Who Owns Your Population Data?

That obnoxious screeching sound is coming from my fingernails going down the chalk board to get your attention.

You must understand the value I place on population data. Just about everything in local government current operations and forecasting is driven by population. Employment population is important, too, but residential population takes the front seat.

I also place great value on the data in your CAFRs, Official Statements for debt issuance and the multitude of expert studies and master plans that lead to decisions for future infrastructure and public facilities.

But here’s my problem. Rarely do I find the same historical numbers in all these documents. The tip off is when I see the same population numbers for multiple years, all rounded to even thousands or hundreds.

Then the difference is forecasted numbers is all over the board, the one I am scratching.

I realize this is a difficult issue and that there are dozens of federal, state and local agencies producing forecasts. And they vary so greatly that the red flag is glaring. I also know that there are pop estimates as of a calendar year, a fiscal year, and the federal numbers are often as of July except for the census as of April. Good grief!

Don’t bring me another problem, Lewis, unless you have a solution!

I do.

Recommendation

  • First, appoint someone in the City to be the official keeper of both historical and future population estimates. Probably the City Planner or the Public Works Department.
  • Reconcile all of your official documents with population and employment history to show the same numbers – and change them!
  • Have your Pop Keeper to be the only official source for future forecasts. Who can be more accurate than the City staffers keeping track of building permit data, utility connections and occupancy rates? Who else can track and see the future coming than those dealing with annexations, zoning, platting,  land use, densities and the remainder of the pipeline?
  • Have your staff delve into forecasting methodologies from your COG and all federal and state agencies. But don’t have them spend much time there. Instead, send your official history and forecasts to them, along with your methodology and implore them to use your numbers.
  • Have an annual review of pop forecasts with a presentation to your govering body AND have them adopt your forecasts.
  • State in your RFPs, Engineering and Consulting agreements that only your official forecasts should be used.
  • Change the organizational vocabulary such that you speak of revenues and expenses as well as workload measures on a per capita basis with the same zeal as a manufacturer talks of those items on a per unit or gallon basis. Dollars may go up. Big deal. That means little in light of the dollars per capita that might even be going down.

In summary, treat the population forecasts as sacred and have every internal and external player use your numbers for consistency and accuracy. Own the data! LFM

 

What is the House Value Needed to “Breakeven” in Your City?

Dear Lewis:

My mayor wants to know the value of a single-family residential home necessary to “breakeven,” meaning for residential to pay its own way?

Dear Colleague:

Thank you for asking me my least favorite question. However, it is an important question, and I will try to answer. But be forewarned, I’m going to give you my shortest answer or at least one you can work through on a cafe napkin. There is a reason.

This is a tough one. The answer has to be understood in the context of mix. If you had nothing but property taxes and nothing but residential, then the answer would be easier. It would be exactly the average value of a single family home available from your appraisal district. I know I can’t satisfy you with that answer that fits into a non-existent world. Yet it is instructive to frame your response starting with a pure single family residential community. Undertanding this one point makes the remainder of the explanation easier to digest.

Yet when the mix of all General Fund revenues is considered, and the tax base internal mix is considered, then the portion paid by the residential class forms the basis for saying the average home value is paying their share – and higher than average value is paying more than their share of their pie with the opposite also being true.

That sounds like circular thinking, but there you have it.

Try Harder, Lewis!

A better way of looking at the cost question is to ignore revenues for a minute and look only at the expenditure side initially.

If you are spending $36 million in the General Fund budget, and you have a population of 50,000, then the services equate to $720 per capita. If you have 3 people per household, then you need $2,160 per household. You can conclude the need for an AVERAGE house value of $540,000 ($2,160 / $0.40 O&M Rate * 100) to carry the costs before other revenues help lower the property tax requirement.

If you have a revenue base that yields 40% from other sources, then you only need an average house value of $324,000 ($540,000 * 60%), net of exemptions.

So, what is your average home value on the tax rolls?

It is $200,000, you say. Hmm! That’s a respectable amount. Let’s dig deeper to understand $540,000 on one end of the spectrum and $200,000 on the other end.

I expected your average home value to be considerably less since we’ve left out a million things, most notably the non-residential tax base. And here’s the deal. Some cities have little and some have much.

Here’s the way I would answer the question with necessary generalities included:

“If City of Fiscal Bliss had only property taxes (and then only a residential tax base) to cover the cost of general government services, it would require an average house value of about $540,000 to cover costs or else a very sizable tax rate increase applied to our average house value of $200,000 currently. Fortunately, we do have a respectable commercial tax that lowers the burden on the homeowner. We also have sales taxes, franchise taxes and some user fees to help lower the property tax burden. Therefore, we conclude that our average house value times our General Fund tax rate of $0.40 per $100 or $800 is our net breakeven cost even though property taxes alone would not cover the true service cost of $2,160 per home.”

Oh my! You aren’t going to like my answer, are you?

As I said, it’s complicated. The clue that this was not an easy question was when the  Mayor said average. That was the signal that the Mayor’s field of view was going to be too narrow. Here is the trap. You want to explain, but the Mayor wants the time, not how a watch is made. So, blurt out $540,000 and then ask if you can explain. I’m pretty sure you will have the Mayor’s attention with the obligatory pregnant pause following your incredulous number.

If you have an average home value of $200,000 in your community, then that should mean you are striving to add house values much greater than the average. It is a fact that the true cost is $2,160 per home, and it is also true that it would take a $540,000 at an O&M Rate of $0.40 per $100 to generate the true cost of service.

But thank goodness you have other revenue sources. Your citizens pay a sizeable amount cost recovery in the form of sales taxes and franchise taxes. You also have direct fees for some services. Otherwise, your average SF value would have to be $540,000 or else your tax rate on an average of $200,000 would have to be $1.08! ($2,160 / $200,000).

Did I just blow your ears back?

But We Paid a High-Priced Consultant for Another Answer

A more elaborate analysis would be necessary to offer much more help here. And while the calculations could get more sophisticated, and the wording much more verbose, I’m not sure the accuracy would be better or the conditional wording more understandable.

Does this help?

Lewis

Understanding The Cost of An Employee

I would like nothing more than to see all employees, municipal and otherwise, paid in accordance with their value to the community as well as to the organization.

However, that would mean many if not most would be paid well above six-figures. Multiple times for many. That’s not just fire and police. That would include teachers. It would also include that water department worker who comes out at 2 am to fix a water main break when it’s 35 degrees outside with the wind blowing 25+ mph. But that’s just me dreaming and being in deep appreciation for those who watch over and take care of my needs. I was raised in a blue-collar home where it was believed and often said how grateful we should be for having a good, steady job.

There is also another view I take. From the finance viewpoint, those levels of pay would probably not be possible. Ever. Actually, that’s not my real hang up. I am guessing that most people reading this blog have never had to make a payroll out of their own pocket. I have. That’s a completely different world when payroll time comes around at an unbelievably quick pace irrespective of the money you’ve made since the past pay date.

Another point I can’t resist making is that if I am going to get things done through other people, I need them to be there. I’ve seen projects take months that should have been done in weeks. The reason is that it might take the expertise or decision-making skills of 4-5 people meeting together. That’s hard to do with vacations (up to 4-5 weeks!) and holidays and other leave. I have thought many times that if we can do without an employee being at work 9-10 weeks a year, we might be able to do without them for 52 weeks. I’m dead serious.

Let’s look at some of the arithmetic.

Fair warning! If you think I’m exaggerating, you are invited to run these numbers for your own employees. I hope you do.

We tend to think of the base salary numbers as the cost of positions. However, depending on your circumstances and offerings, the table below shows how a $50,000 employee may actually cost you and taxpayers $77,689. That’s a 55.38% premium! Worse, most of the salary related costs are not visible to the employee. That’s your fault. Many cities prepare a statement of full costs to hand employees annually. Employees need to know and acknowledge they are aware of the money that is paid out of city bank accounts just for them.

Numerator

Now that we’ve reality-sized the Numerator, let’s look at the Denominator. Local governments are particularly prone to grant more time-off benefits. It doesn’t show up in the budget even though it should in the spirit of full disclosure. Again, let’s pay a $50,000 employee a total of $77,689 and then tell them their work is not all that critical so they can have more leave and paid to not show up. Sounds a little crazy to me.

Most employees are paid for 52 weeks a year and 8 hours per day or 2,080 hours a year. Yet if we were to deduct for 3 weeks of vacation, 2 weeks of sick leave, 2 weeks worth of holidays and then add another 56 hours for everything else (training, TML, start-up and shut-down time, leaving early the eve of a holiday, etc), we can see how this could add up to about 380 hours off, leaving only 1,700 hours of presumed productivity. I generally use 1,800 hours as a benchmark. What is your hours worked by employee?

How can we preach efficiency and effectiveness and rah-rah about productivity with those kind of numbers? Hold off on your answers. I know them all, and some are legitimate and some aren’t.

The reality is that you could easily have a $50k employee that is costing the equivalent of $45.70 per hour.

Denominator

One More Day

I know, you want to break out singing the wonderful song from Les Miserables. Sorry, I can’t let you do that right now. Dang! Now it’s stuck in my head.

In order to dig a little deeper into the impact of giving employees just one more day off, I’ll pitch out my favorite illustration. Let’s say things are tight, and pay raises are flat. We’ve all been there. We offer employees their birthday off or a National Starbucks day off to stave off a palace revolt. Sounds good.

However, again, if we really give a flip about productivity, let’s paint the reality using the City of Dallas just to create a little drama. Even for Dallas, to instantly plop almost 58 new employees on the scene might cause a few tremors in the foundation of City Hall. Yet, that is exactly the productivity loss by the one-day gift. Do the math on your city. It’s about 0.44 employee per 100 you have now.

OneMoreDay

Those 24×7 Year-Round Jobs

Lastly, let’s look at the impact of coverage for 24x7x365 positions usually found in public safety and a few other areas. In general, given holidays and vacations, it takes almost 5 positions to fill a single position 24x7x365.

Councils need to know these numbers. This is why the cost of a fire station isn’t the big deal. It’s what it costs to staff and equip the functions inside. A similar issue is where it takes a crew of 2-3+ to work on a sewer line. You don’t add 1 person only at a time.

24x7x365

Closing Thoughts

These are just the facts. If you are fretting over any of my individual comments or calculations, just chill. Dwell on the direction and thrust of this blog. I’m just wanting to increase the sensitivity to decisions that are costly and that are easy to grant and impossible to take back. It’s a genuine taxpayer inquiry, and you need to acknowledge that you understand the impact of these decisions, many of which aren’t actually discussed aloud in the public forum.

Employees are very, very expensive. The private sector knows this so well that they can’t move to robotics fast enough. If I can spend $77k x 4-5 worker to compare year-round productivity, and then perhaps look at a life span of a machine being 7 years (just playing with numbers), then I could spend $millions and save tens of $millions if the job could be automated.

But the most costly of municipal jobs aren’t conducive to robotics, right?

Hmmm! I’ll bet those were the very words from private sector workers a decade ago.

Here is my guess. If city management had to make payroll out of their own personal pockets, especially with a 2.5% cap on revenue producing opportunities, and maybe even a share of the cost-saving possibilities, we would see spectacular ideas implemented in a matter of a few years. LFM

Do You Watch Key Oil & Gas Data? You Should.

The role in Oil & Gas is big for Texas. You may think the concern is only for the oil patch to the west. But the HQs for many of these companies are in the metropolitan areas. Meaning engineers and executives. Meaning high paying jobs. Meaning the people who raise up the housing market and a ton of other economic benefits like property values and sales taxes from discretionary spending.

I’ve got a few charts to show you. One I have sent a few times in recent years. Another is a new one. If you don’t like to study charts, let me explain in a nutshell.

In a very short time frame, from early 2011 through yesterday, the price of West Texas Intermediate Crude (WTIC) has been as high as $113.93 and as low as $29.02 per barrel (42 gallons). As recent as last October, the price rose back to respectable levels in the $74 range. Then by the end of December 2018, the price plunged to $45.33. Since then WTIC has struggled to get back $60.14. I am far from being an expert, but my guess is that if WTIC stayed around $60, there would be many happy campers with nobody complaining when that price point translates to the gasoline pump.

WTIC+RIGS

The chart above shows rig counts, but I’ve added a chart below to zoom in on the critical points. Rig counts are just one metric, but many seem to watch for Baker-Hughes to release that information every Friday. If rig counts influence oil field decision makers, then perhaps we should keep an eye on it, too.

As WTIC prices rise and fall, rig counts generally do the same. Until they don’t. As the old saying goes, “the trend is your friend … until it bends at the end.”

RigCounts

Rig counts were pegged over 2,000 in the US when WTIC prices were in the stratosphere. At that time, Texas had about a third of the entire country. At the low point, May 20, 2016, the rig count had cratered to only 404 with Texas’ share rising to over 40%. As you can see above, the rig count peaked last November 9th and has been easing downward since then. Texas continued to rise to about 54% of the share in the US. Texas is down to 570 with the remainder of the US accounting for 511. It’s still early, but it appears a rollover is in process.

Gasoline

I would be remiss if I did not include the correlated numbers that touch the gas pump, meaning the pocketbook. The chart above may bring back some bad memories when we had to pay $4.00+ at the pump when processing, delivery and federal and state taxes are added.

You may also recall that the Texas sales tax numbers were headed in the wrong direction about the time WTIC dropped and the price of gasoline followed. It was huge, and it actually changed the direction of the Texas economy using the sales tax yardstick.

There is a reason for that, and Wal-Mart could tell you why. They measure the things that pour money into their stores by the ordinary citizen as well as the things that take money away such as tax law changes. An extra dollar per gallon in gasoline savings a week puts that money in their stores.  Just twenty bucks a tank full turns into big spending.

See the chart below of sales tax collections for all local governments. Note the slow down and then fall in the growth rate (the red line) in early 2013 even though sales tax dollars were edging up nicely. Look at the history to confirm that when the growth rate declines deep enough and long enough, absolute dollars also fall. For that to happen for Texas as a whole is quite remarkable.

But then as it was about to get ugly by early 2014, a valiant surge occurred. That was largely gasoline prices dropping. Then a drop occurred until the WTIC prices picked up with the improvement in west Texas helping the entire state as can be found up until 4-5 months ago. Remember that friendly trend? It started bending. With that piece of knowledge, WTIC prices and rig counts get more interesting.

STAX

The Take-Aways

We are wise to take note of the status of WTIC prices and rig counts. There are few things in our economy that rise or fall faster than the oil industry. Not only can they fall quickly, but they can fall deeply. History provides plenty of proof that it doesn’t take long before this industry touches all parts of Texas.

Now you have been equipped with a tidbit of information that might help you sound intelligent at your cocktail party tonight. My wife and I will be going to a play at a small community theatre. I’m guessing that nobody there will care, but you never know. LFM

Another Perspective on Infrastructure

I have been writing about and giving heads up about infrastructure needs since at least 1988. Nothing was mentioned much for years. In fact, when I went to the GFOAT Board at the time to request the topic be put on a conference program, nobody wanted to talk about it. Under the umbrella concern from finance folks that nobody was going to steal a street, it died. I was politely thanked and shown the door.

Since GASB was created, that particular Board eventually made a push to recognize Infrastructure cost. The general process for things like this in the governmental accounting world is to 1) don’t talk about it; 2) talk about it and measure it for informational purposes; 3) measure it but put it only in a footnote and 4); place it on the income statement and balance sheet. I wrote years ago that some cities are bankrupt and don’t know it. When assets turn into liabilities, it can wreck financial statements to make that most basic acknowledgment

The finance folks fought GASB at first, but we now about a dozen years of Infrastructure and especially the Depreciation numbers appearing in the CAFRs for the General Assets. In the footnotes. I am pretty certain that nobody has highlighted this information to their City Councils. That’s a shame. I often wonder how many City Managers even look at these numbers to put dollars to the gigantic investments in assets under their watch? When I started writing about Infrastructure that many cities may be bankrupt and not know it, I wasn’t kidding. Move that General Assets Depreciation number to your income statement and tell me how you look?

The picture gets worse when you realize the Assets of this nature are stated as historical costs only. And, get this, a huge portion of those assets weren’t built with city money anyway. They were built by developers and builders and then given to the city. To make matters worse, many of these development assets were built by cutting and digging through open corn fields without thousands of cars whizzing by. So, bottom line, the city gets to maintain, repair, rehab and replace with city money at today or future costs plus a premium for the time and danger to work in established traffic lanes at off-peak hours and weekends.

And worse, realize that all these assets are on a slow march to deterioration. Wait long enough, and the pace picks up. In 1990, while working on Impact Fees in Plano, the point was made about the very high percentage of their infrasture that had been built during the previous 15 years. Almost as quickly as the words were said aloud, the staff and consulting team realized that at some point in the future, there would be a bubble when those millions of miles of infrastructure would wear out in about the same short period. Ouch! BTW, that was 29 years ago. That bubble is here and has been here for a long time!

The Cost of Deferral

We are all familiar with the number one method of balance a budget – heck, just defer. Kick the can down the road, as the phrase goes. And that may just be one of the reasons some cities are so reluctant to do multi-year financial planning. Kick the imbalance to next year and … well, now that year and future years’ deficits just got deeper. If I were new to a council and discovered decades of decay had been shoved ahead for me to face, I would not be silent. I’d take care of the problem and show the tax rate spike that is a direct correlation to the malfeasance of neglect from councils in the past shoved ahead to my term. Why would I apologize, and why would I act surprised?

A Picture, Please!

The City of Carrollton provided an Infrastructure Report Card in 2011 and then updated the report in 2014 and 2018. It’s a must-read unless you don’t like to be bothered by future threats and sober reality. See https://www.cityofcarrollton.com/home/showdocument?id=13439.

Inside this report is a most fascinating diagram. I doubt that you need help understanding it. It is profound. You need to keep it in your hip pocket and pull it out as regularly as you show pictures of your kids or grandkids.

CarrolltonIllustration

Hit Me With Another Cheery Note, Lewis!

Thanks for giving me the permission to say everything again in another way.

I have found another helpful tool to easily obtain a statistic and a visual I’ve used several times doing a lot of manual work. This one is very useful and here is how it works. Go to your CAFR and pull out the number of miles of roadway in the Statistical Section. In my City of McKinney, it shows there are 802 miles of roads the City has to maintain. It also shows 960 miles of water mains and 713 miles of sanitary sewers. The last two are invisible – until they become visible, and then you’ve got a big problem.

Gee, that sounds like a lot, but look at my better way to say it offered here. If I were to draw a circle with a radius of 960, the picture below tells the fascinating story in a different and disturbing way. What would you expect from the Master Disturber?

Below is a circle with a 960-mile radius. That’s the picture of the assets for which you have been deputized to be the steward. That’s the “service area” stretched out in linearly. That’s the workload plan in some form or fashion.

I’ve driven these distances before (but not in every direction). You can have this sterile little statistic of 960 miles in a report. You might even say it verbally without it fully registering, especially if your staffers talk 100 mph without pausing when giving reports. All a yawner, perhaps. Try using a picture.

Hey, I’m just trying to help you tell a story. And as much as I love numbers, a picture is often much better. LFM

https://www.mapdevelopers.com/draw-circle-tool.php

Circle

Getting Taxed Out of Your Home? Prove it!

I find it interesting how anti-tax fanatics can camp on to a mantra and then start repeating it as truth. My fav is “People are getting taxed out of their homes.” The louder you cry it and the more emotional you get about it, the more it is accepted as the gospel, I guess.

I’d like to respond by saying “prove it!” Meaning, I don’t believe you. And if it is true, and you are over 65, then I’ve got a solution to offer. All I ask is that we talk with a little civility and respect on all sides. Well, I’ll match the responder’s tone.

Send me examples of people who are being taxed out of their homes. I will need their address. I will keep names and even the addresses confidential. But make no mistake about it, I will publish my findings.

Fire away.

For the Over-65ers

Meanwhile, I would like to respond to those over 65 this way: the state provides that you may not have to pay property taxes until you sell your home. You will eventually have to pay, and you will have to pay 5% simple interest.

The doubter and naysayer will likely respond incredulously to mean “won’t my estate may someday be in the hole?” Well, let’s examine that notion. To be as accurately as possible, I’m picking a home in my neighborhood so I can tie my calculations to a real tax bill.

The market value of the home is $419,198 (it could be any value). Let’s first address the issue of rising house values. That is the case here as shown below as the house value has increased from $212,883 in 1995 to $419,198. Holy Cow! That’s a 97% increase! Send up an Interceptor!

True. You could focus on that number alone and be mathematically correct if you wanted to be a warp-talker. But you could also compute the compounded growth rate over the 23-year period and learn that the actual annual rate is 2.99%. Gee, I hope the value has grown at least that much in my neighborhood.

MarketValue

So that means my tax bill has almost doubled, right? Not so fast. Never in history has my tax bill been based on the full market value. There have been generous discounts in the form of exemptions. In recent years, the owner turned 65, so the exemptions have grown in number and size. The actual base upon which the tax rates are applied are $332,936 for the City,  $302,597 for the County and about $251,000 for the School District and College District.

What’s more, the actual tax bill has been frozen for all but the City. Forever. Until the homeowner no longer lives there.

Now, let’s examine a scenario where tax bills in general are compared to home values in general. The combined tax rates for all four taxing jurisdictions equals $2.3772 per $100. Another way of understanding that number is to say property taxes equal 2.3772% of the home value. In other words, If a house value grows at 2.99% and the tax bill equals 2.38%, the homeowner may eventually get all City, County, ISD and College District taxes back when the house is sold – and then some.

The price of living in a full-service city, which benefits the homeowner, children and grandchildren, can be viewed in a different light. The emphasis on CAN BE is intentional. I may choose to be grateful for what I have. You may choose to complain. Your call.

Let’s understand the arithmetic by examining a sample:

Deferral

I’m taking my neighborhood example bill and situation and extending 25 years into the future. If the homeowner is 65, then this covers the scenario until the age of 90. One might safely assume the homeowner is no longer living in the homestead before then.

First, one might gasp that a deferred tax bill now about $6,500 annually can extend to just under $8,000 annually (due to the City taxes) in 25 years. You might equally be in disbelief that the home value could increase to $777,170. However, that is what happens when the home value grows at just 2.5% per year.

The exhibit shows the results USING THESE ASSUMPTIONS after 25 years. The deferred taxes totals $179,794.512. The accumulated interest on the deferred taxes equals $112,961.02 for a total of $292,756.14.

If the house were sold at that point for a price of $777,170, and the taxes and accrued interest paid off, there would still be equity in the home of $484,414.

What About Differing Assumptions?

I’m so glad you asked. This is when I go into my Excel teaching mode to show a feature just for this purpose. Let’s say you wanted to see what happens when the home value growth rate goes from 0% to 8% in 1/2% increments. You also wanted to see what happens if the state changed the interest rate to charge 2% to 8% in 1% increments. The interest rate was recently changed from 8% to 5%, so that assumption should be fixed for a number of years. But let’s see the results.

Boss, you just asked for 136 tables like the one above. Are you sure you want to see that many? And your response as a boss should be that you only want to see the results in the bottom line corner: What will be the remaining equity under these scenarios?

This is where a sensitity analysis (Data Table in Excel parlance) comes in. Here’s what you want to know once you understand the model above:

DataTable

As you can see, the net equity stays positive even if the house value growth increases were zero and the interest rate returned to 8%.

Other Issues

While you now have an alternative to offer those over 65 when they complain about taxes, there could be some hiccups. If they have a mortgage and the note holder balks, then this suggestion might not work. I can’t help you there other than to show them this blog.

Also, all of the air might be sucked out of the room by your city finance folks if this idea is suggested from the dias in a council meeting. There is a fear of losing revenue any time exemptions are discussed, and there should be. However, I have two responses. By the very nature of this legal solution, the tax deferrals are temporary. PLUS they pay 5%. If you have any kind of internal reserves to fund these deferrals, then compare 5% to the rate you are currently earning. Make it happen. Alternatively, my guess is that a local bank would be happy to be the financing party. Bottom line: it’s a legitimate concern with a legitimate answer.

There are already complaints that those NOT in need of this avenue of relief are taking advantage of the benefit. Sorry, I can’t help you there, either.

Conclusion

I live in a city where the mayor is way above average in smarts and heads above his peers when citizens come before the council making outlandish comments, mimicking the anti-tax mantras spoken in their ears. These naysayer robots are taken to task quite often and asked to explain in more depth. In other words, PROVE IT!

I am making an offer to my mayor as well as to your mayor and council. When you are bombarded with the “we’re being taxed out of our home,” get their address and send to me. I want to see the numbers, but I may also want to explore deeper. If they have lost their job or have huge medical bills, I want to point out that it’s not their taxes causing grief in their life. I will pray for them, but I won’t let them get away with inflammatory accusations about the cost of providing local government services.

LFM.

What Does a Recession Mean to Texas?

We generally don’t get hit as hard nor do we get hit in lockstep with the National Economy. But we are not immune to recessionary forces. And that is good.

You may think the flashing signs of a recession just happened overnight with interest rate inversions moving to the front burner this weekend. That is not the case. The yellow flag believed to be reliable is when the interest rates for the short-term government securities rise higher than the long-term. It’s a worry indicator. Why else would someone accept a lower interest for holding a 10-year government bond then for a 90-day T-Bill? It’s an inversion. We don’t like it when things are askew.

Our accepted correlation that a recession follows an interest rate inversion isn’t something dreamed up by economists. The chart below from the best source of government (and business) information is from the FRED, the Federal Reserve Economic Data site provided by the St Louis Fed. See http://www.fred.stlouisfed.org. They allow all of their graphics to have an overlay showing past recessionary periods.

Here you can see recession frequencie and durations. You can also see how the widest distance between these two investment instruments begins almost immediately when a recession is over and then goes into a slow decline until the point of inversion and another recession begins. So, the last recession ended in June 2009. As these rate differences zig and zag, they eventually move close together. But we’ve only had almost exactly 10 years to play Carnac the Magificant. (See https://en.wikipedia.org/wiki/Carnac_the_Magnificent). Hardly a magic trick or an academic secret.

Note, please, that we are way overdue for a recession. You might recall that for years the Federal Reserve has been manipulating the system with their toolbox of policies to stave off an inflation and keep employment high as long as possible. Recall, too, that economic cycles are part of a capitalistic system. We don’t like ugly, and job layoffs are as ugly as it gets, but that is part of wage management and pricing equilibrium. Beware when we allow our decision makers to abandon the Invisible Hand Theory. See https://economictimes.indiatimes.com/definition/invisible-hand. The penalty might prove to be severe in our future. But then, what do I know? I thought we were going to have the cataclysmic implosion in late 2007.

This inversion phenom is why you started hearing about the signal being flashed over the weekend and why you may likely hear it a lot more in coming weeks and months. The big worry is just how serious the stock market (another early indicator in most cases) might buy into this cautionary flag.

By the way, you should know that the powers at be declare a new recession well after it has actually started. The same goes for the end of a recession. The official finding comes many months after it is over. It takes some time for two sequential negative GDP quarters to be measured. Interesting, huh?

FredFed10YrVs3Month

Not To Worry – We’re The Great State of Texas!

Actually, that is a fact. We have buffers. We also have things in motion that don’t change directions quickly, like a huge cruise ship headed out of the gulf. Well, one in calm waters, anyway.

We’re insulated but not immune from turbulent waters and high winds. Fortunately, we have a two-month, not two-quarter, early-warning system. My sales tax chart below shows the rolling 12-month sales tax collections for local governments since the early 1990s. We busted through $9 billion annual collections (in the dark blue) with ease just a few months ago. Yet my favorite indicator is the percent change in the annual growth (in the red). I also marked the last two recessions on my chart this time.

The takeaways include that our sales tax collections locally have been slowing in the growth rate. That means we are increasing in dollars while decreasing in the rate of growth.

Can it go back up without going down any deeper? Yes, and that has happened many times. Is it natural to start declining? Yes, history shows that it is very difficult to grow at large rates and sustain that growth forever. In fact, you can see that almost every time we approached the upper boundary of the 1-STDev channel of about 10%, we pull back toward the statistical mean. That works in both directions.

Keep in mind that the overall average for the last three decades is about 5.93%. That’s not an accidental number. The average is the result of 1) population growth, 2) inflation, 3) the wealth factor as well as changes to the 4) sales tax rate and 5) base over this long period of time. If we averaged about 6% without the huge swings, we could describe that scenario as near to perfection as possible.

Also, please note how you could use the chart below to say with confidence that the Texas Local Government Sales Tax Collections may be able  to announce a national recession ahead of time with the red line AND YET we can safely say that we tend to lag the recessions by quite a few months. That may be a stretch, but this can be a compelling argument in light of historical data.

SalesTaxesAndRecessions

Conclusion

What are we to do with this information? First and foremost, just watch. If the rate inversion goes deeper and the sales tax growth rate decline continues and even accelerates, then we can confirm we are sliding into a recession.

It’s way overdue. Job-cut announcements started months ago and are increasing in frequency. In Texas, there is a huge business commitment in place that doesn’t stop overnight due to the inertia.

Take shelter mid-year? Not really unless we get slammed in a hurry? But FY 2020 might be facing a challenge.

Look ahead, but I offer you this challenge. Recessions have typically not lasted long (18-24 months). Please don’t make the mistake of start cutting back on things unnecessarily.

Why do you have those fund balance reserves? I would say it is to continue basic operations without cutting jobs that you will be hiring back not too long after the cuts. Provide those services, keep productive staff and don’t gut the programs.

And keep your hands off the dang libraries, ball fields and animal control!

Instill deep quarterly reviews of all revenues and expenditures with your staff. Announce to the rating agencies that programs are important or else they wouldn’t be there. A reduction in fund balances will be followed by a restoration to policy levels.

A Rainy Day Fund is meant to be used during these kinds of pullbacks.

In closing, a little jab. If you are waiting for a good recession to force yourself into making cuts you should be making every day as a manager, that’s cheap management. Just saying. LFM