Holy Leaping Dollars, Batman!
Michel Durand-Wood is a Strong Towns member in Manitoba, Canada, who writes about infrastructure and municipal finance at Dear Winnipeg. This article first appeared there in slightly different format, and is shared here with permission.
Dear Winnipeg,
Well, it’s the final week of October already, and that can only mean one thing: The annual budget process is almost upon us.
But before the Mayor welcomes us back to the black parade, I wanted to go over a few things to make sure everyone is on the same page regarding accounting rules, and capital and operating spending.
What seems like an eternity ago, an EPC Councillor said to me that the Capital Budget and the Operating Budget have nothing to do with each other.
That really stuck with me, mostly because it’s so utterly and completely false.
It was one of the reasons that pushed me to write this little primer on municipal balance sheets: “Accounting 101 for Councillors, Mayors and Free Press Columnists.”
Not to toot my own horn, but at least one other Canadian city has added it to their budget resources for the public. (Toot, toot! Although, never a prophet in your town, I guess, eh?)
While not strictly necessary, if you haven’t read it, or if it’s been a while, you may want to give it a once-over before we continue. I can wait.
Cool, so now we understand that operating surpluses are what generate the cash we need for capital (infrastructure) spending. In order to have money on hand this year for roads, fire trucks, or rec centers, we need to have collected operating revenue (like property taxes) in years past that we didn’t spend on services then.
Now, let’s say we neglected to build up a surplus to cover our future costs. There is one other way to come up with money for infrastructure spending in our capital budget: we can also choose to borrow money for those roads, fire trucks, or rec centers.
But when we borrow money today, we’re agreeing to repay that money in little portions every year after, usually through a sinking fund, until all that money is paid back.
And where does the money for those payments come from? That’s right, from operating revenue that we don’t spend on services in those future years.
So, in a nutshell, today’s capital dollars (from debt) are simply tomorrow’s surplus operating dollars.
And today’s capital dollars (from cash) are simply yesterday’s surplus operating dollars.
Let that sink in for a bit…
Yeah. Capital dollars are just operating dollars from a different year. That’s not an opinion, that’s accounting.
Theorizing that one could time travel within his own lifetime, Doctor Samuel Beckett stepped into the Capital Leap accelerator—and vanished.
And that’s before we even consider the effects of interest, of actually operating that infrastructure, and of course, of maintaining and eventually replacing it. All of which is also going to come from future years’ operating budgets, ultimately.
Let’s use an actual example of a capital project to illustrate: the South Winnipeg Recreation Campus.
Council has approved a plan that would see this approximately $90-million capital project built using $30 million each from the Feds and the Province, plus $30 million in debt that the City would take on.
If that $30 million is borrowed on a 30-year term, for example, then every year for the next 30 years, we need to come up with an extra $1 million in our operating budget to set aside to repay that money. I say “extra,” because that’s a new $1 million that we didn’t need to have in our budget until now. So we’ll need to find it in future operating budgets, either by raising revenues (taxes) or by cutting services.
And that’s true for any debt the City takes on today. It’s a promise to cut services, or raise additional revenue, in future years.
But we haven’t counted interest yet. At, say, just over 3%, that adds another $1 million per year.
And if we were a prudent City, we’d also start setting aside money every year for the eventual, completely foreseeable repair and replacement of that rec-plex. Another $3 million/year will let us do that in 30 years or so. Sounds about right.
Plus, once built, this new rec-plex will certainly need heating, cooling, lighting, cleaning, programming, and staff so we can actually use it. I don’t know what that will all cost, but I do know that it’s going to come out of future years’ operating budgets. Either through increased taxes or service cuts elsewhere.
So just by building it, we’ve committed ourselves to somewhere between $5 and $10 million in service cuts, or tax increases, in the future. That’s in addition to the cost of construction.
But this isn’t unique to the Waverley Rec-Plex. This is true for EVERY piece of infrastructure we build. Every capital dollar we spend today is related to some other operating dollar in the future, sometimes several of them. (Yes, even roads have operating expenses, like snow clearing.)
The head of both the Manitoba Home Builders’ Association and the Urban Development Institute, two lobby groups for the city’s largest land developers and house builders, recently wrote an op-ed in the Free Press, advocating for the city to develop a detailed infrastructure plan, one that will help determine “what projects will provide the best return-on-investment (ROI) for the City of Winnipeg.”
I’m not going to comment on whether we should be spending time and money on developing yet another plan that we can then proceed to ignore.
What I want to focus on is one of the questions raised in the op-ed:
“Where will the city get the greatest ROI for its limited infrastructure budget?”
— Lanny McInnes (Winnipeg Free Press, October 22nd, 2021)
I don’t want to put words into Mr. McInnes’s mouth, but it’s hard for me to imagine that the city’s land developers are lobbying for anything other than more of the same: continuing to extend roads and pipes outward so they can continue to profit from their current business model. Especially when the lobbyist for the companies that build pipes and roads gives this op-ed a ringing endorsement.
Except that he does bring up an excellent, and important, point. Because even though capital spending today usually means increased operating spending tomorrow, not all capital spending is created equal. Some commit us to more expenses than others. Some rare breeds even produce a net positive return on investment (ROI anyone?), such that one capital dollar spent today creates MORE than one dollar in new revenue or saves us MORE than one dollar in operating expenses (or both), all costs considered.
But inducing outward development with road and sewer extensions isn’t it. The math is in on that already, it doesn’t even pay for itself, nevermind additional services. And it compounds over time leaving us in an ever worsening financial position.
When we ask which capital expenditures will give us the best ROI, we must recognize that isn’t some vague, intangible quality. It’s something we can measure, something we can see: Will spending this capital dollar commit us to service cuts in the future, or will it allow us to increase services?
Looking back over the last decade or so, we’ve experienced RECORD population growth, and not only have we still had to cut services with every single budget, but we’ve also gotten poorer as a city by nearly $1 billion. We are quite literally insolvent.
Hmmm… Could it be that Record Road Investment™ doesn’t quite have the ROI we were sold on?
To be clear, this isn’t an anti-car argument, it’s a pro-math argument. Trust me when I tell you that no one hates potholes more than a person on a bike.
But unless this year’s capital budget has Record Tree Investment™, or Record Active Transportation Investment™, then we are just committing ourselves to more service cuts next year, and the year after, and the year after. That’s not an opinion, that’s just accounting.
The cuts we face today in our operating budget are the direct result of poor choices in our capital budget yesterday. Remember that the next time a Councilor tells you they have nothing to do with each other. They have everything to do with each other: Capital dollars are just operating dollars from another year.
And unless we start making better capital dollar choices today, we’ll be facing service cuts and/or tax increases every year going forward. That is, until the day we can’t anymore.
Tootles,
Elmwood Guy
Michel Durand-Wood lives in the Winnipeg neighborhood of Elmwood with his wife and three children. He writes at DearWinnipeg.com, a really fun blog about infrastructure and municipal finance. He has no formal training or education in city planning, municipal finance, infrastructure maintenance, or anything else he talks about. He's just a guy, in love with a city, asking it to make better use of his tax dollars.