Sunday, November 1st, 2009

Cincinnati: Water Works and the Commonwealth

I have often heard great English property owners congratulate themselves on the fact that in our day they get more money from their domains than their fathers did. Perhaps they are right to rejoice; but surely they do not know what they are rejoicing about. They believe they are making a clear profit and they are only making an exchange. It is their influence they cede for petty cash; and what they gain in money they are soon going to lose in power.

– Alexis de Tocqueville, Democracy in America

It is not unusual for for core cities in America to own water utilities that provide service on a regional basis. Indeed, it might be the most common publicly owned regional utility service. Louisville does it, so do Indianapolis, Detroit (a massive operation that, among other things, supplies Dasani water – yup, I’m told it’s good ol’ Detroit tap water), and Cincinnati.

Many of these operate as non-profits, others as for profits. Cincinnati is in the former camp. In the latter, the Louisville Water Company is a corporation whose stock is owned by the city and from whom the city receives a dividend of millions of dollars per year.

With cities strapped for funds, they are increasingly looking at assets like water utilities as a way to raise money. Cincinnati is among these. Its city manager used to work in Louisville and wanted to know if it would be possible to transition to a Louisville like model.

Today, the Cincinnati Water Works operates as a city department that operates as a non-profit. It supplies water to 85% of the metro area’s population, including service in part of Northern Kentucky. By law, it cannot earn a profit. Also, by law, it cannot build facilities outside the city of Cincinnati that are not for the benefit of people in the city. The city believes this constrains its operations and ability to grow, however, also notes that water consumption is declining due to declines in industrial usage, so it doesn’t sound like expansion is necessary in any case.

The city manager has proposed that the city sell the water utility to a water district for a price of around $425 million. This would be paid in installments over 75 years, with the city collecting $5-6 million per year initially, expanding to $14-18 million over time. The district would remain controlled by the city, but would eventually bring suburban leaders on board, making it a truly regional district.

If this sounds a lot like a privatization, you are right. Some have argued that it is not necessary to truly sell or lease public assets to private entities in order to recognize the types of gains associated with the Indiana Toll Road or Chicago Skyway lease. Rather, cities can do it themselves. This proposed transaction demonstrates how. You create a special purpose government entity – in this case a water district – then, in effect, sell the assets to yourself. This was also recently done in Detroit, where Detroit and Winsdor created a special purpose toll authority to take over the tunnel linking their two cities.

So, if this is a synthetic privatization transaction, where is the value coming from? How do you earn $425 million selling something you own to yourself? Well, as I noted before, if it isn’t obvious where the value is coming from then there is either is none, or there is an embedded price in increase. In this case, water rates will increase starting in 2021 in order to cover that $425 million plus interest.

Cincinnati is, in effect, converting its water utility to a for profit enterprise and raising rates. This enables it to start drawing regular “dividend” checks, just like Louisville does. And, as a bonus for the city, a majority of that profit will originate outside the city limits. It creates an income transfer from the suburbs to the city, via water company profits.

Whether or not the conversion and rate increase is a good thing is one I will leave to the residents of Cincinnati to decide. It is like any other tax or fee increase. It depends on community values and the bets the community wants to take about the future. I am not taking any position on the ballot issue regarding this matter.

[Update: Issue 8, requiring a public vote prior to any Water Works transfer, passed ]

It is the regionalization aspect that I’d like to consider. I tend to think that some level of regionalization is a good thing in most communities. One of my core principles is that regionalization should build bridges and bind the city and suburbs together around common interests. Clearly, water service is a common interest. Yet getting it right is very difficult. It’s a fine line between creating goodwill and making people think they are being held for ransom. That’s a point I did not see covered in any of the materials and which I believe merits extensive evaluation prior to moving forward.

As I noted, rates are going up, and the reason they are going up is partially to let the city earn profits off suburbanites. It doesn’t seem realistic to think that people in the suburbs aren’t going to figure this out. What are they likely to think when they do?

Tocqueville noted that a decline in feelings of mutual obligation and respect often were accompanied by an increase in cash payments. When people do not seem themselves as part of a commonwealth or web of reciprocal duties, then transactions become merely financial. Or, to look at a it a different way, people may try to use money to buy themselves out of moral or social debts.

Think about our core cities, especially in the Midwest. They’ve got enormous legacy costs, bear a disproportionate share of regional social service obligations, have large amounts of institutions and institutional land that is not on the tax rolls and, while having a large percentage of key assets that benefit the entire region, are often obliged to fund the upkeep of those obligations themselves.

Clearly, the suburbs have a vested interest in a healthy core city. When the central city implodes, as in the case of Detroit, the entire region suffers. Indeed, Cincinnati and Hamilton County have lost significant population off their peak and I believe that right there explains a lot of the difference in regional economic and population growth between Cincinnati and places like Columbus and Indianapolis that are growing faster.

Beyond that, one can make the argument that there’s a moral duty as well. Should people be able to escape the problems that they (or their parents and grandparents) helped to create just by fleeing to an adjacent jurisdiction? Should they be able to wall themselves off in upscale enclaves, leaving the poor or others not so fortunate to look longingly at the gates?

Yet duty and self interest are often not enough to overcome the problems of the free rider or the diffusion of responsibility. Still, there are some things suburbs absolutely do need from the city. In this case, one of them is water. What do they have to offer in return? Clearly, the easiest thing for them to do is write a check. If they do, they can then sleep well at night knowing that they paid a “fair” rate for the one service they wanted. It’s a small price for them to pay to escape the call of duty or “self interest well understood”. Particularly this is the view that most of them are likely to take if the payments are actually forced on them by the city.

Cincinnati more so that most regions seems to have a serious city-suburb divide. I would encourage Cincinnati to view any Water Works transaction not just as financial engineering, but as an opportunity to engage in a regional dialog and figure out how to use this transaction to help bridge the divide and bring people together. It could be an opportunity to help have a broader discussion about advancing the entire region and creating a more complete regional commonwealth. For example, perhaps instead of profits from the Water Works, it would become a regional non-profit, with the city sharing control, but the suburbs would agree to help fund other regional assets or needs that are currently the sole or disproportionate responsibility of Cincinnati or Hamilton County.

If the city lets its suburbs off the hook for mere money, it way well live to rue the day. Believing that they “gave at the office”, they suburbs may feel more than justified even further turning their back on the fortunes of the city at the heart of the region in favor only personal growth and prosperity.

It is certainly in the best interests of the region as a whole that Cincinnati remain vital and fiscally solid. But it also of importance to have a region that realizes the real battle is with other cities and regions around the world, not within its own backyard. In an ever more complex, competitive world, every part of a region, city and suburb, needs to bring its “A” game. To do that, people in a region need to be thinking and acting like they are all on the same overall team.

Water Works Proposal Executive Summary
Imperial Columbus and the Principles of Regional Finance

Remember: Vote No on 9

Remember, Cincinnatians should Vote No on 9 on Tuesday. Here’s one more funny video on the subject. (Click here if the video does not display for you).

[ Update: Issue 9, which would have required a public vote prior to any and every expenditure on any rail transportation project, failed. Thank you everyone who voted No on 9 ]

More Cincinnati

The Great Streetcar Debate
Cincinnati: A Midwest Conundrum
Agenda 360

Topics: Public Policy, Regionalism, Strategic Planning, Transportation
Cities: Cincinnati

10 Responses to “Cincinnati: Water Works and the Commonwealth”

  1. Whether or not the conversion and rate increase is a good thing is one I will leave to the residents of Cincinnati to decide. It is like any other tax or fee increase. It depends on community values and the bets the community wants to take about the future. I am not taking any position on the ballot issue regarding this matter.

    The purpose of the ballot (Issue 8) is to give Cincinnatians a voice on the matter. Presently, the City Manager, Mayor & Council can decide the issue without voter input.

    You can say, and many have, that voters are too stupid to make this call; that’s why we elect representatives. The problem is our reps are more concerned with saving their own political skins than looking out for the long-term best interest of the city.

    There’s every indication they will make this decision, not based on the lofty criteria you describe, but to cover their current budget hole. Every city service has a constituency; and every cut will alienate some group. Selling the water works allows them to avoid tough choices in this depression by making money seemingly appear out of thin air. And that’s a lousy reason to do it.

    Once it’s gone, it’s gone for good. Politicians hold office for 2 or 4 years, perhaps 2 or 3 terms, and they’re off to another one. This is a permanent decision, and it deserves to be made by the permanent stakeholders. Citizens will be stuck with the bills and the results forever. It’s only proper that voters should make the final call.

    Issue 8 is a City charter amendment that requires voter approval before water works assets can be transferred. Voting YES ON ISSUE 8 will allow citizens’ voices to be heard. Vote YES ON ISSUE 8.

  2. david vartanoff says:

    You wrote “Clearly, the suburbs have a vested interest in a healthy core city. When the central city implodes… the entire region suffers.” Wish it were so. The growth of the Edge Cities, most of which are deliberately further out was precisely secession from and abandonment of the urban cores in favor of auto access only areas. It is these areas which have pigged most of the infrastructure funds over the last several decades leaving the central cities to rot without adequate money to maintain services. The throw away society applied to people and places.

  3. Interested Conservative says:

    A few comments about the observation comparing Cincinnati with Indianapolis and Columbus. First, they are state capitols as well as cities of regional importance. Columbus, particularly, owes much of its growth to this – historically it had negligible manufacturing, transport or trade significance within Ohio.

    Second, in addition to the water works, Cincinnati has some other curious assets. It built and owns a railroad, for example, so has a longstanding dividend stream from an otherwise typical private sector function. There has been discussion of “privatizing” or selling it as well, though it is less obviously immediate to the existing citizenry.

    Finally, unlike many of the other depopulating cities of the midwest, Cincinnati is largely losing population to its own suburbs/exurbs. The net population of the tri-state region hasn’t dramatically shifted. This differs from the smaller cases (i.e. a huge chunk of Youngstown [25%, 50%, ?] basically moved to Columbus, as well as Detroit (moved to Texas, Florida, El Paso/Juarez?).

    Cincinnati is much more akin to Milwaukee or St. Louis – there’s still a very viable economy there, it’s just shifting around the economic incentives rather than dealing with more permanent serious dislocations.

    Interesting analysis, all told.

  4. John says:

    “Also, by law, it cannot build facilities outside the city of Cincinnati that are not for the benefit of people in the city. The city believes this constrains its operations and ability to grow, however, also notes that water consumption is declining due to declines in industrial usage, so it doesn’t sound like expansion is necessary in any case.”

    I’m not sure the current limited ability to grow is actually a bad thing. If the water company grows, that means it is probably serving suburban/exurban areas far from the central city, thus undercutting the city’s ability to attract new redevelopment in the core instead of greenfield development on the edges. Restricting water access would seem to be a good way to require smarter growth.

  5. John says:

    John. I see your point regarding “smarter growth” though I would be cautious of creating a worsening urban v. suburban divide based on restricting water. Better land usage restrictions from the state level seems a better option to encourage less sprawl in SW Ohio. Having the central city sell and control resources seems like one way to maintain dominance of a region, without creating the “Springfield” vs. “NEW Springfield” senario (Simpson’s reference.)

  6. Thanks for the comments, everyone.

  7. west town ed says:

    Just a brief note: check a map, Indianapolis has no suburbs, the city and the county are the same. Now imagine if Chicago and Cook County (or Cleveland/Cuyahoga county) were the same.

  8. Ed, I have no idea what you are talking about. Indianapolis does have a consolidated city-county government, but it has many suburbs. Related to the water utility, I suggest you look at the map here.

    As you can see, the bulk of the suburbs get their water from IWC.

  9. Josh Ellis says:

    Chicago may be a notable exception to this. The City of Chicago’s Dept. of Water treats and pumps drinking water directly to 48 suburban communities (which in turn pump the same water to an additional 77). All told, actual water consumption is pretty evenly split between the suburbs and the city (a 48/52 split in 2005).

    By state law, Chicago is required to charge those 48 communities the same per gallon rate as its own residents (those 48 then have more discretion in what they charge the next town down the pipe).

    Under current conditions, Chicago would not be able to transfer wealth from suburbs to city (as you speculate might be the case with Cincinnati, which I am not disputing), nor to use water rates to influence development patterns or concentrate growth in the urban core. In fact, though it costs more money (and uses more energy, and results in greater infrastructure costs) to pump water to even immediately neighboring suburbs than to homes in Chicago, the only way the City of Chicago can generate revenue to account for those suburban costs is to raise the water rates for everyone, including city residents… which is what is does. Every Chicago resident is footing some portion of the bill for suburban water use.

    Last week a few rumors circulated that Chicago might be looking to privatize its water system. That is a rich topic of discussion in itself, but one for a later day. The germane issue here is that in Illinois, private utilities are required to charge the full cost of water service… so in theory any private firm would have to increase the per gallon at which it sold water to the suburbs… in which case the Chicago region might move into the same discussion as Cincinnati. HOWEVER, I don’t know if that full cost pricing law would trump the same rate for city and suburb law, or vice versa.

    Food for thought.

  10. Josh, thanks for the great info on Chicago. It will be interesting to watch if Daley privatizes water. If rates say double, but everyone still pays the same, is that legal? Assuming it is, Daley is still getting the benefit of suburban profits. Might be an interesting source of contention if so. Something to watch for sure.

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