Thank you very much. What I would like to do is ask Mr. Larkin to give his testimony and then open it up to questions for both panelists.
Thank you. Could you for identify yourself for the record, please.
Okay. Hy Grossman is the only thing person from another rating agency that I would defer to. I've known him a long time and whatever he said goes ditto for me. 84 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 I have a few other points. I'm not going to repeat a lot of what Hy said. John Hawkins, I think, has given you copies of my prepared remarks. I'm going to try to highlight some other points which may not have come up yet. I don't think any rating agency will ever say that a rainy day fund by itself will always result in a higher debt rating. If that's the case, then you may be justified in asking how much value does a rating agency place on such a fund. On that question, I believe Fitch has taken the most definitive position. Fitch views the formal establishment and maintenance of rainy day emergency funds as one of the two most important financial-management best practices that a city can utilize to achieve high ratings. " I've given John a copy of that, and if you're interested in that, I'm sure he can make copies. The report was part of a major overhaul of our criterion standards for rating city GO 85 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 bonds and prompted a review of all of Fitch's ratings in spring of last year. As a result of that review and putting more weight on management practices like rainy day funds, we upgraded about 27 percent of all of our GO ratings and almost 50 percent of our water and sewer ratings. In that review, Fitch upgraded Philadelphia's bond ratings for both GO and water-sewer bonds from BBB+ to A- in May and June of last year. As far as I know, Fitch is currently the only rating agency that has Philadelphia's bond ratings in the A category. When we upgraded Philadelphia to A-, we cited a number of positive financial management practices, including multi-year budgeting, contingency planning, and the maintenance of these financial reserves as a result of the City's eight consecutive operating surpluses. We recognized then that there was no policy, no formal policy for maintaining the City's fund balances at current levels. We do believe, however, that the City is not likely to spend down these fund balances and these hard-earned reserves in a short period of time, given the City's last ten years' 86 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 track record. Formally adopting working capital and emergency reserves will help to cement the A- rating that Fitch currently has on Philadelphia. As for other rating agencies, I think you can ask Mr. Grossman that question. Other entities that have rainy day funds. C. Is required to include a budgeted reserve of $150 million under its Fiscal Recovery legislation. The city of Detroit targets a buildup of emergency reserves to a level of about percent of annual spending. In Detroit, 13 which tends to be very cyclical, the surplus 14 generally builds up in good times, designed to be 15 drawn down in recessions, when taxes fall short. Finally, the North Carolina local government commission, which is a division of the State Treasurer's Office, requires under law localities to maintain minimum fund balances equal to 8 percent of annual expenditures. Issues that fail to conform with this guideline run the risk of having their bond issuance plans rejected or postponed by the commission, which it has the power to do. There are other benefits of having a 87 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 rainy day fund. " When they're properly used, they can allow a city to not only maintain a stable tax rate but also continue the smooth provisions of essential services in a volatile environment where normal tax collections are below projections. I think one of your Councilwomen talked about day care being in the budget. I would like to believe that if the City had the financial cushion and the revenues fell short, the City wouldn't automatically have to cut back on programs like day care if it had a cushion to fall back on.
These rainy day funds could also represent a pot of money that could be brought to bear to take advantage of unusual economic development opportunities. I believe there was some questioning of the State Treasurer as to whether or not they've ever used the fund to do good things with it. I believe the State of Pennsylvania also has something called "the Sunny 88 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 Day Fund," which is used for just that purpose. I think it's much smaller in size but it's basically there in case the State needs the short-term funds to take advantage of unusual economic opportunities that might occur like during the year. Rating agencies are frequently asked how high do we like to see these rainy day funds. There are several benchmarks I think your should consider. First, you should set as a reserve against budgetary volatility. This amount would represent the likely general fund shortfall that could occur because of normal budgetary forecasting error and economic downturns, which can cause budget shortfalls or unusual expenditure requirements. Rating agencies in the past have usually cited targets of about 5 to 10 percent as a reasonable cushion. Keep in mind that chronic deficits and over-budgeting of revenue led to an accumulated fund balance deficit in Philadelphia of over $150 million, and that was as recent as 10 years ago. So $150 million might be used as a benchmark for the City. 89 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 There's one other consideration I think the City ought to take into account. Some cities like Philadelphia need to borrow short-term to pay salaries and normal daily expenses early in the fiscal year because the much of the revenue comes in the later part of the year, particularly property taxes in March. While this revenue anticipation note borrowing is a regular practice, it is my observation that an issuer that can fund its operations without having to resort to short-term note borrowing is stronger than one that does. At a minimum, it is common practice for rating agencies to consider upgrades when an issuer curtails its seasonally cash flow borrowing or eliminates it. When a city starts to run deficits and the short-term borrowing goes up, it's usually a leading indicator of financial trouble and sometimes contributes to a rating downgrade. The establishment of a working capital or emergency reserve which helps to reduce or eliminate Philadelphia's need to borrow with short-term notes would certainly be viewed favorably at Fitch, and I believe it would be 90 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 viewed favorably reviewed by the two other rating agencies. The last comment I have has to do with trying to depoliticize the rainy day fund and it has to do with your questions along the lines of when do you dip into it. I agree with the State Treasurer that there ought to be some guidelines, and I think the City ought to be the one that sets them, but they ought to be extraordinary guidelines. They should be something other than normal business as usual. I think a simple-majority vote of the Council to appropriate makes the rainy day fund no different than any other funds and probably would cause the rainy day fund to be depleted fairly quickly. I suggested a two-thirds vote requirement, I would think, even though it's hard to get a two-thirds vote, if there was an extraordinary need, I would think the Council would probably be able to muster the two-thirds. It doesn't have to be two-thirds but I think it should be something stronger than a normal majority needed for any appropriation. That's the end of my remarks.
And perhaps in 91 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 addition to the two-thirds, you know, a signoff from either the Controller or PICA or some other independent --
There are other entities that have something like that. Others, as the other Councilman talked about, there could be economic triggers which would perhaps allow a simple-majority vote if unemployment went above a certain level. Under those circumstances, maybe you can sort of lower the bar for the two-thirds if you can point to something that's objective and not simply, We got up this morning and decided to spend money.
It would seem to me hindsight being 20/20, that perhaps this city should have established something like this three or four years ago. But in your opinion, it's never too late to establish this type of mechanism.
No, it's never too late, 92 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 no. Right now, we're in fairly good times, comparatively good times, so now is the time to do it because two years from now, we may be in a serious downturn.
I raised the question with the Controller and I'd like to raise it with you, and if you feel you don't have enough experience with this particular city's budgeting and --
One of the things 14 that has kind of spurred me on to pursue this has 15 been this ongoing serious concern over the 16 depletion of our residents. As compared to cities 17 like New York and Chicago and Boston, Houston, 18 L.A., there's been an out-migration of domestic 19 residents out into the surrounding region outside 20 the City limits, without a replacement 21 population. I think New York, in the last seven 22 years, has replaced about almost a million people 23 that have out-migrated to the surrounding region, 24 with legal immigrants, for example, and maintained 25 its tax base and economic vibrancy. 93 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 The City of Philadelphia has lost 180 to 200,000 people, say, in the last ten years and has had a steady growth in its budget in the same period of time. So we're actually spending more money -- a lot of it has to do with the cost of doing business, the expanding social needs that major cities like Philadelphia have to deal with. But it troubles me that the formula that we seem to be applying here is a self-defeating formula in that as our tax base decreases and our expenses of running the government continue to increase, albeit not at a skyrocketing rate but at a steady rate, we're almost at $3 billion, and in this coming budget, it's 0.9 billion. Is that formula a troubling formula for people like yourself, who are looking at municipal governments? And do you believe that the requirement of a 5 percent set-aside, for example, of our revenues, a mandated set-aside, would in some way impose upon us -- and we're politicians so it's hard to impose upon us fiscal discipline because we'd like to serve everyone and we'd like to provide day care for everyone and we'd like to 94 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 provide increased funding for education for everyone. We'd like to do a lot of things but we're almost unable to do it because we are government. And I'm wondering -- I would like your comment on the first part of my question, which is the decline of the population without replacement and the continuing increase of the budget.
I'd like to attack that. It's a very serious sociopolitical economic-base issue. The City of Philadelphia is faced with thousands of people leaving. And those that are left are those that some people refer to as the "high-cost citizens." You know, those are the lower-income people who need the services, can't work, are sick, disabled, and they need to be taken care of one way or another. You can't just let them in the streets. And that's the burden the City of Philadelphia has had for many years. It's been ameliorated a little bit in the last few years with the growing economy, but by far, you still have not attacked in a decent way the housing situation -- there's still too 95 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 much abandoned, inefficient housing. Education, it's not under your direct control, but the City's School District situation cries for help, reform. I suggest you look at the City of Chicago's Board of Education. I spent a lot of time with them. They have reformed it, it's making a tremendous difference. You can't grow the economy without a viable or improving school district, public school district. Very, very important. So I entreat you to look at the City of Chicago's public schools. And they'll be glad to help you out, if you haven't looked at it. They've restructured the governing to a CEO in Chicago, and I know him pretty well. And they'll be glad to help. So that's what's dragging the City's rating with us a little bit. Fitch has a better rating, we're a little below. It's that economic base and the lagging of the economy and the educational situation that needs to be addressed. Job creation is important. Why has New York City done better? Jobs have grown. Outside people have come in and invested billions of 96 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 dollars of dollars. The Times Square area, major. Sure enough, they got tax incentives and so forth. You need to incentivize. You have natural resources here, you have the waterfront, you have the historic districts and things like that. You should take advantage of that. The Convention Center facility is drawing some people. Fortify that as well. I think that's the major drag on the City of Philadelphia that you all haven't done enough in those areas.
The issue -- the other part of the question was the expansion of the budget and seemingly the suspension of the government. We're probably about --
That needs a hard look. I haven't looked at the City of Philadelphia myself in a while, but you need to look at what are we doing and why, and can someone else do it better. You know, one day, you're going to have to face the question of whether the City is the employer of last resort. I leave that to you to make that judgment call.
The question with 97 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 the $3 billion, almost $3 million budget.
Move towards that. That's my suggest. You don't have to create it like that. Two or three years.
Once you establish this rainy day fund, it doesn't require another 5-percent-a-year appropriation. The appropriation really is made once to build it up. As long as then thereafter, the City lives within its means on a year-to-year basis, matches its expenditures with its ongoing revenue, you don't have to keep on building that up. The only time you'd really have to reappropriate it would be if you had to dip into it temporarily, in which case then, when good times come back, you ought to replenish it.
But my hope 98 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 theoretically is that we look at a $3 billion proposed budget today and hypothetically say, We're going to take percent of that and 5 5 percent of doing business differently, of cutting areas in some way, privatizing areas in some way, doing other things that create the ability for us to take 5 percent of what's being proposed today and move it to a segregated fund that none of us can touch, and to do it on a regular basis.
I would suggest to a certain extent it's already being done, as one of our earlier -- I think it was Jonathon Saidel that mentioned the budget in the past that included an appropriation for contingencies. The appropriation for contingencies, for all intents and purpose, is a safety valve in case one of these things goes wrong or the revenues fall short. So to me, the City taking that step to create a formal rainy day fund wouldn't be totally new appropriations; it would take the contingency and roll it into that. Because, for all intents and purposes, when we're talking about a rainy day 99 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 fund, that's what we're talking about, a contingency fund in case something goes wrong.
But the difference, I think, between a contingency fund and a rainy day fund is it keeps our hands out of there without extraordinary circumstances.
That's where you ought to set your own rules as to how to keep your hands out of the pot.
What I fear is recent problems that have arisen in the government; i.e., the Philadelphia Gas Works, which I'm sure is something that both of these agencies are watching. I mean, we've been asked recently and have approved a $45 million loan split up in and 20, you know, and we've just 18 given the other part of the loan. 19 I mean, what I fear is that a 20 contingency fund, a fund balance, a surplus is 21 more accessible, readily accessible for problems 22 like PGW. And I expect -- and I anticipate, I 23 don't expect, I anticipate that sometime in April, 24 the government may be back to ask Council for 25 additional money for PGW or for some other crisis 100 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 situation. My feeling is if that contingency fund was transformed to a rainy day fund, we wouldn't be able to get to it without a two-thirds vote theoretically or hypothetically a two-thirds of the Council, signoff from the Controller, signoff from PICA, and more likely to be able to keep that fund out of our hands. And that's, I guess that's what my real fear is and that's my real catalyst for this effort.
There would be such a thing as perhaps be setting the bar too high. You do want the fund to be available for true emergency purposes. I mean, you know, people make a joke that a rating agency will look at the rainy day fund, and if you establish it, it's good, but the moment you touch, we're going to downgrade you. That's -- no one can speak for Hy on that.
If that were truly an emergency and the rainy day fund was drawn upon for a true temporary problem, Standard & Poor's nor Fitch would automatically take the rating down. 101 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 However, you're exactly right. If the rainy day fund was really looked at as a nice pot of money, let's get our hands on it and take care of this problem, frankly, we wouldn't give much credit to it at all if it was established and used that way.
But am I wrong to think that the rainy day fund could be a forceful way to make us reexamine our budgeting priorities and process? Is that a wrong --
Sometimes that's not a bad idea. Let me just add something. The other side of this budget-making situation, even with a rainy day fund. If you establish it and provide some wording that, you know, if you artificially inflate the budgets in estimates, you know, let's say you say, Hey, the Commonwealth's going to give us another hundred million dollars, put that in the budget --
I remember that. We 102 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 downgraded that when it happened, 'cause we checked with the State and they said no, that's not going to happen. So, you know, if you do that and then you're short and you say, Okay, the rainy day fund's here, let's do it. So you need certain restrictions against that sort of, you know, phony --
California did that in the 1990s. What we thought was a good thing actually just started to be used just like anything else. They would appropriate a or percent reserve, but the revenue estimates were unrealistically high, so that reserve was spent four months into the fiscal year, and they still ended up with a deficit. So, you know, one goes hand in hand with the other.
Thank you very much for your patience and for your insight, and we appreciate. 103 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774
Mr. Dubow, thank you. I appreciate your patience. I apologize for not calling you up sooner. Between the visitors from Harrisburg, and I know these gentlemen probably have to get back to New York, I knew you'd be here, but I appreciate that, and I didn't want to make you that there was any insult to it. We just -- the way the witness list worked out, you wound up being last, but I do appreciate your patience, and I know you understand some of the problems we face in these hearings in getting people in and out all on their schedules.
And I agree with you, it's good to keep the rating agencies happy.
Yes, thank you. Please identify yourself for the record. 104 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774
I'm Rob Dubow, I'm the City's Budget Director. And a lot of what's in my testimony has already been said so I'll try to just skip over some of that. The Administration strongly supports the spirit of this resolution in developing conservative fiscal measures for ensuring the stability of the City's finances for the years to come. And in that spirit, I'd like to offer several recommendations I have regarding the development of a rainy day fund. While the fund would provide the City with added disciplining, in many ways, the City's target budget process is served as an informal rainy day fund. Now, as you know, each year, we give departments spending targets that are below their approved budget levels. The difference between those targets and the approved budgets provides us with a reserve that's used as a contingency against any anticipated events. In the past, that contingency has helped us meet needs created by a number of emergencies, including Hurricane Floyd and 1996's blizzard. A rainy day fund would formalize the 105 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 City's current fiscal practices with a mandate to accumulate savings at a predetermined level. The target spending process, combined with management initiatives and a thriving economy, has helped the City produce it's record $295 million fund balance at the end of FY '00. This achievement was made all the more meaningful in light of the precarious financial position the City was in throughout the early '90s. Despite this impressive financial achievement, the City's financial condition remains precarious and we are committed to remaining vigilant, especially in light of recent indications that the national economy may slow down. As was noted by the Mayor during his budget address last week, the Administration is dedicated to creating efficiencies within government, even as we continue to cut costs and lower expense. The 1.5 percent cut in budgeted personnel costs in virtually every department was one of the initiatives that we'll pursue to make sure that spending does not grow beyond our means. The creation of a rainy day fund would 106 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 be another tool that could help Philadelphia reinforce its fiscal approach. Rainy day funds are a proactive vehicle that help cities prepare for budgetary problems. The fund could serve an important purpose by enforcing discipline savings, and I'd like to make some recommendations regarding the establishment of such a fund for Philadelphia. One of the things that all of the witnesses today have talked about are methods for making a contribution, and in the testimony, I list some of them, but instead of going through, I'll just talk about the recommendation, which is that we establish the fund by using a percentage formula based on operating surpluses. And then the second point that we've gone over a few times today is how money's withdrawn. I mean, we would recommend two criteria. One would be if there's some emergency event that created expenditures equal to percent or more of our budgeted revenues, that that would draw -- that would kick a draw. And then the second is looking at economic indicators, and if economic indicators declined for two consecutive 107 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 quarters, that would also allow a draw from the fund. As I state, the Administration generally supports the concept surrounding the establishment of a rainy day fund, and I'm happy to answer any questions from the panel.
What would you suggest would be the percentage that would be acceptable to the Administration relative to --
To surplus -- (Unintelligible, parties talking over each other.)
So that would be 16 whatever we projected in that particular fiscal 17 year. At the end that have year, if there was a 18 surplus of those revenues or an excess of the 19 budgeted revenues, that 20 percent of that would 20 go into the fund?
Surplus. So looking at 108 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 revenues and expenditures.
No, how much -- I'm sorry. How much -- if the two -- if the budget surplus was $295 million at the end of Fiscal Year 2000, what is the surplus as we speak today?
Well, we track it at the end of the year because of the way revenues and expenditures flow in. So as of today, I don't have a number. I can tell you what we project for the end of the year.
What would you -- what would account for the reduction from 295 to 150? 109 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774
One thing is, we're projecting a slowdown in the economy in the second half of the fiscal year. Another is the loan to PGW, which, in the plan, we project comes back in two years. And then the other is we project the $45 million payment to the School District. So between those three things, they account for those of that decrease.
Theoretically, if we did not have the surplus dollars available for PGW and the schools and that money -- we had had a rainy day fund, for example, in the past couple years, and a bulk of that money was already in that fund, and we were required, if we saw fit, to loan PGW the money and to provide additional money for the schools on top of the other dollars we've been providing over the past six, seven years, how would we go about finding that money? Would we not have to find it somewhere in the budget itself?
Well, I think under any circumstance, any of the proposals that we've talked about today, we would not have used all of our surplus our rainy day fund. And I think, 110 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 under all of the scenarios that Mr. Vignola laid out, we would have at least 90 million sitting in surplus still. I think we still would have had the ability to do that.
But we would have looked at it in a different way, I guess, because 90 million versus 295 certainly makes you a little more tighter-fisted with your surplus.
Right, yeah. And I agree with your general principle that if there was a rainy day fund, it would put more pressure on our budget and force us to look at things differently.
Let me stick with the theoretical for the moment, but it does apply in some ways directly to the City, and you've heard this question, I've asked it of three different witnesses before. We have 200,000, 180,000 less people --
A budget that has slowly been growing, serving theoretically less people but agreeably more needy people.
Should not the budget, in theory, be going down as opposed to up?
If you looked strictly at population, you would come to that conclusion. The reason that that hasn't happened in large part is because of increasing social service and criminal justice needs. So if you were talking about the same type of population as we had ten years ago, and I think that's right, but I think, as Mr. Grossman said, the population that's left behind is what I guess he characterized as a high-cost population.
Would not these fiscal constraints being forced upon us in some way make us look at theoretically the delivery of prison services, the delivery of social services, of Health Department services, of other types of services that we agree need to be met in some fashion, by us or by someone else, you can't just tell the people, you know, Get out in the street, 112 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 we can't help you, or educational services. I mean, is there -- would it not force us to look at life, our life in the City, in a different way that we would not be likely to look at it as long as we're experiencing or sitting on a 295 or a $150 million surplus, we don't want to make anybody mad, we don't want to ruffle anybody's feathers, we don't want to make political decisions that are going to upset certain segments of our constituencies, workforce, or other things, would not this mechanism almost force us to do something that we really should be doing anyway, but because of the robust national economy and because of our increased revenues that we didn't anticipate and things are kind of good and we all feel good about it, shouldn't we be looking at ways in reducing the size of this government seriously as opposed to expanding its costs? Not expanding its costs, but growing it at a predictable rate.
I understand. I guess I agree with the first part of the theory which is that if we forced a 5 percent reduction, that that would force us to look at doing things 113 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 differently. I guess I don't completely agree that we're not already doing that. I mean, one of the reasons for the establishment of the Social Services Division in the Managing Director's Office was exactly to do that. And I know that they are in that process. And one of the reasons that they did the children's budget and the report card is so that they could look at all of the services we provide, see how we allocate our resources, see how much things cost, see what we're getting for our dollars so we can decide whether what we're doing is the best way to do it and how we can change that.
Does it make any sense -- and I don't want this question to seem naive, but if we were to say this year -- again, theoretically -- a $2.9 billion, a $3 billion budget, we're not going to go above this level for the next three years, but we're going to maintain a 2.9, $3 billion budget level for the next three years as a pilot project to see if there's some way we can stop the growth of the size of this government now and work within these particular 114 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 means, these immediate means, and then attack the budget from the other side. I mean, I think that the budgeting process through the last nine years has been light years ahead of where it was prior to that, which was basically department heads coming in and saying, I need this percentage of an increase and not even be questioned as to what they were going to do with it or what their mission was. So I think the whole budgeting pre-budget submission process has been a tremendous difference and a tremendous benefit to the City long-term. My concern is that this -- again, just look at the economic principle. There's a steady rise in the cost, however restrained that rise is, and a steady decrease of the population. At some point in time, it leads us to disaster.
I think you're right. We have to either figure out ways to grow our economy or to shrink our government. If the economy goes down and the government goes up, actually that's a recipe for disaster.
And the Administration does agree that within the 115 1/31/01 LEGISLATIVE OVERSIGHT - RES. 000774 discussion ultimately of the details of a rainy day fund, that that is a tool in general that could be a helpful tool in getting us where we need to be.
That will conclude the Legislative Oversight hearing for today. Thank you all for attending, and we really appreciate your input into this process. Thank you. (Adjourned at 12:15 p.m.) - - - 116 C E R T I F I C A T E I HEREBY CERTIFY that the foregoing proceedings of the Council of the City of Philadelphia of Wednesday, January 31 2001, were reported fully and accurately by me, and that this is a correct transcript of same. RE: COUNCIL COMMITTEE ON LEGISLATIVE OVERSIGHT RESOLUTION NO. 000774 __________________________________, JOSEPHINE CARDILLO, Registered Professional Reporter