In 1992, Philadelphia had no cash to pay its bills. The city faced a $200 million deficit in a $2.4 billion budget, its credit rating had been reduced to "junk bond" status, and its suppliers had long gone unpaid. Philadelphia was deferring investments in infrastructure to fund day-to-day operations. One-time remedies to plug ever-expanding holes in the city?s budget were used up. Immediate triage was needed simply to stabilize the government?s operations.
Some 175 miles away, New Haven was in similar straits. Its general fund had had a deficit for four years in a row, and its credit rating stood one level above junk bond status. The city's budget imbalances and economic outlook kept New Haven from borrowing from capital markets at reasonable interest rates. A cash shortfall was delaying vendor payments, and assets that were supposed to be self-supporting were draining general fund dollars.
By 1999, Philadelphia had a budget surplus of $205.7 million. Fitch IBCA rated the city's credit at a solid BBB+. That same year New Haven had a surplus of more than $17 million and credit ratings of BBB+/A(3). Both cities had invested in infrastructure, expanded services, and cut taxes.
How did it happen?
Three Steps to Financial Recovery
The recovery of both Philadelphia and New Haven began with a strategic financial and management plan. The plan defined the size and causes of the fiscal problem, set recovery goals, and identified specific solutions, while establishing each city's credibility and taking the policy initiative.
Next, leaders in both cities cut costs and increased non-tax revenue according to strategies laid out in their respective financial plans. They saved millions of dollars through improved revenue collection. They opened certain services to competition with private providers. They put in place work force initiatives that brought costs in line with revenues while maintaining fair compensation. And they managed their debt, cash, and risk more effectively.
Finally, city leaders focused on strengthening their cities' competitiveness to stimulate their economies. Rather than raising tax rates and cutting services?measures that can balance budgets in the short term but ultimately erode a city's underlying economic base?they took advantage of fiscal stability to reduce taxes and improve basic services, as well as pursuing well-targeted development projects in areas of comparative advantage, such as culture and entertainment.
Strategic Financial Planning
Both Philadelphia and New Haven began their recovery with five-year strategic financial plans. Words like budget, financial plan, and audited financial statement typically lack inspirational punch. But both cities translated these words into tools to build credibility and point the way to results. They used conservative assumptions to project the gap between the budget deficits that would result if trends continued unchanged and the fiscal target set for each year in their financial plans?a target consisting of budgetary balance, funding for capital improvements and key services, and tax cuts.
In Philadelphia, city leaders captured people's attention by showing that unless the financial plan were adopted, budget deficits would grow from more than $80 million a year in 1991 to more than $300 million a year by 1996. The result of the accumulated $1.4 billion deficit would have been bankruptcy. Mayor Ed Rendell took a firm stand against tax increases or cuts in services. A quarter of Philadelphia's population had already disappeared over the past 40 years. Nineteen tax increases between 1981 and 1992 had made Philadelphians the most heavily taxed residents of any major city in America. Crime was considered high, schools poor, and basic services no longer working.
In New Haven, Mayor John DeStefano's strategic financial plan focused on eliminating the structural budget deficit while strengthening schools. The plan also emphasized stimulating economic growth through tax reductions, revitalizing neighborhoods, and promoting the city's role as a regional center for arts and entertainment. Like Philadelphia, New Haven had lost large shares of its businesses and people. Infrastructure was crumbling. Tax rates were among the highest in the state.
Without the chief executive's dogged commitment to implement it, a fiscal recovery plan is little more than a report that gathers dust on bookshelves. Once Philadelphia's first five-year plan had been published, the mayor made it plain that results were expected. Every quarter, departments had to report to the mayor's office and to the public on the progress of implementation. At the end of the plan's first year, the city published a second plan in parallel with its budget, describing where the city stood, what had been accomplished as against what had been expected, and what would be done next. Philadelphia has produced nine such plans in nine years, including one for fiscal 2000.
Cutting Costs and Increasing Non-Tax Revenues
Many things in government cost more than they should?over time, hundreds of millions of dollars more. For every excessive cost or dollar forgone, there is a reason. As happened in Philadelphia, the priority given to high-profile capital projects can reduce investment in tax collection systems to the point that tax payment records are kept on 3" x 5" index cards. Or as was the case at one municipal airport, piecemeal development of a city's job classification system can require three employees to change a light bulb.
Both Philadelphia and New Haven included new strategies to address these issues in their strategic financial plans. By the end of the fifth year, Philadelphia had accumulated $1.2 billion in non-work force savings. In its first plan, Philadelphia used competitive contracting to trim $27 million in costs from its operating budget for tasks ranging from cleaning city hall to managing nursing homes. The city also opened city responsibilities up to outside competition. City leaders invited employees to propose how they would carry out those responsibilities and then convened a committee to weigh employee proposals against those from private firms. The committee selected commercial vendors 46 times and retained services in-house 4 times. The 1,000 employees who lost their old jobs as a result were given first hiring preference for new ones, usually with comparable compensation.
Though leaders in Phila-delphia and New Haven stressed non-work force cost-saving initiatives, they could not ignore work force costs, which typically account for 60?70 percent of a city's discretionary spending. The year before Philadelphia's near fiscal collapse in 1992, per-employee costs had jumped 8.3 percent, compared with an inflation rate of 3.5 percent. In earlier decades, Philadelphia had resorted to sweeping layoffs to bring personnel costs within its means. As part of the five-year plan, however, the city took a more targeted approach to its collective bargaining strategy, aiming to preserve jobs and provide competitive compensation and time off, within the city's fiscal means. As detailed in the box on page 32, Philadelphia was able to avoid more than $590 million in personnel costs over the first five years of recovery?a projected $184 million in fiscal 2000 alone.
New Haven used innovative tax collection, debt management, and privatization to expand investments in services and cut costs. Many of these initiatives are summarized in the box on this page. New Haven's work force strategy reduced the rate of salary increases from 4.5 percent at beginning of the DeStefano administration's term to 1.6 percent through 1997. The city and labor agreed to shift municipal employees from traditional indemnity health benefit programs to a managed care health benefit system, avoiding about $49 million in projected spending. As the city's fiscal prospects improved, the four-year agreements signed in fiscal 1997 averaged wage increases of 2?3 percent a year.
Beyond the Bottom Line
Effective management is a key component of financial stability, but it can take a city only so far. For fiscal recovery to be sustained, the city's economy should grow. Fiscal stability is one condition for economic growth. Another is a mix of services, amenities, taxes, and regulations that provides enough value that residents and businesses decide to stay, to come, and to invest.
Philadelphia cut its wage and business privilege taxes in 1995 and has continued reductions through fiscal 2000, saving taxpayers $315 million, even as taxes in surrounding suburbs have inched higher. The city expanded library and after-school reading programs. It more than doubled its homeless housing units, invested tens of millions in park and street improvements, and added nearly 1,000 officers to its police force. Its economic stimulus investments reached $6.5 billion in January 2000.
New Haven has cut property taxes since 1996, so that its rates are now comparable to those of many surrounding communities. The city is also redesigning its regulatory system to streamline administration, while cutting paperwork and fees for its businesses. Services are showing much improvement. Crime has been cut in half since 1992. New Haven has invested $489 million in 20 new schools. The number of school dropouts is down, and test scores are reported up across the board.
New Haven and Philadelphia have reached beyond the bottom line to strengthen economic competitiveness and improve services to give people better chances at improving their lives.