in the April 2008 Report, after Bear Stearns’ March 2008 implosion.3 Blind to fraud, the IMF missed the message.4
The IMF is not a financial regulator. Actual regulators did worse. The SEC dropped seminal investigations and failed to investigate ongoing securities fraud. In the spring of 2007, the Fed and the U.K.’s FSA reported that the degree of leverage in the global financial system was less than at the time of Long Term Capital Management, but in reality it was much greater. They are now repeating their mistakes. Winston Churchill said we must alert somnolent authority to novel dangers; but our regulators are complacent, and the dangers are not novel.
An IMF official asserted: “You can’t prove fraud” and insisted it was in the interest of risk managers not to let their institutions collapse. (He was unable to attend my exposition based on Chs. 5-12 of Dear Mr. Buffett). This IMF officer isn’t just soft on crime; he’s in denial. Failure to recognize fraud led to statements like the one that opened Chapter 2 of the IMF’s April 2006 Global Financial Stability Report: "There is growing recognition that the dispersion of credit risk by banks to a broader and more diverse group of investors, rather than warehousing such risk on their balance sheets, has helped to make the banking and overall financial system more resilient."
The IMF’s source was a 2006 speech made by Treasury Secretary Timothy Geithner, then president and CEO of the New York Fed. The IMF gets the lion’s share of its funding from the United States and the United Kingdom, its stakeholders. Geithner’s views have more influence than those of former Fed Chairman Paul Volcker, who calls for a return of Glass-Steagall, a separation of traditional commercial banking from high-risk activities. Wall Street supplies a swinging door of jobs for its financial regulators, and—in the case of many members of Congress and our Presidents—campaign contributions. This dependence is known as “capture,” and the result is that instead of reigning in Wall Street, dependent thinking enables mayhem.
In the recent Ponzi scheme only the agents—mortgage lenders, rating agencies, fund managers, securitization professionals, CFOs, CEOs, and other fee or bonus beneficiaries—prospered. Controls and risk management were undermined. The financial institutions and their shareholders, for which these agents are failed stewards, collapsed. Investors in toxic securitizations lost money. Had regulators done their jobs, they would have shut down Wall Street’s financial meth labs, and the Ponzi scheme would have quickly choked to death from lack of monetary oxygen.
After the Savings and Loan crisis of the late 1980’s, there were more than 1,000 felony indictments of senior officers. Recent fraud is much more widespread and costly. The consequences are much greater. Congress needs to fund investigations. Regulators need to get tough on crime. Troubled financial entities should be put into receivership and restructured. Old shareholders will be wiped out. Debt-holders will take a haircut (discount) along with a debt for new equity swap to recapitalize the entity. But the job won’t be complete until we separate high risk activities from traditional banking in a return to a Glass-Steagall like structure with regulators that indict fraudsters, snuff out systemic fraud, and allow honest bankers to prosper.
The fact that many U.S. banks stuck to traditional banking and protected shareholders during this crisis is under-publicized, but their prudence worked. We have the solutions. We need the will to implement them.
Ilargi: A bit more from Janet Tavakoli, as noted 3 weeks ago at maxkeiser.com.
Risk of deflationary collapse greater now than in 2007
Regarding the outlook, my analysis is grim. I am not a doomsayer, I follow the cash, and so far, I’ve been correct, and the government has been wrong. Here’s the situation. We are at greater risk of a total meltdown due to a deflationary collapse than we were in 2007. After the greatest Ponzi scheme in the history of the capital markets, we’ve seen history’s greatest fiscal and monetary expansion, but it hasn’t worked. Debt levels of consumers and business exceed the capacity to repay.
- Our fundamental financial and economic problems, i.e. overleveraging, lack of transparency, have not been solved.
- GDP is adjusted for deflation (and inflation when it is relevant). GDP in U.S. is actually 2.1% worse than reported, i.e. nominal GDP is worse.
- GDP looks better because prices fell more rapidly than income. But that means a negative wealth effect, and loan payments are made from nominal income, so falling income means more loan defaults in our overleveraged environment, because we never deleveraged.
- Since 2008, capacity utilization has plummeted; businesses have no pricing power; U.S. lost 6.7 million jobs but numbers are underreported; personal income tax receipts are down 21%; corporate tax receipts are down 58%; U.S. deficit will exceed $1.8 trillion; govt. spending is now 185% of tax receipts; 13% of mortgages are seriously delinquent and/or in foreclosure; huge decrease in personal net worth; 15 million mortgages exceed the home value. We’re on a massive debt spending spree.
- Income on all levels is not sufficient to make debt payments.
- U.S. cannot borrow $2 to $3 trillion more, so we can’t forestall deflationary collapse.
Whoa… Didn’t See THAT Coming!
Andy Miller, the pro whom we lean on to help keep us in the know about what’s really going on behind the scenes in commercial real estate, tossed the following into an email yesterday. While you, too, may have seen it already, it’s well worth a second look and a little reflection.Oct. 1 (Bloomberg) -- There was a stunning omission from the government's latest list of "problem" banks, which ran to 416 lenders, a 15-year high, as of June 30. One outfit not on the list was Georgian Bank, the second-largest Atlanta-based bank, which supposedly had plenty of capital.
It failed last week.
Georgian's clean-up will be unusually costly. The book value of Georgian's assets was $2 billion as of July 24, about the same as the bank's deposit liabilities, according to a Federal Deposit Insurance Corp. press release. The FDIC estimates the collapse will cost its insurance fund $892 million, or 45 percent of the bank's assets. That percentage was almost double the average for this year's 95 U.S. bank failures, and it was the highest among the 10 largest ones.
What this latest failure reveals is that (a) whatever methodology the regulators are using in their bank reviews, it is disastrously flawed; (b) without mark-to-market accounting, the nature and scale of what actually lurks in the loan portfolios of banks is unknown and unknowable.
Further, (c) the percentage loss suffered should send shudders down the spine of any reasonable observer; the stuff Georgian Bank was holding on its books wasn’t just bad, it was radioactive toxic. There’s more, including (d) the FDIC is now bankrupt, and the $46 billion it hopes to raise by having its member banks pony up their dues for three years in advance is not likely to last out 2010. Then what? I’ll tell you what… all further bills will be forwarded straight on to U.S. taxpayers.
And finally, (e) if this bank, previously considered untroubled by the FDIC, can keel over from a heart attack (perhaps from working 80-hour weeks, supported by gallons of strong coffee?), how many other institutions are in the same position? Wish we knew. Unfortunately, due to the dumping of mark-to-market accounting standards, we have no idea. And, apparently, neither does the FDIC.
Bair Says Creditors Should Help Pay for Bank Failure
Federal Deposit Insurance Corp. Chairman Sheila Bair said regulators should consider making bank holding companies and secured creditors carry more of the cost of bank failures. “This could involve potentially limiting their claims to no more than, say, 80 percent of their secured credits,” Bair said in a speech to a banking conference in Istanbul today. “This would ensure that market participants always have some skin in the game, and it would be very strong medicine indeed.”
Bair’s comments go beyond any of her previous proposals for changing the way large and so-called systemically important financial institutions are treated to reduce the risk of their failure. She has long supported broadening the government’s powers so that it can limit the impact of a collapse such as last year’s bankruptcy of Lehman Brothers Holdings Inc. Investors might keep closer tabs on bank risk if secured claims, such as repurchase agreements, were subject to losses, Bair said today.
“By totally protecting secured claims and many repo claims as nettable financial contracts, the current priority scheme may encourage greater fragility in the financial markets,” she said. Bair acknowledged that such a move would have drawbacks, such as potentially making it harder or more expensive for banks to finance new lending. “It could have a major impact on the cost of funding for companies subject to the resolution mechanism,” Bair said. Such proposals to target secured creditors would need to be weighed carefully, she added. Still, she said, changes in this area also could be used to encourage banks to rely less on short-term financing, including commercial paper, Bair said.
Bair also recommended that all bank holding companies be on the hook if they have a subsidiary protected by FDIC insurance, even if the parent firm is an insurance company or a hedge fund. She said the FDIC wants to see bank capital requirements rise over time, not “spike up” in a way that could jeopardize lending as the global economy emerges from the worst recession since the Great Depression. She predicted more bank failures between now and the end of 2010, and said the commercial and residential real estate markets still face problems.
At the same time, the worst of the crisis appears to have passed. “We’re now in a period of relative stability,” Bair said. Banks in Minnesota, Michigan and Colorado were shut by regulators last week, bringing this year’s toll of U.S. failures to 98. The banks are Jennings State Bank of Spring Grove, Minnesota; Warren Bank of Warren, Michigan, and Southern Colorado National Bank of Pueblo.
Several mortgage firms getting federal funds have spotty records
Several firms now participating in the Treasury's program to modify troubled mortgages have run into problems with federal or state regulators for their treatment of their customers over the years. Included are:
- Select Portfolio Servicing Inc. , a Utah -based company formerly known as Fairbanks Capital Corp. In 2003, Fairbanks agreed to pay $40 million because of mortgage servicing practices that included "force-placed insurance" — or sticking customers with unnecessary insurance costs — and failing to properly credit payments that came in on time.
The company promised to improve its business practices — then it changed its name. In 2007, the company, now called Select Portfolio Servicing, was back at the negotiating table with the federal government. According to an internal Federal Trade Commission memo, Select Portfolio customers continued to complain about the company, saying they'd been charged for what were called "optional products" such as prescription discount plans and life insurance. The federal government negotiated a new settlement that strengthened parts of the 2003 agreement. Select didn't respond to requests for comment.
- Countrywide Home Loans Inc. , part of Countrywide Financial, the company that was one of the major forces behind the rash of risky mortgages and which Bank of America Corp. purchased in July 2008 . According to a 2008 lawsuit by the Illinois attorney general and other states, consumers who fell behind on their mortgages and then called Countrywide were "shuffled from person to person and even department to department before reaching someone who can actually address their concerns." Even then, the lawsuit said, Countrywide demanded an upfront payment before working on a modification — and often, consumers paid up front even though there was no chance their loan could be reworked.
Beyond that, Countrywide refused to work with some homeowners. When one fell behind on her mortgage payment because she was being treated for breast cancer, her church raised money to help her out and sent the money to Countrywide. However, the company refused it because the check had been drawn on the church's account, the lawsuit said. Other consumers were given modifications that actually raised their monthly payments. In one case, the attorney general's office had to intervene after Countrywide boarded up and changed the locks on a borrower's house before it had a legal judgment to do so.
In October 2008 , Illinois Attorney General Lisa Madigan and 10 other states announced that Countrywide (and its new owner, Bank of America ) had agreed to settle the case for $8.7 billion , the largest predatory lending settlement in history. Nationwide, about 400,000 homeowners were expected to get settlement funds to help them rework their Countrywide loans. In announcing the Countrywide settlement, Bank of America said it has "committed significant resources and developed innovative programs to help as many Countrywide customers as possible." Since then, the bank said it's surpassed projections for helping customers under the settlement agreement and Allen H. Jones , a Bank of America executive, said the bank is "committed to doing everything we can do keeping borrowers in their homes."
- Carrington Mortgage Services LLC , based in California , was sued in July by the Ohio attorney general for "providing incompetent, inadequate and inefficient customer service" for homeowners seeking modifications. The state said Carrington imposed unjustified fees and pressured borrowers into loan modifications that are "unconscionably one-sided" in Carrington's favor. A Carrington spokesman said the company has modified loans for approximately half its customers and that company officials are "proud of our track record." He called the Ohio lawsuit "meritless."
— Saxon Mortgage Services Inc. , a unit of Morgan Stanley , was sued in 2008 by the attorney general of Missouri . According to the lawsuit, Saxon failed to properly credit loan payments even after customers had proved the payments had cleared their bank accounts. Saxon then charged late fees to those customers, who couldn't get anybody on the phone when they called in for an explanation. While not admitting wrongdoing, Saxon settled the case and agreed to a voluntary compliance agreement. A Saxon vice president, Greg Smallwood , said that after Missouri's investigation, the case resulted in no violations and no fines, and that the compliance agreement only stipulated that the company would continue to comply with the law.
— EMC Mortgage Corp. in 2008 settled with the Federal Trade Commission over its practices. According to the FTC, the firm charged homeowners unauthorized property inspection fees, unfair late fees, and "engaged in unlawful and abusive collection practices." It charged borrowers for "property inspection fees" even when the purpose of the inspector's visit was to attempt to collect on the loan. It masked its caller identification information to trick people into answering its multiple phone calls, the FTC said. EMC agreed to pay $28 million to settle the charges. (The firm is now a subsidiary of J.P. Morgan Chase & Co. , although it wasn't at the time of the infractions the FTC cited; Chase had no comment on the settlement.)
— Green Tree Servicing, a Minnesota company, agreed to a settlement with the Texas attorney general in 2006 over its handling of mobile home mortgages. According to Texas officials, Green Tree repossessed mobile homes and then sold them to unlicensed dealers. Those dealers, in turn, sold the homes to unwitting customers; some were uninhabitable, with overdue taxes and unpaid lot rents assessed against them. Green Tree agreed to stop working with unlicensed dealers and help homeowners who had been issued invalid titles.
Green Tree had no comment on the settlement.
Buyout Firms Profited as a Company’s Debt Soared
For most of the 133 years since its founding in a small city in Wisconsin, the Simmons Bedding Company enjoyed an illustrious history. Presidents have slumbered on its mattresses aboard Air Force One. Dignitaries have slept on them in the Lincoln Bedroom. Its advertisements have featured Henry Ford and H. G. Wells. Eleanor Roosevelt extolled the virtues of the Simmons Beautyrest mattress, and the brand was immortalized on Broadway in Cole Porter’s song “Anything Goes.” Its recent history has been notable, too, but for a different reason.
Simmons says it will soon file for bankruptcy protection, as part of an agreement by its current owners to sell the company — the seventh time it has been sold in a little more than two decades — all after being owned for short periods by a parade of different investment groups, known as private equity firms, which try to buy undervalued companies, mostly with borrowed money. For many of the company’s investors, the sale will be a disaster. Its bondholders alone stand to lose more than $575 million. The company’s downfall has also devastated employees like Noble Rogers, who worked for 22 years at Simmons, most of that time at a factory outside Atlanta. He is one of 1,000 employees — more than one-quarter of the work force — laid off last year.
But Thomas H. Lee Partners of Boston has not only escaped unscathed, it has made a profit. The investment firm, which bought Simmons in 2003, has pocketed around $77 million in profit, even as the company’s fortunes have declined. THL collected hundreds of millions of dollars from the company in the form of special dividends. It also paid itself millions more in fees, first for buying the company, then for helping run it. Last year, the firm even gave itself a small raise.
Wall Street investment banks also cashed in. They collected millions for helping to arrange the takeovers and for selling the bonds that made those deals possible. All told, the various private equity owners have made around $750 million in profits from Simmons over the years. How so many people could make so much money on a company that has been driven into bankruptcy is a tale of these financial times and an example of a growing phenomenon in corporate America.
Every step along the way, the buyers put Simmons deeper into debt. The financiers borrowed more and more money to pay ever higher prices for the company, enabling each previous owner to cash out profitably. But the load weighed down an otherwise healthy company. Today, Simmons owes $1.3 billion, compared with just $164 million in 1991, when it began to become a Wall Street version of “Flip This House.”
In many ways, what private equity firms did at Simmons, and scores of other companies like it, mimicked the subprime mortgage boom. Fueled by easy money, not only from banks but also endowments and pension funds, buyout kings like THL upended the old order on Wall Street. It was, they said, the Golden Age of private equity — nothing less than a new era of capitalism. These private investors were able to buy companies like Simmons with borrowed money and put down relatively little of their own cash. Then, not long after, they often borrowed even more money, using the company’s assets as collateral — just like home buyers who took out home equity loans on top of their first mortgages. For the financiers, the rewards were enormous.
Twice after buying Simmons, THL borrowed more. It used $375 million of that money to pay itself a dividend, thus recouping all of the cash it put down, and then some. A result: THL was guaranteed a profit regardless of how Simmons performed. It did not matter that the company was left owing far more than it was worth, just as many people profited from the mortgage business while many homeowners found themselves underwater. Investors who bought that debt are getting virtually nothing in the new deal.
“From my experience, none of the private equity firms were building a brand for the future,” said Robert Hellyer, Simmons’s former president, who worked for several of the private equity buyers before being asked to leave the company in 2005. “Plus, the mind-set was, since the money was practically free, why not leverage the company to the maximum?” Just as with the housing market, the good times ended when the economy fell into recession and the credit markets froze. Simmons is now groaning under a huge amount of debt at a time when its sales are slowing. And this time there is no escaping by finding yet another buyer willing to shoulder its entire burden.
Simmons is one of hundreds of companies swept up by private equity firms in the early part of this decade, during the greatest burst of corporate takeovers the world has ever seen. Many of these deals, cut in good times, left little or no margin for error — let alone for the Great Recession. A disproportionate number of the companies that were acquired during that frenzy are now struggling with the enormous debts. More than half the roughly 220 companies that have defaulted on their debt in some form this year were either owned at one time or are still controlled by private equity firms, according to analysts at Standard & Poor’s. Among them are household names like Harrah’s Entertainment and Six Flags, the theme park operator.
Executives at THL counter that Simmons was the victim of hard economic times, not mismanagement or too much debt. As proof, executives point to Simmons’s 40 percent growth in sales and its 26 percent climb in operating income from 2003 through 2007 as well as its 13 consecutive quarters of market share gains against competitors through March 2009. Simmons’s woes, said Scott A. Schoen, a co-president of the firm who sat on Simmons’s board, are entirely caused by the “unprecedented and unforeseeable” downturn that has shaken the entire bedding industry.
“We think the work we had done had positioned the company for us to reap the financial rewards that this economic cycle has taken away,” said Mr. Schoen, gazing across a conference table at THL’s headquarters overlooking Boston Harbor. Still, he acknowledged, “We are clearly disappointed in the outcome of this investment. Make no bones about it.”
Like other emerging industrialists of the 19th century, Zalmon G. Simmons, of Kenosha, Wis., had his hand in numerous businesses — the local bank, a telegraph company, a railroad and a cheese-box factory. He was even, for a time, the mayor of Kenosha. Around 1876, Mr. Simmons came across a new machine that could mass-produce woven wire mattresses. The Simmons bedding company was born.
From its humble beginnings on the banks of Lake Michigan, Simmons grew to become one of the country’s largest manufacturers of mattresses. Along the way, it even sprinkled a little Hollywood pixie dust on the ho-hum mattress business, hiring Dorothy Lamour and Maureen O’Hara to plug its products. Until the 1970s, Simmons largely prospered. Then the troubles started, and the company was soon buried deep inside two enormous conglomerates, Gulf & Western and the Wickes Corporation, for a number of years.
But in the mid-1980s, Simmons caught the attention of a new type of investor. The businesses that stormed corporate America in recent years under the banner of private equity were not always called private equity firms. In the 1980s, they were known as leveraged buyout shops. Their strategy is essentially unchanged, however: they try to buy undervalued companies, using mostly borrowed money, fix them up and sell them for a fast profit. Because they pile debt onto the companies they buy, the firms free up their own cash, allowing them to make additional investments and increase their potential profits.
Simmons’s first trip through the revolving door of private equity came in 1986. Like the latest trip, it was not a pleasant one for employees, but the buyers did just fine. William E. Simon, a private equity pioneer and a Treasury secretary under President Richard M. Nixon, was the man with the golden touch. In 1986, his investment firm, Wesray Capital, and a handful of Simmons’s top managers acquired the company for $120 million, the bulk of which was borrowed. After selling several businesses to pay back some of the money it had borrowed, Wesray cashed out in 1989. It sold Simmons to the company’s employee stock ownership plan for $241 million — twice what it paid just three years earlier.
The deal was a fiasco for the employees. As part of the buyout, Simmons stopped contributing to its pension plan, since the stock ownership plan shares were meant to pay for the employees’ retirements. But then the bottom fell out of the housing market and Simmons, with its large debt, stumbled. Its pensions crumbled as the value of the stock plan shares plunged. A succession of private equity buyers came and went. Merrill Lynch Capital Partners bought Simmons in 1991 for $32 million for a 60 percent stake in the company and the assumption of its debt. Merrill sold it to Investcorp, an investment group based in Bahrain, for $265 million in 1996. Two years later, Investcorp sold the company to Fenway Partners for $513 million.
During Fenway’s tenure, Simmons released one of the industry’s biggest innovations: the no-flip mattress. Profits soared. But after five years, Fenway executives decided to cash out. By the fall of 2003, Simmons was back on the block. A longtime figure in investment circles, Thomas H. Lee vaulted into the big leagues of private equity with what is regarded as one of the legendary deals of all time. After founding Thomas H. Lee Partners in 1974, he grabbed headlines in 1994 when he sold Snapple, the iced tea maker, for $1.7 billion to Quaker Oats. He bought the company two years earlier for around $130 million.
But while other captains of the buyout craze — like Henry Kravis of Kohlberg Kravis & Roberts — chased giant companies in hostile deals, Mr. Lee focused largely on midsize companies and steered clear of deals where he was not welcome. The research firm Hoover’s describes Thomas H. Lee Partners as “the teddy bear at the gate.” Mr. Lee, scion of the family that founded the Shoe Corporation of America, left his namesake firm in 2006 to start another investment company. During his 30-year tenure at THL, his firm invested in a series of big names: Ghirardelli Chocolate, Petco Animal Supplies and General Nutrition Companies, among others. And by 2003, as the buyout boom began to build, his firm had Simmons in its cross hairs.
The fall of 2003 was little more than a blur of meetings and presentations for Robert Hellyer, the former Simmons president who is among the fourth generation of his family involved in the mattress industry. In eight weeks, the company was shown to 20 private equity suitors in the corporate version of speed dating. The list of potential buyers was quickly whittled to three and finally to THL, whose $1.1 billion bid for the company consisted of $327 million in new equity from the firm and more than $745 million in bonds and bank loans that had to be raised from investors.
“They were good guys; very smart guys,” Mr. Hellyer said. “Their thesis was to buy a good business with good management and let them get better.” What THL wanted from the deal was a return of two to three times its initial investment. From the get-go, the lofty price the firm paid for Simmons and the amount of debt raised red flags on Wall Street. The “higher debt burden will limit the company’s ability to respond to unexpected negative business developments, including economic or competitive threats or internal missteps,” analysts at Moody’s Investors Service warned at the time.
But nobody, it seems, was listening. Six months after acquiring Simmons, THL set in motion plans to take the company public. And by December 2004, THL found a way to get part of its initial investment back. Simmons issued debt that required the company to pay a hefty 10 percent annual interest rate. The proceeds were used to pay THL a dividend of $137 million. With the company’s debt climbing, Simmons executives had to aim high with new products — and pray they were right.
In late 2004, Simmons unveiled the HealthSmart mattress in a blitz of marketing. It gave away 250 beds to the audience of “The Ellen DeGeneres Show.” It began a $15 million advertising campaign. It put coupons for free HealthSmart beds in celebrity souvenir bags during New York’s Fashion Week. A mattress line aimed at combating dust mites, mold and germs, the HealthSmart featured a zip-off top that could be washed or dry cleaned. But in the rush to get the product to market, Simmons did not go through its normal research and testings, Mr. Hellyer says.
HealthSmart was a flop. Consumers did not like the mattress — they thought the zip-on cover was troublesome. Sales at the company slid nearly 8 percent in the first quarter from the previous year. “Panic ensued. Thomas H. Lee came in and pulled the national advertising right away,” said a former Simmons employee involved with HealthSmart who declined to be named because he is still involved with the mattress industry.
THL shelved its plans to take Simmons public, and the company shook up its sales division. By the third quarter of 2005, Simmons had “one of the best quarters in the company’s entire history up to that point,” a spokesman for THL said in an e-mail message. The numbers tell a slightly different story: Net sales declined 4.8 percent in that quarter from a year earlier, and operating income fell to $25.1 million, from $25.5 million in the third quarter of 2004. Later, spokesmen for THL and Simmons clarified the statement by saying that after excluding a one-time reorganization expense, an adjusted earnings figure for the quarter was the 10th best in the company’s history.
Executives at THL say they moved quickly to put Simmons back on track. “More than a dozen THL professionals have devoted literally thousands of man-hours to Simmons, including making over 115 visits to company headquarters and site facilities around the country,” the firm said in a statement. The results, it argued, speak for themselves. In the following years, Simmons’s sales and profits climbed, and the company introduced several new products, including the successful premium-price Beautyrest Black line of mattresses.
By early 2007, at the very top of the credit market bubble, THL took a bit more out of Simmons. It created a holding company that it used to issue $300 million more in debt, which paid an additional $238 million dividend to the private equity firm. With that, THL had recouped its entire $327 million equity investment in Simmons and booked a profit of around $48 million. (It made an additional $28.5 million in various fees over the years.)
THL was hardly alone in undertaking this sort of financial engineering, known as a dividend recapitalization. From 2003 to 2007, 188 companies controlled by private equity firms issued more than $75 billion in debt that was used to pay dividends to the buyout firms. Asked whether the 2007 dividend was too much for Simmons, Mr. Schoen of THL defended the deal. “That debt financing, which clearly spelled out to the market the use of the proceeds, was extremely well received. The securities were heavily oversubscribed,” Mr. Schoen said. “Not only did we think it was appropriate, but the market did as well,” he added.
As the economy soured in late 2007, so did Simmons’s sales. The company slashed costs and cut jobs throughout 2008. But last fall, unable to meet the terms of its bank loans and debt dating back to the 2003 acquisition itself, Simmons stopped making interest payments to its bondholders. THL began talking to the banks and bondholders about how to lighten Simmons’s debt load, and put the company up for sale.
From the start, Noble Rogers loved working at Simmons. “There were picnics, March of Dimes walks, Christmas parties, and we always had Halloween parties. It was a really family-oriented company,” Mr. Rogers, 50, recalled. “I told my wife that this was a great place for me to work. A great place for me to retire, to make a living at.” For a long time, it was. For 22 years, Mr. Rogers worked at Simmons, the bulk of those years at a factory in Mableton, outside Atlanta. After operating the coiler machine for the company’s Beautyrest mattress, he moved into maintenance and kept all of the plant’s machinery humming.
Over the years, as Simmons passed from one private equity firm to another, and as Mr. Rogers became president of the local union at the plant, he saw little difference on the plant floor. Then, in the spring of 2008, when the slowing economy had begun to hurt sales, Simmons laid off the night shift at the Mableton plant. And on Sept. 18 that year, it gathered employees in the cafeteria to say that the plant was closing. “So many people were hurt because they thought this was a great company to work for and they planned on spending the rest of their lives here. Their families were here. They bought houses and cars here,” Mr. Rogers recalled. “After this happened, people were really struggling.”
Between the closings and other cuts, Simmons let go of more than a quarter of its work force last year, said its chief financial officer, William S. Creekmuir. Mr. Rogers, who received his union-negotiated severance package of two months’ pay, said he and other union representatives had tried to get a little more for workers, particularly those who would have been eligible for retirement. Simmons had a long history of giving retiring employees a bonus of $20 for each year worked and a free mattress set, Mr. Rogers said. “They wouldn’t give us anything,” he said.
In the months after he lost his job, Mr. Rogers nearly lost his home to foreclosure and struggled to pay his family’s bills. Mr. Rogers, who eventually landed a job at an air filter company and picked up part-time work doing maintenance at an apartment complex, said Simmons bore little resemblance to the company he once loved. “They stopped the picnics. They stopped the Christmas parties. They stopped the retirement parties,” he recalled. “That showed you the type of people I was working for. I just didn’t realize it until the hard times came like they did.”
For now, the Golden Age of private equity is over, the financiers say. In a speech to an industry gathering last spring. Mr. Schoen said that bankers and bondholders were reluctant to lend more money to the buyout kings. “We’re in a brave new world,” he said. “We can’t go back to where we were, at least not in this investment cycle, and probably not in my career.”
But some private equity investors are searching for profits in the detritus of the buyout bust. Simmons hopes to emerge from bankruptcy in the hands of two new private equity firms. One is Ares Management, which owns the mattress giant Serta. Under the plan, Simmons’s debt would be more than halved, to $450 million, in part reflecting the losses suffered by its existing bondholders. Simmons and its remaining employees face an uncertain future. Some in the industry predict Ares will eventually merge at least part of Simmons with Serta, jeopardizing more jobs.
“Simmons has been a cash cow. It’s made a lot of people a lot of money,” said David Perry, executive editor of Furniture/Today. “But there’s a growing question in the industry of how many more times can this be repeated. How much more juice can be squeezed out of the orange?”