Local Governments Must Rethink How Public Services Are Financed

How to pay for services today and in the future is a critical question facing local elected officials. Unfortunately, most proposals focus on quick-fix solutions and ignore the fact that the current method of local municipal finance is obsolete. Without major changes in how we pay for services, the fiscal crises of Orange and Los Angeles counties will ripple through the state’s other heavily populated counties.

How did we get where we are today? A simplistic answer is voter approval of Proposition 13 in 1978. That proposition put a limit on the rate at which property taxes could be increased, effectively choking off the money local governments could raise to pay for services. Even though the ability to raise revenues was constrained, population growth continued unabated, resulting in an increasing demand for public services such as police, fire, parks, libraries, schools, sanitation and health care.

To pay for these services, local governments turned to alternative financing mechanisms. Capturing a larger share of retail sales tax revenues became a key strategy for many municipalities, resulting in the proliferation of shopping malls, redevelopment projects and auto plazas.

Today’s fiscal crisis, however, cannot be blamed solely on Proposition 13. Other popularly supported initiatives have further limited local government’s ability to finance public services. Proposition 4 (the Gann Amendment) limited spending by allowing local governments to raise taxes only at the lower of either the rate of increase of the consumer price index or the rate of growth of personal income. Proposition 98 required that 40% of the state’s general fund tax increases go to K-12 education, Proposition 37 dedicated three-quarters of the state lottery revenues to education, and Proposition 46 required that a two-thirds vote is needed to approve bond financing.

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Other events also contributed to local financial woes. Massive restructuring shifted California’s economy from a heavy industrial and manufacturing base, with relatively high wages and strong benefits, to that of a service economy accompanied by lower wages and fewer employee benefits. A downturn in the nation’s economy coupled with a prolonged California recession and a shrinking of the state’s defense and aerospace industries have also contributed to the diminution of local revenues. At the same time, the population has continued to grow, as have demands for public services.

Accompanying this restructuring has been a steady withdrawal of federal support for health and welfare services, which has placed more and more fiscal responsibility for these service on the shoulders of state governments. In turn, the state has increasingly required local governments to foot a greater share of the bill. Nowhere is this more evident than in the health care crisis facing Los Angeles County.

Most economists forecast that California’s future prosperity will be tied to a service economy, which will be linked very closely to information technology. Researchers at UCLA’s Business Forecast Center indicate that in California just under half of the total increase in employment from 1995 through 1997 will be in services industries, with motion pictures and professional services leading the way. And herein lies the problem. Our current finance system is based upon an outmoded vision of an industrial economy--not a service economy dominated by technology.

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Why do local governments continue to rely on property and retail sales taxes as the future mainstay of our public finance system? One reason is that in the past these have been stable and dependable revenue sources. Changes in the economy and federal policy, as well as legislation initiated by California voters, have made these mainstays dubious choices for the future. So why don’t we try linking our financing future to the growth industries of the future? For example, we could enact user fees for ATM transactions, Internet hook-ups or fax transmissions. If Internet and electronic home shopping are to grow as predicted, why should local governments be deprived of revenues from these transactions?

Similarly, why don’t we create a regional financing mechanism that transcends the narrow interests of individual municipalities, particularly in light of the fact that jobs and people are extremely mobile today. Increasingly, the service delivery infrastructure should serve the population of the region that is not particularly confined to arbitrary city or county boundaries.

Luckily, the Southern California Assn. of Governments has devised a mechanism to allow many of these questions to be explored in a timely and systematic fashion. In its public finance chapter of the Regional Comprehensive Plan and Guide, SCAG has begun to compile data on the facts underlying actual revenues and expenditures experienced by municipalities within the SCAG region.

Eleven principles and options for improving the system of public finance are presented in the RCPG, which has been published in draft form. While many will certainly disagree with some of the items contained in this chapter, SCAG should be commended for taking a major step in getting elected officials to agree that major change is needed in how we finance local services.

The next task is to get the public on board.