In our cash-strapped cities, it sometimes seems that everything is up for sale, and often, at what turns out to be for rock-bottom prices. With budget shortfalls and pension woes, what could sound better than the promise of a quick influx of big bucks? And what politician wouldn’t want to paint a rosy financial picture to the taxpayers of private firms riding to the rescue? The reality, however, can be quite different. As they say, the devil is in the details. What is emerging is how often public finance schemes are created in order to make large sums of money — money for the private entities — at the cost of the taxpayer. Consider the following cautionary tales — some dysfunctional, some unethical, and some, downright criminal.
Let’s start with privatization. The first pitfall is setting the price. While it’s relatively easy to determine the value of something in the present, what will it be worth in, say, 50 or 100 years? As Chicago Magazine notes about that city’s infamous parking meter deal:
Chicago’s lease of its parking meters has been widely reviled, both by those of us who pay the fees and by the advocates who argue they were given up for far less than their long-term value. It’s a clear-cut case of selling the future to pay for the present, expensive as the present may have been.
The problem with the Chicago deal was a too high discount rate. A discount rate is what determines future worth. Think of it as a reverse interest rate — a dollar now is worth more than a dollar in the future because you could earn interest on that dollar. Stop to consider how much interest that would be over 50 or 100 years (which is the length of many of these deals). The seller (city) naturally wants a low discount rate as that means they get more money up front for the sale/lease. The buyer (private firm) wants a high discount rate, not only because they want to pay less, but because they are taking a risk on future worth (perhaps we’ll finally get those long-promised jet packs in 75 years and no one will need cars, let alone parking meters).
Now, add in the social and ethical considerations. We’ve all heard of “robbing Peter to pay Paul.” In these deals, we are often robbing Peter’s grandchildren to pay Paul now. The Chicago deal was made to pay for current government operations. A better deal on a purely ethical level (better for future generations) was Indiana’s lease of its toll road because the bulk of the money gained will go to pay for investments in roads that will have significant long-term benefits for the public.
Some of these sketchy deals have hit very close to home. The City of Pittsburgh dodged a bullet with it’s own proposed parking meter/garage lease deal. The Mayor’s proposal to privatize the system would not only have resulted in the loss of this public asset for fifty years, it would have raised rates for the public tremendously. Furthermore, any closing of a street or removal of a meter would have required taxpayers to pay the bank for any lost revenue. This plan would have resulted in a loss of over $2 billion in revenue over the life of the lease! (Perhaps it should come as no surprise that the firms putting this bad deal together were the exact same ones involved in that Chicago deal.)
It’s not just a matter of bad economics or ethics, sometimes, actual crime is involved. When governments sell bonds to pay for multiple projects, they are allowed to invest the revenue obtained that would be just sitting there until each project is started/finished. Advisors are hired to get the best deals for the governments from this revenue and investment auctions are held. The problem? From a recent New Pittsburgh Courier article:
How would you construct the perfect financial crime?
First, you need the prey—someone who has a big pot of money to invest and needs financial advice. Like a large transit agency.
Then you line up bankers who conspire to make profits big enough to pay kickbacks to the advisers who set up the deals.
Finally, you hope no regulators are watching.
Such a plan worked for eight years and one of the entities defrauded was the Port Authority of Allegheny County. This spring the authority was one of the patsies featured in a New York City trial.
That trial was part of a six-year federal probe that has exposed political corruption, predatory practices and crooked financing that have diverted billions of dollars from building schools, roads and bridges in almost every state.
In these tough economic times, maybe we need a new adage: “Let the seller beware.”