Economic Outlook: Working with a Net

From his office in Seattle’s City Hall, Ben Noble can see that change is in the air. Fall has given way to winter, and cargo ships, ferry boats and construction cranes move about under a blanket of gray. Occupying the city budget directors thoughts is the worrisome realization that the boom times in Seattle might be coming to an end.

Noble and his staff, working with Mayor Ed Murray and the Seattle City Council, have been wrestling down the city’s $5.6 billion annual budget for 2017. Most of the money is preprogrammed into the six-year Capital Improvement Plan for building and maintaining things like parks, streets, bridges and utility structures. The remaining

$1.2 billion constitutes the annual operating budget for 2017, the main focus of decisions on how city government should operate and therefore the most challenging part of the work.

Seattle’s leaders begin that process by forecasting revenues for the next four years, looking at population and employment growth, construction activity, retail sales and other indicators that drive tax dollars into the city’s treasury.

Looking out Nobles window at the cranes across the city confirms what the numbers show: Seattle has made a strong recovery from the Great Recession. Employment is up, construction is booming and retail sales have soared, driving up tax revenues to an estimated $1.15 billion in 2016, up 26 percent since 2008. City and county voters have approved more than $3 billion in tax levies for everything from light rail and affordable housing to parks and libraries.

But the city’s torrid pace of growth is not sustainable. The length of the boom, especially around construction, is unprecedented, Noble admits. He is convinced Seattle will enter a cooling-off period sometime this year. That change means he must chart a course for spending that will keep the city within its means as revenue growth slows.

It won’t be an easy task. Along with the economic, employment and population growth have come a set of problems that demand attention and money. The lack of affordable housing, the growing homelessness crisis, and the need to expand and modernize the city’s police and fire departments top the list.

More than 83 percent of the city’s operations budget is financed by just four taxes: sales, property, utilities, and business and occupation (B&O). Employment growth and the construction boom have driven all four up at a steady clip, collectively nearly 7 percent in 2014 and 5 percent in 2015. When the ink is dry on 2016, Noble projects tax revenue growth will have ticked up again.

But with regional employment growth softening because of layoffs at Boeing and Microsoft and lower hiring targets at Amazon, the B&O and utilities taxes will take a hit. Similarly, both residential and commercial construction have risen at a pace that many consider unsustainable; as the numbers fall off their peak, so will property tax and retail sales growth.

Noble projects city revenues will grow at an average rate of 4.6 percent from 2016 through 2018, outpacing consumer inflation but lagging behind the growth rates for real estate and construction costs.

The dollar amounts are not alarming figures, says Seattle City Council member Tim Burgess, chairman of the councils Budget Committee. They are fairly conservative on revenues across the board.

The mayor and City Council have topped off revenues by raising the B&O and utility tax rates, two long-term sustainable revenue streams. They also are squeezing out an additional $5.5 million in revenues by tying business license fees more closely to revenues. While small businesses with revenues under $500,000 will experience little or no impact, for example, companies with more than $5 million in revenues will see their annual fees gradually rise from $110 this year to $2,400 by 2019. With few other sources of new funds, the city is learning to be smart about how it asks for money from voters and how it spends the money that comes in.

During the past several years, city leaders have proposed more than $3 billion worth of tax levies. These levies have provided reliable, dedicated funding and reduced the burden on the city’s operating budget. The city has also seen a windfall from real estate excise taxes (REET) driven by the construction and real estate frenzy, but since REET is a highly cyclical revenue stream, Nobles team mainly directs the funds to pay for one-time expenses: major maintenance and essential upgrades such as the Lander Street overpass project that will streamline a crucial freight corridor.

Meanwhile, the mayor has limited his new budget initiatives to two: expanding and modernizing the Seattle Police Department (SPD) with funds from the B&O tax increase, and addressing the homelessness crisis with dollars from the utility tax increase. The homelessness budget will climb to $60 million in 2017, up 50 percent from just two years ago, while SPDs budget will rise to $320.9 million, up $21 million from 2016. A new Office of Labor Standards, which will handle enforcement of minimum wage, sick leave and other new laws, will get $5.2 million, up $3.3 million, but will actually drop back slightly in 2018. Beyond those three efforts, most city department budgets will grow at about the consumer price index forecast to be 2.4 percent in 2017 and 2.3 percent in 2018.

Despite the fiscal conservatism in the mayor’s budget proposal, it still carries risks, so the city hedges the possibility of an economic downturn with a revenue stabilization account, currently holding $47.4 million and maintained by law at 5 percent of annual tax revenues, which can backfill a deficit if revenues dip too sharply.

If revenues drop more slowly, the city knows how to tighten its belt a notch. In the spring of 2016, Nobles team saw early signs that revenues were weakening. In response, as they began work on the 2017-18 budget, they asked most departments to plan for a cut of either 1 percent or 3 percent. Revenues picked up midyear, rendering the cuts unnecessary, but Noble found it a useful exercise to prove that the city can be flexible when necessary. He also notes that the city typically underspends its approved budget by about 1 percent per year, often in the personnel expenses that make up a large portion of the overall operations budget and are an easy lever to control. Put together, these measures could quickly produce a saving of almost $50 million.

The mayor has declared that 2017 will be the Year of Good Governance for Seattle, as he pushes forward efforts to collect, analyze and use data to improve efficiency of services. Noble, however, doesn’t expect those activities to result in additional savings. I think they will give us more service per dollar, he says. Not that we aren’t trying to save money, but every department has a compelling list of things they’d like to be doing. So to the extent that we have savings across the city, there are plenty of other items that will suck up that productivity.

Another risk is levy fatigue, the notion that voters might reach the limit of their willingness to pay more taxes. In recent years, voters have been accommodating in approving and renewing levies, but that trend might not continue. With the Sound Transit 3 levy vote just approved and several other levies up for renewal in the next few years, Noble feels the pressure. I do worry, he says, though I’ve worried about it for 10 years and it hasn’t happened yet. There is an informal consensus that ST3 may be the high-water mark for what people are willing to pay. But our long-term strategy does involve renewing the existing levies.

Seattle’s 2017-18 budget is a reflection of the pragmatic and incremental nature of the city’s current crop of elected officials, and it sets the tone for beyond 2018.

Our forecast beyond 2018 is long-term growth of 2 percent, says Noble.

That won’t be enough to launch big new initiatives, nor will we likely see tax relief. But the trains will keep running, and Noble and his staff will pull the levers necessary to ride through an economic correction whenever that happens.

Burgess also has confidence in Noble and his team. He points to the consistent approach to budgeting he has seen from the mayor as well as his two predecessors. I think we’ve weathered the recession well, and the proof is in the ratings on our bonds.

Moody’s gives Seattle general obligation bonds a AAA rating. Noble and Burgess intend to keep it that way.