By Jeremy Smith, 5th June 2010
It’s nice when the light of understanding flashes in your brain – and yesterday I had to thank Professor Adam Tooze, an expert on Germany at Yale, for turning on my halogen bulb…
Though fully aware of the (how do I put it?) counter-Keynesianism of the German government and political establishment, I couldn’t help being puzzled by their approach to the Greek crisis, which seemed almost calculated to damage the European Union.
But Professor Tooze reminds us (Financial Times, 5 May) that there is a deep fiscal problem inside Germany – and it is hitting and hurting at the local and state levels more than at the Federal level.
He points out that the debts of German states (Länder) such as Berlin, Bremen or Sachsen-Anhalt are four to six times worse than those of heavily indebted California. Moreover:
“The situation at the level of the municipalities is truly dire. In North Rhine-Westphalia alone there are 19 cities fighting to avoid receivership. The problem affects not affluent Düsseldorf, but the likes of Bochum and Dortmund, Essen and Duisburg. Once synonymous with world-beating German heavy industry, they are now sinks of high unemployment, mounting social costs and plunging tax revenues. The most draconian provisions of the 2009 balanced budget amendment are intended to place a cap on the swelling problems of local finance. As of 2020, all new borrowing by these states will cease.”
On reading this I had a flashback moment to our World Council meeting of United Cities and Local Governments last November in Guangzhou (Canton), when the economic crisis was the main issue for debate. Petra Roth, who is the Mayor of finance-capital Frankfurt (and a Christian Democrat) as well as president of the German Cities Association, made an extraordinarily pessimistic speech which I kept a copy of. In short, she pointed out that while local authorities have some power to raise their own revenues, these are through taxes on property and on business profits.
These (heavily pro-cyclical) revenues amount to about one-fifth of total income. The rest comes from taxes shared with other levels of government (and the city has no say in this) and from financial allocations from the state (Land) which depends on the state’s own financial position.
Against this quite fixed income, much expenditure is beyond the municipality’s control. In relation to social benefits, which make up about a quarter of all expenditure, local authorities have to follow the rules set by the state or federal government, and such expenditure rises in hard economic times with high unemployment. Mayor Roth concluded that things can only get worse:
“2010 will be far more difficult: although economic growth is likely to be 1.2%, local authorities are expecting further reductions in income and a clear increase in expenditure. Expressed in figures, the situation is likely to be as follows:
Starting with a positive financial balance of approx. +EUR 7.6 billions in 2008, local authorities are expecting a funding deficit of about EUR 2.9 billions in 2009.
In 2010 this deficit will exceed some EUR 10 billions, thus reaching an all-time low.”
I have been really worried about this coming local and regional fiscal crisis – which is not limited to Germany – and warned about the risks when giving evidence to the European Parliament’s special committee on the crisis.
“Local and regional authorities (LRAs) have less room for manoeuvre, in general, than national governments. Their own resources are often pro-cyclical, i.e. go down when the economy falls, whilst pressures from local citizens grow. At the same time, government grants, and shared taxes, are liable to reduce. And in many countries, LRAs cannot bridge budget gaps by borrowing, except for short-term purposes. So they face a very special kind of financial squeeze – between reducing finances, and growing needs of citizens.”
My conclusions – local and regional governments must not be disproportionately affected by reductions in public expenditure, and central governments must not use the crisis as a means of recentralising by imposing excessive controls over local government finances.