Forecasting Property Tax Base

This week we conclude our series on property taxes by introducing our method for forecasting municipal property tax base if you want to build your own property tax forecast. We have used these variables to build models to support municipal budgeting and they should be helpful for any community in North Texas.

Components of the Tax Base

When doing the forecast you will get more accurate results by creating separate forecasts for the three major categories of property tax base: commercial real property, residential real property and business personal property. Many economic indicators are logical predictors of property tax base, but the following have consistently been statistically significant and contribute to more accurate forecasts.

Variables for Forecasting Commercial Real Property

Three indicators have been effective in forecasting commercial real property. The first is historical commercial real property tax base. This information can come from old budget documents or from your central appraisal district. The second variable is total commercial construction. This can also be obtained from the appraisal district for past years, but another good source may be your municipal building inspection permit data. One or the other may be significant for your community. The final variable is a national statistic, annual gross domestic product (GDP.) This indicator picks up the overall national business cycle, which can have an impact on commercial finance and employment trends which, in turn, influence local demand for real estate and drive up or depress local property values.

Variables for Forecasting Residential Real Property

We find four variables are significant predictors of residential property tax base. The first is historical residential tax base. The second is municipal population. This can come from the Texas Demographic Center. You may need to do your own estimates to obtain the most recent annual values. The third variable is your property tax rate. The final indicator is a national statistic and a subset of the gross domestic product called residential investment. This indicator represents the national housing business cycle and has proven to be a statistically significant predictor of residential tax base in the DFW area.

Variables for Forecasting Business Personal Property

For most cities, business personal property is the smallest of the three tax base categories, but we found it is the most complicated to forecast. We have settled on five indicators that are necessary to predict it. The first is historical business personal property. The second is the Texas Business Cycle Index, which is compiled by the Federal Reserve Bank of Dallas. The third variable is the vacancy rate for retail real estate. You can obtain this from one of the commercial real estate data vendors. A second real estate variable, and the fourth in our model, is total occupied commercial inventory (office, industrial and retail). Finally, annual gross domestic product is also important.

Running the Forecast

We have been using this mix of indicators for many years to track local tax base performance. The art of forecasting means experimenting with various functional forms of these and other variables until you find the equations that do the best job of explaining your city’s historical tax base change. It is best if you build the forecast model in a statistical software program like Eviews or STATA. Once you have finalize the forecast models you can transfer them to Excel to do sensitivity analysis and run scenarios. If you want to learn more about our process let us know. You can use our contact form.

Next week we begin a series on measuring economic wellbeing and how and why economists developed widely used indicators like gross domestic product.

Changing Tax Base in Dallas County

This week we review changes in property market values and tax base for 25 cities in Dallas County since 2007. This builds on the analysis throughout the last month focusing on the property tax and its importance to local cities. Last week we looked at the structure of the tax base in our 25 cities on the eve of the Great Recession in 2007. Since then, there has been substantial change in the local economy.

Total Taxable Value

Our 25 cities saw their combined tax bases grow by 30 percent between 2007 and 2016. The average change for these cities was 45 percent and the median change was 27 percent. The largest and smallest changes were 308 percent and 3 percent, respectively.

Residential and Commercial Changes

Because of some changes in reporting over the period, it is difficult to calculate an accurate change in tax base by commercial and residential categories. Instead, we can present the changes in market value for these categories.

The combined residential market values for the 25 cities grew 29 percent from 2007 to 2016. The average of the individual city changes was 24 percent and the median of the city changes was 27 percent. There was considerable variation across the cities, with the largest increase being 143 percent and a decline of 8 percent on the other end of the scale. The changes for the 25 cities in shown in Figure 1.

Figure 1. Change in Residential Market Value 2007 to 2016.

On the commercial side, the total change for all 25 cities combined was 43 percent. The average of the city changes was 76 percent and the median was 43 percent. There was a very wide range of growth rates across the cities. The largest increase was 533 percent and the smallest increase was 16 percent. The change in commercial market value is shown in Figure 2.

Figure 2. Change in Commercial Property Market Value 2007 to 2016.

Change in Commercial Share of Market Value

Between 2007 and 2016, most cities saw the share of total market value in commercial property increase. That is, commercial property grew in importance compared to residential property. The average change for the 25 cities was a 5-percentage point increase in the share held by commercial property. The median increase was 3-percentage points. The largest shift was a 26-percentage point increase in commercial property’s share of total market value. The largest decrease in share of commercial property was 1 percentage point. The change in the share of property values in commercial property are shown in Figure 3.

Figure 3. Change in Commercial Property’s Share of Total Market Value 2007 to 2016.

Issues for 2017

Introduction

We want to start the new year suggesting some important themes and issues local leaders will face in 2017.

Infrastructure

Both presidential candidates promised big infrastructure initiatives. From all indications, the Trump administration will take a different approach than past presidents. In keeping with his campaign themes, the objective appears to be promoting economically viable upgrades in key systems. The method will rely more on incentivizing public-private partnerships than by providing direct funding to states and localities. This may take the form of localities partnering with business to finance projects with the private sector paid back through operating revenue. One consequence may be that communities with weak economies will have fewer infrastructure opportunities. Healthy communities will be in a position to further their advantage by attracting more private investment capital.

This may be a window for localities to implement pilot smart cities initiatives. Broadband should be their priority given its potential to support business and workforce development. Success there will mean finding ways to make it sustainable to serve low-income communities.

Migration and Jobs

Interstate migration rates are returning to pre-Great Recession levels. There has been a long-term decline in migration in recent decades, but the Great Recession caused a dramatic reduction. Lack of new job opportunities outside tech hubs and energy producing regions kept people in place. We should see even more migration to western and southern states in the new year. Growing areas will face new service and infrastructure demands. Communities losing population will be trying to manage their public sector with a smaller economic base.

Migration in 2017 will reflect low oil prices. Energy producing regions will generally not be such strong draws. Though, Texas should continue to see migration to cities in the I-35 Corridor: Dallas-Fort Worth, Austin and San Antonio which have more diverse or tech-focused economies than Houston. Florida, Georgia and North Carolina will continue to grow in the South. The Rocky Mountain West will keep attracting California migrants.

Nationally, we can expect to see continued weak labor markets. 2017 will bring more headlines of workers being replaced by software and machines, the continued growth in the gig / freelance economy. Recent research shows that most new jobs created during the recovery were non-traditional contractor or part time. This trend will continue. Automation will continue reducing the need for corporate-based manufacturing, administrative, retail and even white collar jobs. Local leaders will face fewer more difficult challenges. They will need to adapt their economic development strategy. The objective will be to craft cost-effective ways to make their communities easier places to start businesses and train for a constantly changing and narrowing labor market.

Watch out for the States

As always, one of the biggest factors in local finance and development are policies by state legislatures. With legislative sessions starting soon, local governments can expect more efforts to limit their flexibility and potentially change economic development policies. State budgets are relatively stable, except with lower revenue in energy producing regions. Local leaders who want to preserve their freedom of movement need to pay close attention to these bills and rally their representatives and senators to their position. Restrictions on economic development incentives may emerge in several states, including Texas.

Not So Purple

The presidential election once again highlighted the biggest divide in America – that between urban and rural areas. The fault lines fall somewhere in the suburbs. Older suburbs share many policy and cultural similarities to central cities. Newer suburbs, exurban and rural areas similarly have some political affiliation. Economically, however the nation’s MSAs have little in common with rural America and small towns. Federalism once permitted states to set their own policies in key areas. Today, the individual states are often divided. Solutions will not be easy when it comes to key community building strategies like business and workforce development. Employment and income is increasingly concentrated in a few dozen MSAs. Most other regions need to learn to manage with stable or declining economies.

Holding the Line on Expenses

With housing prices continuing to increase this year, property tax revenues will improve in many communities, especially in the large metro areas. Local leaders will face pressure to restore services cut in recent years. As the largest budget categories, police and fire funding can easily consume all new revenue. Infrastructure backlogs also demand attention. At the same time, cities need to begin thinking of ways to shore up pension and retirement benefit systems. Current asset price highs have papered over structural problems in many public pension programs, but a market correction would reveal many unsustainable systems. Prudence recommends that citizens and local leaders pay close attention to the upcoming budget. These relatively good budget times are opportunities to replenish rainy day funds and have serious conversations on building a more sustainable public finance. These conversations should address the appropriate role of local government, sustainable service levels and innovative ways to achieve acceptable results for less money.

We hope you have a safe and prosperous 2017!

Causes of Fiscal Stress

Introduction

We spent the last several weeks outlining a framework to improve municipal financial sustainability including goals, indicators, community engagement and long-range planning. Today we introduce potential sources of fiscal stress for America’s cities and towns. Every community is unique, but many of these factors are impacting most places.

Two Centuries of Change

There was no golden age of sustainable urbanism in the U.S. Urban America has grown and changed continuously for two hundred years. (Before that there was no significant urbanism, only a handful of small towns.) Towns grew into cities and conditions and concepts of fiscal health changed with them. These changes altered what was economically viable for businesses, households and city governments. Population growth, new techniques and modes of organizing were reinforced by new energy sources like coal and oil. Growing wealth, knowledge about public health and sanitation and political and cultural changes increased demand for more services and influenced the way cities were built and the way municipalities operated. As cities aged and economic competition increased among them winners and losers emerged and economic health varied across the country. Always, these shifts influenced new rounds of public and private cost-benefit calculations.

The simplest definition of municipal financial health is that municipal operations are not so large or complex to be sustained through its existing revenue system. The local private economy that is the source of wealth for government operations may or may not be capable of supporting higher revenues. That circumstance will vary from place to place. When a city’s circumstances change from fiscal health to fiscal stress it may be because of internal or external changes or both. Solutions will also vary depending on local circumstances. Changing service levels, trying to enhance the local economy or both may make sense. Making the right choice as a community depends on what specific factors contributed to the fiscal stress. There are several candidates to consider. Some of these changes have been happening throughout U.S. urban history, others have been more important at certain times. Some are a bigger factor in some parts of the country that others. We present these in no particular order, though evidence exists for all these in at least some cities today.

  1. Landuse that no longer takes advantage of traditional urban form (positive spillovers from proximity and agglomeration.) Spatial segregation of uses, too much private land in unproductive uses like parking and setbacks are examples. This requires more infrastructure per acre and more municipal fleet and staff requirements to serve the private sector.
  2. Economic changes in the location, size and mix of industries and businesses. Technology change and continuing competition shift the fortune of local industries. In some communities, the tax base declines. There are also fewer self-employment opportunities nationally as industries become dominated by larger firms.
  3. Shrinking tax base from a shift in tax types. Over the 20th Century, taxation generally became more regressive. Property taxes and sales taxes tend don’t generally increase proportionately to higher household incomes.
  4. Changes in fiscal federalism. Federal government aid to cities grew over the last century, but began declining in the last 40 years. Many states have not increased local aid, resulting in a net decrease in this revenue source to cities.
  5. Post WWII pension and retirement benefits have become a growing burden for local governments as their workforces matured. The dependency ratio increased as even the Sunbelt boom towns built out. Health costs have recently grown much faster than than any revenue source or other spending categories.
  6. Higher debt service. This may be a symptom of stress when it results from using debt for operations. It can be a contributor to stress when the underlying economic base weakens and what looked like prudent investments in years past become stranded sunk costs.
  7. National and regional population migration that weakens the markets of origin and increases service demand in the destination markets. Origin cities see a decreasing private sector trying to support the operating and infrastructure of a formerly larger city.
  8. City growth. As cities grow in population, their spending per capita increases faster than population growth. This has been the case since industrialization in the mid 19th century. Americans continue a long-term trend of crowding into larger cities and suburbs where demand and provision of services is at a much higher level than in small cities and towns.
  9. New awareness of public health and environmental risks promoted greater demand for infrastructure upgrades especially in water and sewer systems. Citizens have also generally demanded high levels of public safety protection.
  10. Technology innovation has also added to the service burden of cities. For example, development of steam-powered fire engines allowed a smaller crew, and lower brigade costs. However, formerly volunteer or privately funded services moved onto municipal books.

This is a long list and we will spend much of the new year taking a closer look at some of these. Finding answers for financially strapped communities means not making reactionary decisions. Solutions based on fads or what another community tried can squander scarce resources. Cities did not become fiscally stressed overnight. Some of these trends have been in place for well over a century. Change for the better will probably need to be gradual and thoughtful as well. There is no golden age of American urbanism to return to, but most every community has the capacity to make positive changes. We will need to work out the answers that make sense in each place.

Next Week

Next week, we will present a few predictions for economic development and municipal finances for 2017. If you would like to know more about how Axianomics can help you put your community on a more sustainable path let us know.

Sustainable Municipal Finances

Introduction

Cities and towns across the nation are struggling to maintain infrastructure and levels of service. These municipal programs were created and expanded to support wave after wave of new households after WWII. Most subdivisions and shopping centers were built to accommodate these new families. They were built to accommodate the peak of these families’ commercial activity. Those young founding families aged and their spending and economic activity changed. The municipal services needed and demanded by those young families are still in place. Many of those communities have changed so much that they no longer generate the tax base needed to keep municipal services running. Fiscal sustainability for cities comes from strengthening the tax base, but also from improving the efficiency and effectiveness of city services.

Municipal Financial Pressure

This last month, we engaged local leaders from across Texas through several state conferences. We participated in Texas Municipal League, Texas Economic Development Council and the Government Finance Officers Association of Texas. As expected, the topics were wide ranging, but a common thread ran through them all. Municipal financial sustainability is on the lips of panelists, speakers and attendees alike.

Communities across the state face growing inventories of aging and failing infrastructure. The scope of the challenge includes every component of municipal capital: streets, storm sewers, water mains, street lights, facilities, equipment and computer systems. Even the more prosperous communities have a growing maintenance challenge.

Likewise, municipal operations and staffing is a challenge. Municipal services need upgrades, and new technologies mean city staff need more advanced skills. Local governments have an older than average workforce and are competing with the private sector for many of the newly needed skills. Pensions and retiree health costs are a growing expense for many governments.

In recent decades, Texas cities, suburbs and towns grew and government finances grew with them. Cities built their infrastructure to accommodate this growth and design standards increased the scope and scale of many infrastructure projects. It is becoming clear that this pattern of growth has had consequences for the sustainability of local governments. Today, the economic foundation in many communities cannot support that level of municipal services.

Waves of Growth

The growth that benefited so many communities in the past, especially in the 1960s, 1970s and 1980s, took the form of adding new fully-built subdivisions. These communities were built quickly, at about the same time with essentially identical residential and commercial real estate. Their founding families were mostly at the same point in their economic life cycle. They bought the new homes and began filling them with children, furniture, appliances and clothing. This supported the large retail centers being built on the edge of growing cities.

Those founding families eventually entered a less spendthrift phase of life. The children left for college and jobs. The spending has decreased as retirement becomes a more pressing concern. The shopping centers that were built for peak use struggle to stay open. Many now present fading marquees, pot-holed parking lots and too many dollar stores.

This is not a new process. City neighborhoods have gone through these cycles for generations. The challenge today is that so much of our urban environment is experiencing this trend at once. Even more serious is that entire cities were built at the same time and now face across-the-board challenges as every neighborhood experiences this relative decline. This has consequences for the sustainability of our municipal governments.

For many years, the conversation among local leaders has been about how to grow their way out of this situation. Traditional economic development strategies are unlikely to make much of a difference for most communities. Most places are off the site-selection radar. Their challenge is to make better use of their existing assets, grow from within and focus on core municipal responsibilities. Aligning services to support a more sustainable economic model and better infrastructure management are the immediate concerns.

Next Week

We will continue exploring the evolution of local government services created to support post WWII growth and what cities and towns can do to improve their financial sustainability. In the meantime, sign up for email updates and let us know how we can help.

Economic Diversity and Community Profile

Introduction

This week we are introduce the Axianomics, LLC Community Economic and Fiscal Profile. The Profile summarizes over 100 economic indicators into easy-to-understand indexes that can guide local leaders in their planning, budgeting and economic development activities. This post will highlight the Business Health Index which is one of the cornerstone pieces of the Profile. Economic diversity is one of the local conditions this index captures.

Industry Economic Indicators

Every community has a unique economy. The federal government divides the national economy into over 1000 different industries. These industries are organized into a hierarchy with the North American Industrial Classification System (NAICS). Examples of the highest-level groupings of industries include Business and Professional Services, Retail Trade and Manufacturing. Dozens or hundreds of detailed industries make up these summary categories.

The reported industries are different sizes and grow at different rates. Some are highly cyclical and grow and shrink with the business cycle. Other industries are more stable. Some are growing while others are in decline. National economic performance is the sum result of the particular fortunes of all these industries.

For each of these industries we can track employment, wages and number of business establishments. We can use this data to help understand the fortunes of local communities and get an idea of how their economy is changing. These economic changes have a big impact on municipal revenues and budgets.

The Value of Economic Diversity

Economic research confirms that there are many benefits to having a diverse industry base. Diverse local economies tend to grow faster and suffer from less volatility. We can measure these benefits in both employment and wage growth. There are still benefits for a community to be a leader in particular industries, but too much concentration can put the community at risk. Changes in market trends and new technologies can devastate individual industries. Cities that have all their eggs in a declining industrial basket can find themselves in a long-term downward spiral that is difficult to reverse. More diverse communities can fall back on other industries if certain businesses hit hard times.

Community Economic Profile and Business Health Index

Axianomics, LLC created the Community Economic and Fiscal Profile to help local leaders track the overall health of their economies and discover how their revenue and budget performance is linked to that economy.

The Profile includes several performance indexes that summarize over 100 economic indicators. One of these indexes is the Business Health Index. This index includes a number of component measures. Industry diversity plays a big part in this index. We compare local industry diversity to the nation overall and the state. This lets local leaders immediately see how their economy stands relative to these benchmarks. In addition to the industry diversity measure, the Business Health Index also tracks small and big business performance, growth trends, employment, income and number of businesses.

The Profile goes beyond typical economic indicators. By building these custom indexes, we can make more valuable business and community development recommendations to local leaders. Since municipal revenues and budgets depend on the underlying tax base, the information in the Profile makes a valuable contribution to planning budgeting and economic development strategy.

To learn more about the Economic Profile, download our fact sheet. We would be happy to discuss how you can obtain a custom Profile for your community. Contact.

 

What’s Next

Next week, we will take a look at the economics of public libraries and how cities can position their libraries as powerful economic development platforms.

Fewer Growing MSAs (Metro GDP)

Introduction

Today we look at the just-released metropolitan area gross domestic product (GDP) data. This data release from the U.S. Bureau of Economic Statistics brings the data up to 2015. We can use this data to compare the 382 metropolitan areas in the U.S. to the overall performance of metropolitan America. As a reminder, GDP is the total value of economic activity produced in an area.

Though there is a delay in this data, it is an important economic indicator for local leaders. The analysis below uses real GDP, which has been adjusted for inflation so we can compare changes over time.

Overall Results

From the BEA press release we see that GDP increased in 292 metropolitan areas in 2015 compared to the previous year. In other words, approximately 76 percent of MSAs saw growth in their total GDP. The sectors that contributed most to this growth were professional and business services; wholesale and retail trade; and finance, insurance, real estate. Growth in these three broad industry categories was widespread. Out of the 382 MSAs, these industries grew in 77 percent, 88 percent and 64 percent of MSAs, respectively.

Per Capita Growth Rates

The headline numbers discussed above do not account for population growth. We like to look at per-capita changes in GDP to give a better idea of the actual health of a community. The economic output per person is a better indicator than overall MSA growth. This is because businesses that are achieving higher per-worker growth rates can afford to increase wages. Slow per-capita GDP growth means stagnant wage growth.

To get a longer term perspective, we looked at compound annual growth rates for three time periods. We calculated these rates of change for the seven years before the great recession (2001 to 2008), the seven years after (2008 to 2015) and we looked at the change from 2014 to 2015. Using compound annual growth rates cancels out the year to year ups and downs.

U.S. Metro Areas

In the seven years before the Great Recession, the per capita GDP for all MSAs grew at a 1.1 percent rate annually. In the seven years after the Great Recession, that growth rate fell to 0.3 percent. Growth accelerated again in the last year to 1.6 percent (between 2014 and 2015.) This national growth rate is a benchmark we can compare all metro areas against. In per capita terms, there were fewer growing MSAs nationally than when looking at growth not adjusted for population. There were 274 MSAs that saw per-capita growth in the last year.

We found that economic growth was more widespread across MSAs before the Great Recession that after it. In the period before the Great Recession, 188 MSAs grew faster than the national average. That amounts to 49 percent of all MSAs. In the seven years after, growth was more concentrated, with only 149 MSAs exceeding the national growth rate. Those MSAs accounted for 39 percent of all MSAs. This trend seems to be intensifying, with only 34 percent of MSAs growing faster than the U.S. in the last year.

Texas Metro Areas

Looking at Texas, we see a different pattern. There are 25 MSAs in Texas. Before the Great Recession, 64 percent of them grew faster than U.S. After the recession, 76 percent, (19 of the 25) grew faster than the U.S. in per capita terms. This may reflect the boost given to many Texas MSAs from the shale oil boom. That boom was beginning to deflate by 2015 and it shows in Texas MSA growth rates. In the last year since the recession, only 10 MSAs in Texas were growing faster than the U.S. The following table lists all Texas MSAs with their per capita GDP growth rates.

Texas MSA Per Capita Income and Compound Growth Rates
Area 2015 Per Capita GDP 2001-2008 Compound Annual Change 2008-2015 Compound Annual Change 2014-2015 Annual Change
United States (All MSAs)  $      52,896 1.1% 0.3% 1.6%
Abilene  $      36,296 2.1% 1.0% -1.5%
Amarillo  $      41,460 1.7% 0.6% 0.5%
Austin-Round Rock  $      55,323 1.7% 1.2% 2.0%
Beaumont-Port Arthur  $      49,966 2.3% 2.5% 5.3%
Brownsville-Harlingen  $      20,088 0.4% 0.2% 1.1%
College Station-Bryan  $      33,457 0.4% 1.6% 0.2%
Corpus Christi  $      46,486 1.5% 2.2% 1.0%
Dallas-Fort Worth-Arlington  $      63,197 0.7% 1.0% 1.4%
El Paso  $      30,865 -0.7% -0.3% 3.0%
Houston-Woodlands-Sugar Land  $      70,797 0.1% 1.1% 1.9%
Killeen-Temple  $      34,632 2.5% -1.0% 2.4%
Laredo  $      25,507 0.5% -0.1% 0.3%
Longview  $      48,403 3.9% 0.4% -2.4%
Lubbock  $      37,359 1.8% 0.7% 2.3%
McAllen-Edinburg-Mission  $      20,007 0.8% 0.8% 0.1%
Midland  $     153,445 2.1% 10.0% 5.9%
Odessa  $      54,638 4.1% 2.9% -10.5%
San Angelo  $      37,942 0.6% 1.5% -1.5%
San Antonio-New Braunfels  $      42,169 0.2% 1.5% 3.4%
Sherman-Denison  $      28,724 1.7% 0.3% -0.4%
Texarkana  $      30,758 1.7% -0.9% 0.3%
Tyler  $      46,578 1.5% 1.0% 0.3%
Victoria  $      49,954 3.3% 1.9% -3.0%
Waco  $      37,530 2.1% 1.3% 2.0%
Wichita Falls  $      41,590 1.9% 0.5% 2.7%
Source: Axianomics, LLC analysis of U.S. BEA data.

Next week, we will share our best reads for the month. These are the studies and reports that we think are most helpful for local leaders who are working to strengthen their communities fiscal and economic health. In the meantime, let us know how we can help you make more confident economic and fiscal choices for your community. Contact