Prosperity's thin veneer
Signs are mounting that the long economic expansion may be slowing --
or worse. That could spell trouble for local political leaders. Is the public
ready for tough choices?
by Seth Gitell
As ugly as the post-election events in Florida have been, they only underscore
the fact that the fat, easy days of the Clinton era have ended. The economic
boom times are over -- yet politically, no one seems ready to deal with it.
We're entering a new, more difficult fiscal climate, and the local big four --
Governor Paul Cellucci, House Speaker Thomas Finneran, Senate president Thomas
Birmingham, and Boston mayor Thomas Menino -- are going to see their jobs get a
lot harder.They've got, among many other new costs, a tax cut to fund, Big Dig
overruns to cover, and a new ballpark to pay for. But in the coming
years, returns from tax receipts will decline.
What's happening now is a mirror image of what occurred as Massachusetts
emerged from the last recession. Back then, most people -- shell-shocked by the
recession of the late 1980s and early 1990s -- were locked into a recession
mindset through the mid '90s, well after the slump had ended. Even though the
economic recovery -- if not the economic boom from which we're now emerging --
was well under way, people still approached business dealings as if the economy
had been in a slowdown.Nothing epitomized the disconnect between the
national public mood and the economic turnaround more than the New York
Times series "The Downsizing of America," which chronicled the thousands of
layoffs that had taken place during the early part of the decade. Now
it's just the opposite: recent consumer-confidence surveys -- such as the
private index put together by the University of Michigan -- show that people
still think times are good. But the evidence suggests otherwise.
|THE BIG FOUR:
Celluci, Finneran (top), Menino, and Birmingham (bottom) will have to figure out how to pay for the new tax cut, Fenway Park infrastructure, Big Dig overruns, and rising health-care costs even as tax revenues fall.
Take the bursting of the Internet bubble. Reuters reports that a record 8789
jobs were cut from the Internet sector in November -- just six percent of
the total 137,000 new American jobs reported by the Bureau
Statistics in October, but still significant. And the venture-capital-fueled Internet craze is what has sustained economic growth in Massachusetts for the past 24 months. Even if the epidemic of dot-com shut-downs fails to measure up to the demise of Digital, Wang, and other Route 128 companies a decade ago, the collective Internet-industry implosion will weaken the region. The stock of the once-vaunted Internet incubator CMGI of Andover is down 93 percent since January,and its
much-heralded multimedia venture, iCast, will be shut down by the end of the
year. Other dot-coms with a sizable local presence -- such as MotherNature.com
and Furniture.com -- have met the same fate.
Optimists downplay these closures, saying the labor market is so tight that
those displaced from failed dot-coms can quickly find employment elsewhere. But
unemployment claims overall suggest that joblessness may be inching up. These
claims rose to 7000 last week -- a new two-year high, and much higher than
economists had anticipated. Sure, many of the laid-off HTML wizards will find
new jobs; but they won't find ones offering the financial rewards they've come
to expect. Many of the stock options, the carrot leading techies to put in all
those long hours, are worthless. Union organizing has even taken place among
Amazon's warehouse employees, who now complain about being underpaid --
although they didn't complain when the stock was on the sunny side of 100.
It's hard to measure the economic costs of diminished expectations -- but
they're significant nonetheless. "If it affects spending, then it affects the
economy," says Cynthia Latta, the principal US economist for Standard &
Poor's DRI. "Just what that is going to do to spending, we don't know. People
may scale down. If you were going to buy a Ferrari, maybe you'll buy a
different kind of car -- or maybe you won't buy a car at all."
In the meantime, it's impossible to sugarcoat the exposure facing all the
service companies that work with dot-coms. What are all those PR companies, law
firms, and office-supply companies going to do? It's been less than a year
since white-shoe law firms in Boston jacked up their pay scales to slow the
bleeding of talent to tech companies. Testa, Hurwitz & Thibeault, for
example, raised salaries for first-year associates 40 percent from $100,000 to
$140,000. Hale & Dorr did likewise, offering its first-years $125,000. Now
that those tech companies aren't so eager to recruit new talent -- or may even
have gone out of business -- those law firms will have to make some
decisions. Eventually they'll have to decide whether to scale back those
pay raises or stop hiring so many new attorneys.
The spate of business closings also means that venture capitalists, previously
so free with their dollars, are now taking a jaundiced view toward new
investments. "The barriers on venture capital have definitely been raised,"
says Latta. "It's a lot harder to get venture capital now. A lot of the venture
capital that went into Internet companies in the last several years was simply
burnt up. That money is gone and there's nothing to show for it."
Furthermore, energy prices are skyrocketing. New England's major banks are
seeing a deterioration in credit quality among the region's big retailers --
payments are coming in more slowly. Office-supply store Staples saw its
third-quarter earnings drop by eight percent. Likewise, Gillette's earnings are
below what experts expected of the South Boston company. The authoritative
survey of the National Association of Purchasing Managers -- always on the
frontline of economic fluctuation -- reports that more people think business is
bad than good; this statistic usually leads the other indicators by three
months. And the Boston Business Journal reported last week that both
corporate-tax revenue and business excise-tax receipts in the state are down --
2.8 percent and 5.6 percent respectively. No one is saying we're in a recession
-- and we're not, it takes two consecutive quarters of negative gross national
product for that. But things are getting worse.
Message to Bay State pols? It's time to start worrying.
All this sounds alarmist, you say. Isn't the new luxury development Millennium
Place almost sold out? Don't all outward appearances suggest the economy is
continuing to hum along? Don't be so sure. Economists say one of the hallmarks
of an incipient downturn is evidence that appears contradictory: one thing
looks good, one thing looks bad. The consumer-confidence surveys say things are
great; the purchasing-managers' survey says just the opposite.
Jill Thompson, a senior economist at FleetBoston Financial, says the positive
economic climate of the past several years has been powered by consumer
spending, not by high-tech industry. In fact, consumer spending -- financed
largely by consumer and other kinds of debt -- has grown by five percent a year
for the past four years. Ordinary consumers are spending more because they're
buoyed by the stock profits of others -- a phenomenon she calls "vicarious
spending." Mortgage and credit-card debt is up 40 percent, she points out. But
given the dramatic increase in heating-oil prices for this winter, combined
with the dip in the S&P 500 this year and the 32 percent drop in the NASDAQ
since the beginning of the year, Thompson figures the economy is in for a bit
of a shock. "Consumers who are already stretched by debt are going to find
themselves tapped out," she says. And the longer it takes for this to happen,
"the bigger the slowdown will be."
To date, these economic developments have been discussed in a vacuum -- as if
the trends mattered only on CNBC's Squawk Box. But the new situation
will directly affect leaders on both Beacon and Capitol Hills.
All politicians like to take credit for the budget surpluses at the state and
national levels. But a major funding source for the government's coffers has
been the taxes on people's profits from playing the stock market. The
nonpartisan Massachusetts Taxpayers Foundation estimates that roughly 40
percent of the 10 percent increase in the state's revenue growth over the past
several years can be attributed to capital gains -- and this may be a
conservative estimate. Take away those profits and you take away the taxes on
them. Because of losses in the second and third quarters this year, some
investors may declare stock-market losses -- further reducing their tax
As much as everyone has lauded the Clinton-era boom as a period of growth, some
of its foundations may not be as sound as generally believed. A major New York
economic expert echoes Thompson's assessment: "When the boom is built on
leverage, the down cycle tends to be worse than people think." But here's where
the problem for the Commonwealth is particularly severe. Not only is
Massachusetts at the center of both the tech and money-management economies --
the State Street Corporation, for example, rebuilt North Quincy single-handedly
on the back of the Wall Street boom -- but the state also did exactly the wrong
thing at a precarious time: it reduced the revenue stream flowing into the
treasury. The most optimistic view of the current slowdown is that the economy
is experiencing what Federal Reserve chairman Alan Greenspan refers to as a
"soft landing." But even a "soft landing" will wreak havoc on the state's
Only a few months ago, Governor Paul Cellucci campaigned successfully for the
Question 4 income-tax cut. If the boom vanishes, much of the substantive
argument for the tax cut vanishes with it. The passage of a new tax benefit for
charitable giving will further reduce the state's share of the wealth. And with
a slower economy, that means a smaller reservoir of funds available for state
taxation. "All these initiatives for either decreased taxes or increased
spending are coming at exactly the wrong time," says Thompson. "You're going to
look at sharply lower revenue growth in the next year. It may take them a year
or two to figure that out at the government level."
Two people who had better figure out the new environment quickly are Governor
Cellucci and Mayor Menino. For Cellucci, a declining economy will put him up
there with Michael Dukakis, who presided over the last major recession.
Cellucci's pro-tax-cut rhetoric will be exposed as dishonest in the face
of a budgetary shortfall.
The Tax Equity Alliance for Massachusetts opposed Question 4 for, among other
reasons, the possibility that the tax cut would make it harder to fund many of
the programs the group views as vital to a healthy state -- education, health
care, housing. In the context of an economic downturn, TEAM's arguments carry
more weight. "A phenomenal economic growth spurt can mask a variety of fiscal
sins," says TEAM's executive director, Jim St. George. "On the downside, I
don't care how good a fiscal manager you are. How do you write a budget that
has long-term stability in it when there's so much less money available?"
Although the impact of Question 4 will be muted to a degree because it is being
phased in over three years, its arrival in conjunction with a possible downturn
may still cause pain. This is especially true given some of the financial
commitments the Commonwealth must honor in the coming years. Cellucci, for
example, must continue to fund the Big Dig, including potential cost overruns
that have not yet come to light. The state has pledged $114 million to
fund services for mentally retarded adults, and faces potential legal exposure
for keeping mentally ill adults in psychiatric hospitals because there aren't
enough outpatient services. An even bigger budget buster is health care.
Right now, health care makes up 25 percent of the state budget. With
health-care costs -- most in the form of Medicaid reimbursements to hospitals
-- well outpacing inflation, even maintaining current benefit levels will
become more difficult for the state. As costs increase, less money will be
available for other needs, such as roads and bridges or education. The one-two
punch of Question 4 and the probable slowdown will make it harder to fund the
state's new pharmacy program for seniors, which cost $100 million this
year. In a slightly chillier economic climate, the Commonwealth may not be able
to bear the cost of another Harvard Pilgrim-style meltdown.
"In the end, nobody can divine the future. It's not out of the question that
several things can go wrong at once," says Michael Widmer, the president of the
Massachusetts Taxpayers Foundation.
Warren Tolman, a former Democratic state senator and a 2002 gubernatorial
aspirant, says that "in a number of areas, we've had an opportunity to act and
we've squandered it." Tolman cites health-care insurance, early-childhood
education, and the state's infrastructure as areas leaders could have targeted,
Another Democratic gubernatorial hopeful, Steve Grossman, puts the blame more
directly on Cellucci: "Paul Cellucci painted a very rosy picture indeed about
this year's tax picture. If it turns out he was overly optimistic, that might
not be that much different from his prediction that the Big Dig would be on
time and on budget during the 1998 election campaign."
Nor is Menino immune from trouble. The mayor had a tough time raising the
$3 million -- cut by the governor -- that he needed for his summer-job
program this year. With less money available, providing the city
services that have become the mayor's bread and butter will become more
difficult. In a worst-case scenario, Menino could become vulnerable when he's
up for re-election next fall.
The political disputes of recent times have been the debates of plenty. The
good times have allowed politicians in these parts to coast. The most serious
challenges have involved diversionary trifles, such as the effort to build a
new stadium for the Boston Red Sox. What will happen when these guys are
actually tested, which a slower economy will do? Of the big four, Finneran and
Birmingham are both better suited to weather the storm. Finneran, whose fiscal
prudence has earned him criticism over the years, could benefit because he'll
argue that that's what his tough-minded philosophy was for. And Birmingham
could profit because FDR-style positioning always seems to hold appeal in tough
times. Expect him to wrap himself in the flag of serving the poor should the
economy worsen. But if the next budget process resembles the interminable 1999
budget negotiations, both will pay the price.
For his part, Birmingham has his eye on the possibility of an economic
downturn. "Whether or not our economy slows has a significant effect on
determining the impact of the more than $1 billion tax cut," Birmingham
said in a statement provided to the Phoenix. "The combination of reduced
revenues and an economic downturn would provide an unwelcome challenge." He
pointed out that a potential slowdown could hinder the state's effort to
provide $17 million in fuel assistance to state residents. "With the
Cellucci-Swift tax cut being implemented we are less able to provide this type
of warranted assistance," Birmingham said. "If the economy slows, then the
revenue decline will be felt, and should oil prices continue to rise, it is
clear that the state's ability to help ordinary residents cope is
Much as the Florida fracas has riveted the country's attention on national
politics, a significant economic downturn could direct the Commonwealth's focus
back to its political leaders. The human pain caused by any serious dip in the
economy -- or even a recession -- is a high price to pay for political
involvement. Some of that pain could probably be averted if the current
political gang paid attention to problems now afoot, rather than sweeping them
under the rug as Dukakis did during his presidential run in 1988.
Are our leaders up to the challenge?
Seth Gitell can be reached at email@example.com.
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