Pew Testifies on Benefits of Monitoring Local Governments' Fiscal Health

Matthew Cook, an associate with The Pew Charitable Trusts’ states’ fiscal health project, testified Sept. 22 before the Nebraska Legislature’s Appropriations Committee about L.R. 210, a bill to establish a committee to identify and address early signs of local fiscal distress. Cook discussed Pew’s research on state strategies to track local governments’ finances and highlighted the benefits of such monitoring, including partnerships between states and localities, greater transparency, and the ability to mitigate financial problems before they grow.

Testimony to Nebraska’s Appropriations Committee, Legislative Resolution 210, September 22, 2017

Chairman John Stinner and Members of the Committee:

Thank you for inviting The Pew Charitable Trusts to provide testimony on Legislative Resolution 210, regarding studying fiscal distress in Nebraska’s local governments and the development of an early warning system. My name is Matthew Cook, and I am a researcher working on state and local fiscal policy issues at The Pew Charitable Trusts. For the last two years, Pew has extensively researched strategies states use to monitor the fiscal condition of local governments in order to better understand the fiscal health of localities and detect distress early. Pew has also published research on how states intervene in distressed local governments and the impacts of municipal bankruptcies. 

Today’s hearing is an important first step in the conversation about what the state role should be when local governments experience fiscal trouble.

Pew’s research has found that state governments have a vital interest in the fiscal health of their localities for many reasons, such as to: 1) ensure the continuity of essential services to residents, particularly in areas such as public safety and health; 2) protect the vitality of local economies, which generate revenue for governments at all levels; and 3) prevent one locality’s financial crisis from negatively impacting other communities or the state itself.

Even states that typically exercise little oversight or control over local affairs may find themselves compelled to provide assistance in a crisis. States may step in with the hope of trying to prevent a bankruptcy filing, for example, or to prevent other communities—or the state itself—from impacts such as lower credit ratings or having to provide resources when struggling communities fail to pay what they owe in shared service agreements. Earlier this year, Virginia enacted a budget resolution to create an early warning system for local governments. State officials put the system in place after being caught off-guard last year, when they learned that the city of Petersburg was in severe financial distress. With the help of the state, Petersburg leaders have taken difficult steps to balance the city budget, including deep spending cuts and tax increases, but lawmakers hope the early warning system will help the state learn of other potential problems in cities and towns earlier on, when problems may be easier to resolve. 

Nebraska officials too have been surprised to learn of fiscal crises in recent years in Gage County, Cheyenne County, and the city of Ralston. 

By monitoring the fiscal condition of local governments, states can identify the early signs of a financial crisis. In 2016, Pew published research detailing state strategies to detect local fiscal distress. We found that 22 states make some effort to monitor the fiscal health of local governments, meaning that they actively and regularly review financial information from localities in order to detect signs of distress or generally assess their fiscal condition. (We did not include Virginia, which is currently in the process of implementing its early warning system, in that count.) According to Pew’s research, Nebraska is among the 27 states that do not actively and regularly monitor the fiscal condition of local governments. An early warning system like the one described in Legislative Resolution 210 allows a state to have more warning when these problems may occur.

Fiscal monitoring benefits

Pew identified several reasons that monitoring local governments’ fiscal health is beneficial, including:

The ability to address problems before they become unmanageable.

Fiscal monitoring allows state governments to detect early signs of distress and help local governments address problems before they escalate. Early detection can allow states to respond in ways that are less intrusive than those that could be needed in a fiscal crisis.

For instance, in Ohio, the state auditor’s office reviews the financial health of all 247 cities and 88 counties on 17 measures of fiscal condition. In August, Licking County Auditor Mike Smith said he would consider rejecting additional borrowing by the county in the next two years because the state’s financial health review categorized the county’s debt service expenditures to total revenue ratio as “critical”.

Targeted assistance to local governments.

Tracking local governments’ fiscal condition can help states target technical assistance to the localities where it is most needed, which is particularly critical in times of limited state resources. The Louisiana Legislative Auditor’s advisory services division created an early warning system for local governments so that they could identify which municipalities were most likely to need state intervention, which is costly for the state. Under this process, the advisory services division reaches out to the local governments that need the most assistance to offer advice and technical assistance, so that the full intervention is not necessary.   

Support from credit rating agencies. 

Credit rating agencies generally support state oversight of local governments’ fiscal health, arguing that states often can help localities without hurting their own balance sheets. Moody’s Investors Services said in 2014 that all else being equal it tends to assign higher ratings to distressed local governments in states with strong oversight.

Improved transparency and accountability.

Fiscal monitoring systems can also improve transparency and accountability to the public. By making this data publicly available and understandable, it allows citizens to have a conversation about the fiscal condition of that community. For instance in New York, state officials told us, “We’re not trying to ‘catch’ places… What we want to do is bring information out to the public so that a community can understand the challenges that their local officials are facing … so that those conversations can take place.”

Components of an early warning system

There is no one-size-fits-all approach to fiscal monitoring. An effective fiscal monitoring system will take into account the individual state’s unique economic, legal, and political context. However, Pew’s research identifies some of the best practices for producing an effective fiscal monitoring system.

Formalize monitoring policies and procedures to promote consistency, transparency, and predictability for local government officials and the public.

Codifying fiscal monitoring in statute can help ensure that a state remains committed to both detecting fiscal distress and helping local governments, regardless of administration changes or tight budgets. It can also help to ensure consistency and improve transparency and predictability for the public and state and local government officials.

Check in with local governments on a frequent and regular basis to try to detect distress earlier.

The earlier that states learn of fiscal distress, the sooner they can help, and the less they may need to become involved in the long run.

Establish good working relationships with local governments.

States have taken a variety of approaches to  collaboration, including allowing local governments a formal role in the monitoring process and creating frequent opportunities for state and local government officials to interact and have meaningful discussions about fiscal health. When state government works cooperatively with local governments, they will be seen as a partner, not an enforcer.

Identify smaller steps to help local governments that stop short of intervention.

States can develop a range of options to help local governments at all levels of fiscal distress, from early warning signs to crisis. Providing technical assistance, working with local officials on their budgets, and training are common tools.

By studying the implementation of an early warning system in Nebraska, Pew believes the House Committee on Appropriations would take a significant step to improve the state’s ability to assist local governments in the future. This will give Nebraska the opportunity to identify local fiscal distress sooner and protect residents by mitigating the problems that arise when these issues occur.