Wednesday, May 23, 2007

New York's Coming Bankruptcy and Why the Feds Should Not Help

History repeats itself and we once again see the State on a large-scale spending binge. According to some reports, New York's Medicaid system is larger than Texas's and California's combined. Both Texas and California are larger than New York, which was the largest state within the past 40 years. Pensions to state, city and local workers are mushrooming. Property taxes are escalating. Alphonse D'Amato, a former senator, runs an influence-peddling firm in lower Manhattan that has made him one of the richest men in New York, yet none of the newspapers investigates how. The State has elected a former Attorney General, Eliot Spitzer, who claims to oppose corruption, but so far there has been scant indication as to whether Spitzer's anti-corruption credentials stop at his political colleagues' doorsteps. (The exception is the trivial Hevesi scandal.)

In response to bloat and rot, Mayor Bloomberg has issued a plan projecting a 15% growth rate and recommending that New York do the same things it did in the three decades leading up to its virtual bankruptcy in 1974: Go on a spending binge building parks, bridges and housing (supposedly for the poor just as the 1950s and 1960s urban renewal programs claimed).

Organization theory, which I teach from time to time, suggests that there are five stages of response to organizational decline (see Weitzel and Johnson, Administrative Science Quarterly, March 1989). The stages are:

1. Blinded
2. Inaction
3. Faulty Action
4. Crisis
5. Dissolution

Stages 1-4 can be redressed. By the end of stage 4 it is too late. Since working at Brooklyn College in 1998 I have noticed that New Yorkers are very much blinded. They are in denial about the quality of their subway system, the effects of their high taxes, and the decline in New York's attraction to entrepreneurs. I have also noticed that stage 2 is long past. NYU's Brennan Center rates the state worst-run in the country. Its legislature is dysfunctional, and the legislators are given a $250 million piggy bank which the members use for personally-determined purposes. Even the New York Times, which is very much part of the corruption, noticed that there is at least $1 billion in Medicaid fraud a year.

Yet, New Yorkers have not demanded change.

Mayor Bloomberg's plan represents the third step. The plan's assumption that there will be a 15% growth rate in population in the next 25 years, when the city has grown by a few percent over the past 40 years, is absurd. Moreover, the trends that led to the city's decline in the 1970s have only gotten worse.

But how is it possible that the city can be so resilient, with chain stores like the GAP, Bannana Republic and Coach opening everywhere, expensive condos being built everywhere and the hotels booked? The answer of course is Wall Street. New York has very much benefited from a 25-year-old bull market. The response has been the assumption that the decline in the 1960s and 1970s has been stopped. But such an assumption begs the question: why?

The answer suggests that New York is headed for the crisis stage. There is only one industry in New York that has prevented the corruption from destroying the state: Wall Street. But Wall Street is a cyclical industry, and its fire is almost out. There will be corrections, and perhaps a crash, and when it comes there will be sharp drops in spending. Tax receipts will fall.

New York is now at the faulty action stage, represented by the Bloomberg mayoralty. When the stock market declines, New York will reach the crisis stage. Its constitution does not allow it to reduce pension accrual formulae for state workers. Thus, city workers on $90,000 pensions will continue to collect as the state goes bankrupt. But the pension funds will be underfunded. The city and state workers are not covered by the Pension Benefit Guaranty Corporation. The State will be in crisis and will need to amend its constitution, in part because of pension underfunding.

In 1974 a similar crisis led to the City's request for federal backing. In a similar scenario in the coming years, the federal government should say no. New York has subsidized corrupt real estate developers, former politicians, and state workers. It has harmed millions of former New Yorkers who have been forced to flee the city because their livelihoods have been destroyed by urban renewal, taxes and regulation. The state's public has been indifferent. The city's newspapers have been indifferent.

When the state reaches the crisis stage, it should be required to dissolve. It should be required to reorganize, to clean up the cesspool and to start anew. Other Americans should not be required to bear any costs of New York's arrogance, indifference and waste.

No comments: