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Tuesday
Jun142011

The Growth Ponzi Scheme, Part 2

In yesterday's post we pointed out how cities routinely trade the near-term cash advantages of new growth for the long-term financial obligations associated with the maintenance of infrastructure. Cities pay little for new growth, but receive enhanced revenue from the development. In return, the city assumes the obligation -- and the long-term financial liability -- to maintain the now-public infrastructure.

At this point, it is easy for any of us to see the perverse incentives underlying this system. Politicians are generally inclined to worry more about the next year than an event that will occur a generation into the future. The public is likely to join them, discounting the future commitments they are making in favor of added financial benefit today. It is near-sighted, yes, but this type of thinking is also part of human nature.

It is tough to forgo real benefits today for the theoretical enjoyment of an uncertain future. The ubiquitous nature of dieting books, dieting plans, diet coaches and diet foods, all in a land of unprecedented obesity, does a great deal to validate this observation.

Examining the underlying finances of our cities at face value, one must acknowledge the following: In order for our development pattern to financially work, the amount of revenue generated by the new growth must ultimately cover the expenses incurred by the public for maintaining the new infrastructure. If cities are not raising enough revenue to repair and replace their infrastructure, the system cannot sustain itself.

Understanding this, we began to collect hard numbers from actual projects and compare those costs to the revenue generated by the underlying development pattern. This work continues, but in every instance we have studied so far, there is a tremendous gap in the long-term finances once the full life-cycle cost of the public obligations are factored in. Without a dramatic shift of household and business resources from things like food, energy, transportation, health care, education, etc... and into infrastructure maintenance, we do not have even a fraction of the money necessary to maintain our basic infrastructure systems.

The following is a smattering of examples. We link to a further explanation of the underlying numbers for those with a deeper interest in our methodology.

Rural Road

A small, rural road is paved, with the costs of the surfacing project split evenly between the property owners and the city. We asked a simple question: Based on the taxes being paid by the property owners along this road, how long will it take the city to recoup its 50% contribution. The answer: 37 years. Of course, the road is only expected to last 20 to 25 years. Who pays the difference? Click here for this case study.

Suburban Road

A suburban road is in disrepair and needs to be resurfaced. The modest project involves repair of the existing paved surface and the installation of a new, bituminous surface. The total project cost was $354,000. We asked the question: Based on the taxes being paid by the property owners along this road, how long will it take for the city to recoup the cost of this project. The answer: 79 years, and only if the city adjusted upward its budget for capital improvements. For the city to recoup the cost of the repairs from the property owners in the development, an immediate property tax increase of 46% would be needed. Click here to read this case study.

Street Serving High Value Homes

A group of high-value lake properties petition the city to take over their road. They agree to pay the entire cost to build the road -- a little more than $25,000 per lot -- in exchange for the city agreeing to assume the maintenance. As one city official said, "A free road!" We asked the question: How much is the repair cost estimated to be after one life cycle and how does that compare to the amount of revenue from these properties over that same period? The answer is that it will cost an estimated $154,000 to fix the road in 25 years, but the city will only collect $79,000 over that period for road repair. To make the numbers balance, an immediate 25% tax increase is necessary along with annual increases of 3% with all of the added revenue going for road maintenance. (Case study available on request.) 

Urban Street in Decline

An urban street section is in need of repair, which will consist of milling up and replacing the bituminous surface. The development along the street has stagnated for decades in favor of new growth on the periphery of town. As such, over the estimated life of the new street, the City expects to collect a total of $27/foot for road repairs. Depending on the alternative chosen, the cost for repairs is estimated to be between $80 and $100 per foot. (Case study will be posted next week.) 

Rural Industrial Park

A rural town has an industrial park that is stagnating. The park consists of 25 rural lots sized at roughly 2 acres each. As part of an undertaking to encourage more development in the park, the city engineer recommended serving the park with municipal sewer and water utilities. While the city is pursuing a grant to pay the costs, everyone understands that they will assume the maintenance liability, so we asked the question: How much private-sector development is necessary to sustain the infrastructure. The answer: $316,000 per lot. This is more than double the current rate of investment seen in the park. Click here to read this case study

Suburban Industrial Park

A suburban industrial park with full utilities was constructed in 1995. Over the years, the park has filled out with a mix of commercial and industrial uses. City officials, pointing to the park as a major success, seek to double its size. We asked the question: If the city could spend the same amount of money today and have the same return in terms of private investment, would this be a good investment. To answer the question, we applied an inflation adjustment to bring the 1995 costs into today's dollars and then compared that against the current tax receipts. If a $2.1 million project immediately induced $6.6 million in private investment, and if all of the income to the city were devoted to paying off a bond to finance the improvements, it would take 29 years for the park to break even. In that time, the businesses in the park would rely on other taxpayers to plow the streets, provide police and fire protection, etc... Of course, the $6.6 million of private investment happened over 16 years and was often subsidized, factors that would extend that payback period significantly. Click here to read this case study - see page 50.

Small Town Wastewater System

A small town received support to build a sewer system from the federal government back in the 1960's as part of a community investment program. Additional support was given in the 1980's to rehabilitate the system. Today, the system needs complete replacement at a cost of $3.3 million. This is roughly $27,000 per family, which is also the median household income. Without massive public subsidy, this city cannot maintain their basic infrastructure. It is, essentially, a ward of the state. Click here to read this case study.

Aggressive Expansion Project

A town that was represented in Washington by a major political powerbroker initiates a project that is designed to essentially double the tax base of the city. The project requires the dredging of a river to create a harbor, the extension of major infrastructure and the repair/replacement of existing utility systems. The projection is for the improvements to induce $32 million of private-sector investment. We asked the question: If the private-sector investment was guaranteed, how long it would take the city to pay off a bond for the project costs (since they are taking on the long-term maintenance obligation)? The answer: 71 years, far beyond the expected life of the improvements. Click here to read this case study.

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The last case is probably the clearest example of the perverse incentives of the American pattern of growth-based development. The city gets $9 million of federal money to induce new growth. It costs them relatively little. If the growth happens, they get the tax revenue. If it does not happen, they are out relatively little. This all works fine until the end of one life cycle, when large-scale maintenance or replacement is needed. At that point, the costs vastly exceed the ability of the city to pay.

And this is where the Ponzi scheme aspect kicks in, because what is the solution to this unsolvable problem? In America of the post-WW II era, that's easy: The solution is more growth.

When more growth is created, the city gets excess cash (in the near term). That cash can then be applied to the old obligations. So long as the city continues to grow at ever-accelerating rates, the system works just fine. But like any Ponzi scheme, as soon as the rate of growth slows, it all goes bad very quickly.

If you want a simple explanation for why our economy is stalled and cannot be restarted, it is this: Our places do not create wealth, they destroy wealth. Our development pattern -- the American style of building our places -- is simply not productive enough to sustain itself. It creates modest short-term benefits and massive long-term costs. We're now sixty years into this experiment, basically through two complete life cycles. We've reached the "long-term", and you can clearly see we've run out of options for keeping this Ponzi scheme going.

Tomorrow we'll look at how we've reacted to this lack of productivity and the position that has placed us in today. Thursday we'll offer some rational responses to this dilemma.

 

Strong Towns is a 501(c)3, non-profit organization run by three professionals volunteering their time and resources to change America. If you would like to help us spread this important message, consider making a supporting, tax-deductible donation. We appreicate the support.

Monday
Jun132011

The Growth Ponzi Scheme, Part 1

The underpinnings of the current financial crisis lie in a living arrangement -- the American pattern of development -- that does not financially suppport itself. The great experiment of suburbanization that America embarked on following World War II has no precedent in human history. As it enters its third generation, the flawed assumptions that were overlooked are now coming back to bite us in a cruel way. Like any Ponzi scheme, there is only one way this ends.

The Growth Ponzi scheme is a major part of our Curbside Chat presentation, in which we go out to communities across the country for a discussion on the future of America's cities, towns and neighborhoods. Please visit the Strong Towns website if you are interested in hosting a Curbside Chat, contributing to the creation of a Chat video or supporting the Cubside chat program.

In the great American experiment of suburbanization following World War II, we redirected our county's extensive resources into a living arrangement unseen at any point in human history. We abandoned thousands of years of history, knowledge and tradition in building cities and towns in order to try this new -- and completely untested -- approach.

In a way, this was an odd thing for such a pragmatic generation, having been conditioned on financial depression, scarcity and war, to undertake. I don't think they ever saw it that way, however. The Great Depression had cut short efforts to improve the industrial city. With the automobile offering the promise of mobility for all, it was seemingly within our grasp for each American family to one day live the life of European royalty, complete with a country estate outfitted with all the modern trappings. America's ascendancy and absolutely financial domination worldwide made this dream appear possible. We likely never stopped to think it through.

What is more puzzling -- at least to those that think about it -- is how there has been so little questioning of the logic behind this arrangement. American suburbanization is a grand experiment, but one where the hypothesis -- suburban development provides prosperity -- is never really tested. It is basically a law, not a theory, that has crept into our ethos. It is only the collapse of the housing market, along with the much less talked about but even more consequential collapse of the commercial real-estate market, that has allowed critics of suburbanization to avoid the label "kook".

Suburban development has become equated with the American dream. It's continual propagation is nearly unquestioned. Even those who think we are in a deep financial hole that will take years to correct ultimately envision "recovery" to include a return to building more and more of this same pattern. But is that even possible?

Following World War II, there are four ways that American cities have grown (we call these the Mechanisms of Growth). They are: 

  1. Government Transfer Payments
  2. Transportation Spending
  3. Debt
  4. The Growth Ponzi Scheme 

Focusing initially on the first three, they all share two things in common. First, the initial cost to the local government for new growth is minimal. If the state or federal government provides a grant or low-interest loan to subsidize a project -- for example, the extension of a sewer or water line -- the local government may have to pay something, but it is nowhere near the total cost. Where the DOT comes in and builds a highway, widens a road, puts in a signal, builds an overpass, etc... there may be some local funds contributed, but again, the vast overwhelming majority of the money is spent by the DOT. When a developer comes into a community and uses leverage to finance a development project, and then when families or business owners come in and take on mortgages and real estate loans to acquire a property within the development, the local government spends little or nothing to make this happen.

That is the first characteristic these growth mechanisms share: a low initial cost of entry for cities. Even though the city gets local tax revenue from the new growth, it usually doesn't cost them much up front.

The second characteristic they share is that, with each increment of new growth, the city assumes the long-term liability of maintaining all improvements deemed "public". This typically includes sewer and water systems as well as roads and streets, but will also include treatment systems, pumps, water towers, meters and even storm water ponds. All of this stuff ages, degrades, breaks and ultimately needs to be replaced.

Put these two characteristics together and you have a key insight; Cities routinely trade near-term cash advantages associated with new growth for long-term financial obligations associated with maintenance of infrastructure.

To financially sustain itself then, a city or town utilizing the American suburban development pattern and making this tradeoff must believe one of the following two assumptions to be true:

  1. The amount of financial return generated by the new growth exceeds the long-term maintenance and replacement cost of infrastructure the public is now obligated to maintain, OR
  2. The city will always grow in ever-accelerating amounts so as to generate the cash flow necessary to cover long-term obligations.

Of course, with the suburban model, it is physically impossible for a city of finite dimension to grow indefinitely, let alone at amounts that accelerate forever. Even realtors are now starting to acknowledge that assumption #2 is not true. Later this week we'll show how assumption #1 is also not true, and by extension, why our pattern of development is a classic Ponzi scheme, one that we cannot fix or "recover" from.

Additional Reading

 

Strong Towns is a 501(c)3, non-profit organization run by three professionals volunteering their time and resources to change America. If you would like to help us spread this important message, consider making a supporting, tax-deductible donation.

Thursday
Jun092011

Friday News Digest

This week I have been sequestered in my office, working until 3 AM on two nights, to finish off a report for a small town here in Minnesota. This is for my real job - the one I am paid to do with Community Growth Institute. I'm sharing this information here because a) it explains why there are 400+ emails in my "unread" folder (sorry everyone) b) it will explain why this News Digest is so short, and c) because I hope to share the report with you here once the city has had a chance to comment on it. We basically took a simple project to design a couple of cross sections showing a bike path and turned it into a redux on the economic and social change of small towns, as represented in this one community. In other words, I got a little carried away, but hopefully they appreciate it. My sharing it here is to hopeful get a tough, open source review from all of you. That would be a great help and we can teach each other something.

In the meantime, enjoy this week's news.

I really liked Marohn’s analysis of what a complete street is and what a complete roads (I’d be curious to hear what the engineers out there think). The language we use in these discussions is so critical to the realization of our shared goals. The complete streets vs. complete roads division also resonated with me because it illustrates the challenges of coordination and communication between different project stakeholders. One project can mean vastly different things to the various people involved in its execution, and everyone is advocating along their own interests and priorities.

Naked streets are primarily European, and emphasize narrow streets lined with pedestrian uses and amenities, no signage whatsoever, no barrier between pedestrian and motorist whatsoever, and very subtle (texture changes are popular) differentiation between vehicular and non-vehicular "zones" on the street. Since scale and detailing prioritizes the pedestrian, a naked street is in essence a pedestrian zone the motorist "borrows" for the duration of his trip. Since this is not the motorist's element, the perception of a lack of safety, on his part, is greater, and thus (ironically enough) the street is safer*. They are clearly rooted in traditional urban paradigms, and are thus of great interest to Old Urbanism, as a nascent movement of sorts. Unlike complete streets, narrow streets can fit in far narrower rights-of-way--even as narrow as the 12 ft.

  • The Old Urbanist site also took our conversation in a unique direction, talking about pedestrian safety and pointing out how the revered Jane Jacobs did not think cars should be on parity with pedestrians (which is the thrust of Complete Streets) but that the public realm should be a pedestrian space. Some great insights.

This is why I think Jane Jacobs was on point in when, in terms of improving the city's streets and other public spaces, she referred to "an attrition of automobiles by cities" (Death and Life, p. 474) rather than today's "efforts to improve pedestrian safety."  The difference may seem minor, but Jacobs' statement identifies the culprit not as insufficient accommodation for people on foot — which implicitly acknowledges the primacy, or at least inevitability, of the automobile — but the automobile itself, the culprit behind pedestrian deaths along suburban arterials and urban streets alike.

Amy Klobuchar last week provided one of the more nauseating moments in recent Minnesota politics when she came out in support of Michele Bachmann's sprawling bridge to nowhere proposal in exurban western Wisconsin. Klobuchar's support means that almost the entire Minnesota congressional delegation is on record in support of breaking environmental protection rules for an unnecessary 700+ Million Dollar sprawl-inducing freeway bridge through the Federally protected St. Croix river valley.

  • And I continue to be blown away by the rich and beautiful ways in which Chuck Wolfe uses our work. In this article he compares the images of my hometown of Brainerd in its 1894 version with the organic and functional design of an African village. As usual, beautiful photos accompany the elegant prose.
  • NY Times columnist Thomas Friedman had a column about social volatility in China. It is worth a read, but I'm going to go back to my arguments against consolidation (blog, podcast) and pull this nugget out of his piece.

The second trend we see in the Arab Spring is a manifestation of “Carlson’s Law,” posited by Curtis Carlson, the C.E.O. of SRI International, in Silicon Valley, which states that: “In a world where so many people now have access to education and cheap tools of innovation, innovation that happens from the bottom up tends to be chaotic but smart. Innovation that happens from the top down tends to be orderly but dumb.” As a result, says Carlson, the sweet spot for innovation today is “moving down,” closer to the people, not up, because all the people together are smarter than anyone alone and all the people now have the tools to invent and collaborate.

Though a significant rise in interest rates could be toxic for a softening U.S. economy, the Federal Reserve has said it will end its program of purchasing $600 billion in U.S. Treasury bonds as planned on June 30. The Fed is estimated to have bought about 85 percent of Treasury’s securities offerings in the past eight months.

That leaves the Treasury, which is slated to sell near-record amounts of new debt of about $1.4 trillion this year, without its main suitor and recent source of support, and forces it back into the vagaries of global markets. Among the countries that will have to step forward to prevent a debilitating rise in interest rates are ChinaJapan and Saudi Arabia — and even hostile nations such as Iran and Venezuela with petrodollars to invest, according to one analysis.

  • And while you are contemplating the implications of higher interest rates, know that our nation's banks are using their too-big-to-fail implied backstopping of the Federal government to continue business as usual, making sure that they get theirs before the whole thing blows up. No joke.

None of America's largest banks raise money on the free market. Every single one of them is propped up by an implicit taxpayer guarantee that is very similar to the backstops provided to Fannie Mae and Freddie Mac.

It is a huge subsidy by taxpayers to the banks, enabling them to be far more profitable than they would be otherise.

  • If you are interested in some more CNU 19 coverage, check out our podcasts where we are now posting clips from the Congress. You should also swing by CNU 19's Liveblog where they have a summary of blog coverage, including a link to this site (thank you). And for the video watchers out there, you can check out the 1st and Main YouTube Channel where they have a number of videos put together during the conference.
  • And for those of you who did not believe it possible, here is a video of Andres Duany actually delivering a Pecha Kucha style presentation - 20 slides, 20 seconds each - and he did it like a pro. Enjoy. 

Enjoy your weekend.

 

Earlier this year we started collecting donations to cover the cost of producing a DVD version of the Curbside Chat. Our goal was to connect with 100 of our readers that would be willing to donate $25 each. We've taken quite a bite out of this so far -- we've signed up 37 -- but we still have a ways to go. If you value what you read here or what we produce in our podcast, please do what you can to help us spread this message.