These Local Governments Are Most Vulnerable to an Economic Slowdown

The coronavirus pandemic is not only threatening the health and safety of populations across the globe. It’s also hurting people’s finances and those of local government agencies.

“In the beginning of the year, it was China battling this. Between January and now, everything has come to a halt,” said William Glasgall, director of the Volcker Alliance, a New York-based nonprofit that studies and advises local governments. “This quarter is going to be an absolute bloodbath, unless someone finds an absolute cure or solution.”

As emergency costs pile up, certain tax revenues will fall. A review of San Diego’s city, county, school district and airport budget records by Voice of San Diego reveals some local governments are better positioned to weather the financial storm thanks to a larger reserve or rainy-day fund set aside for bad times like these. Others will have less options.

Governments heavily reliant on tax revenues that ebb and flow with consumers are especially vulnerable this year to losses following mass shelter-at-home quarantine orders. Stop the consumers and tourists, and you will see wild drops in cash flow.

“Places that already have structural or systemic problems are going to be financially hardest hit from this,” said Amanda Kass, associate director for the Government Finance Research Center based at the University of Illinois at Chicago. “If you were kind of well-funded and had built up your reserves since your last recession going into the coronavirus event, you are going to be better off than places that were already operating precariously or do not have enough reserves.”

Before the virus took hold in San Diego County, some local governments were already in fiscal distress. Lemon Grove was considering dissolving itself and floated a sales tax measure on the March ballot backers said would save the city. The measure failed.

The Sweetwater Union High School District recently aimed to cut $20 million from its $493 million operating budget next year by laying off more than 200 employees and closing programs amid a financial crisis that now includes investigations by state officials and the U.S. Securities and Exchange Commission. District budget records show officials are operating there this year without the minimally required 2 percent reserve funds.

And San Diego Unified School District leaders also recently voted to cut jobs as they feverishly worked to close a budget deficit in excess of $80 million next year.

California funding for schools has been guaranteed by Gov. Gavin Newsom amid indefinite closures that might leave kids out of school for the rest of the school year. School districts were directed to use the funds on continued meal service, employee pay and student distance learning programs.

The city of San Diego, the county of San Diego and the Airport Authority all rely on fluid consumer-based tax streams for daily operations that could see major drops this year due to the virus.

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On the financial front, the uncertainty of what’s to come with COVID-19 sent the stock market into a tailspin. Businesses have shuttered, unemployment claims have skyrocketed and consumers under shelter-in-place orders are largely off the streets indefinitely.

A run on groceries and other supplies could have some sales tax implications for governments but in California, food is not generally subject to sales tax. And a Moody’s Investors Service report from March 17 cautioned that initial sales spikes won’t last.

“The short-term spike in sales taxes from purchasing supplies and nonperishable goods as the crisis worsens will wane,” said the Moody’s report, which looked at the greater Seattle area as an early indicator for the rest of the country. “Containment and mitigation efforts will likely decrease revenue and increase short-term costs for a range of local governments, infrastructure issuers, higher education institutions and healthcare entities.”

City of San Diego officials acknowledged dramatic tax revenue losses will impact the budget.

“Transient occupancy tax and sales tax are being hit especially hard, it will have a significant impact on this year’s budget and next year. We are monitoring this closely and will have to make difficult decisions in the weeks and months ahead,” city spokeswoman Raquel Vasquez said in a March 18 email.

For their part, county officials also said it’s too early to say what the financial losses and budget impact from the virus will be but promised to be thoughtful about the decisions that lie ahead.

“Employees and the public should be assured that the county will move through any resultant short- or long-term challenges in a thoughtful and practical manner while ensuring that residents continue to receive the critical services and support from the county,” county spokesman Michael Workman wrote in an email.

The Government Finance Officers Association recommends most governments keep a minimum unrestricted reserve fund balance totaling at least two months of regular operating revenues or expenses, and more for agencies with more volatile revenue streams.

County leaders have gone well beyond that and built up a massive reserve over the years. After spending $3.9 billion last fiscal year, the county still had $2.4 billion left in its general fund, financial records show.

Responding to the crisis will surely strain the county in the coming weeks more than other public agencies.

But in at least one way, the county’s finances are less exposed to trouble stemming from the virus shutdowns. That’s because the county’s general fund is less reliant on sales and hotel taxes, which totaled $38 million last year but made up just 1 percent of all $3.9 billion in general fund revenues reported, records show.

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In contrast, the city of San Diego had closer to the minimum recommendation, leaving $257 million in the city general fund account after spending $1.4 billion last fiscal year, city financial records show. Almost $200 million in city reserve funds are already restricted for use in emergencies or to cover unexpected shortfalls, which may come in handy in the coming months.

The city is already pumping money into relief efforts to help offset some of the negative impacts caused by the coronavirus, including a $4 million business relief package. The San Diego City Council also gave city executives broad authority to enter into emergency contracts to combat the virus.

The city’s operating budget is more dependent on sales and hotel taxes – both are especially vulnerable to the economic tumult right now. Sales and transient occupancy taxes comprise 27 percent of all revenues flowing in the city’s general fund annually, totaling more than $446 million, according to the fiscal year 2019 year-end report.

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There is no doubt that travel restrictions in place will come to bear on the San Diego International Airport’s bottom line.

“We can observe, but none of us knows when the planes are going to start flying again,” said Glasgall.

Yet in terms of reserves, perhaps the best prepared agency for the tumult is the San Diego County Regional Airport Authority, although it may be a different story for the airport’s major expansions and renovations underway.

The Airport Authority’s largest operating revenue stream comes from airlines that pay rents and fees. The agency also collects money from concessions and parking, and those three revenue streams made up 91 percent of the airport’s $294 million in operating revenues last fiscal year, records show.

The airport’s reserve at the end of last year totaled $853 million, a whopping 283 percent of the airport’s $302 million annual operating budget, airport financial records show.

Importantly, the airport had 837 days’ cash on hand at the end of the last fiscal year, said spokeswoman Nicole Hall.

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Meanwhile, California’s second largest school district, San Diego Unified, which serves 124,000 K-12 students, closed classrooms earlier this month.

School district officials did not respond to financial inquiries, but budget records show San Diego Unified’s reserves totaled just 9 percent of the $1.4 billion general fund budget last year, or $130 million. Do the math and you fall short of two months’ worth of average operating costs.

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On March 10, just days before the virus upended lives locally, San Diego Unified school board members voted to cut 135 full-time equivalent employee positions, resulting in at least 55 layoff notices, in order to close an $84 million budget hole for next year. District officials projected they’d need to cut almost $107 million the following year and pointed to declining enrollment and increased expenses like pensions, healthcare, special education and guaranteed raises built into employee contracts called step-and-column, as the culprit.

San Diego Unified’s fiscal year 2021 deficit rose from an estimated $58 million in September and $70 million in December following additional across-the-board raises that added $45 million in annual operating costs.

At the meeting, district leaders said they’d lobby leaders in Sacramento to free up more money for routine school funding that was amassed in the state’s rainy-day fund for emergencies.

Now with the virus crisis on their hands, they are seeking state funding to adapt education to new emergency conditions.

On Monday, San Diego Unified Superintendent Cindy Marten joined Los Angeles Unified’s superintendent in asking state legislators for more funds, writing in a joint letter, “our budgets will not balance for the current fiscal year because of the extraordinary costs associated with responding to the global pandemic.” They asked for at least $500 per student to create online distance learning programs, or $375 million combined.

California’s $20 billion reserve fund has put the state of California on more solid ground heading into the recession that is likely upon us, said Gabriel Petek, California’s legislative analyst, even after suffering losses likely in excess of several billion dollars due to recent stock market declines.

As the economy rebounded after the last recession, then-Gov. Jerry Brown routinely sent piles of money into the state’s reserves to cushion the blow of future economic declines.

“The state goes into this period on strong fiscal footing with significant budget reserves,” Petek wrote. “California is better prepared to weather the public health crisis and unfolding economic downturn.”

Still, California’s rainy day fund is “only going to go so far,” Glasgall said. But “cities, counties and states with good reserves, that will help them make it through it.”

“Municipal finance is not rocket science. Balancing budgets is pretty much limited to raising revenues or cutting costs,” said Lisa Washburn, managing director of the Massachusetts firm Municipal Market Analytics, who formerly worked for Moody’s Investors Service. And since the last recession, most governments seemed to be operating more leanly, so “there is not a lot of fat” to cut, she said.