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A little more than a year ago, officials at all levels–federal, state and municipal–were carving up the spoils of a robust economy in the form of budget surpluses. No more. Now they are picking the bones. California has a budget deficit approaching $25 billion, a quarter of its revenue. New York State is coming up at least $9 billion short. Forty-three of the states are bleeding red ink. Combined, state budget deficits are approaching $50 billion. States and municipalities have been financially waylaid by recession and terror.

Governments are confronting never-anticipated and extraordinary costs. How many governors or mayors, for example, thought they would need to budget for biohazard screening equipment? Fiscal struggles are beginning to manifest themselves in potential credit problems as well. Moody’s Investor Service recently issued negative economic outlooks for nine states, joining four others downgraded earlier last year. A Moody’s executive noted that states “need to take corrective actions to bring the spending side and revenue side back into line.”

How will cities pay for new security and rebuild infrastructure in a time of declining revenue? Where will they turn? Washington? The feds have their own fiscal problems as they fund a war and seek to rouse the economy through a pump-priming exercise. New taxes? That alternative is an option only if they do not mind toppling a weak recovery back into recession. More debt? The revenue must be there to service it. Spending cuts? Certainly the most fiscally prudent, but let’s be real. Even during a war, are officials willing to risk the wrath of key constituencies by cutting services?

To deliver services, raise revenue and cut expenses without resorting to taxes and public debt, governments must engage the private sector through public-private partnerships (PPPs). New York did so in the immediate aftermath of Sept. 11. The state and city economic development agencies partnered with the real estate community and civic organizations to relocate displaced firms. With mass-transit access to lower Manhattan severely compromised, privately run ferries stepped into the breach.

Public-private partnerships allow the public sector to benefit from commercial entrepreneurship, innovation and efficiencies, obtained through the integration of private-sector investors who deliver their own capital and experience. So, in the spirit of moving our cities forward in tough times, we should consider the following options:

Empower federal, state and municipal agencies to engage in PPPs. The federal government is among the world’s largest property owners. The General Services Administration has identified a multi-year need of more than $4 billion over and above what has been appropriated for maintenance within the 330-million-sf public building service portfolio. There are some 30 other federal agencies that control approximately 3.3 billion sf of space. The proposed Federal Property Asset Management Reform Act of 2002 provides agencies the freedom, and more importantly the incentive, to manage their portfolios by allowing them to enter into partnerships with private entities to lease federal property and to develop or renovate the property for use by executive agencies. This reform should be enacted.

Mine the balance sheets and sell unneeded property. Governments at all levels control more than $4.5 trillion in property. Much of this is underutilized and presents revenue-generating opportunities–not just from the disposition proceeds but also from tax revenue as the property is placed on the tax rolls and put into higher and better economic use.

Outsource the management of retained property. Most large corporations have shed the burden of managing their real estate by contracting out their real estate operations. They typically realize savings of 15% to 30%. Government should emulate this management technique. Rationalize tax treatment of debt for public-purpose projects. Generally, the private financing of public projects cannot compete with public capital that is tax-exempt. A privately-owned facility that serves the public and is regulated by the government–for instance, a water system–must pay federal corporate income taxes and in most cases it can finance its operations only with taxable debt. The identical facility serving the same purpose, if owned by a government agency, pays no taxes and can borrow at tax-exempt rates. The net effect of these policies is that public-purpose facilities are usually built with public funds, even though private capital may be available. Making tax-exempt bonds available to developers of any public-purpose infrastructure, regardless of ownership, would significantly preserve public capital for use on security or other core functions where capital is less likely to be available.

Grant relief from federal-grant restrictions. Many communities are sitting on untapped equity in the form of public assets. However, if the facility received federal grants, the un-depreciated portion of the grants must be repaid prior to any sale. This is usually a deal-killer. Grant repayments should be waived if the community demonstrates that the asset will continue to be used for its originally authorized public purpose and that the private purchaser agrees to comply with the original grant restrictions.

Governments are measured not on what they own but on whether they deliver. To deliver quality infrastructure faster and cheaper, to preserve government capital, and to raise non-tax revenue, public officials must turn to the private sector.

John E. Buttarazzi is a senior managing director and global head of Grubb & Ellis Co.’s public/private advisory group.

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