NEW: Market, Economic Turmoil May Finally Bust Up New York's Record Tax Boom
FISCALWATCH MEMO October 3, 2007

By Nicole Gelinas

Executive Summary

New York began Fiscal Year 2008[1] in the thrall of an unprecedented tax boom, one not seen even in the torrid mid–1980s or late 1990s. Due to record tax revenues coming into city coffers, Mayor Michael Bloomberg and the City Council were able to push expected spending well past the inflation rate in their $60.1 billion budget[2], using what remained of the record 2007 surplus to give taxpayers some modest relief and to make a down-payment on future–year deficits.

But the city's budget faces severe external risks this year:

  • Turmoil in the financial markets is hurting Wall Street firms in the second half of this year, and no one yet knows the ultimate extent of the damage.
  • While early evidence is anecdotal, the nation-wide real-estate slump may finally be reaching New York City.

Further, as the city faces these external risks, it hasn't yet come to grips with the budget's internal risks:

  • New York hasn't made any sustained effort to work with the state and public-employee unions to reform its future pension and health benefit costs for public-sector workers; those costs continue to grow, and the city cannot suddenly cut them back in a downturn.
  • New York has been increasing its debt burden; debt payments are legal obligations that cannot be cut back during economic downturns.
  • While the state will bear most future increases in the city's portion of the Medicaid program for low-income New Yorkers, the city's current spending is still too high, and it hasn't made any real effort to work with the state to reform this massive program.

The two sides of this equation—the potential for severe revenue instability coupled with the inflexibility the city faces on many of its fixed expenses (absent long-term reform)—mean that it's very possible that New York has seen the end of "surprise" multi-billion-dollar budget surpluses for a while. In fact, the city may face a real deficit next year, which, mathematically, means cutting spending, raising new revenues, or both.[3]

Budget Basics

This year's budget features an annual increase in city-funded expenditures of about 7.6 percent, to about $43.4 billion, more than double the expected 3 percent inflation rate and in line with previous Bloomberg budgets[4]. Today's city-funded budget is up nearly 50 percent from the budget the mayor inherited from former Mayor Giuliani, while inflation is up 21 percent.

Inflation-Adjusted Spending, 1984-present
Source: Author's calculations based on adopted city budgets.

A good way to see how the city's spending far outpaces its long-term ability to pay for that spending is to measure spending against the city's personal income. For fiscal year 2008, city spending comprises 11.2 percent of personal income, up from last year's 10.9 percent. The city hasn't reached this level of spending as a percentage of personal spending since its 1988 budget, enacted right before the October 1987 stock-market plunge.

City-Funded Operating Expenditures
As a Share of Personal Income in New York*

* Basis of comparison is personal income for calendar year in which budget was adopted.

Source: Author's calculations based on personal-income data from the U.S. Bureau of Economic Affairs and from the New York City Office of Management and Budget (OMB); city expenditure data from OMB.

After funding higher spending, the mayor used this year's estimated operating surplus—slightly more than $1.5 billion—to provide tax relief, including:

  • a $1.1 billion, across-the-board, one-year-only property-tax rate cut,
  • the expected continuation of a homeowner's "tax rebate" for another three years, costing $256 million annually,
  • the permanent elimination of the city's sales tax on all clothing, saving taxpayers $110 million annually,
  • permanent new credits for small-business owners, totaling $105 million annually, and
  • a new child-care tax credit for low-income families, costing $40 million annually.

Line by Line

Apart from the largely temporary tax relief, Bloomberg and the council didn't offer any surprises for the public, good or bad, when they finished the budget. Pension and health benefits for city workers continue to grow at a fast clip. In Medicaid, although the state has taken responsibility for natural growth in the problem, the city has chosen to spend more money on the subsidized Health and Hospitals Corporation, which runs public hospitals, so that the hospitals, in turn, can receive matching federal dollars. Payments on the city's debt were down from last year, but only because the mayor's aggressive pre-payment program, funded with temporary surplus money, is reaping some temporary savings.[5]

Spotlight on Expected Spending Increases Between 2007 and 2008
(in millions of dollars)2008
Pension Contributions5,5574,69286518.44%
Fringe Benefits*6,1285,7373886.76%
Salaries and Wages11,94811,1078417.57%
Payments on Debt4,4814,730-249-5.26%
Total Spending on Selected Items33,691 31,306 2,385 7.62%
*Smoothed for the effects of Bloomberg's trust-fund contributions.

Source: "Review of the Financial Plan of the City of New York," Office of the State Comptroller, July 2007, adopted city budgets.

Despite increased spending, New York City expects to end the fiscal year next June in the black, with a net surplus of $2.5 billion, but this outcome is due only to the city's prior-year record surplus; without that surplus, the city, after its tax cuts, expects to roughly break even on operating spending and revenues for the year.

In a change from the past two years, Mayor Bloomberg decided not to use some of last year's surplus to make a contribution this year to the "trust fund" he created in 2006 as a down payment on the city's estimated $54 billion in unfunded future health-benefit obligations to public-sector retirees. (The mayor had put a total of $2.5 billion into the fund in 2006 and 2007.)[6]

Instead, the mayor, expecting, as he put it recently, "certainly nowhere near as much growth, if any" in revenues in the near future, wisely put this expected money toward closing next year's deficit. If this money actually materializes by the end of the year, it will allow the city to narrow the expected 2009 deficit to about $1.6 billion. The mayor expects to carry a further $350 million over to help close a deficit expected two years from now, in fiscal year 2010.[7]

Budget Risk Highlight: Debt, and Floating Rate Debt

Mayor Bloomberg leaves a legacy to his successor: a projected 50 percent increase in outstanding debt during his eight years in office, with total debt projected to reach $73 billion in 2010.[8] Although the mayor has chosen to use some recent-year surplus money to pre-pay debt for his remaining years in office, depressing current-level spending on interest and principle, debt service will rise to $6.2 billion in 2011, when the next mayor takes office, 60 percent above 2006 levels (before the mayor launched his aggressive pre-payment program). By 2011, debt will consume 13.6 percent of city-funded revenues, up from 9.9 percent in 2006.[9]

Possibly compounding the risks for New York that are inherent in such a high debt load is the fact that the city now relies more than it previously has on "variable rate debt." Akin to an adjustable-rate mortgage, "variable rate debt" is debt whose interest rate is not fixed over its life, but depends on current market conditions. Variable-rate debt comprises $7.4 billion, or 14.3 percent, of the city's total debt burden, up from 12.3 percent four years ago.

The city estimates that it saved $44 million last year with variable-rate debt, because short-term interest rates were lower than long-term interest rates. But this short-term savings exposes the city to the risk that short-term rates could rise suddenly, forcing the city to pay more on its existing debt.

Headcount Continues Its Modest Rise

After having declined about 5 percent during Bloomberg's first five years, the number of city and city-related workers continues the slight increase seen last year. New York expects to end the fiscal year with 367,704 workers, including 307,944 workers whose salaries are paid entirely by city (as opposed to state and federal sources). These figures leave the city workforce up about one percent for the year, but down about 1.4 percent and 2.6 percent, respectively, since Bloomberg took office.

Some notable changes in the city's headcount from fiscal year 2007:

  • Health and welfare employment is going up 10.4 percent, from 28,827 workers to 31,836, including 1,741 new social-services workers and 964 new workers at the city's Administration for Children's Services.
  • Parks Department staffing is going up 22 percent, to 6,978 people, well above staffing levels inherited by Bloomberg.
  • The number of School Construction Authority workers is going up 38 percent, from 506 to 699, but below the 933 workers Bloomberg inherited in that department in 2002.
  • Declines include a 16 percent headcount hit in the city's support to cultural institutions, with a cut from 1,992 to 1,670 workers, and an 11 percent cut in support for full-time "pedagogical workers" at the City University of New York.[10]

A City Tax Boom

The mayor has been able to fund spending increases well above inflation, as well as put some money aside for temporary and permanent tax relief, only because total tax revenues have skyrocketed by an extraordinary amount. The city has never seen a tax boom akin to the one it's seen in the past half-decade.

Inflation-Adjusted City Tax Revenues, 1971-2007
Source: Author's calculations based on "Tax Revenue Forecasting Documentation,"
NYC Office of Management & Budget, and adopted budget documents.

In fact, the city's tax collections in recent years have far outpaced inflation and measures of economic growth.

City Revenue & Spending Growth
vs. Measures of Economic Growth

Source: Author's Calculcations based on current and historic city budget documents and economic data from the Bureau of Labor Statistics.

This extraordinary tax boom is due only in small part to the temporary and permanent tax hikes Bloomberg enacted during 2002 and 2003. Including money from the tax hikes, total tax collections were up nearly 70 percent between 2000 and 2007; without the tax hike revenue, they still would have been up more than 60 percent. The tax boom is due largely to the twin financial-industry and property booms the city has experienced. Last year, Wall Street profits were up 82 percent and Wall Street bonuses were up 15 percent, surpassing a record set in 2005. The city's property boom has lasted, without significant interruption, for more than a decade now.

Between 2000 and 2007
Inflation was up 24.60%
Property taxes, nearly $13 billion last year, were up 66.02%
Personal income taxes, $7.7 billion last year, were up 44.60%
General corporate taxes, $3.3 billion last year, were up 83.70%
Mortgage & transfer taxes, $3.2 billion last year, were up 266.14%
Banking taxes, $1.3 billion last year, were up 260.81%
Total tax revenues increased to $37.5 billion, up 69.60%

Source: Author's calculations based on city budget documents.

Whither Wall Street and Main Street?

But the nationwide and local property boom, as well as the local financial-industry boom, may be over. Due in large part to worries over consumer spending amid a protracted housing slump, economists polled by the Wall Street Journal put the chances for a recession in the next year at more than one in three, versus slightly more than one in four a few months ago.[11]

In the financial industry, quarterly earnings reports from the city's major investment banks, released in September, reflected turmoil that is likely to impact the city. Compared to the same period a year earlier, Bear Stearns and Morgan Stanley suffered 61 and 17 percent drops in net income, respectively, while Lehman Brothers suffered a three percent drop. Only Goldman Sachs stood apart with a 79 percent increase.[12] Despite the earnings reports, the full impact of the credit crunch that started in the summer is not yet clear. Investment banks and commercial banks still have hundreds of billions of dollars in debt on their books that they've agreed to underwrite, and new deal volume—ranging from debt structuring and underwriting to new mergers and acquisitions advisories—has dried up for now.

These losses will inevitably have an impact on this year's bonuses, which reached a record high of $24 billion last year. Those bonuses netted the city $500 million in direct income taxes and hundreds of millions more in indirect taxes, including: sales taxes on purchases, real-estate-related taxes, and income taxes paid by those workers who are employed in the city thanks to the demand for goods and services that is created by well paid Wall Streeters. To get an idea of how Wall Street employment and revenue impacts the rest of the city, consider that, between 2003 and late 2006, the 20,000 direct jobs Wall Street created in New York City indirectly created an additional 40,000 jobs within the city, for a total of 60,000 new jobs.[13] If recent or continued turmoil causes Wall Street to lose 10,000 jobs—just a quarter of what it lost between 2000 and 2003—those losses would likely lead to 20,000 additional job losses citywide, as well as attendant stalls in city tax revenues.

In real estate, it's too early to tell whether New York's property boom will suffer a hard blow. The value of a single-family home in the New York metropolitan area increased more than 115 percent between early 2000 and mid-2006. But the region as a whole may have topped out about a year ago, with prices having fallen more than four percent since last summer.[14] Anecdotal reports in the news media indicate that the regional slump that first made itself apparent in parts of New Jersey and Pennsylvania is finally reaching the city, but firm data isn't yet available. An additional risk for the city's high-end residential property market is the fact that sky-high Wall Street bonuses were a big factor in the increase of marginal prices in recent years.

In commercial real estate, sale prices of commercial property in the northeast region increased by nearly two-thirds from early 2000 until June of this year. (In contrast to residential and commercial restate, the S&P 500 stock index was down eight percent between early 2000 and July 2006 and up eight percent between early 2000 and June 2007 (having made up the difference in past year).[15]

Anecdotal reports point to commercial property developers in New York City running into trouble finding financing for office buildings purchased earlier this year. But here as well, firm data isn't yet available.

Due to these intertwined risks, New York has budgeted for a slight decline in revenues during the current fiscal year.[16] Significantly, the mayor's office expects a double-digit drop-off in the two taxes—the mortgage-recording tax and the property-transfer tax—most dependent on real estate transaction volume, which, in turn, is driven by the property boom.

But the mayor does not expect to see a significant drop-off in personal income-tax revenue, despite the fact that those revenues depend so heavily on Wall Street wages and bonuses, both directly in terms of Wall Street jobs and indirectly in terms of the demand for goods and services fueled by Wall Street. Nor does he expect to see a property tax drop-off; in fact, after 2008, the mayor expects property tax collections to grow at a rate of nearly 8 percent in 2010 and more than 6 percent in 2011.

Tax Collections
(in millions of dollars)
2007 2008* Change 2008-7 % Change
Property Tax 12976 12984 8 0.06%
Commercial Rent Tax 507 550 43 8.48%
Mortgage Recording Tax 1692 1381 -311 -18.38%
Real Property Transfer Tax 1487 1249 -238 -16.01%
Personal Income Tax 7569 7666 97 1.28%
General Corporate Tax 3306 3163 -143 -4.33%
Banking Tax 1189 813 -376 -31.62%
Unincorporated Business Tax 1610 1586 -24 -1.49%
Sales Tax 4522 4644 122 2.70%
Utility Tax 340 355 15 4.41%
Other 910 834 -76 -8.35%
Total 36108 35225 -883 -2.45%

Source: Author's calculations based on "Review of the Financial Plan of the City of New York," Office of the State Comptroller, July 2007, and adopted budget.
* After accounting for temporary tax cuts.

New York has wildly miscalculated its flush-year surpluses in the recent past; over the past five years, it has reaped $15 billion in tax revenue above what it had expected to at the beginning of each fiscal year.[17] There is a danger that it is being too optimistic today. If personal-income tax revenue, for example, fell as much as it did after the 1987 crash percentage-wise, that drop would cut this year's surplus by nearly $400 million. If mortgage-recording and property-transfer taxes drop off just to the levels considered normal four years ago, the city would lose another $1 billion in expected revenue.

All in all, barring a Wall Street (and Main Street housing market) miracle, the city faces a potential deficit reaching five percent of city-funded spending next year[18] or more, depending on how accurate the city's estimate of this year's revenues turn out to be, and a deficit of between seven and 12 percent of city-funded spending the following year.

The deficit looms particularly large because the mayor has little short-term flexibility to cut the budget in a slump without hurting city services. More than half of the city-funded budget is what Bloomberg often calls "uncontrollable costs:" that is, Medicaid expenses, pension and health benefits for city workers, and debt payments. The mayor has had nearly half a decade of good financial times during which he could have begun to reform and rein in some of these long-term "uncontrollable" costs. Unfortunately, he has not done so.

The city's last budget crunch came after 9/11 and it is instructive to look back at how Mayor Bloomberg responded. While the mayor did cut back modestly on city services, overall, he preferred to raise taxes. In fiscal 2003, Bloomberg's answer to multi-billion-dollar budget deficits was to raise property and cigarette tax rates permanently and to raise sales and income tax rates temporarily, netting $3 billion annually to close ensuing budget gaps.

We'll see if circumstances tempt Bloomberg to repeat history next year.


  1. New York City fiscal years start July 1.
  2. Including all federal, state, and local sources, but adjusted for year-to-year distortions like surpluses and deficits.
  3. By law, the city must balance its budget at the start of every fiscal year.
  4. Adjusted to delete federal and state spending as well as one-shot revenues that distort year-to-year spending, including prior-year surpluses and expected transfers of funds to future years.
  5. "Review of the Financial Plan of the City of New York," Office of the State Comptroller, July 2007.
  6. This year's FiscalWatch accounts for the mayor's trust fund contributions differently than last year's (numbers are updated for all years retroactively in this report). Last year, FW accounted for the contribution as current spending, reasoning that it is similar to a pension contribution, which is included in current spending. But the mayor has little discretion over pension contributions, while he has full discretion over the trust fund; thus the wild swings in the trust fund have the potential to distort measures of operating spending from year-to-year. This year, FW took the $2.5 billion total contribution to the trust fund and divided it over five years, starting with the year the mayor announced the fund in FY2006; $1 billion will be accounted for in 2009 and 2010.
  7. In practice, though, the city must close next year's deficit before it can even think about the deficit for the following year, as it must balance its budget annually.
  8. Excludes Municipal Water Finance Authority debt.
  9. "Review of the Financial Plan of the City of New York," Office of the State Comptroller, July 2007.
  10. Executive Budget, January 2007; "Review of the Financial Plan of the City of New York," Office of the State Comptroller, July 2007.
  11. "Likelihood of a Recession Given Better Odds," Wall Street Journal, Sept. 13, 2007.
  12. Merrill Lynch reports earnings later than the other firms, in October.
  13. The state comptroller estimates that every Wall Street job creates two additional jobs within New York City (and more in the region). "The Securities Industry in New York City," Office of New York State Comptroller, October 2006.
  14. S&P/Case-Shiller Home Price Indices.
  15. S&P/GRA Commercial Real Estate Indices. Based on transaction data of office, apartment, and industrial buildings as well as retail property.
  16. After accounting for the mayor's largely temporary one-year tax cut this year, the city expects revenues to be essentially flat.
  17. Adopted Budgets, 2004-2008.
  18. This sentence was corrected from an earlier version, which erroneously read "this year."