Annual Privatization Report 2009

Annual Privatization Report

E d i t e d by L e o n a r d C. Gi l roy Reason Foundation 2009 Reason Foundation

Reason Foundation’s mission is to advance a free society by developing, applying and promoting libertarian principles, including individual liberty, free markets and the rule of law. We use journalism and public policy research to influence the frameworks and actions of policymakers, journalists and opinion leaders.

Reason Foundation’s nonpartisan public policy research promotes choice, competition and a dynamic market economy as the foundation for human dignity and progress. Reason produces rigorous, peer-reviewed research and directly engages the policy process, seeking strategies that emphasize cooperation, flexibility, local knowledge and results. Through practical and innovative approaches to complex problems, Reason seeks to change the way people think about issues and promote policies that allow and encourage individuals and voluntary institutions to flourish.

Reason Foundation is a tax-exempt research and education organization as defined under IRS code 501(c)(3). Reason Foundation is supported by voluntary contributions from individuals, foundations and corporations. The views expressed in these essays are those of the individual author, not necessarily those of Reason Foundation or its trustees.

Editor • Leonard C. Gilroy

Principal Authors • Leonard C. Gilroy • Robert W. Poole, Jr. • Anthony Randazzo • Lisa Snell • Samuel R. Staley • Adam B. Summers • Steven Titch • Ben Tonkin • Shirley Ybarra • Carson Young

Contributing Authors • Clint Bolick is the director of the Goldwater Institute Scharf-Norton Center for Constitutional Government and a research fellow at the Hoover Institution. • Jonathan Williams is the director of the Tax and Fiscal Policy Task Force for the American Legislative Exchange Council. Annual Privatization Report 2009

Letter from the Editor By Leonard C. Gilroy

elcome to Reason Foundation’s Annual Privatization Report 2009. Now in its 23nd year Wof publication, APR is the world’s longest running and most comprehensive report on privatization news, developments and trends. What a difference a year can make. In 2009, the national economic recession has swung the pendulum strongly toward federal intervention in the economy and there are many indications this interference is making the economy worse, not better. At the very same time, however, interest in privatization is sky-high and far reaching, with many state and local governments facing severe and prolonged fiscal crises. Even privatization-resistant states like California, New York, Massachusetts and New Jersey are now turning to the private sector to help solve major fiscal and capital investment challenges. APR 2009 details the latest on privatization and government reform initiatives at all levels of government. The “Federal Government” section forecasts a bleak outlook for competitive sourcing under the Obama administration and a hostile Democratic Congress. It also provides an update on NASA’s planned partial privatization of the manned space program, as well as the latest on military housing and lodging privatization initiatives. In the “State Government” section, we profile the increasingly dire fiscal conditions in the states and offer a comprehensive review of the latest state privatization actions. In addition to numerous discrete privatization initiatives in the states, policymakers’ interest in state privatization and government efficiency boards is demonstrably on the rise and advisory commissions on privately financed infrastructure have been established in California and other states. Similarly, the “Local Government” section reviews the proliferation of privatization activity in cities and counties nationwide. We profile Chicago’s groundbreaking—but troubled—$1.15 billion parking meter system lease, which has Los Angeles, Pittsburgh and other cities contemplating similar initiatives to generate municipal revenues in the economic downturn. We also review Georgia’s fifth new contract city, Dunwoody, along with a number of privatization initiatives proposed or announced in Los Angeles, Indianapolis and numerous other cities. This year’s APR also provides a comprehensive overview of domestic and international developments in air and surface transportation, including a wide-ranging overview of the current state of the infrastructure finance market, a review of the latest in highway and airport privatization and a review of the latest in air traffic control reform and aviation security. APR’s “Education and Child Welfare” section offers a comprehensive update on school choice, with the latest on the weighted student formula, charter schools, school voucher and tax credit programs and non-instructional school services outsourcing. This section also details several child welfare privatization proposals announced in various states in 2009. APR’s “Emerging Issues” section examines four issues attracting significant attention in policy circles. First, we offer a summary of the federal bailouts and stimulus spending to date, which currently totals a staggering $12.9 trillion spent since early 2008. We also review efforts that expand and modernize port infrastructure through public-private partnerships. Another article asks the question, “Are roads still public goods?” Last, we review efforts to improve government efficiency and asset management through the use of real property inventories. APR 2009 also covers the ever-changing world of telecommunications policy, with updates on IT outsourcing, the broadband stimulus and network neutrality. This APR also reviews the latest developments in the fields of private corrections and mental health services. We review Arizona’s groundbreaking prison lease proposals, a new Vanderbilt University study finding that private prisons reduce state corrections costs, the looming battle to protect private prison operators’ proprietary rights and numerous other privatization developments in domestic and international corrections. We also profile the emerging issue of state mental health services privatization, with case studies from Florida and Virginia. The “Water and Wastewater” section surveys the latest on the water and wastewater privatization market and ongoing efforts at the federal level to close the infrastructure funding gap. We also review the proposed water system lease in Milwaukee, now on hold. Lastly, we offer an update on land use and property rights, with feature stories on the resiliency of Houston’s housing market in the current economic recession and a review of property rights in Arizona after the 2006 passage of Proposition 207, a combined eminent domain/regulatory takings reform measure. We also provide the latest on the property rights front, reviewing recent developments in eminent domain reform. Your comments on the Annual Privatization Report 2009 are important to us. Please feel free to contact us with questions, suggestions or for more information. For more privatization news, check out Privatization Watch (www.reason.org/publications/privatizationwatch), now in its 33rd year of publication. For the most up-to-date information on the rapidly changing privatization world, please visit Reason’s Privatization Center (www.reason.org/areas/topic/privatization) and our weblog, Out of Control (www.reason.org/blog).

Leonard C. Gilroy, Editor Director of Government Reform, Reason Foundation [email protected] Annual Privatization Report 2009

Annual Privatization Report

Federal Update...... 1 A. Outlook Bleak for Competitive Sourcing Under Obama Administration, Democratic Congress...... 1 B. Program Assessment Rating Tool (PART) Update...... 3 C. Federal Bill Would Encourage Competition for Commercial Government Services...... 4 D. NASA’s Partial Privatization of the Space Program...... 6 E. Military Housing Privatization...... 7 State Government...... 9 A. State Privatization Update...... 9 B. State Budget Outlook...... 31 C. State Budget Crises in Perspective: Illness or Fiscal Hangover?...... 33 D. Rich States, Poor States: The 2009 ALEC-Laffer State Economic Competitiveness Index....38 Local Government...... 41 A. Chicago Nets $1.15 Billion in Parking Meter Privatization, L.A. and Others to Follow...... 41 B. Dunwoody Becomes Georgia’s Fifth New Contract City...... 47 C. L.A. City Controller Recommends Sweeping Privatization Program...... 49 D. Indianapolis Returning to Privatization Roots...... 50 E. Milwaukee County Board Nixes Privatization Push...... 50 F. Kansas City, King County Embrace Privatization of Animal Shelters...... 51 G. Other Local Privatization News...... 51 Surface Transportation...... 54 A. Infrastructure Finance 2009...... 54 B. Long-Term Concessions: the Controversy Continues...... 58 C. New PPP Toll Roads...... 61 D. Leasing Existing Toll Roads...... 66 E. HOT/Managed Lanes Under Way...... 67 F. Overseas Concession Projects...... 68 G. China Rising: Implications for Private Capital...... 74 Air Transportation...... 76 A. Airport Privatization...... 76 B. Airport Security...... 82 C. Air Traffic Control...... 85 Education and Child Welfare...... 87 I. Child Welfare Privatization Proposals for 2009...... 87 A. School Voucher and Tax Credit Programs Expand in 2009...... 87 B. 2009 Voucher and Tax Credit Student Outcome Data...... 88 C. Democrats Cancel D.C. Opportunity Scholarship Program ...... 90 D. Charter Schools Enjoy Increasing Market Share...... 90 E. 2009 Charter School Achievement Data...... 91 F. Philadelphia School Privatization Produces Student Gains...... 92 G. School Districts Embracing Privatization to Cut Costs, Focus on Education...... 93 H. Weighted Student Formula Yearbook 2009...... 94 I. Child Welfare Privatization Proposals for 2009...... 100 Emerging Issues...... 102 A. Economics, Bailouts and Stimulus: Uncle Sam Replacing the Invisible Hand...... 102 B. Expanding and Modernizing Port Infrastructure through Public-Private Partnerships..... 104 C. Are Roads Still Public Goods? How Technology is Changing the Character of Transportation Infrastructure...... 106 D. The Value of Real Property Inventories...... 110 Telecommunications...... 114 A. Broadband Stimulus Update...... 114 B. IT Outsourcing Update...... 117 C. Network Neutrality Update...... 120 Corrections and Mental Health ...... 124 A. Arizona Policymakers Considering Groundbreaking Prison Privatization Program...... 124 B. New Vanderbilt Study Finds Private Prisons Reducing State Corrections Costs...... 125 C. U.S. Corrections Population Growth Slows...... 125 D. Private Prisons Battle to Retain Proprietary Rights...... 126 E. State Private Corrections Update...... 127 F. International Private Corrections...... 129 G. Mental Health Services Privatization Update...... 129 Water and Wastewater...... 132 A. Public Works Financing Issues 13th Annual Water Privatization Report...... 132 B. EPA Estimates $335 Billion in U.S. Water System Investment Needs ...... 132 C. White House, Congress Seek to Increase Water/Wastewater Funding...... 133 D. Standard & Poor’s Gives U.S. Investor-Owned Water Utilities ‘Excellent’ Rating...... 135 E. Milwaukee Puts Water Privatization Study on Hold...... 135 F. U.S. Conference of Mayors Recognizes Phoenix Water Partnership...... 136 Land Use and Property Rights...... 137 A. Private Land Development in Houston Defies Recession...... 137 B. Property Rights Update...... 140 C. Property Rights in Arizona: The Sky Hasn’t Fallen...... 143 Annual Privatization Report 2009

Federal Update

Contents

A. Outlook Bleak for Competitive Sourcing Under Obama Administration, Democratic Congress B. Program Assessment Rating Tool (PART) Update C. Federal Bill Would Encourage Competition for Commercial Government Services D. NASA’s Partial Privatization of the Space Program E. Military Housing Privatization Update

A. Outlook Bleak for Competitive At first, it sounded as though President Sourcing Under Obama Barack Obama’s approach to government Administration, Democratic Congress management would not be all that different from Bush’s. During the 2008 presidential campaign, In August 2001, then-President George then-candidate Obama said in a September 2008 W. Bush unveiled his President’s Management speech, “We will fire government managers who Agenda (PMA), which was an attempt to aren’t getting results; we will cut funding for improve the way government operates. “What programs that are wasting your money.” matters most is performance and results,” But government management may look President Bush said at the time. “In the long very different if Congress has its way. In term, there are few items more urgent than March, Obama signed the 2009 Omnibus ensuring that the federal government is well- Appropriations Act. One provision of the run and results-oriented.” The PMA focused spending law placed a moratorium on on enhancing government management and competitions between public- and private-sector program performance by: employees for performing government services n Strategically managing human capital, through the end of the fiscal year on September n Encouraging competitive sourcing 30. It also required federal agencies to establish (competition between public- and private- guidelines for insourcing work currently being sector employees to provide certain performed by private-sector contractors and government services), prohibits agencies from initiating any studies on

n Improving financial reporting and shifting work from government employees to transparency, private vendors. Then in April Sen. Barbara Mikulski n Expanding electronic government to better (D–MD) introduced S. 924, the Correction of inform and serve citizens, and Long-Standing Errors in Agencies’ Unsustainable n Integrating funding decisions and program Procurements Act of 2009 or the CLEAN-UP performance. Act. The CLEAN-UP Act would further establish

Reason Foundation • reason.org 1 Annual Privatization Report 2009

a greater preference for work performed by Congress, competitive sourcing has government employees instead of private-sector run up against a series of legislative contractors by revising Office of Management setbacks. Lawmakers passed measures and Budget Circular A-76, which prescribes to limit which agencies could hold job rules for the public/private job competitions. competitions, give federal employee This would effectively suspend the competition teams rights to protest the outcomes of process indefinitely. contests and exclude health care and The bill would also likely expand the retirement benefits from the process of definition or interpretation of “inherently comparing the costs of bids. governmental” functions and/or “functions To be sure, there is definitely a need for closely associated with inherently governmental federal contract reform. The Government functions,” leading to further insourcing. Accountability Office reported last year that Mikulski claimed the legislation would “level the the Department of Labor and the U.S. Forest playing field” for government employees. This Service had overestimated the savings and seems a strange assertion, however, given that underestimated the costs of contracting out and a government workers win the vast majority of number of military contracts have suffered from competitions under the existing rules. According a lack of competition, poor cost containment to a May 2008 OMB report, under public/ and lax oversight. Overzealous legislators should private competitions, a federal agency was be careful not to throw the baby out with the selected to perform the work 83 percent of the bathwater, however. The A-76 competition time over a five-year period (FY 2003-FY 2007). process has resulted not only in billions of The competitions that took place during this dollars in savings but also in more effective and period resulted in net annual savings of $25,000 more efficient delivery of government services. per position (full-time equivalent) competed, for Obama has acknowledged the need to a total savings of $7.2 billion. control government expenditures, as embodied In June 2009, the House Armed Services in the initiative he announced in April to cut Committee approved an amendment to the wasteful spending. In a weekly radio address National Defense Authorization Act for Fiscal in which he announced the effort, he declared Year 2010 (H.R. 2647) that would place a that the nation’s future “depends on restoring a moratorium on public/private job competitions sense of responsibility and accountability to our for the Department of Defense for the next federal budget.” Competition between public- three years or until the Obama administration and private-sector employees is an excellent reviews the entire A-76 competition process. way to improve accountability and reduce costs The amendment, offered by Rep. Jim Langevin by breaking up the government monopoly on (D–RI), would also suspend any pending service provision. Regardless of which party wins competitions until the Defense Secretary reviews the contract, the mere fact that they are forced to them and would clarify law allowing federal compete for the right to provide services leads to employee representatives to protest A-76 improved efficiency and benefits taxpayers. competitions. As of this writing, S. 924 has been referred These efforts are only the latest in a series to the Senate Committee on Homeland Security of congressional salvos against competition in and Governmental Affairs. H.R. 2647 has recent years. As a June 17, 2009, Government been approved, as amended, by the House of Executive magazine article relates, Representatives. The Senate has not yet acted on Since 2006, when Democrats it. took control of both chambers of

2 Reason Foundation • reason.org Annual Privatization Report 2009

B. Program Assessment Rating Tool Improvement Initiative (formerly the Budget and (PART) Update Performance Integration Initiative) and grew out of an earlier effort to establish a uniform method In its most recent evaluation of federal of assessing federal program performance government programs, the U.S. Office of and enhance accountability. The Government Management and Budget (OMB) reveals that Performance and Results Act of 1993 sought programs continue to show improvements to attain this by requiring federal agencies to in performance, as determined by the federal identify both annual and long-term goals and to government’s Program Assessment Rating Tool collect and report performance data. In 2002, or PART. The results are only slightly better PART expanded upon this idea in the form of than last year’s figures, but they have continued a questionnaire, to be completed by federal to improve in each of the seven years since agencies, that would seek to uncover objective the start of the PART evaluations. Since the information about program design, planning, advent of PART in 2002, the government has management and results. In February 2006, the evaluated the performance of 1,015 programs, Administration sought to increase transparency constituting 98 percent of all federal programs. and accountability further when it launched the During that time, the portion of programs ExpectMore.gov Web site. The portal tracks rated “Effective” has more than tripled from 6 over 5,000 program performance measures percent to 19 percent, “Moderately Effective” and contains summaries of PART results for programs have risen from 24 percent of the total all programs that have been evaluated to date, to 32 percent, programs deemed “Adequate” allowing public access to information about have nearly doubled from 15 percent to 29 which government programs are performing, percent, “Ineffective” programs have fallen which ones are not and what steps are being from 5 percent to 3 percent and programs taken to improve performance. President Barack whose results could not be demonstrated due Obama has vowed to significantly alter PART, to a lack of relevant information has declined although it is not yet clear exactly what changes from a whopping 50 percent to 17 percent. Of will be made. Most expect that some form of all the programs assessed by PART, 80 percent program review will remain, however. have been scored as “Performing,” while the remaining 20 percent have been categorized as 2. How PART Works “Not Performing” (see Table 1). Each PART questionnaire consists of 25 1. A Brief History of PART basic questions plus questions customized for each of the seven program types: Direct PART is an integral piece of former President Federal, Competitive Grant, Block/Formula George W. Bush’s President’s Performance Grant, Research and Development, Capital

Table 1: PART Cumulative Program Ratings by Year Completed, 2002-2008 Ratings 2002 2003 2004 2005 2006 2007 2008 Performing Effective 6% 11% 15% 15% 17% 18% 19% Moderately Effective 24% 26% 26% 29% 30% 31% 32% Adequate 15% 20% 26% 28% 28% 29% 29% Not Performing Ineffective 5% 5% 4% 4% 3% 3% 3% Results Not Demonstrated 50% 38% 29% 24% 22% 19% 17% Total Programs 234 407 607 793 977 1,011 1,015

Source: U.S. Office of Management and Budget

Reason Foundation • reason.org 3 Annual Privatization Report 2009

Assets and Service Acquisition, Credit and reasonable determination whether the program Regulatory. The questionnaire has four parts: is achieving results. Program Purpose and Design, Strategic Planning, Program Management and Program Results Tying Program Scores to Funding Decisions and Accountability (see Table 2). Responses As much as it has helped to provide are scored by OMB, made public and used transparency and place greater emphasis on to develop recommendations for program program performance, the weakness of the PART improvement and to prioritize funding in the system has always been that the evaluations and formation of the president’s budget. information this executive branch tool provides are only as useful as the legislative branch wishes Table 2: Overview of PART Questionnaire to make it, since Congress is responsible for Sections allocating the money for all the government’s Section Weight (% of Description various programs. Thus far, legislators have Total Score) shown little interest in applying the PART 1. Program 20% To assess whether the analysis to funding-allocation decisions. Purpose purpose is clear and the and Design program design makes No matter how the Obama administration sense. changes PART or replaces it entirely, it will have to 2. Strategic 10% To assess whether overcome this challenge and obtain congressional Planning the agency sets valid buy-in to linking budgetary decisions to program programmatic annual goals and long-term performance if the government is to have results- goals. oriented management and be a good steward of 3. Program 20% To rate agency taxpayer dollars. Manage- management of the ment program, including financial oversight and program improvement efforts. C. Federal Bill Would Encourage 4. Program 50% To rate program Competition for Commercial Results and performance on goals Government Services Accoun- reviewed in the strategic tability planning section While most action this year by the executive and through other evaluations. and legislative branches on government The responses to the PART questionnaires management has so far been opposed to are scored from 0 to 100 for each of the four competitive sourcing and privatization, a bill sections and an overall weighted numerical sponsored by Sen. John Thune (R–SD) and rating is calculated. The score is translated into Rep. John J. Duncan, Jr. (R–TN) would codify a qualitative rating according to the following a policy of ensuring fair competition between scale: government employees and private-sector Effective …………………………. 85–100 vendors for services deemed to be commercial in Moderately Effective …………….. 70–84 nature. Adequate …………………………. 50–69 The bill, known as the Freedom from Ineffective ………………………... 0–49 Government Competition Act of 2009 (S. 1167 In addition, programs may receive a rating in the Senate and H.R. 2682 in the House of of “Results Not Demonstrated,” regardless Representatives), would essentially prescribe a of their questionnaire score, if they do not “Yellow Pages” test for the federal government: have acceptable performance measures, have if a government service is provided by private- not collected performance data or otherwise sector businesses routinely found in the phone cannot provide enough information to make a book, government should not be in that line

4 Reason Foundation • reason.org Annual Privatization Report 2009

Management and Budget and the Comptroller Program Assessment Rating Tool (PART) Ratings General of the United States (head of the Categories Government Accountability Office) to evaluate Programs that are PERFORMING have ratings of Effective, the commercial and inherently governmental Moderately Effective or Adequate. Eighty percent of programs services carried out in each agency and to are PERFORMING. Effective. This is the highest rating a program can submit a report to Congress each year describing achieve. Programs rated Effective set ambitious goals, their findings, justifying activities deemed to achieve results, are well-managed and improve efficiency. be exempted under the Act and providing a Moderately Effective. In general, a program rated Moder- schedule for the transfer of commercial services ately Effective has set ambitious goals and is well-managed. to the private sector. Moderately Effective programs likely need to improve their The bill makes the following findings: efficiency or address other problems in the programs’ design or management in order to achieve better results. n Private sector business concerns, which Adequate. This rating describes a program that needs are free to respond to the private or public to set more ambitious goals, achieve better results, improve demands of the marketplace, constitute accountability or strengthen its management practices. the strength of the United States economic Programs categorized as NOT PERFORMING have ratings system. of Ineffective or Results Not Demonstrated. Twenty percent of assessed programs are Not Performing. n Competitive private enterprises are the most Ineffective. Programs receiving this rating are not using productive, efficient and effective sources of your tax dollars effectively. Ineffective programs have been goods and services. unable to achieve results due to a lack of clarity regarding the program’s purpose or goals, poor management or some n Unfair government competition with the other significant weakness. private sector of the economy is detrimental Results Not Demonstrated. A rating of Results Not to the United States economic system. Demonstrated indicates that a program has not been able n Unfair government competition with the to develop acceptable performance goals or collect data to determine whether it is performing. private sector of the economy is at an Source: U.S. Office of Management and Budget and ExpectMore.gov Web unacceptably high level, both in scope and in site, “Frequently Asked Questions,” http://www.whitehouse.gov/omb/ dollar volume. expectmore/faq.html (accessed June 18, 2009). n Current law and policy have failed to address adequately the problem of unfair of work. Any such services would be dealt government competition with the private with through competitive sourcing, managed sector of the economy. competition between public- and private-sector n It is in the public interest that the federal workers or divestiture of federal involvement government establish a consistent policy to (total privatization, whereby the government rely on the private sector of the economy to would stop providing the service and allow the provide goods and services necessary for or market to satisfy the demand). The legislation beneficial to the operation and management carves out exemptions from competition or of federal agencies and to avoid unfair privatization for cases in which goods or government competition with the private services are required by law to be provided sector of the economy. by government, the services performed are The Freedom from Government Competition inherently governmental, provision of a good Act is based on a principle embodied during the or service is necessary for national defense or Eisenhower administration as set forth in Bureau homeland security purposes or there is no private of the Budget Bulletin 55-4 in 1955: source capable of providing the good or service. In the process of governing, the It, further, requires the director of the Office of Government should not compete with

Reason Foundation • reason.org 5 Annual Privatization Report 2009

its citizens. The competitive enterprise D. NASA’s Partial Privatization of the system, characterized by individual Space Program freedom and initiative, is the primary Once it was thought that one area of source of national economic strength. government that the private sector could In recognition of this principle, it has never manage was space exploration and been and continues to be the general transportation, but that attitude has changed, policy of the Government to rely on particularly over the past decade or so. In commercial sources to supply the recent years, the National Aeronautics and products and services the Government Space Administration (NASA) has offered cash needs. . . . The Government shall not prizes to private-sector developers of space start or carry on any activity to provide and aeronautic equipment innovations and a commercial product or service if the improvements and now it is seeking the help of product or service can be procured more the private sector to design and build its rockets economically from a commercial source. and spacecraft. Despite this policy, a significant portion In May 2009, NASA’s acting administrator, of commercial services are still being provided Chris Scolese, announced to a congressional by federal employees. The Federal Activities subcommittee that the agency is planning to Inventory Reform (FAIR) Act of 1998 requires offer $150 million in stimulus-package funds to the government to take an annual inventory private companies to design, build and maintain of which services it provides are “inherently their own rockets and crew capsules. These governmental” (and thus should only be spacecraft would be used to transport astronauts provided by the government) and which are while NASA finishes its own shuttle replacement commercial in nature. According to the U.S. fleet. In addition, the White House has ordered a Office of Personnel Management, there are 1.6 top-to-bottom review of the entire manned space million executive branch, non-postal, full-time, program. The review is to be overseen by former permanent employees in the U.S. government. Lockheed Martin chief executive officer Norman Of these, 850,000 positions are used to provide Augustine, who is considered sympathetic to commercial services, yet less than 10 percent of private space ventures. these positions have been evaluated to determine Commercial space programs have flourished whether a competitive process for performing in recent years. Engineer Burt Rutan’s Scaled those services is warranted. Proponents of Composites, LLC, won the $10 million Ansari the Freedom from Government Competition X Prize in October 2004, when the company’s Act estimate that reviewing these services and SpaceShipOne craft became the first privately opening them to competition, where appropriate, built machine to reach space. The following year, would lead to cost savings of $20 billion to $28 NASA Administrator Michael Griffin announced billion a year. that the agency was considering buying crew As of this writing, S. 1167 had been referred and cargo transportation services to and from to the Senate Committee on Homeland Security the International Space Station from private and Governmental Affairs and H.R. 2682 companies. “We believe that when we engage had been referred to the House Committee the engine of competition, these services will be on Oversight and Government Reform, provided in a more cost-effective fashion than Subcommittee on Government Management, when the government has to do it,” Griffin said. Organization and Procurement. Private space companies like Space Exploration Technologies Corporation or SpaceX and Orbital Sciences Corporation have

6 Reason Foundation • reason.org Annual Privatization Report 2009

made great strides in developing rockets and of returning humans to the moon and launching satellites and space probes. SpaceX beyond. Privatization of the fleet avoids won a $278 million government contract in the costly and embarrassing space gap, 2006 as part of NASA’s Commercial Orbital saves critical space jobs and insures Transportation Services projects. In 2007, the operation of the space station. Orbital Sciences took over a contract worth Privatization provides avenues to regain $170 million for its Taurus 2 launcher and a share in the commercial launch market, Cygnus capsule combination after underfunded crew escape pods and the foundation venture Rocketplane Kistler failed to deliver on for a 21st century reusable space based its financial objectives. transportation system. William Watson, executive director of the The government is increasingly coming to Space Frontier Foundation, which promotes the conclusion that a successful space program commercial space activities, welcomes private- will depend on a partnership with private-sector sector involvement in and competition for, space ventures. Utilizing these resources will help transportation services. “Let’s have an American contain costs, leverage taxpayer dollars, take competition in space—to create good jobs, fuel advantage of the innovation and expertise of innovation and close the [launch] gap more those employed by private firms and free up quickly,” Watson said in a May 2009 FoxNews. NASA to focus on its core mission. com article. “With private funds matching government investment, we can dramatically leverage taxpayer dollars to produce E. Military Housing Privatization breakthroughs in a new American industry— The U.S. military’s housing privatization commercial orbital human spaceflight.” efforts have enjoyed great success over the years Aerospace consultant and retired NASA and they continue to be expanded. In testimony aerospace engineer Don A. Nelson similarly sees before the Senate Armed Services Committee’s privatization as a way to stem rapidly rising Subcommittee on Readiness and Management costs, address the anticipated launch gap (the Support in June 2009, Wayne Arny, Deputy government has begun decommissioning the Under Secretary of Defense for Installations and space shuttle fleet and NASA’s problems with Environment, proclaimed that privatization and developing shuttle replacement vehicles will other initiatives have dramatically improved likely delay future launches to the space station military housing over the past decade. until at least 2016) and allow NASA to refocus “A decade ago, we were maintaining over on its core mission. As Nelson wrote on the 300,000 family housing units, two-thirds of Nasaproblems.com blog earlier this year: which were deemed inadequate by the military NASA is struggling with developing departments who owned them,” Arny said. “The the Orion [space shuttle replacement] private sector responded by delivering modern, vehicles . . . one for space station crew affordable housing.” rotation and another for the lunar His written remarks submitted to the mission. It is the Orion space station committee detailed how privatization has helped crew rotation vehicle problems that is improve military housing: “Privatization allows causing the launch gap. Privatization of for rapid demolition, replacement or renovation the shuttle fleet solves these problems of inadequate units and the sale of units no and allows NASA the time, resources and longer needed. Privatization also enables [the budget to restructure the Constellation Defense Department] to make use of a variety of Program (CxP) for their primary goal private-sector approaches to build and renovate

Reason Foundation • reason.org 7 Annual Privatization Report 2009

Lend Lease will take over responsibility for correcting commercial code noncompliance issues and renovating the mechanical, electrical and plumbing systems in the 3,200 rooms at the 10 installations. Lodging operations will be handled by InterContinental Hotels Group (IHG). The Actus/IHG team will convert five hotels comprising 933 rooms to Holiday Inn Express facilities over the next two years at no cost to the Army. Enhanced guest services and facilities at the converted hotels will include complimentary breakfasts, free high-speed Internet access, fitness and business centers, courtesy shuttle vehicles, free guest laundry service, pet-friendly rooms and 24-hour honor- military housing faster and at a lower cost to system convenience stores. Moreover, more than American taxpayers.” 80 percent of the current 600-plus Army lodging The cost savings realized through the employees who have applied for positions with military housing privatization program have IHG will receive offers of employment. been significant. The program has allowed the The military embraced housing privatization services to leverage housing dollars by 10 to 1, in recognition of the facts that managing real with $2.5 billion in federal funds generating estate and being a landlord were not among its $25 billion in housing development at privatized core competencies (in fact, it was doing a rather installations. In addition, contracts require the poor job at this, as the Defense Department private-sector partners to cover maintenance readily admits) and that it could offer its and replacement for 50 years, allowing the members better facilities and services through government to avoid those expenses altogether. smart partnerships with private-sector vendors. The success of the military housing Just as the Army realized several years ago that privatization program prompted the Army to providing housing was not a core competency examine other potential areas for privatization and, thus, should be outsourced to competent and in June 2009 it announced a new initiative private-sector providers, it has now come to the to privatize on-post lodging. Through the same conclusion regarding hotel operations. Residential Communities Initiative, the Army At the end of the day, privatization benefits is moving to privatize on-post lodging for such as cost savings, life-cycle efficiencies and soldiers in a temporary-duty or permanent- the like—which are enormous—nevertheless change-of-station status who need lodging pale in comparison to the improvements in the aboard Army installations. Beginning August quality of life for military service members and 15, 2009, 10 installations will be participating their families, which was the original point of in the Army lodging privatization program: the housing privatization initiative. As Arny Fort Rucker, Alabama; Fort Leavenworth, explained to the Senate subcommittee, “Access Kansas; Fort Riley, Kansas; Fort Polk, Louisiana; to quality, affordable housing is a key factor Fort Sill, Oklahoma; Fort Hood, Texas; Fort affecting service member recruitment, retention, Sam Houston, Texas; Yuma Proving Ground, morale and readiness. Through privatization and Arizona; Fort Myer, Virginia; and Fort Shafter/ increases in housing allowances, [the Defense Tripler Army Medical Center, Hawaii. Department] has made great strides in increasing According to the privatization plan, Actus service members’ housing choices.”

8 Reason Foundation • reason.org Annual Privatization Report 2009

State Government

Contents A. State Privatization Update B. State Budget Outlook C. State Budget Crises in Perspective: Illness or Fiscal Hangover? D. Rich States, Poor States: The 2009 ALEC-Laffer State Economic Competitiveness Index

A. State Privatization Update versions of this concept—has demonstrated that having a standardized method for procuring Since the summer of 2008, state fiscal and managing contracts will result in more conditions have deteriorated significantly accountability, transparency and competition. with the onset of the national recession and Further, having a dedicated unit manage the policymakers in nearly every state have been process on an enterprise-wide scale ensures that forced to reckon with mounting budget deficits the benefits of lessons learned and best practices that necessitate doing more with fewer taxpayer are shared among agencies. Altogether, a sound dollars. Deepening fiscal woes are prompting privatization policy framework is essential to increased interest in privatization among state maximizing cost savings and value for money in policymakers. The following sections describe a the delivery of state services. wide range of current privatization initiatives in Florida’s Council on Efficient Government, the states. for example, was developed during former 1. Interest in State Privatization and Governor Jeb Bush’s tenure and was a key Government Efficiency Boards on the Rise component of a strategy that ultimately helped The magnitude of state fiscal pressures his administration realize over $550 million in is prompting policymakers in a number of cost savings through privatization and managed states to look beyond individual privatization competition initiatives. (For more, see “Florida’s initiatives toward more comprehensive and Council on Efficient Government Report Finds systematic approaches to privatization program Privatization on the Rise—But Obstacles development. Remain” later in this section.) Virginia’s A central lesson learned from global Commonwealth Competition Council has put experience in privatization is that it works forth privatization recommendations that are best when governments develop a centralized, estimated to be saving state taxpayers at least independent decision-making body to manage $40 million per year. And as reported in Reason privatization and government efficiency Foundation’s Annual Privatization Report 2008, initiatives—a state “center of excellence” in Utah passed legislation in the spring of 2008 procurement. Experience from Florida, Virginia to strengthen that state’s Privatization Policy and Utah—which have each implemented Board and give it more tools to advance sound

Reason Foundation • reason.org 9 Annual Privatization Report 2009

privatization policy. and guidelines for agencies to use in order to Over the last year, other states have taken review and evaluate government activities, notice and interest in the privatization center-of- functions, programs and services to excellence concept has risen significantly. eliminate, streamline, consolidate, privatize In a proactive effort to address a looming or outsource them. fiscal crisis set to hit in fiscal year 2012 with The joint House and Senate governmental the expiration of temporary federal stimulus affairs committees will review the proposals funds, Louisiana Governor Bobby Jindal signed by February 1, 2010 and any restructuring an executive order in April 2009 establishing a proposals would be presented in the 2010 new Commission on Streamlining Government regular legislative session. According to a (CSG) to find ways to reduce the cost of state June 2009 press release from Jindal’s office government through downsizing, streamlining highlighting legislative action on his reform and privatization. The state legislature priorities, the CSG “is charged with making subsequently codified the CSG into law in real reforms to reduce the size of government— Senate Bill 261, sponsored by state Senators Jack anything from eliminating duplicative services to Donahue and Francis Thompson, which was combining entire state agencies is on the table.” approved unanimously in both legislative houses In addition to the CSG, Jindal signed in June 2009. House Bill 794, establishing a nine-member By December 2009, the new CSG will Postsecondary Education Review Commission prepare a report outlining: to review and improve the efficiency of the n Recommendations to eliminate, streamline, state’s higher education system. The commission consolidate, privatize or outsource will submit recommendations to the Board of constitutional and statutory agency Regents 45 days prior to the 2010 legislative activities, functions, programs and services session. The new commission “will ensure in order to reduce costs, improve efficiency our higher education spending is efficient, by or effectiveness and maintain or improve recommending ways to streamline functions service levels. and better invest in priority areas,” according

n Recommendations to ensure that agency to Jindal. “We will be working closely with activities, functions, programs and services this commission, as well as the Commission are not duplicative and are necessary, on Streamlining Government, in the months meeting or exceeding performance standards ahead as we work to reduce state government and meeting the needs of Louisiana citizens. spending by eliminating waste and duplication in services.” n Recommendations for the elimination, In Arizona, the boldest privatization board consolidation, privatization or outsourcing proposal to surface in any state during the of an agency to provide a more cost-efficient 2009 legislative session came within two votes or more effective manner of providing an of passing both chambers. Senate Bill 1466, activity, function, program or service. which would have established perhaps the most n Recommendations providing for the use comprehensive and strongest privatization of alternate resources to the operation of and government-efficiency board in the agencies, activities, functions, programs nation, was narrowly defeated in the House of and services to provide them in a more Representatives amid a chaotic and politically cost-effective manner without affecting the charged flurry of legislative activity on the last quality or availability of needed services. day of the 2009 fiscal year in an attempt to pass n Recommendations for standards, processes a 2010 budget to avert a partial government

10 Reason Foundation • reason.org Annual Privatization Report 2009

shutdown. n Review and take action on complaints The bill, sponsored by Senate Majority regarding inappropriate government Whip Pamela Gorman, would have created a competition with the private sector. new Council on Efficient Government (CEG), a At its core, Arizona’s CEG would facilitate state procurement center of excellence modeled the regular, wholesale review of state government largely on Florida’s highly successful Council on activities with an eye toward right-sizing Efficient Government and the recently revamped government through privatization. But at Utah Privatization Policy Board. Under the bill, the same time, it recognizes that successful the CEG would: privatization requires a high standard of due n Review whether goods or services provided diligence in contracting. Hence the CEG would by state agencies could be privatized to be responsible for establishing a standardized provide the same (or higher) level of service method for procuring and managing contracts in delivery while delivering cost savings or order to maximize accountability, transparency better value for money. and competition and deliver the best value for

n Develop a standardized, enterprise-wide taxpayers. process for identifying and implementing Notably, the Arizona Chamber of Commerce competitive sourcing. and Industry made SB 1466 one of its legislative priorities in the 2009 session. In a January 2009 n Develop rules instituting performance-based editorial, the Chamber explained why: contracting as default requirements for state “With a $1.6 billion deficit for procurements. fiscal year 2009 and a $2.2 to $3 n Require state agencies to develop a business billion deficit for fiscal year 2010, the case justifying any proposed outsourcing legislature will have to carefully evaluate initiative—covering everything from cost- which government programs should be benefit analysis to employee transition scaled back, eliminated or privatized. . plans—prior to deciding whether to . . Identifying areas where the private outsource. sector can perform government n Disseminate lessons learned and best functions more efficiently and at a practices in competitive sourcing across state lower cost can be an important part government. of the budget solution. Additionally,

n Conduct an annual or biannual inventory minimizing government competition of all functions and activities performed by with businesses will aid in retaining state government, distinguishing between private sector jobs.” inherently government and commercial Illinois saw a similar bill introduced in the activities. 2009 legislative session. State Representative Mike Connelly introduced House Bill 4161 n Require the governor’s office, at least every (Illinois Efficient Government Act), which would two fiscal years, to subject three commercial create a Council on Efficient Government in activities undertaken by state agencies to that state largely modeled after the Arizona bill. strategic review; But the Illinois bill failed to receive a hearing in n Create a uniform cost-accounting model committee. to facilitate “apples-to-apples” cost For the second year in a row, the Oklahoma comparisons between public- and private- House and Senate voted to establish a new, sector service provision (critical to ensure a 10-member House-Senate committee and a level public-private playing field). Legislative Service Bureau office to centralize

Reason Foundation • reason.org 11 Annual Privatization Report 2009

the development of state privatization and 2. Infrastructure PPP Advisory Commissions efficiency initiatives. Senate President Pro Tem Created in California, New York, Michigan Glenn Coffee was the primary sponsor of the Just as states are looking beyond Accountability, Innovation and Privatization individual privatization initiatives toward more Act of 2009 (Senate Bill 646), which would comprehensive and systematic approaches to the establish a new legislative Joint Committee on privatization of general government services and Accountability, Innovation and Privatization activities, a parallel policy push is developing in to conduct regular agency performance audits, the infrastructure field. study the feasibility of privatizing state assets The growing demand for infrastructure and services, review tax-incentive programs, investment and widespread revenue shortfalls investigate and eliminate waste and corruption have prompted a number of states to pursue in state government and ensure the efficient public-private partnerships (PPPs) in recent and effective use of taxpayer dollars. The new years to tap private-sector capital and expertise committee would also take over responsibility in the delivery of public infrastructure. In most for designing and implementing a performance- states, PPP initiatives tend to be piecemeal based budgeting program for the state. and are easily politicized, given the lack of SB 646 would also create the Office of an overarching institutional framework to Accountability, Innovation and Privatization incubate projects, facilitate their execution and within the Legislative Service Bureau, which provide transparency, accountability and critical would coordinate the development of the agency oversight. performance audits with the state auditor and A number of jurisdictions around the inspector. Coffee said the program will lead to world have learned this lesson and created cost savings and efficiencies in state government organizations like Partnerships UK (United and will root out corruption. Kingdom), Partnerships BC (Canada), At press time, the bill had been assigned Partnerships Victoria (Australia), PPP Québec to a conference committee to try to resolve (Canada) and Infrastructure Ontario (Canada) differences in the language passed in each to serve as government’s central procurement legislative chamber. Governor Brad Henry vetoed body for PPP project development and a similar bill in the 2008 session, but he has not implementation. These PPP centers of excellence taken a position on SB 646. fulfill a number of valuable functions, including Virginia’s House of Delegates project evaluation and selection, process and overwhelmingly passed an efficiency board bill in contract standardization, value-for-money/public February 2009, only to see it stall in the Senate. sector comparator analyses, contract monitoring House Bill 2463, sponsored by Delegate John and program auditing, and the dissemination of M. O’Bannon III, would have established a new best practices and lessons learned in PPP project Government Efficiency Review Commission to development across agencies. review agencies on an eight-year cycle and advise Prior to this year, no U.S. state had created the General Assembly on the elimination of a similar PPP center of excellence, but 2009 saw waste, duplication and inefficiency. The proposed several bellwether states—California, New York commission’s scope included determining and Michigan—embrace the idea. whether less restrictive or alternate methods In California, where public employee union of delivery exist for any given service under opposition and the resistance of state lawmakers review. HB 2463 passed the House of Delegates have stymied the development of infrastructure 95-3, but it failed to pass in the Senate Rules PPPs in recent decades, the state’s massive budget Committee. deficits and growing backlog of infrastructure

12 Reason Foundation • reason.org Annual Privatization Report 2009

investment needs prompted policymakers to pass the end of Governor Arnold Schwarzenegger’s PPP-enabling statutes in early 2009 authorizing term in January 2011. an unlimited number of PPP projects for roads, Like California, New York State is courthouses and prisons through 2017 and up to embracing privatization in response to 15 transportation design-build projects through mounting fiscal pressures that culminated in an 2014. unprecedented $17.7 billion budget deficit. In The legislation also required the state to October 2008, Governor David Paterson signed create a new Public Infrastructure Advisory an executive order establishing the New York Commission (PIAC; www.publicinfrastructure. State Commission on State Asset Maximization ca.gov) to identify potential PPP projects, (SAM; www.nysamcommission.org) to study research best practices and provide advisory and the potential for PPPs involving leases of state procurement services to Caltrans and regional assets to private investors to provide a long- transportation authorities, similar to the role term revenue stream to the state, modernize its played by Partnerships BC and other PPP infrastructure and improve asset management. entities in Canada and Europe. The PIAC will be According to Paterson, the commission “is housed in the state Business, Transportation and another important step” in ensuring that New Housing Agency. York “continues to make the crucial long-term Under the new law, any proposed PPP investments we need to sustain economic growth contract must be submitted for review by the and secure a valuable quality of life for our California Assembly and the PIAC at least citizens. . . . I believe the private sector can be 60 days before Caltrans or a regional agency a source of innovation, allowing us to increase signs the agreement. In addition to reviewing the value, efficiency and safety of assets like our proposed PPP contracts, the PIAC will assist aging infrastructure system.” transportation agencies by helping identify The SAM commission released its suitable PPP opportunities, researching and groundbreaking final report in June 2009, analyzing international PPP experience, framing a new and positive role for privatization assembling a library of best practices and lessons PPPs in the delivery, upgrade and modernization learned and providing advice and procurement of state infrastructure assets in New York. services upon request. The report recommends over two dozen Legislators appropriated no funding to the infrastructure PPP pilot projects across several PIAC, so it will rely on Business, Transportation asset classes, including roads, K-12 schools, and Housing Agency staff and support from higher education and energy (see text box). major California universities. The PIAC began The recommendations focus on delivering new its work in the spring of 2009 by soliciting input projects through innovative PPP finance and from four informal work groups representing procurement approaches, as opposed to selling state and local government entities, academic or leasing state assets like the lottery or toll and public-policy experts, private partners roads and bridges. and community organizations on potential The report also calls for the establishment directions and guidance on its early PPP program of a State Asset Maximization Board to serve as development. a PPP center of excellence for the state, acting as “We are in high gear on all fronts,” Dale a central conduit for approving and developing Bonner, secretary of the Business, Transportation PPP projects. and Housing Agency, told Public Works According to Paterson, “In the midst of Financing in May 2009, adding that he hopes these economic challenges, we must now, more some PPP projects can be implemented before than ever, make long-term investments to spur

Reason Foundation • reason.org 13 Annual Privatization Report 2009

New York PPP Opportunities: Roads, Schools, Energy and Beyond Some of the recommendations in the June 2009 final report of the New York State Commission on State Asset Maximization:

Transportation Energy n Support PPPs in the development of n Implement a PPP bridge-improvement program to replace, rehabilitate and electricity transmission and distribution maintain New York’s bridges. infrastructure. n Assess the potential for new private n Establish a PPP to develop the Buffalo investment in extracting natural gas in the Harbor Bridge. Marcellus Shale.

n Create a partnership between the New n Assess the potential for locating renewable York State Department of Transportation, energy projects, including wind, solar private railroad companies and investors and hydro, on state-owned land and to advance the development of high-speed waterways. rail-passenger service on up to three Information Technology designated corridors within the state. n Identify and lease state building rooftops n Establish a PPP for the maintenance, repair and land holdings through PPPs and operation of the Gowanus Expressway with wireless carriers to expand their (I-278). commercial network.

n Encourage the use of PPPs by the n Establish a PPP for the state’s existing Metropolitan Transit Authority for transit- data-center assets to help finance new oriented development projects. construction and/or to refurbish existing data centers. Social Infrastructure Underutilized Property n Establish a pilot program that enables n Formalize a PPP with Empire State school districts in Syracuse and Yonkers to Development Corporation and Office of utilize PPPs for major anticipated capital- General Services to centralize authority in construction programs. managing the state’s real estate. n n Examine and define the conditions under Employ joint ventures, license agreements, which private financing could be used to ground leases and other transaction support capital-construction programs for alternatives to unlock revenue from healthcare facilities. underutilized assets that might be otherwise sold. Higher Education n Develop a comprehensive database to inventory and report on the state’s n Allow the use of alternate construction- real estate assets by leveraging future delivery mechanisms (e.g., construction brokerage agreements with the private manager-at-risk, design-build) for State sector for lease administration or other University of New York (SUNY) and City services. University of New York facilities. n Establish a joint brownfield cleanup PPP n Establish a pilot program for a select between the city of New York and the number of SUNY schools to lease campus state. land to private entities.

14 Reason Foundation • reason.org Annual Privatization Report 2009

economic growth and think creatively about proceeds. innovative ways to enhance the performance At an April 2009 conference of the National of vital infrastructure assets. . . . This report Council for Public-Private Partnerships, office provides us with a series of ideas for asset Director Joe Pavona told attendees Michigan is maximization projects that could accelerate considering a wide range of PPP procurement construction, jumpstart job creation and provide options, including full concessions (asset leases), for substantial savings in the years to come.” shadow tolling, availability payments, design- The report noted that a number of successful build, design-build-operate-maintain and design- PPPs have been implemented in the state—albeit build-finance. in piecemeal fashion—including the private In her executive budget proposal, Granholm financing and development of Terminal 4 at John called for the creation of a PPP investment fund F. Kennedy International Airport, operations and within the Treasury Department to invest in maintenance at New York City’s Central Park financing and developing infrastructure and and the construction of new K-12 schools in energy PPPs, capital-asset improvements and Rensselaer. other types of projects as determined by the At a press conference announcing the state treasurer and the state budget director. In report’s release, Paterson announced that he legislative action, Rep. Lee Gonzales and 10 would implement one of its recommendations by cosponsors introduced House Bill 4961—broad- creating the State Asset Maximization Board to based, comprehensive enabling legislation approve and provide guidance and oversight for authorizing the state to enter into transportation PPP projects. The new board will play a similar PPPs—in late May 2009. At press time, the bill role to organizations like Partnerships UK, had been assigned to the House Transportation Partnerships BC and California’s PIAC. Committee and was awaiting a hearing. Michigan is also making a clear push toward While California, New York and Michigan PPPs. Having undertaken a scoping project to are the first states to embrace the idea of a determine that suitable PPP opportunities exist centralized authority to drive PPP program to justify a detailed, enterprise-wide approach, development, many industry experts believe Governor Jennifer Granholm’s administration other states would benefit from a similar shift took the first big step in 2008 by establishing from a piecemeal approach to PPPs toward the a new Office for Public Private Partnerships development of more structured and holistic PPP within the state Treasury Department. The governance structures. office is responsible for coordinating, facilitating and providing financial standardization and 3. Justice Department Opinion Dims Outlook accountability for state PPP projects across a for State Lottery Leases variety of sectors, including transportation, As recently as the summer of 2008, at least a educational facilities, energy water/wastewater, dozen states were actively considering privatizing corrections, public safety and information their state-run lotteries. But an October 2008 technology. advisory opinion from the U.S. Department of The office moved quickly to build expertise, Justice effectively stopped those efforts in their signing a three-year, $3.2 million contract tracks. with KPMG for privatization advisory services In response to a request from Indiana in January 2009. The firm will provide the Governor Mitch Daniels for a legal opinion on state with 12 PPP proposals each year, with a his proposal to lease the Hoosier Lottery and handful likely to be implemented. KPMG’s fees use the proceeds to fund a new state college are expected to be paid out of PPP transaction tuition program, the department’s Office of

Reason Foundation • reason.org 15 Annual Privatization Report 2009

Legal Counsel determined that states would not gaining speed in other countries.” be in compliance with federal law if they enter However, one state may have solved the into long-term lottery-system leases with private question of how to monetize its lottery without consortia. The ruling found that while states running afoul of federal law. In July 2009, may contract with firms to operate their lotteries, Illinois Governor Pat Quinn signed into law a federal law requires that states maintain control $29 billion public works bill (House Bill 2424) over significant business decisions. The opinion that includes a partial privatization of the Illinois also found that private management firms may Lottery as part of the funding source. The bill not receive more than “a de minimus interest in calls for outsourcing the management of the the profits and losses of the business.” According lottery to a private firm that would be repaid to the opinion, the exemption state lotteries with a five percent share of the lottery profits currently have from criminal prosecution under and the term of the contract would not exceed federal lottery laws would no longer apply if 10 years. Industry experts believe that since this those lotteries were managed by private firms deal would be structured more as an outsourcing rather than the states. contract—already common in many state Daniels subsequently abandoned his lottery- lotteries—then a sale should pass federal muster. lease plan to avoid a legal challenge and began The bill sets March 1, 2010 as the deadline to seeking alternate funding options for his tuition ink a deal, so Illinois policymakers will need to proposal. move quickly on the procurement. While countering that states would retain control over any lottery privatization via 4. Florida’s Council on Efficient Government contractual controls regulating the activities Report Finds Privatization on the Rise, but Obstacles Remain and performance of investor-operators, industry experts also generally agree that the restrictions The Florida Council on Efficient on states would vanish overnight were Congress Government’s (CEG) 2008 Annual Report found to amend the federal statutes in question. a tremendous increase in state outsourcing According to Tom Osborne, managing director projects since 2001 and identified 551 for global finacial services firm UBS, “Lotteries outsourced projects in Florida state government have stumbled; what is needed is a federal law.” for fiscal year (FY) 2007–2008, with a lifetime Absent such a statutory amendment, states value of over $8 billion. and operators would likely be taking a gamble Those 551 projects represent a 90 percent with lottery privatization. The associated increase from the 289 projects identified the political risks and potential limits on the previous fiscal year (see discussion in Reason private sector’s role in lottery operations and Foundation’s Annual Privatization Report 2008, management would likely dampen bid values available at reason.org). But the CEG notes significantly, lowering the overall value of a that the latest tallies include 332 Department of lottery lease. And even if a lottery privatization Elder Affairs (DEA) projects not included in the initiative were to pass, states would face the previous year’s data. prospect of having to test the Justice Department The CEG report also found that: opinion in federal court. n Prior to 2001, state agencies identified 16 Gambling industry consultant Eugene outsourced projects (see Figure 1). However, Christiansen told GamblingCompliance.com that from 2001 to 2006, the annual average of the Justice Department “has thrown a monkey outsourced projects increased to 37 projects. wrench into state government fiscal planning. . . . Over the last three years, there was an It does so, moreover, when privatizing lotteries is average of over 66 reported outsourcing

16 Reason Foundation • reason.org Annual Privatization Report 2009

Figure 1: Florida State Outsourcing Projects by Fiscal Year, 1995–2008

Number of Outsourced Projects 90 85

80 68 70

50 34 46 40 32

30 31 Number of Outsourced Projects 16 15 20

6 10 3 3 2 0 2 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

Note: Outsourced projects are arranged by contract start date. Data for hundreds of DEA projects were excluded to ensure accurate data comparisons against previous year results. Source: State of Florida, Council on Efficient Government, 2008 Annual Report.

projects per year, with a majority categorized n Nearly half (46 percent) of the outsourced as resolicitations of current activities. projects identified by agencies involved

n The average value of outsourced projects services not previously undertaken by state was $5 million and the average life for an employees. outsourced project was 2.7 years. n Agencies reported 39 outsourced projects

n Five agencies (DEA, Department of Children with project slippages and/or contract and Families, Department of Juvenile Justice, violations. Department of Management Services and The CEG also reports that its staff reviewed Department of Corrections) accounted for 21 business cases valued at more than $94 90 percent of all outsourced projects. million—with projected cost savings exceeding $29 million—and trained 130 state employees in n An overwhelming majority—87 percent—of business-case development and best practices in outsourced projects included performance 2008. According to CEG Chairman Linda South, metrics in the contract. However, the cost- “By thoroughly evaluating each business case benefit analysis component of the business and educating state employees, we ensure both case was completed for only 9 percent of the sound business practices and accountability are projects reported. As the CEG report notes, applied to the investment of state funds.” these findings “reflect an opportunity for As columnist Bill Cotterell wrote in an agencies to improve both the quality of pre- August 2008 Tallahassee Democrat article, “For solicitation qualifications and post-contract return on investment, no agency can beat the management.” Council on Efficient Government. . . . Each of

Reason Foundation • reason.org 17 Annual Privatization Report 2009

the council’s four employees saved the taxpayers Supporters argued that the bill would have about $7.25 million last year.” reined in costly contracts that would otherwise Despite such successes, several contentious be difficult to cancel, even during a fiscal crisis privatization issues arose during the 2009 like that seen today. But in a letter explaining his legislative session. Governor Charlie Crist vetoed veto, Crist countered, “I am concerned that this a state contracting bill in May that would have bill imposes additional contracting requirements significantly increased legislative control over on state agencies and those who do business state contracting and privatization. Senate Bill with the state at a time when we should be doing 2694, sponsored by Senate Ways and Means everything we can to streamline bureaucracy Chairman J.D. Alexander, would have limited and stimulate economic growth.” He added that the authority of state agencies to enter certain the bill “hinders the ability of the executive and types of contracts unless the legislature granted judicial branches to implement state policy by specific authority to the agency, including: requiring prior legislative approval of certain n Contracts requiring the state to pay contracts for which funds may have already liquidated damages or early termination been appropriated,” warning that this would fees based on a breach of the contract if the “adversely affect the ability of agencies to legislature provides less than full funding of negotiate contracts.” the contract. Also, bills that would repeal Florida’s Medicaid privatization pilot program were n Contracts that require the state to make introduced in both legislative chambers, though payments in future years to offset payments both died in each house’s health-regulation not made in the current year. committee. Another bill would have created an n Contracts that permit the private contractor independent committee to monitor the program to collect and retain fees and other revenues and report findings to the governor and the that would otherwise be deposited into the legislature. state treasury. The two-year-old pilot privatization n Leases and lease-purchase agreements for program has come under increasing legislative tangible personal property that require the scrutiny amid reports that some patients have state to pay more than $500,000 over the had difficulty accessing doctors and medicines. contract term. The five-county pilot program operates similar to In addition, SB 2694 would have required a health maintenance organization, whereby the contracting agencies to notify the governor and state pays contractors a set per-patient amount legislature before executing contracts exceeding and the companies select the doctors patients $10 million per calendar or fiscal year, contracts see and what medicines and treatments are requiring minimal or no payments by the state prescribed. or contracts requiring initial expenditures by the Supporters note that the privatization vendor with no payment by the state within 180 program saves the state money and offers days. The bill would have also required certain patients more customized benefits. According to provisions to be included in every state contract, former Governor Bush, who signed the program including a notice that the contract is contingent into law in 2005, “Providers are only paid for upon an annual appropriation by the legislature the services actually required by the individuals and a notice that the contract may be terminated in the plan, not an expansive and expensive if a budget deficit is certified and the funding is menu of services never utilized by healthy eliminated either in a deficit-reduction plan or by patients.” an act of the legislature. Critics respond that the program has

18 Reason Foundation • reason.org Annual Privatization Report 2009

gotten bogged down in bureaucracy, with some The state’s “Pacheco Law”—a 1993 patients complaining of difficulty getting doctor’s procurement statute that many observers say appointments and medicines. Concerns about has created numerous procedural obstacles the quality of care received by patients prompted to the privatization of state services—came officials in Broward County, the largest county in under scrutiny in May 2009 amid legislative the privatization experiment, to pass a resolution negotiations over the state’s FY 2010 budget, stating that they want to leave the program. which will require closing a $1.5 billion deficit. On the transportation front, opposition By an 11-28 vote, the Senate rejected a to the proposed lease of the Alligator Alley budget amendment that would have repealed toll road prompted Senator Dave Aronberg to the law. Amendment opponents argued that the introduce bills in the 2009 legislative session strict law serves an important oversight function preventing foreign companies from bidding and that its repeal would threaten state jobs. on long-term leases of state highways (Senate Supporters countered with several arguments in Bill 204) and imposing a two-year moratorium favor of repeal: on private-sector leases of state highways n Repealing the law would help the state (Senate Bill 150). Both bills died in the Senate do more with less through privatization, Transportation Committee. potentially saving hundreds of millions of Aronberg got another chance during dollars that could support vital programs. negotiations over a Senate transportation n The privatization of state services has bill, proposing an amendment to require effectively stopped as a result of the highly legislative approval of any long-term lease of restrictive provisions of the law. Alligator Alley. He subsequently weakened the amendment in response to objections from n One provision of the law requires state several House members who claimed it was too agencies to compare the cost of using private stringent. The House version of the amendment contractors to a hypothetical cost if state would have required the Florida Department of employees were to optimize the efficiency Transportation to submit all proposed public- of current service delivery, ignoring the true private partnership projects to the CEG for costs of current service delivery. review and approval. The bill was not brought n The state auditor already has the authority up for a final House vote. to unilaterally reject contracts he deems “not Finally, the Florida Department of in the public interest.” Corrections canceled its long-running food- But the Senate did approve, 24-15, a services contract with Aramark in January 2009, separate budget amendment that would exempt after a string of fines, violations and critical all contracts under $2 million in value from the audit findings had strained the two parties’ provisions of the Pacheco Law, which currently relationship in recent years. The agency, which applies to contracts over $200,000. According had $9.3 million cut from its food budget to amendment supporters, raising the cap would for this fiscal year, is seeking bids from other facilitate more privatization and help the state vendors. save millions of dollars. The amendment would also establish a special state commission to study 5. Privatization on the Policy Radar in the potential for public-private partnerships in Massachusetts state government and provide recommendations In Massachusetts, budget deficits and for legislation on or before January 1, 2010. revenue shortfalls have rekindled interest At press time, the outcome of the budget in privatization among state policymakers. negotiations was still unresolved.

Reason Foundation • reason.org 19 Annual Privatization Report 2009

In his FY 2010 budget proposal, Governor 6. New Jersey to Privatize Toxic-Waste Deval Patrick included language that would Cleanup authorize the state’s Registry of Motor Vehicles In May 2009, New Jersey Governor (RMV) to contract out for registration services. Jon Corzine signed a bill that passed with A union representing RMV workers called overwhelming bipartisan support to privatize on state Inspector General Gregory Sullivan the cleanup of nearly 20,000 contaminated to investigate the Patrick administration’s properties in the state. privatization efforts, claiming that the The move will overhaul the state authorizing language is intended to benefit Department of Environmental Protection’s (DEP) the American Automobile Association, which site-remediation program, which has struggled to already operates registry pilot programs in address a backlog of nearly 20,000 contaminated Worcester and Watertown. sites. Like a similar program in Massachusetts, On the transportation front, privatization the new law authorizes polluters to hire licensed featured prominently in the political discussion private consultants to clean up the contaminated over how to fix the state’s broken and debt- properties and certify their safety. ridden transportation system. In December 2008, The Corzine administration originally the Joint Committee on Transportation held a proposed the program as a way to expedite hearing to discuss the potential for leasing roads cleanup of the sites, reduce remediation costs and bridges to private companies as part of a and return properties to the tax rolls. Proponents larger mix of reforms to restructure the state’s also note that the new law sets mandatory time transportation bureaucracy, increase revenue, frames for cleanups and subjects environmental avoid significant toll hikes and address billions consultants to high standards and strict of dollars in legacy transportation agency debt. oversight. The Patrick administration followed with Corzine also signed a related executive order a January 2009 announcement that it would requiring the DEP to increase its oversight at privatize 11 service plazas alongside the certain sensitive sites, including schools, day-care Massachusetts Turnpike in return for a large facilities and playgrounds. Corzine said the new up-front payment to the Turnpike Authority as law and the executive order “will cut though the a way to address the agency’s $2 billion debt bureaucracy to streamline the cleanup process obligations. Administration officials did not and allow more than 19,000 contaminated sites offer an estimate of the plazas’ potential value, to be evaluated more quickly.” but sponsors of similar proposals earlier this The Sierra Club questioned the decade have claimed the plazas could fetch $300 constitutionality of the new law and announced million. plans to challenge it in court. State Transportation Secretary James Aloisi suggested the state could lease or sell the 7. Successful Rollout for Privatized Workers’ service plazas to a manager that would then Compensation Insurance in West Virginia negotiate leases with gas stations, restaurants According to most observers, the first and convenience stores. Aloisi also noted that full year of implementation of West Virginia’s money raised through privatization could be recently privatized workers’ compensation used to enhance safety, modernize infrastructure insurance program has been an overwhelming or address other transportation needs, but success. ultimately decisions over how the funds would The full privatization of the program— be spent would fall to the Turnpike Authority’s beginning with the spinoff of the state’s board, should it decide to pursue a deal. Workers’ Compensation Commission into a

20 Reason Foundation • reason.org Annual Privatization Report 2009

private insurance carrier, BrickStreet Insurance, three years.” in 2005—was completed in July 2008 when BrickStreet was compliant with all of the market was opened to other competitors. the claims-related standards, but the analysis BrickStreet had previously held a two-year discovered several errors in the application of virtual monopoly on workers’ compensation underwriting and rating rules that prompted the insurance in West Virginia; with the opening state to order the company to refund $18 million of competition, it faced over 140 competitors, to over 6,000 policyholders. “The underwriting including more than 25 insurers that had not and rating areas presented BrickStreet with previously done business in the state. more challenges as the changes in these In August 2008, state Insurance areas underwent the most revisions during Commissioner Jane Cline detailed a number of the privatization process,” Cline explained. benefits of the privatization initiative thus far: BrickStreet is also preparing a corrective-action n Privatization helped facilitate a dramatic plan to ensure compliance with each of the 26 reduction—from $3.2 billion to $1.9 recommendations made in the examination. billion—in the outstanding unfunded Responding to Cline’s report, BrickStreet liabilities of the old state-run system in just President and Chief Executive Officer Gregory two years, potentially accelerating the payoff Burton said, “We view this report as a positive of these liabilities by some two decades. affirmation of the speed and accuracy with which we grew a healthy private company in a n Workers’ compensation rates declined an very compressed timeframe. . . . The archaic and average of 30 percent since privatization, antiquated rate making practices that developed saving employers over $150 million in West Virginia during the 92 years preceding annually. According to Cline, “That’s privatization had to be quickly disposed $150 million that companies have to of so that our state could offer a workers’ invest in improvements for employees compensation marketplace resembling other or for infrastructure, for other capital states.” improvements. That’s huge. Especially when It wasn’t smooth sailing for West Virginia’s you’re talking about a state that wants to be workers’ compensation insurance privatization welcoming to employers.” on the political front, however. In February n There were an estimated 8,532 protested 2009, leaders in the House of Delegates claims in 2008, over 80 percent lower than introduced House Bill 2473, which would have the average of 46,076 protests filed with the required the insurance commissioner to submit state in 2005 and 2006. The amount of time any proposed rules or regulations covering the required for a ruling on protested claims is workers’ compensation insurance market to also down. the legislature for review. Such oversight was In March 2009, Cline announced the exempted for workers’ compensation as part of mostly positive results of BrickStreet’s first the original privatization process. Market Conduct Examination, a standard state Bill opponents, including Governor Joe review of carriers’ treatment of policyholders Manchin, whose lack of support ultimately and claimants covering claims handling, doomed the legislation, countered that it underwriting practices, complaint handling and would bring political risk (through arbitrary, other management issues. According to Cline, legislative rule changes) that could discourage “BrickStreet passed 59 of the 67 applicable private companies from providing workers’ standards. These results are encouraging because compensation coverage in the state. Also, BrickStreet has only been a private company for opponents claimed that legislative review was

Reason Foundation • reason.org 21 Annual Privatization Report 2009

unnecessary, as the state’s Industrial Council from statutes in states like Virginia, Oregon already has oversight over the workers’ and Mississippi. The state subsequently passed compensation insurance market. The bill was PPP-enabling legislation, discussed in the assigned to the House Judiciary Committee but Surface Transportation section of this Reason failed to receive a hearing. Foundation report. In October 2008, Affiliated Computer 8. Tennessee Signs Largest-Ever Child- Services Inc. (ACS) won a $27 million contract Support Enforcement Privatization Contract to provide fiscal agent services for the Alaska In May 2009, Tennessee’s Department Department of Health and Social Services’ of Human Services awarded a five-year, $49 Medicaid Management Information System million contract to Maximus Inc. to provide (MMIS). ACS secured a $130 million, 10-year child-support enforcement services for the contract with the state in 2007 to develop 30th Judicial District in Shelby County. It is and manage the MMIS. The new 21-month the largest contract in the nation dealing with contract allows ACS to administer the system’s the privatization of child-support services, the claims, recipient help line, pharmacy help desk, company said. pharmacy drug-rebate program, retrospective To help the district ensure that all children drug-utilization reviews and preferred drug-list receive support from both parents, Maximus’s services. Human Services North America division will Amid contentious negotiations in California provide a comprehensive package of services, over closing the state’s mammoth budget including locating absent parents, establishing shortfall, Governor Schwarzenegger has paternity, carrying out support orders and proposed selling assets like San Quentin State medical support orders, processing interstate Prison, Los Angeles Memorial Coliseum, the cases and providing customer services. Cow Palace, several fairgrounds and other state property to raise money. According to an 9. Other State Privatization News administration report detailing the proposals, In Alabama, the Lieutenant Governor’s “In this time of fiscal challenge it is imperative Commission on Public-Private Partnerships the state explore every opportunity to raise Projects issued a report in February 2009 with revenues to avoid cutting programs. . . . recommendations on the potential use of PPPs Changing the way the state manages and thinks to deliver transportation projects in the state. about real estate has the potential to generate The commission was created in May 2008, in more than a billion dollars for the general fund large part to explore innovative finance and and help pay off state debt.” project-delivery methods for a long-sought The administration estimates that the sale north-south expressway through West Alabama. of the properties could raise $600 million to $1 The commission recommended that it be granted billion, though it cautioned that any asset sales a one-year extension to continue its work to may not provide revenue immediately but rather assess the potential impacts of federal stimulus over two to five years. Budget negotiations were funding, to meet with PPP practitioners and to ongoing at press time, so it is unclear whether refine the technical analysis related to corridor state lawmakers will ultimately support any of selection, tolled versus nontolled segmentation of the governor’s asset-divestiture proposals. the project and other engineering considerations. Schwarzenegger also proposed closing nearly The commission also recommended that all state parks to cut costs. But he suggested in developing its PPP-enabling legislation, that the state could utilize public-private Alabama should incorporate best practices partnerships—ranging from privately managed

22 Reason Foundation • reason.org Annual Privatization Report 2009

concessions at some parks (common at many tax collection oversight in order to minimize of the National Park System’s premier parks) uncollected taxes. According to Representative to turning parks completely over to private Virgil Fludd, the bill’s sponsor, the state would operators—to avoid widespread park closures. still handle the actual collection of sales taxes, In Colorado, state Senator Lois Tochtrop but local governments would be able to oversee has asked the legislature’s audit committee to collections and contract with private firms undertake a comprehensive audit of the Regional to calculate how much is owed to them. The Transportation District (RTD)—the Denver state now provides that service, for which metropolitan public-transit agency—focusing local governments pay an administrative fee. on outgoing general manager Cal Marsella’s pay According to Fludd, privatizing that function and benefits and the agency’s privatization of would also help local governments get more transit services. Marsella stepped down from his detailed point-of-sale information about where position in July 2009 to take a new position with sales-tax revenue is generated. MV Transportation, a private transit provider An Idaho Legislative Services Office audit of operating roughly half of RTD’s bus services for a two-year, $659,000 meal-services contract for the disabled. According to agency spokesman the Idaho Peace Officer Standards and Training Scott Reed, the RTD is already subject to a Academy in Meridian identified significant number of regular audits and financial reviews, irregularities in the bidding process that may so a state audit would be “redundant, likely have affected the outcome. costing taxpayers hundreds of thousands of According to the audit, three Idaho State dollars.” Police employees changed their scoring system In Connecticut, several privatization bills during a meeting after having included the surfaced in the 2009 legislative session that failed original scoring in the solicitation for proposals to reach final passage. Proposed Bill No. 5898 from potential bidders, raising concerns of would have amended the general statutes to potential bias. In addition, the audit also found allow the state to privatize Bradley International inconsistencies in the scoring of each bid on such Airport and five general aviation airports to factors as years of experience, employee base and save money and increase revenue for the state. staff identification, each of which served to favor Proposed Bill 163 and Proposed Bill 346 would the existing contractor, Shird’s Inc. of Meridian, have transferred the administration of all state over competing bidder Aramark. social-service programs to community-based According to the audit report, “We private providers. Another bill, Substitute Senate recalculated the scores and concluded the Bill No. 1120, would have imposed a two- contract would have been awarded to the year moratorium on the rebidding of contracts competing bidder if these point values had been between state agencies and private providers of correctly applied.” Auditors recommended that health and human services. the Idaho State Police consider whether to rebid The privatization of state psychiatric the contract. hospitals (detailed in the Public Health In response, academy officials defended the and Safety section of this report) and procurement process and referred a decision information-technology services (detailed in on whether to rebid the contract to the Idaho the Telecommunications section of this report) Division of Purchasing, which issued the original were not the only privatization initiatives on contract. But academy officials have said the the policy radar in Georgia. The legislature current contract won’t be renewed. considered House Bill 356, which would have Indiana’s Family and Social Services allowed local governments to privatize sales- Administration (FSSA) announced in July 2009

Reason Foundation • reason.org 23 Annual Privatization Report 2009

that it had ordered an IBM-led consortium to n Outsource centralized Web-based safety fix problems with the state’s troubled welfare training. (Division of Administration)

eligibility modernization initiative by October or n Outsource accounting services for the Office potentially lose the eight years and $800 million Facilities Corporation and Correctional remaining on the $1.2 billion contract. Facilities Corporation. (Division of Indiana began privatizing welfare delivery Administration) in 2007, but the initiative was quickly beset n Outsource the printing and distribution of with complaints from people who lost their employee W-2s. (Division of Administration) food stamps or Medicaid coverage or who had difficulty utilizing new call centers or the new, n Review and consider options for outsourcing Web-based application for welfare benefits. various functions and activities at the The IBM-led team currently handles Board of Regents, management boards and welfare intake in 59 of Indiana’s 92 counties, institutions to the private sector for possible accounting for nearly one-third of the state’s cost savings. 1.2 million-person caseload. Murphy told the n Explore the privatization of correctional Indianapolis Star that a recent three-month healthcare services. (Department of review of the privatization identified over 200 Corrections leadership is assessing the recommendations to improve training, reduce potential for privatization in the areas of turnover, add 350 more employees and introduce laboratory services, pharmacy services and more technology to speed up approval of welfare mental health services.)

applications and reduce error rates. n Privatize the collection of fees by probation “We’ll allow them an opportunity to start and parole officers. correcting those items and we expect to see n Privatize correctional food services. improvement by this fall,” FSSA Secretary Anne Murphy told the Associated Press. “I took it to n Expand outsourcing of data collection the governor and I showed him the data and he throughout the Department of Education. called the executives at IBM. . . .and told them n Outsource conference planning to save staff that they needed to make changes.” time organizing and completing paperwork Murphy told the Indianapolis Star that for various conferences. (Department of the privatized system is performing no worse Education)

than the previous state-run system, but that n The Office of Motor Vehicles’ Customer the recession has swollen the welfare rolls by Services Department has begun to outsource over 110,000 since 2007. However, Murphy functions related to public tag agents and adds that while the state’s old paper-based is considering outsourcing the call center, system was inefficient, the privatization was document management, the International intended to exceed, not merely equal, the state’s Registration Plan, the interstate compact performance. agreement and apportioned plates/cab cards In December 2008, Louisiana Governor issuance. Jindal’s administration released an Efficiency n Aggressively evaluate the feasibility of and Effectiveness Audit summarizing outsourcing residential licensing functions. state agencies’ efforts to identify wasteful (Department of Social Services) spending, bureaucratic inefficiencies and specific opportunities for cost savings. n Locate additional outsourced customer Among the privatization-related findings and service staff for enforcement services in the recommendations: district offices, the courts and the district

24 Reason Foundation • reason.org Annual Privatization Report 2009

attorneys’ offices to provide information by the beginning of last summer, but because of and resolve problems. (Department of Social unsatisfactory bids for the contract, the process Services) was delayed.

n Outsource information technology audits. It is unclear if the state will save the (Department of Social Services) $400,000 it was originally expected to in the first year, but officials note that the main goal n Seven section and district heads from behind privatization was to get the state out the Department of Transportation and of the business of providing direct care and Development reported possible opportunities more focused on regulatory oversight. Jane for outsourcing functions in their sections. Gallivan, director of the HHS Office of Adults n Outsource data entry to allow Department with Cognitive and Physical Disabilities, told of Wildlife and Fisheries biological staff the Bangor Daily News,“We see the state’s role to be more effective by focusing on data as quality assurance and quality oversight. . . . analysis, not input. The savings was never really projected as being n The Office of Juvenile Justice is investigating a huge savings.” State officials also note that the possibility of outsourcing in some areas, operation costs would have risen had the state such as pharmacy services. continued to run the facility, as state workers The privatization of Maine’s Elizabeth received a 4 percent pay raise in January 2009. Levinson Center, which provides institutional A push to privatize Maryland’s state medical care to individuals with severe mental aviation (medevac) services died in the 2009 retardation, was completed in early 2009. The legislative session. Bills sponsored by Senators winning bidder, the nonprofit United Cerebral John Astle and E.J. Pipkin would have split the Palsy of Northeastern Maine, took over facility current fleet into separate medical and law- operations March 1, 2009. enforcement operations and allowed Governor Most of the state workers at the center have Martin O’Malley to consider bids from private been rehired by United Cerebral Palsy at the companies to provide medevac services. Any same hourly wage they earned as state employees savings would have been applied to emergency and according to United Cerebral Palsy executive medical services ground operations. The director Bobbi Jo Yeager, only two-and-a-half sponsors noted that their bills were intended to positions have been trimmed from the center. improve the state-run medevac system, which According to the Bangor Daily News, the has come under fire in recent years for a number center, established in 1971, was the last of of maintenance and operational issues. The several former state-run facilities for children Senate rejected both bills. with mental retardation to be transitioned to In March 2009, the Michigan Department private operations since the 1996 privatization of Corrections signed a three-year, $326 of the Pineland Center in New Gloucester and million contract with Prison Health Services for subsequent privatizations of the Aroostook managing statewide correctional health services. Residential Center and Freeport Town Square. Correctional Medical Services had held the According to Brenda Harvey, commissioner of contract since 1998. The new contract addresses the state Department of Health and Human dozens of recommendations for improvement Services (HHS), the private agencies that took offered in a December 2007 National over these programs also retained many existing Commission on Correctional Healthcare report employees. and the new vendor will be responsible for The state originally had planned to turn maintaining commission standards. over the Levinson Center to a private company Similar contracts would face more

Reason Foundation • reason.org 25 Annual Privatization Report 2009

legislative scrutiny under a FY 2009 corrections a comprehensive database of all state-owned appropriations bill (House Bill 4437) that passed assets, followed by a legislative report on the the House in April 2009. The bill included two potential for privatization. The report would significant provisions related to correctional also establish a set of evaluation criteria and services privatization in Michigan. The first apply it to a review of the potential privatization requires plans for any proposed privatization of Minneapolis-St. Paul International Airport project to be submitted to the legislature at least and the Minnesota State Lottery. 90 days before beginning any effort to privatize. “With an economy in recession and a The second requires the preparation of a cost- growing state budget deficit, it is time for the benefit analysis and legislative approval prior state to consider bold and dramatic measures,” to any privatization. Furthermore, proposed Brod said in a press release. “Minnesota has correctional services privatization projects would fallen behind other states and cities when have to meet a minimum 5 percent cost savings it comes to these innovative public-private threshold to move forward. partnerships.” Michel added, “Privatization is Similar language appeared in two other bipartisan and happening all over the country 2009 bills. House Bill 4892, introduced in and all over the world. This topic should be a May by Representative Sarah Roberts, would big part of the 2009 legislative session.” At press require development of a detailed cost-benefit time, neither bill had been heard in committee. analysis in advance of any proposed state agency In 2009, Nebraska’s Department of Health privatization initiative. No privatization could and Human Services began implementing the proceed without notice of approval from the first phases of its privatization of foster care House and Senate Appropriations Committees and group-home services. Under the plan, indicating a 10 percent cost savings over state state workers will assess children’s needs and provision. House Bill 4584 was introduced contractors will provide foster or group homes in March and would apply similar provisions and coordinate services. The plan aims to reduce to school districts, requiring studies before the number of times children are moved and to privatizing custodial, food, transportation or eliminate duplication and confusion from having other school services. As of press time, neither multiple agencies deliver services to one child. bill has been heard in committee. The department is evaluating six private Also in Michigan, the Senate passed an providers of out-of-home care: Nebraska appropriations bill (Senate Bill 247) that Families Collaborative, KVC of Kansas, Visinet, included $41,700 for the Historical Society of Cedars, Boys and Girls Home and Family Michigan to facilitate privatization of the state Services of Nebraska and Region 3. The selected historical marker program. contractor will be responsible for acquiring During the 2009 legislative session in foster homes and facilities and will perform the Minnesota, a looming $5 billion budget day-to-day functions of planning, coordinating deficit prompted Senator Geoff Michel and and delivering services, with financial incentives Representative Laura Brod to introduce Senate and disincentives to ensure contractor File 1291 and House File 1486, companion bills performance. that would require the state commissioner of In a May 2009 meeting, the State Foster administration to determine the privatization Care Review Board passed a resolution outlining potential of government programs and its concerns about the state’s privatization activities and review inappropriate government plan, including the quality and availability of competition with private enterprise. The bills foster care services, program accountability and would also require the commissioner to prepare oversight. The resolution accuses the department

26 Reason Foundation • reason.org Annual Privatization Report 2009

of lax oversight of foster care homes and centers, employees and their families to a comparable warning that it would likely continue under the level of benefits offered in the private sector. privatized system. Also, ending health-care subsidies for all Faced with a looming FY 2009 budget retired state employees once they become shortfall, Nevada Governor Jim Gibbons created eligible for Medicare at age 65. the Spending and Government Efficiency (SAGE) In May 2009, the Nevada Assembly voted Commission in May 2008 to review state to override a gubernatorial veto of Assembly government and develop recommendations for Bill 135, giving the state treasurer and the state streamlining operations, reducing government Board of Finance the authority to review and waste and improving efficiency and customer approve state long-term financial obligations, service. including certain public-private partnership The SAGE Commission has issued three sets agreements. The Nevada Senate voted narrowly of recommendations to Gibbons since September to sustain Gibbons’s veto. 2008. Its 23 recommendations thus far, projected Also in Nevada, State Budget Director to save the state more than $1 billion over five Andrew Clinger announced in October 2008 years if implemented, include: that the state was studying the potential n Establishing a state Evaluation and privatization of the state mail system. “The Sunset Commission to make annual preliminary numbers that I was given showed recommendations to the governor and potentially it could save us $400,000 a year,” Legislative Commission concerning the Clinger told the Las Vegas Review-Journal. “It potential elimination, modification or won’t balance the budget but over 10 years, it reorganization of statutorily created state would save some money.” agencies, boards and commissions. In March 2009, the New Hampshire

n Conducting a detailed inventory of all state- Liquor Commission announced a sweeping owned real estate and buildings, as well as modernization proposal aimed at increasing a portfolio-optimization review of all leases. efficiency and streamlining its retail and An appointed task force should evaluate wholesale operations, licensing and management the uses for all state-owned property to functions. The proposal was unveiled at a determine the revenue-producing potential Senate Ways and Means Committee hearing on of disposal, lease, trade, sale-leaseback or Senate Bill 181, which would enact the plan into development opportunities by way of public- law. The bill would expand the commission’s private partnerships. authority to license the sale of spirits in grocery stores, beginning with a limited number of n The Nevada Department of Transportation licenses in a pilot program. and the Regional Transportation State Liquor Commission Chairman Mark Commission of Washoe County should Bodi cautioned that the move is not the first step develop a distance-based, user-fee pilot toward full privatization of New Hampshire’s program to establish the viability of a pay- liquor operation. As Bodi told The Union as-you-drive user-fee system as a replacement Leader in December 2008, “I would think that for state fuel taxes. under any circumstances, New Hampshire n All state agencies should review the fees would preserve fundamentally its control of charged for state services every two years to the state system in some manner. . . . It would ensure they cover the costs of providing the be vastly premature to predict and preview the services. privatization of liquor, of our existing system, at n Reducing healthcare benefits for state this stage. However, we are looking at a number

Reason Foundation • reason.org 27 Annual Privatization Report 2009

of different dynamic ways to improve the nature Bill 1963, creating a task force to study the of our operation and the profitability of our privatization of CompSource Oklahoma, the state operation.” At press time, SB 181 was awaiting workers’ compensation insurance monopoly. The a hearing in the Ways and Means Committee. bill states the legislature’s intent that CompSource Also introduced in the 2009 New be converted into a private insurance company no Hampshire legislative session was Senate Bill later than December 31, 2010 and the new task 101, which would have required the Department force will develop a privatization plan to meet of Resources and Economic Development to that goal. The plan will include an assessment solicit lease proposals for the Cannon Mountain of the potential impact of privatization on ski area. The bill would also have established current CompSource employees and the most a legislative committee to develop the proposal appropriate means of addressing it. and review responses and would have required Also, the signing of House Bill 1055 created the legislature’s Capital Budget Overview a new State Employee Health Insurance Review Committee’s approval for any lease agreement. Working Group to study the most efficient and The bill failed to pass out of committee. cost-effective way to deliver the highest level of In addition to the Accountability, Innovation healthcare for state employees at a competitive and Privatization Act discussed earlier, the price. The working group will report on ways Oklahoma legislature passed several other bills to reduce the costs of state employee healthcare in its 2009 session that may lay the groundwork coverage, offer state employees choices in for increased privatization of state services. healthcare plan designs to allow them to One of the most significant reforms signed determine what coverage best meets their needs into law was the Oklahoma Information and maximize the state’s leverage in buying Services Act (House Bill 1170), which created medical services and supplies. The working a state chief information officer to centralize group is authorized to retain the services of state technology implementation and reduce private-sector consultants with expertise in state redundancy and inconsistencies across state plan design and healthcare purchasing. government. In Pennsylvania, Representative Neal The bill also expands the authority of Goodman sponsored House Bill 1364 in the State Governmental Internet Technology the 2009 session to prevent any state funds Applications Review Board to include developing appropriated to the Department of Corrections performance metrics for (a) quantifying the from being used to privatize or outsource value of goods or services provided by state commissary services in state prisons. The bill agencies and (b) for considering whether state was assigned to the House Committee on State agency services could be modernized through Government in late April 2009 but had not the use of new technology to provide higher received a hearing at press time. quality goods or services and deliver value for The tug-of-war between the Rhode Island money. According to Senate President Pro Tem General Assembly and Governor Donald Glenn Coffee, “Consolidating all technology Carcieri over the privatization of state services and computer responsibilities into one office moved a step closer to resolution in 2008. In will bring Oklahoma into the 21st Century and July, the Rhode Island Supreme Court declined save taxpayers millions of dollars. . . . This will to review the constitutionality of a controversial provide for ease in communicating data and 2007 state anti-privatization law that Carcieri information throughout agencies and better serve said “makes it virtually impossible to privatize all Oklahomans.” any governmental services.” Carcieri had Governor Brad Henry also signed House originally requested an advisory opinion on the

28 Reason Foundation • reason.org Annual Privatization Report 2009

law from the Court in March 2008 but withdrew an ability to succeed in managing in South his request after forging a compromise with Carolina, it’s golf courses.” Instead, legislative legislative leaders on the issue as part of the FY budget writers inserted a provision specifically 2009 budget negotiations. prohibiting the state Department of Parks, In the compromise, the legislature amended Recreation and Tourism from exploring private- the law to require the administration to give sector golf-management options. Privatization union leaders six months notice prior to any proponents counter that the department has attempt to replace state workers and to require already successfully privatized bait-shop the administration to provide a detailed cost operations at several state parks, saving analysis 60 days before soliciting bids from taxpayers thousands of dollars annually. private contractors. The revised law also limits In May 2009, the Texas Council on standing to appeal privatization decisions Competitive Government issued a request to the affected employees or their union for information to solicit input from private representatives. The original bill had no time firms regarding current best practices and limits and effectively no limits on who could opportunities for performance-based contracting appeal privatization decisions. in vehicle fleet and fuel management services. In related news, a Rhode Island Superior Of particular interest to the council are discrete Court judge in November 2008 ordered and identifiable services that could be established Carcieri’s administration to release contracts and and managed via contract with specified other public records related to its privatization deliverables and service-level agreements. The initiatives to Council 94 of the American council identified a number of potential areas Federation of State, County & Municipal of interest, including vehicle fleet maintenance, Employees, a union representing state employees. fleet optimization, fleet needs assessments, car- The judge found that under current state law, share programs, fleet tracking and monitoring, information about privatization contracts roadside assistance, retail fuel acquisition, totaling $100,000 or more must be disclosed. bulk fuel acquisition, fuel terminal design and The union had argued that administration maintenance, bulk fuel monitoring and control, officials denied its requests for records related to idle-reduction technologies and vehicle retrofits. privatization contracts as required under state Also, in June 2009, Governor Rick Perry law. The Carcieri administration contended signed House Bill 1914 (HB 1914) to ensure that it has complied with the law and that the prison manufacturing programs will not unfairly union was adopting an overly broad legal compete with private industry. In explaining interpretation regarding its implementation. the need for such protection, the bill’s Senate Amid a protracted battle between South sponsor, Robert Nichols, cited the closure of Carolina Governor Mark Sanford and the a private trailer company in East Texas due legislature over the use of federal stimulus to unfair competition from a prison-industry dollars, Sanford began a daily feature on his contractor with lower operating costs due to Website called “Waste of the Day” to shine a the use of prison-system labor. The bill also spotlight on examples of government waste. In abolished the governing board of the current one example, Sanford cited state-run golf courses program, the Private Sector Prison Industries at Hickory Knob State Park and Cheraw State Oversight Authority and transferred its Park, which are losing nearly $500,000 annually. functions, property and staff to the Texas Board For several years, Sanford has proposed that of Criminal Justice. these courses be privatized because “if there’s A year after signing two pieces of legislation anything the private sector has demonstrated in May 2008 expanding the size and authority of

Reason Foundation • reason.org 29 Annual Privatization Report 2009

Utah’s Privatization Policy Board (see discussion privatization. It should raise revenue through in Reason Foundation’s Annual Privatization its power to tax rather than trying to operate Report 2008), Governor Jon Huntsman, Jr., as a retailer. . . . With such a high-proof profit who will be leaving office to become U.S. margin, it might seem that state government is ambassador to China, was still considering one savvy retailer, except that everyone knows potential appointments to the revamped board it is not. It spends too much on labor. Its stores at press time. But the state’s first commercial are in the wrong places and do almost nothing to activities inventory—a key provision of the attract business. The state’s profit margin is high 2008 board revamp requiring a biannual only because it reserves the business to itself. . . . breakdown of inherently governmental functions In all likelihood, the private sector could do the and commercial functions performed by state job much more cheaply.” agencies—is underway and is expected to be In other news from the Evergreen State, completed in the summer of 2009. the Department of General Administration In January 2009, the Virginia Senate filed notice of appeal of a May 2008 Thurston Committee on Rehabilitation and Social Services County Superior Court ruling invalidating rejected a bill that would have privatized three department rules adopted to implement Virginia’s alcohol retail operations. Senate the competitive contracting provisions of the Bill 1542, introduced by Mark Obenshain, 2002 Civil Service Reform. The Washington would have privatized the state’s retail stores Federation of State Employees sued the agency and auctioned off licenses for the retail sale of to have the rules thrown out, complaining alcoholic beverages. According to Obenshain, that they were too restrictive and that state “Everywhere I go, people ask me about this bill. workers should have the ability to negotiate Democrats and Republicans, young and old, they with management if they will be displaced or all want the government out of the business of reassigned. selling alcohol. . . . Handled correctly, privatizing In West Virginia, hiring restrictions on state the ABC Stores will save money and increase workers announced by Governor Joe Manchin consumer choice.” Obenshain plans to revise and were met by union complaints that the move reintroduce the bill in the next legislative session. was part of a stealth plan to privatize jobs in In response to Washington Governor Chris the state Division of Highways (DOH). Union Gregoire’s proposal to increase state revenue by officials complained that already declining authorizing 10 new liquor stores and allowing DOH employment was a threat to highway state-owned stores to sell additional products, maintenance and that Manchin’s April 2009 Senator Tim Sheldon introduced a bill in the directive that all agency hiring be approved by 2009 legislative session to privatize a portion of his office represented an implicit step toward Washington’s state-run liquor stores. Sheldon privatization. According to Manchin spokesman told the Seattle Post-Intelligencer in January Matt Turner, the governor has no plans to 2009, “It’s really way past time to let the private privatize DOH jobs. Turner told the Charleston sector in. . . . It just seems like a governmental Gazette, “If there are critical vacancies in function we could easily shed in the current the Division of Highways, Secretary [Paul] economic situation.” Sheldon’s previous attempts Mattox would bring that to the attention of the to privatize state-run liquor stores met resistance governor’s office. There are no plans to privatize. from public employee unions. That is not in the works.” According to a January 27, 2009 Seattle In Wisconsin, legislators introduced Times editorial, “The state needs to take bills in the 2009 session that would allow, the more radical and common-sense step of but not mandate, the state’s Department of

30 Reason Foundation • reason.org Annual Privatization Report 2009

Figure 2: State Budget Deficits, FY 2001–FY 2011 (projected)

$Billions $140 Deficit after budget adoption ($billion) Deficit before budget adoption ($billion) $121.2 $120

$102.7 $100

$83.7 $79.0 $80 $5.3

$29.9 $62.4 $60

$44.5 $37.2 $37.0 $40 $0.7 $26.9 $49.1 $78.4 $36.3 $40.3 $20 $12.8

No Est. No Est. $0 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 17 States 43 States 45 States 42 States 33 States 26 States 1 State 20 States* 44 States 43 States* 16 States**

* Includes Puerto Rico ** 31 states and Puerto Rico forecast FY 2011 gaps. The amount shown for FY 2011 indicates the 16 states that provided deficit estimates. Source: National Conference of State Legislatures, State Budget Update: April 2009.

Transportation to privatize driver’s license site inspections of third party testers. Doyle testing for most non-commercial vehicles. previously vetoed a similar bill. SB 58 and Primary sponsors Senator Joe Leibham and AB 216 were assigned to the Transportation Representative Lee Nerison introduced Senate Committees in their respective legislative Bill 58 and Assembly Bill 216 in response to chambers but had not been heard as of press Governor Jim Doyle’s proposal to close 40 time. Department of Motor Vehicles centers to reduce costs. The sponsors said the proposed closures would have left many citizens without local B. State Budget Outlook access to a center. The state fiscal crisis that began in FY Bill supporters note that states like 2008 deepened significantly in FY 2009 and Michigan, Montana and Utah have already may continue for several years, according to implemented third-party testing for driver’s the National Conference of State Legislatures’ licenses. Under the bills, the department would (NCSL) April 2009 budget update. Many have been prohibited from contracting with states are facing a perfect fiscal storm, with the commercial driving schools and it would have national recession and the resulting declines also been required to conduct annual on- in state revenue collections forcing legislators

Reason Foundation • reason.org 31 Annual Privatization Report 2009

nationwide to close massive, multibillion-dollar fiscal conditions in June 2009 offering a similarly deficits in current and future budgets. bleak fiscal outlook. The report finds that “[t] Figure 2 illustrates historical and projected he 50 states are facing one of the worst fiscal state budget deficits from FY 2001 through FY periods in decades,” with deteriorating fiscal 2011. According to the NCSL report, states will conditions in almost every state during FY 2009 face a cumulative $281 billion in budget deficits and weak fiscal conditions expected to continue from FY 2008 through FY 2011: into FY 2010 and beyond. n FY 2008: By the end of FY 2008, 19 states “There are so many issues that go way and Puerto Rico had closed budget deficits beyond the current downturn,” NASBO totaling $12.8 billon. executive director Scott Pattison told The Wall Street Journal. “This is an awful time for states n FY 2009: Lawmakers in 31 states and fiscally, but they’re even more worried about Puerto Rico collectively closed $40.3 billion 2011, 2012, 2013, 2014.” in deficits in enacting their FY 2009 budgets. Among the findings in the NASBO/NGA But continuing revenue shortfalls into the survey: few months of the new fiscal year prompted lawmakers in 43 states and Puerto Rico to n FY 2009 general fund expenditures are reopen their FY 2009 budgets to close an estimated to decline 2.2 percent from FY additional $62.4 billion in deficits. 2008 and governors’ recommended FY 2010 budgets show a 2.5 percent decrease n FY 2010: State budget deficits are currently in general fund expenditures from FY 2009. expected to peak in FY 2010, with 42 states These are the largest declines in the history and Puerto Rico facing $121.2 billion in of the NASBO/NGA report, as well as the projected deficits. first time state general fund expenditures n FY 2011: Over 30 states are already declined in consecutive years. projecting deficits for FY 2011. Early n Forty-two states were forced to reduce estimates peg the total cumulative deficit their enacted FY 2009 budgets by a total of at $44.5 billion. But with only 16 states $31.6 billion; by contrast, 13 states reduced reporting preliminary FY 2011 deficit their enacted FY 2008 budgets in fiscal estimates thus far, this figure is expected to 2008 and only three saw reductions during rise significantly. FY 2007. In the last recession, FY 2002 According to report author and NCSL and FY 2003 saw the largest reductions fiscal program director Corina Eckl, “The fiscal to enacted budgets, with 37 states making situation facing states is like a bad horror movie. mid-year reductions of $14 billion and $12 The details get more gruesome and the story billion, respectively. These years of peak never seems to end.” cuts occurred after the national economic Federal stimulus funds from the American downturn ended in 2001. Recovery and Reinvestment Act of 2009 n Thirty states are estimating negative growth certainly cushioned the blow for states. Calling in FY 2009 budgets and 35 expect negative the infusion of stimulus funds “the only bright growth for FY 2010. spot” for states, the NCSL report notes, “Without that money, state finances would be n More states are experiencing revenue even more dismal.” shortfalls. In FY 2009, tax revenues exceed The National Association of State Budget expectations in only two states, are on target Officers (NASBO) and the National Governors in 10 states and are below expectations in 38 Association (NGA) released a survey of state states. By contrast, 25 states reported that

32 Reason Foundation • reason.org Annual Privatization Report 2009

revenue collections exceeded estimates in FY an estimated 5.5 percent of expenditures for 2008. FY 2009. Under governors’ recommended

n Estimated FY 2009 sales, personal income FY 2010 budgets, balances are projected to and corporate income tax collections are decrease to 5.3 percent of expenditures. 6.1 percent lower than actual FY 2008 The national recession continues to collections. States project 1.7 percent growth dampen state tax revenues, according to a May in tax collections for FY 2010 recommended 2009 report from the Nelson A. Rockefeller budgets relative to FY 2009 estimates. But Institute of Government at the State University the report notes that many states found their of New York. The report found that first- April 2009 tax collections to be well below quarter 2009 revenues were down 12.6 percent estimates. (approximately $20 billion) from the first quarter of 2008 in 47 states. The biggest drops n Recommended net tax and fee changes were in corporate income taxes (down 16.2 would generate an additional $23.9 billion percent) and personal income taxes (down 15.8 in revenue based on governors’ FY 2010 percent), while sales tax revenues were down 7.6 recommended budgets, up from $726 percent (see Figure 3). million recommended in FY 2009. A total of 29 states are recommending net increases, while only five states are recommending net C. State Budget Crises in decreases. Perspective: Illness or Fiscal n Total balances—ending balances and the Hangover? amounts in budget stabilization funds— are declining from their FY 2006 peak of 11.5 The economic downturn has no doubt put percent of expenditures. Balances dropped a great deal of pressure on state budgets. As to 9.1 percent of expenditures in FY 2008 economic activity declines, states collect less and are expected to drop precipitously to tax revenue. As people lose their jobs or their

Figure 3: State Tax Revenue Declines Since 2006 10% 8% Personal Income Taxes 6% Total Taxes 4% 2% Sales Taxes 0% -2% -4% -6% -8% -10% -12% -14% -16% 2006 2007 2008 2009

Source: Lucy Dadayan and Donald J. Boyd, “Personal Income Tax Revenue Declined Sharply in the First Quarter,” Nelson A. Rockefeller Institute of Government, State Revenue Flash Report, May 13, 2009, p.2. http://tinyurl.com/qcd86f

Reason Foundation • reason.org 33 Annual Privatization Report 2009

incomes decline, demand increases for state budget is built on several years of rapid services like job training, healthcare support, expansion, a projected cutback may be less welfare and unemployment compensation. The severe than it would otherwise seem. combination, it is often argued, throws state It is worth asking, then, whether we are budgets out of balance and, because states are treating an illness or a hangover. Have the states generally required to enact “balanced-budgets,” been efficient stewards of public resources that often leads to dramatic cuts in state services, now, reeling from an economic calamity, need tax increases or even both. These actions, it is federal support? Or were they, like other sectors, then argued, further dampen economic demand on a spending bender during a robust economy, and worsen the economic situation. Countering living as if the boom years would never end? this cycle is the chief rationale for states’ recent Will another federal infusion now merely put demands for additional federal assistance. off the steps that states need to take to put their What’s missing in the discussion of state budgets on a more sustainable footing? fiscal crises is critical context. Even if one accepts the shortfall numbers at face value, it is not 1. Analyzing State Revenue immediately clear to what extent the budget It is argued that the most immediate cause shortfalls are due to the general economic of strife in state budgets is the expected drop downturn or to policy decisions made by budget in revenue. No doubt, a drop in economic officials. If they have built a budget around activity will cause state revenues to dip. Whether revenue growing by 10 percent, for example these actually fall in absolute terms is an open and revenue grows by only 8 percent, one could question. Additionally, it is instructive to look argue they are experiencing a shortfall, but not at revenue collections prior to the economic in a way that is meaningful to most people. downturn. Just as we look at the prior decisions Nor do we know whether the current or of other companies and sectors appealing projected budget is built on years of rapid for a federal bailout, it is important to look increases in overall spending. If one’s current at the history of state budgets. Are the states

34 Reason Foundation • reason.org Annual Privatization Report 2009

experiencing an extraordinary shock outside of been able to maintain service levels, adjusting their control or did they succumb to their own for increases in inflation and population growth. excess? Anything above this baseline is surplus revenue This analysis covers the period 2002–2007 available to the states. Their decisions on this using data from the U.S. Census Bureau, the windfall would have real repercussions. It most authoritative source of actual revenue is important to understand how much extra data. The U.S. experienced a modest economic revenue they enjoyed during the boom years. downturn in 2000–2001, due chiefly to the meltdown in the technology sector, with added Total Revenue pressure from the fallout of the September 11, The top-line number of state resources is 2001 attacks. The downturn ended by 2002 and total revenue. It encompasses all the money we emerged from these shocks and experienced available to a state. This includes all tax uninterrupted growth until at least 2007. revenue, money from the federal government, If economic downturns increase the demands income from various trust funds, earnings on state services, then the period 2002–2007 from investments and even state employee should have reduced the demand on these same contributions to pension systems. It reflects every services. In this period, unemployment dipped to dollar available to state governments. around 4 percent, the lowest in modern times. In 2002, total revenue for all states was just Gross domestic product posted steady gains. over $1 trillion (see Figure 4). By 2007, it had Most economic measures pointed up. Therefore, risen to almost $2 trillion, increasing 81 percent this article calculates a baseline of revenue and in just five years. But in that time, inflation spending from 2002 to 2007 based on inflation and population increased 19 percent. So total and population growth. revenue increased more than four times faster In 2002, we had largely recovered from a than inflation and population growth. short-term economic contraction. For the next However, the 81 percent increase over five five years, we enjoyed economic growth, marked years only tells part of the story. Since 2002, by falling unemployment and rising incomes. total revenue collections have been well above In this economic climate, states ought to have the baseline levels needed to maintain services

Figure 4: Total State Revenue Collections, 2002–2007

$ Billions $2,500

$2,000 Total Revenue

$1,500 Baseline

$1,000

$500 2002 2003 2004 2005 2006 2007

Source: Reason Foundation analysis of U.S. Bureau of the Census data, 2002–2007.

Reason Foundation • reason.org 35 Annual Privatization Report 2009

each year. This windfall has a cumulative impact. the control of the legislature, general expenditure In just five years, the states collected $2.2 trillion gives us a fuller picture of state spending. States more than they would have needed to maintain receive around 30 percent of their revenue from revenues at 2002 levels. Put differently, if the the federal government. This is because states, states had merely maintained their existing to a large extent, have become almost subsidiary programs in between economic downturns, they branches of the federal government. In recent would have been able to deliver a $2 trillion tax decades, the federal government has tried to cut at the end of 2007. implement certain national programs. It makes money available to the states to implement 2. Analyzing State Spending these programs, provided the states meet certain There are various ways to look at state thresholds or observe certain mandates. spending. Total state expenditures encompass In 2007, general expenditures in the states every dollar spent by state government, totaled just over $1.4 trillion, a 28 percent increase regardless of its source. Excluding spending over 2002, when general expenditures were just on state liquor stores (where this anachronism over $1 trillion. If state government had kept still exists), utilities and many social insurance spending at 2002 levels, increasing only to account programs and including state employee for inflation and population growth, spending retirement benefits gives us general expenditures. would have risen by just around 19 percent over This number also includes money states get from five years. Instead, spending across all states the federal government to support a variety rose by just over 28 percent. Figure 5 shows the of programs, from highway construction to difference between 2002 baseline spending and Medicaid. Excluding money from the federal actual spending over the same period. government gives us direct expenditures, which This spending above baseline adds up. In encompass current operations, interest on debt, the five years from 2002 to 2007, states spent assistance and subsidies and capital outlays, just over $300 billion more than necessary among other things. to maintain programs at 2002 levels. Keep in When evaluating how states manage mind, this increased spending came at a time of their fiscal affairs, it can be argued that direct falling unemployment and falling welfare rolls. expenditures is the best measure: it is the Unemployment, for example, fell from around 6 spending most directly controlled by state percent in 2002 to around 4.6 percent in 2007. elected officials. Notably, it is the category that Several states went beyond this higher increased the fastest from 2002 to 2007. Table 3 level of spending. Table 4 lists the 10 states details the spending growth in each line item, its with the biggest spending increases from percentage increase and the amount it exceeded 2002 to 2007. Two of them, Louisiana and inflation plus population. Mississippi, experienced devastating storms in While it is interesting to look at direct 2005, accounting for much of their increased expenditure, because it is the category most in spending. A few more states experienced faster

Table 3: Aggregate State Spending Growth, 2002–2007 Category Actual 2002 Actual 2007 % Increase % Over Inflation + Population Total Expenditures $1.282 trillion $1.634 trillion 27 45 General Expenditures $1.110 trillion $1.423 trillion 28 47 Intergovernmental Expenditures (federal) $364 billion $457 billion 25 32 Direct Expenditures $745 billion $965 billion 30 58

Source: Reason Foundation analysis of U.S. Bureau of the Census data, 2002–2007.

36 Reason Foundation • reason.org Annual Privatization Report 2009

Figure 5: Actual State General Fund Spending vs. Baseline (in thousands), 2002–2007 1,510,668

1,410,668 Actual 1,310,668 Baseline 1,210,668

1,110,668 2002 2003 2004 2005 2006 2007 Source: Reason Foundation analysis of U.S. Bureau of the Census data, 2002–2007.

But for the five years immediately Table 4: Spending Growth in Selected States, 2002-2007 preceding the economic downturn, Actual Spending State Baseline %Above Growth states experienced robust revenue 1. Arizona 58% 28% 107% growth and steady increases in 2. Louisiana 56% 10% 514% overall spending. Their total 3. Wyoming 50% 18% 178% spending far outpaced inflation. In 4. New Mexico 47% 20% 135% fact, states collectively spent $300 5. Mississippi 46% 15% 207% billion more than was necessary to 6. Delaware 45% 21% 114% maintain programs at 2002 levels. 7. Florida 41% 23% 78% As this period coincided with falling 7. Nevada 41% 30% 36% unemployment and a generally strong 9. Georgia 38% 25% 52% economy, it is not unreasonable to 9. Vermont 38% 14% 171% ask how states could have justified such a large increase in spending. Source: Reason Foundation analysis of U.S. Bureau of the Census data, 2002-2007. No industry expects its costs population growth than the nation as a whole, to increase every year at more than but in none of those states does that growth the rate of inflation. Such a business model is account for the higher spending. For these states, unsustainable in today’s globalized economy. a baseline figure based on their own inflation Every industry and every company, is under and population growth rates is included, for constant pressure to trim its costs and change comparison. how it delivers services. Economic downturns provide an extra incentive to do this and 3. Conclusion generally help set the stage for a robust recovery. State governments are joining a long list State governments shouldn’t be immune to this. of industries clamoring for federal assistance Instead of seeking a temporary bailout from the through these turbulent economic times. No federal government, states should roll up their doubt, a weak economy will put pressures on sleeves and put their own fiscal houses in order. state budgets. There will likely be less revenue This article is an excerpt from a than states had expected to collect and there may forthcoming Reason Foundation policy study. also be greater demand for many state services.

Reason Foundation • reason.org 37 Annual Privatization Report 2009

D. Rich States, Poor States: The deficits because they don’t tax enough. The real 2009 ALEC-Laffer State Economic problem facing states is the fundamental issue Competitiveness Index of overspending taxpayer dollars. Overall state spending has grown at an unsustainable rate over By Jonathan P. Williams, American Legislative the past decade. In fact, state spending is up 124 Exchange Council percent over where it was just 10 years ago and The 2009 edition of the Rich States, Poor state debt increased by 95 percent during that States report from the American Legislative period. In many cases, states facing the worst budget Exchange Council (ALEC) is a valuable resource shortfalls are the same states that engaged in reckless for state lawmakers and citizens to evaluate their spending. During testimony before the House state’s fiscal and economic policies, as well as Ways and Means Committee in Washington, South the results and ramifications of those policies. Carolina Governor Mark Sanford noted: This year’s edition focuses on some of the most California increased spending 95 critical issues facing lawmakers today, with more percent over the past 10 years (federal than 40 states struggling with budget deficits. spending went up 71 percent over the Today, many states find themselves in a same period). To bail out California now world of fiscal pain. Of course, the only reason seems unfair to fiscally prudent states. many of these states face budget shortfalls is During his testimony, Sanford urged because they spent beyond their means. During Congress to “accept that there may be better the good times over the past few fiscal years, routes to recovery than a blanket bailout, states had no trouble finding ways to spend the including offering states . . . more in the way of soaring tax revenues that came their way. flexibility and freedom from federal mandates Now the so-called structural deficits are instead of a bag of money with strings attached.” back. Predictably, voices from the political Unfortunately, Congress did not take Sanford’s left have already begun talking about the advice. Instead of using economic stimulus “need to raise taxes,” and several states have dollars to increase education spending (and already voted for significant tax hikes in 2009. subsequently having to cut this funding when Disturbingly for these states, Rich States, Poor federal dollars dry up), Sanford wanted to pay States found that high state taxes, particularly down state education debt. But the Obama income taxes, have a clear and negative effect on administration used the strings attached to income, population and job growth. stimulus dollars to prohibit him from using Legislators should be forewarned: increasing federal aid in this prudent fashion. income taxes is an economic loser. As Rich State budgets have faced financial duress States, Poor States outlines, states that wish to many times before because of overspending remain competitive in the 21st century need to and certainly will again in the future. History avoid tax increases by living within their means. suggests federal bailouts are not the answer, Hard-working families and businesses are as they decrease state sovereignty, encourage required to live within their means each month. future fiscal irresponsibility and reward fiscally Why on earth should we hold state governments imprudent states at the expense of fiscally to a lower standard? responsible states. As in any time of crisis, many elected In the midst of economic turmoil, federal officials are suffering from a predictable case of bailouts and budget shortfalls in the states, “do something” disease. Many state and local Rich States, Poor States analyzes why millions elected officials want instant solutions to their of Americans are moving from high-tax states budget problems. States are not facing budget to low-tax states. Arthur Laffer, the father of

38 Reason Foundation • reason.org Annual Privatization Report 2009

supply-side economics and Stephen Moore, This year’s edition of Rich States, Poor senior economics writer at The Wall Street States has a special focus on California. The Journal, have teamed up with ALEC once again Golden State is not only our nation’s largest to provide this in-depth analysis of economic state in most every economic metric, it also has competitiveness in the states. As our elected a highly volatile political climate. The report officials think about beginning the annual task includes a case study comparing the vastly of budget writing, we remind lawmakers that different policy approaches used by Texas levying tax increases is not a sustainable answer and California. Furthermore, it compares for budget problems. California’s present with its past. The history of Especially during an economic downturn, California, centered on the tax revolt crystallized states need to do everything they can to become in Proposition 13 in 1978, shows a laboratory more competitive, not less. Table 5 compares experiment in which the state went from fiscal the economic performance of the top 10 states— malaise to fiscal health and then back to malaise according to our 2009 Economic Outlook again. By showing the current class of legislators Rankings—with the bottom 10 states. The the ghosts of California’s past, we hope they results are eye-opening. can begin picturing the ghosts of California’s Table 5: Relationship Between Policies and Performance: Laffer State Competitive Environment Rank vs. 10-Year Economic Performance, 1997 to 2007 Rank* Gross State Personal Personal Population Net-Domestic Non-Farm Unemploy- Product Income Income Per Growth In-Migration as a Payroll ment Rate, Growth Growth Capita Growth % of Population Growth 2007 Utah 1 86.7% 82.3% 45.6% 26.3% 0.3% 25.9% 2.7% Colorado 2 77.8% 84.9% 52.1% 20.0% 4.6% 17.7% 3.8% Arizona 3 93.9% 101.4% 47.9% 33.1% 12.2% 34.4% 3.8% Virginia 4 80.7% 78.4% 56.4% 12.6% 2.2% 16.4% 3.0% South Dakota 5 71.3% 73.8% 63.9% 7.8% 0.2% 15.2% 3.0% Wyoming 6 111.4% 114.6% 103.4% 8.5% 2.1% 28.3% 3.0% Nevada 7 112.3% 114.6% 48.4% 40.3% 17.2% 45.0% 4.8% Georgia 8 67.0% 74.4% 38.5% 23.2% 6.7% 14.7% 4.4% Tennessee 9 59.0% 64.8% 46.5% 11.6% 4.4% 8.3% 4.7% Texas 10 90.5% 89.8% 55.8% 20.7% 3.4% 20.3% 4.3% 10 Highest 85.1% 87.9% 55.9% 20.4% 5.3% 22.6% 3.8% U.S. Average** 66.8% 69.5% 53.6% 9.9% 0.9% 13.3% 4.3% 10 Lowest 59.3% 60.7% 52.3% 4.4% -3.3% 9.3% 4.5% Hawaii 41 63.9% 61.7% 54.4% 6.0% -4.0% 17.3% 2.6% Pennsylvania 42 54.7% 54.6% 50.9% 1.7% -0.9% 7.2% 4.4% California 43 77.9% 76.6% 56.0% 11.4% -4.0% 15.5% 5.4% Illinois 44 50.9% 55.6% 47.1% 5.1% -5.4% 3.6% 5.0% Ohio 45 40.4% 42.3% 38.4% 1.5% -3.5% 0.6% 5.6% New Jersey 46 54.7% 62.4% 52.5% 4.8% -5.3% 9.4% 4.2% Maine 47 55.8% 60.7% 52.1% 4.6% 3.1% 11.5% 4.7% Rhode Island 48 64.5% 61.7% 55.4% 1.9% -3.7% 9.6% 5.0% Vermont 49 61.8% 69.3% 61.2% 3.5% 0.1% 10.2% 3.9% New York 50 68.5% 61.7% 55.3% 3.9% -9.5% 8.3% 4.5%

Source: Arthur B. Laffer, Stephen Moore and Jonathan Williams, Rich States, Poor States: ALEC-Laffer State Economic Competitiveness Index, American Legislative Exchange Council, 2009.

Reason Foundation • reason.org 39 Annual Privatization Report 2009

The 15 policy factors in the 2009 ALEC-Laffer State Economic Competitiveness Index

n Highest Marginal Personal Income Tax Rate n Highest Marginal Corporate Income Tax Rate n Personal Income Tax Progressivity n Property Tax Burden n Sales Tax Burden n Tax Burden From All Remaining Taxes n Estate Tax/Inheritance Tax (Yes or No) n Recently Legislated Tax Policy Changes n Debt Service as a Share of Tax Revenue n Public Employees Per 1,000 Residents n Quality of State Legal System n State Minimum Wage n Workers’ Compensation Costs n Right-to-Work State (Yes or No) n Tax or Expenditure Limits

future—identified by much lower taxes and tax and spend more. much higher economic growth. Top-performing states in the ALEC-Laffer The final section of the report is a state-by- State Economic Competitiveness Index are highly state detailed description of the key economic correlated to economic growth, while many of variables. The 2009 ALEC-Laffer State the losers suffer economic malaise. The top states Economic Competitiveness Index offers two keep taxes, spending and regulatory burdens rankings. The first, the Economic Performance low. The biggest losers tend to share similar Rank, is a historical measure based on a state’s policies of high tax rates, unsustainable spending performance on three important variables— and regulation. personal income per capita, absolute domestic While the states are certainly suffering migration and nonfarm payroll employment— from the current economic downturn, this new all of which are highly influenced by state publication clearly demonstrates that we cannot policy. This ranking details states’ individual tax, borrow or spend our way into prosperity. performances over the past 10 years based on The report exposes the economic burden that this economic data. high taxes, irresponsible spending and other big The second measure, the Economic Outlook government policies place on our states. Rank, is a forecast based on a state’s current Rich States, Poor States is not about standing in 15 state policy variables. Each Republican versus Democrat or left versus right. of these factors is influenced directly by state It simply highlights how state policy choices can lawmakers through the legislative process. mean the difference between economic vitality Generally speaking, states that spend less— and economic malaise. especially on income-transfer programs—and Jonathan Williams is the director of the Tax and states that tax less—particularly on productive Fiscal Policy Task Force for the American Legislative activities such as working or investing— Exchange Council and co-author of the book Rich experience higher growth rates than states that States, Poor States, available at www.alec.org.

40 Reason Foundation • reason.org Annual Privatization Report 2009

Local Government

Contents A. Chicago Nets $1.1 Billion in Parking Meter Privatization, L.A. and Others to Follow B. Dunwoody Becomes Georgia’s Fifth New Contract City C. L.A. City Controller Recommends Sweeping Privatization Program D. Indianapolis Returning to Privatization Roots E. Milwaukee County Board Nixes Privatization Push F. Kansas City, King County Embrace Privatization of Animal Shelters G. Other Local Privatization News

A. Chicago Nets $1.15 Billion in Chicago Parking Meters, LLC, a consortium led Parking Meter Privatization, L.A. and by Morgan Stanley Infrastructure Partners—the Others to Follow right to maintain and operate the meters throughout the life of the contract. The deal also In December 2008, Chicago Mayor Richard requires the operator to do a wholesale system Daley announced the winning $1.15 billion overhaul, replacing the antiquated coin-based bid for a 75-year concession (lease) of the meter system with a high-tech, multi-space/multi- city’s downtown parking meters, marking the pay meter system that will facilitate payment via first privatization of an urban parking meter cash, credit and debit cards and potentially other system in the United States. With over 36,000 pay systems. meters generating roughly $19 million per year, “This is the best thing that has happened Chicago’s is among the largest parking meter for us in regards to getting out of this business,” operations in the country and is already serving Mayor Daley said in announcing the deal. as a model for Los Angeles, Indianapolis and “This is not the core business of the city of other local governments contemplating similar Chicago.” The deal follows right on the heels of deals. While glitches in the early implementation the 2005 lease of the Chicago Skyway (netting have prompted significant scrutiny of the the city $1.8 billion) and the 2006 lease of transaction from local officials and media, the four downtown parking garages (netting $563 turbulence of the early rollout now seems to million). have subsided as operational improvements have Under the terms of the parking meter taken hold in recent months. contract, the city retains full responsibility for 1. Understanding the Parking Meter rate setting, parking regulation enforcement and Concession fine collection. The deal also preserves the city council’s decision-making authority over the In exchange for an up-front $1.15 billion number of meters and hours of operation, as payment, the agreement grants the operator—

Reason Foundation • reason.org 41 Annual Privatization Report 2009

well as the city director of revenue’s authority represented other bidder groups in the parking over the length of time a customer can park. meter auction, told Reason Foundation that he The operator does have the ability under sees this transaction as a watershed event for the the contract to supplement the city’s ticketing public-private partnership market in the U.S. function if the city’s own performance wanes that will likely prompt imitators in other local in the future. But since all parking fines will governments. According to Smith, “the city of continue to be collected by and to the benefit of Chicago was smart to recognize that the parking the city alone, the operator does not stand to meter system was an asset worth more than a realize even a penny from enhanced ticketing; billion dollars in private hands, but generating hence, hiring additional private ticketers would little revenue for the city. It just made good effectively represent a net cost to the operator, business sense to let someone else operate and with no additional offsetting revenues. run the system.” Parking rates will be allowed to rise each The bidding process for the parking meter year for the first five years of the contract, after transaction was structured along the same lines which any subsequent rate increases over the as the city’s earlier Skyway and parking garage remainder of the contract term will be subject to transactions. The city hired a financial advisor city council approval. Increases in any given year in June 2007 to begin preliminary due diligence would be capped to increases in the consumer and market valuation regarding a potential lease. price index. In February 2008, the city issued a request for Furthermore, the contract requires the qualifications to potential investors and parking operator to replace and upgrade the entire meter operators regarding a parking system lease. system—at its own expense, separate from Respondents were asked to demonstrate their the $1.1 billion up-front payment—removing technical capabilities with regard to operations significant future operations, maintenance and and maintenance, their ability to implement capital expenditure costs from the city’s books technological and equipment improvements and for decades to come. their capacity to raise the necessary financing The city split the proceeds from the parking and access operating capital. In March 2008, meter agreement in four ways: ten prospective bidders submitted qualification n $400 million was placed into a long-term statements, of which six were deemed qualified reserve/revenue replacement fund, bringing by the city. The city then began conducting an the city’s total long-term reserves to $900 extensive due diligence process with each of the million. six bidders as it refined the concession agreement on which the teams would ultimately bid. n $325 million is being used for mid-term In December 2008, the city received two budget relief through 2012, with $150 bids from Morgan Stanley ($1.008 billion) million drawn down thus far to balance the and Macquarie ($964 million). Since the two city’s fiscal year 2009 budget. bids were within ten percent of each other, the n $320 million was placed in a budget city initiated a best-and-final bid process. In stabilization (“rainy day”) fund. the second round, Morgan Stanley responded n $100 million was placed in a human with a $1.157 billion bid, nearly $140 million infrastructure fund used to supplement the higher than Macquarie’s $1.019 billion bid. Both budgets of a variety of low-income support bids exceeded the city’s $1 billion minimum programs for a five-year period. acceptable bid threshold. According to city Chief Michael Smith, a projects lawyer with the Financial Officer Gene Saffold, “The best-and- firm Baker & McKenzie in Chicago, which final round heightened the competitive tension

42 Reason Foundation • reason.org Annual Privatization Report 2009

among the bidders—and ensured that Chicago In May 2009, Mayor Daley took received the absolute highest bid.” responsibility for the implementation glitches, noting that the city should have undertaken the 2. Chicago’s Early Transition Sees transition to privatization more gradually. As Operational, Political Challenges Daley told the Chicago Sun-Times, “I’ll take The transition to private operation began the responsibility. […] There should have been in February 2009 and was immediately beset a transition—a much better transition—and with operational challenges, feeding a media there wasn’t. That’s one thing we learned. There and political backlash that focused enormous should have been a three-month transition.” scrutiny on the early implementation. The However, Daley added that the transfer of the combination of the onset of parking rate Chicago Skyway and the downtown parking increases and early transition challenges garages to concessionaires had proceeded prompted some pundits and observers—even without incident and that if the city did not city aldermen who voted for the concession—to have the cash infusion from the parking meter label the months-old initiative a failure and a concession, “you’re talking about a serious bad deal for the city. However, by the summer economic crisis for Chicago.” of 2009, the operational issues that plagued Despite the early glitches in implementation, the early rollout were largely resolved and the the city reports that parking meter operations system overhaul was well underway and ahead have been steadily improving and that the of schedule. concessionaire has responded well following the transitional problems: Operational Issues n The early transition to concessionaire The early months of the transition to operation saw a spike in average meter private meter system operation saw some repair times. However, the addition of unexpected operational glitches that attracted operational staff has helped to decrease significant media attention. In an April 2009 repair times significantly in recent months news conference, Chicago Parking Meters and the concessionaire has now cut the CEO Dennis Pedrelli acknowledged that the average repair time to less than half of concessionaire “underestimated the resources the level under former city operation. In required” to reprogram meters to reflect higher March 2009, meters reported broken were rates and address a backlog of broken, jammed repaired in about eight business days, far and mismarked meters that prompted numerous slower than the two-day repair time the city complaints from citizens over dysfunctional averaged before privatization. However, the meters and unfair fines. In late May, 250 newly concessionaire’s average repair time dropped installed meters malfunctioned in a single day. to roughly 1.5 business days by April and Furthermore, during the spring, local blogs by July, the average repair time had fallen to and media outlets hyped a series of incidents less than one business day. of vandalism against meters that further n The city has also found that there has been sensationalized the parking meter concession. a significant reduction in jammed meters. A However, parking experts note that most cities May city audit identified only eight meters experience a certain amount of parking meter with jams and as of July 2009, over 96 vandalism on an ongoing basis, particularly percent of the meter system is operable on in response to rate increases. According to the any given day, exceeding the operability city, Chicago has not seen an atypical level of percentages in several peer cities. vandalism in 2009. n The concessionaire has been adding new

Reason Foundation • reason.org 43 Annual Privatization Report 2009

multi-space, “pay-and-display” meters transaction and the troubled implementation. to the street at an unprecedented rate. By Daley administration officials and concessionaire July 2009, the concessionaire had already representatives were brought before several replaced 10,236 meters with 1,357 new contentious council hearings to address questions pay-and-display meters. By contrast, the city on various aspects of the deal and its rollout. In installed just 198 pay-and-display meters June 2009, the council approved an ordinance in a five-year period prior to the lease. The requiring a 15-day review period before a concessionaire has already replaced these council vote on future proposals to privatize city older generation pay-and-display meters assets. with 207 newer models. Further, Alderman Leslie Hairston—one

n The concessionaire expects to finish the of five on the council voting against the deal replacement of all 30,000 meters by the end in December—asked Illinois Attorney General of 2009—two years ahead of schedule—at Lisa Madigan to launch a consumer fraud an overall expense of between 40 and 50 investigation to examine potential “deceptive million dollars. The concessionaire will business practices” concerning broken meters also make additional capital expenditures and subsequent parking violation fees; at press over the life of the deal, as pay-and-display time, Madigan’s investigation was still ongoing. meters are typically replaced every seven to What raised perhaps the most council 10 years. Some benefits of the new pay-and- scrutiny was a June 2009 report issued by the display meters identified by the city include: city’s Office of the Inspector General (OIG) arguing that the city did not properly estimate o More payment options for consumers, the value of its parking meter system prior to the since the new meters offer payment by lease. The report included a valuation analysis coin, credit card or debit card; claiming that the deal should have been worth o Each pay-and-display meter replaces at least $2.13 billion. In a press conference roughly seven older meters; responding to the report, Mayor Daley’s chief o The new meters use solar power, of staff, Paul Volpe, called the OIG’s estimate reducing the need to recycle more than of $2.13 billion “ridiculous” and labeled the 40,000 9-volt and lithium batteries each report “misguided and inaccurate,” as it failed year; to adequately account for the inherent risks in o Collection and maintenance crews parking meter operations. need to visit meters less often, since the In the aftermath of the OIG report, a June new meters use a wireless network to 2009 city council resolution called for city immediately inform operators when a officials to appear before the council’s finance meter is broken or in need of collection. committee to testify on the parking meter concession bidding process, criteria used to o The new technology allows the city to determine bidder qualifications and the financial measure system utilization by hour at analysis used to determine an acceptable bid each block; prior to the concession, the amount. In a memorandum prepared as a city had to rely on crude approximations supplement to his committee testimony, city of utilization. Chief Financial Officer Gene Saffold noted that: Political challenges There is a wide gap between academic theory and the actual With media reports stoking a barrage of marketplace. It is misguided to compare citizen complaints regarding the parking meter a theoretical value with an actual deal, the city council began to question the

44 Reason Foundation • reason.org Annual Privatization Report 2009

market value—one that was reached according to Blair, the city would retain these through taking an asset to market, risks if it were still operating the system itself, using a competitive process. Readers of which the OIG report should have reflected these academic exercises are left with by using a higher discount rate in its valuation the mistaken impression that the city analysis. received less than market value. That is The Blair report analysis concludes that not the case. “by properly projecting [parking meter system] Saffold backed up his testimony with revenues and by applying a discount rate that a report prepared for the committee by the appropriately reflects the relative risks….the city’s financial advisor on the parking meter conclusion that the city received full and fair concession, William Blair & Company, critiquing value for the Concession of the [meter system] is the OIG valuation analysis. Specifically, the Blair clearly supported and affirmed.” report noted two significant inaccuracies in the The winning $1.156 billion bid “represented OIG analysis that rendered its findings incorrect. a very aggressive bid, reflecting the robust First, the OIG report estimated the system’s competitive bidding process, the trophy nature value on the basis of gross system revenue rather of the asset and the limited number of American than free net cash flow. The OIG report assumed public infrastructure investment opportunities,” $500,000 in annual capital expenditures for the the Blair report concluded. “The winning bid parking meter system beginning in year three was at the high-end of the estimated range of which, according to the Blair report, dramatically [the system’s projected value.]” understated the cost of capital expenditures by $4 million annually over the life of the 75-year deal 3. Other Local Governments Look to Parking and overstated the amount of free cash flow for Asset Privatization each year. In addition, Blair found that the OIG Inspired by Chicago’s parking asset leases, report also failed to account for $5 million each other local governments are currently exploring year in system operations costs. similar transactions. In late April 2009, the Los Second, the Blair analysis found that the Angeles City Council approved a $500,000 OIG used an inappropriately low discount rate contract to study the feasibility of privatizing (7.0 percent) in estimating the meter system’s the city’s 41,000 parking meters and six parking value, based on a faulty assumption that the garages. The parking asset lease proposals were parking meters are a “very low risk” enterprise. a key feature of Mayor Antonio Villaraigosa’s By contrast, in its own valuation analysis, the plan to close a $530 million budget shortfall, city used discount rates in the range of 10 to prevent the layoff of 800 city workers and avoid 14 percent to reflect a medium-to-high degree furloughs in the Los Angeles Police Department, of risk. Blair notes that there are substantial which a competing council budget plan had risks associated with the operation and value proposed. Villaraigosa included $80 million of of the system that were transferred from the lease proceeds in his 2009-10 budget, though city to the concessionaire in the deal, including administration officials expect that a well- system utilization risk, long-term operational structured deal could generate a substantially risk and other risks associated with the potential larger value. for changes in population, economic activity, Officials in Allegheny County, PA are technology, public transit usage, fuel costs and considering a lease of parking facilities at numerous other factors that affect the long-term Pittsburgh International Airport (PIT) to retire economic value of the system. These substantial $475 million in bonds used to finance a new risks were transferred to the concessionaire and midfield terminal in the 1990s. Allegheny

Reason Foundation • reason.org 45 Annual Privatization Report 2009

County Chief Executive Dan Onorato is meters, including the possibility of a long- proposing a long-term lease of the airport’s term, Chicago-style lease. The city’s Director parking facilities—13,200 spaces between of Enterprise Development, Michael Huber, garages and lots—to a private operator to told the Indianapolis Business Journal in July generate $500 million or more in an up-front 2009 that the city would use any meter system payment to defease the bonds. Debt service on modernization revenues to fund sewer and road those bonds is running $62 million per year, infrastructure projects. compared with about $22 million in annual Eight firms responded to a request for parking revenue. Thus, under a lease, the Airport parking meter revenue enhancement proposals Authority could for many years save a lot more issued by Mayor Greg Ballard’s administration, in debt service expense than it would be losing in including Denison/Walker Parking Consultants, parking revenue. IMG Capital, Affiliated Computer Services Inc., An article in the Pittsburgh Post-Gazette Verrus Mobile Technologies Inc., MobileNow, quotes Merrill Stabile, president of parking KPMG, Carl Walker Parking and Energy Systems operator Grant Oliver Corp., as saying that Group. Proposals ranged from technological and investment groups have recently paid 15 to system overhauls to long-term leases to private 20 times earnings for parking facilities; he sector operators. estimated parking at PIT could be worth up to One proposal estimated the value of a long- $440 million. Two factors that would influence term parking meter system lease in Indianapolis that value are the length of the lease and what at over $100 million. A new city Infrastructure controls on parking rate increases would be Advisory Commission formed in early 2009 included in the deal. At press time, the proposal would be responsible for setting spending had not yet come up for discussion in an priorities for any new parking meter revenue. Allegheny County Airport Authority formal The city also is seeking similar private sector board meeting. proposals to maximize revenues from more than In neighboring Pittsburgh, the city council 10,000 off-street parking spaces in city-owned adopted a new five-year fiscal recovery plan for parking garages and surface lots. the city in June 2009—required under state law since Pittsburgh’s designation as a “distressed 4. Parking Meters in the Context of Chicago’s municipality” in 2003—that includes a plan Asset Leases to privatize city parking garages. The plan Despite the high-profile collapse of a $2.5 was subsequently approved by Mayor Luke billion long-term lease of Midway Airport in Ravenstahl, who initially proposed the initiative early 2009 (detailed in the Air Transportation in a set of options designed to boost the coffers section of this report), the parking meter of the city’s underfunded pension fund. Officials concession demonstrates that Chicago continues in two other Pennsylvania cities—Philadelphia to break new ground in strategic municipal and Harrisburg—also floated parking asset asset leasing. Over the last four years, the city lease proposals. In Harrisburg, the city council has tapped over $3.5 billion through long- rejected an unsolicited bid for a 75-year lease of term partnerships with private infrastructure its 8,500 public parking spaces, including nine operators, allowing the city to shore up its city parking garages, in exchange for a $215 budget, upgrade infrastructure, pay down city million up-front payment. debt, establish “rainy day” funds, transfer At press time, officials in Indianapolis revenue and operational risks to private partners were considering several proposals to enhance and turn government liabilities into revenue- the revenues from its roughly 4,000 parking generating assets.

46 Reason Foundation • reason.org Annual Privatization Report 2009

B. Dunwoody Becomes Georgia’s Chicago’s Policy on Asset Leases Fifth New Contract City According to its stated policy, the city Dunwoody, Georgia’s fifth recently of Chicago will only pursue long-term infra- incorporated city, officially opened its doors structure asset leases when: on December 1, 2008. Five new cities—Sandy

n There is substantial financial benefit Springs, John’s Creek, Milton, Chattahoochee to Chicago taxpayers and residents; Hills and now Dunwoody—have formed in metropolitan Atlanta since 2005 and, as upstart n Management of the asset is not the “contract” cities, relied largely upon a privatized city’s core competency; and city government model in which private n Experienced and professional contractors provide almost all non-safety-related operators exist who can improve services. efficiency, quality of service and make The first four new cities signed contracts enhanced capital investments. with the firm CH2M Hill-OMI to provide all of their contracted services. Dunwoody leaders The proceeds from the Skyway, parking ultimately took a different approach—opting garages and parking meter system leases were to contract out bundles of services, instead used to establish long-term reserve funds of of hiring one operator—and it hired the firm more than $1 billion, retire $925 million in Boyken International to temporarily manage debt, reserve over $700 million for mid-term contracting processes. Dunwoody officials have budget relief and invest more than $322 million also approved intergovernmental agreements for in neighborhoods, parks and other community continued provision of fire and rescue, water and programs. The Chicago Tribune recognized the wastewater and emergency 911 services. benefits of the Skyway lease in an October 2008 Inspired by the successful establishment of editorial: “The city’s deal to lease the Chicago neighboring Sandy Springs in 2005—the first Skyway to a Spanish-Australian consortium for and largest of the new Georgia contract cities— 99 years has demonstrated the benefits of leasing over 80 percent of 37,000 residents of the north public assets judiciously. Chicago got a $1.8 DeKalb County community voted in July 2008 billion windfall […] [t]hat raised the city’s credit to incorporate the new city of Dunwoody. rating and lowered its borrowing costs.” The following month, Georgia Governor Indeed, the city’s ability to use lease proceeds Sonny Perdue appointed five interim to reduce city debt and establish long-term representatives to guide the establishment of reserves prompted all three major credit rating municipal services and facilities, design a tax and firms to raise the city’s bond rating, lowering fee structure and negotiate intergovernmental the city’s borrowing costs. In fact, Moody’s agreements in advance of a September municipal Investor Service upgraded Chicago’s bond rating election and December 1, 2008 start-up date. to its highest level in 25 years, citing the “vital Working groups began outlining the framework infusion” of lease proceeds as a key factor. of the new city and exploring comprehensive Daley’s recent privatization deals have privatization models along the lines of Sandy certainly not spared the city fiscal troubles in the Springs and the other new Georgia contract current recession, but strategically investing lease cities. proceeds in a combination of short-, mid- and In response to a request for proposals, long-term investments has cushioned the fiscal CH2M Hill submitted the only bid for a blow and placed the city in a far better position comprehensive services contract with Dunwoody. to weather the storm. Citizens for Dunwoody, the citizen group that

Reason Foundation • reason.org 47 Annual Privatization Report 2009

served as a primary driver of the incorporation department was being established to meet an effort, began negotiating with CH2M Hill on the April 1, 2009 start date. In fact, roughly 40 structure of a contract. However, a September percent of the city’s budget—or $5.7 million—is revenue report found that some anticipated tax dedicated to police services; increased police revenues were going to materialize more slowly protection was one of the main drivers behind than originally expected and city representatives the incorporation effort. began renegotiating with CH2M Hill to adjust the service model to match the new revenue 1. Chattahoochee Hills Cancels Services projections. Contract However, as the new city council was Having only been in operation since nearing a decision on the CH2M Hill contract, December 2007, Chattahoochee Hills faced a state senator from the area brought forth a a revenue shortfall in 2008 and 2009 that last-minute proposal from Boyken proposing ultimately forced it to cancel its contract with a “hybrid” approach to service delivery in CH2M Hill in May 2009. Mayor Bill Hayes which the management firm would coordinate told the Atlanta Journal-Constitution that contracting for specific and/or bundled city while the town was satisfied with CH2M services among multiple vendors. CH2M Hill Hill’s performance, “we just can’t afford them subsequently withdrew their bid and the city anymore.” He added that, “We couldn’t have eventually negotiated a consulting contract with started the city without [CH2M Hill].” Boyken to guide bidding processes for major city The small city (population 2,500) was functions. slated to spend about a third of its annual $1.5 Dunwoody officially opened its doors million budget on its contract with CH2M Hill, on December 1, 2008 with a $14.4 million but declining property tax receipts in 2009 budget, $4.1 million of which is being paid forced significant budget cuts and necessitated to contractors providing the bulk of bundled cancelling the contract. Chattahoochee Hills services in three main areas: public works (Lowe currently has only one dedicated CH2M Hill Engineers), community development (Clark employee—the town clerk—and largely relies on Patterson Lee) and financial and administrative its own staff or CH2M Hill employees shared services (Calvin, Giordano and Associates). with the nearby cities of Sandy Springs, Johns City officials signed contracts for several Creek and Milton. The company will continue to other services in 2009, including ordinance provide services through December 2009. codification, records management, wrecker 2. Other Georgia Contract Cities News services and telecommunications and network services. In mid-July, the city is expecting bids n In its fourth year of cityhood, Sandy for the design of a comprehensive financial Springs officials reported that despite a management software package for use by the projected 20 percent decline in revenues, city’s finance department, as well as separate operational expenditures and tax levels will bids for a three-year financial and compliance remain stable and many planned capital auditing services contract. expenditures will still proceed. Conservative Dunwoody also signed intergovernmental fiscal management has produced a budget agreements with DeKalb County to continue surplus exceeding $14 million that will be providing water and wastewater, fire and used to cover revenue shortfalls; city officials rescue, sanitation and 911 services. The county note that these surpluses are distinct from also agreed to provide police services through the city’s current “rainy day fund”—set at March while the city’s new 48-member police 16 percent of the total budget—which will

48 Reason Foundation • reason.org Annual Privatization Report 2009

not be tapped. do things.” The city will establish a review

n In fiscal year 2010, Sandy Springs will spend process to test ideas and employees who $24.1 million of its $97 million budget— provide the original ideas will receive a merit nearly one-fourth—on roads, parks and bonus. sidewalk projects. By comparison, the city will pay only slightly more ($26 million) C. L.A. City Controller Recommends to CH2M Hill for its operations contract. Sweeping Privatization Program Mayor Eva Galambos told the Atlanta A December 2008 report commissioned Journal-Constitution in May 2009 that the by Los Angeles City Controller Laura Chick city was in “catch-up” mode on capital recommends that the city privatize dozens of projects, since Fulton County had neglected major operations as part of its strategy to close infrastructure prior to incorporation. She a projected $530 million budget shortfall. The added, “What we’re putting into capital report identified Ontario International Airport annually is about what the [Fulton] County as the largest potential privatization opportunity, Commission used to steal from us annually.” but the report also suggests that the city pursue n In an effort to speed dispatching and a wide-ranging privatization program covering improve emergency response times, Sandy such areas as residential solid waste collection, Springs and Johns Creek agreed to jointly water/wastewater facility operations, fleet develop a $3.5 million 911 center set to maintenance services, city-owned golf courses, open in September 2009. The cities agreed animal shelters and parking facilities (discussed on a joint contract with iXP Corp. to earlier in this section). establish and operate the 911 network, In the preface to the report, Chick wrote: which will utilize 54 full-time dispatchers. “[t]he cost of delivering essential services keeps “The expectation in these two communities growing at a rate that exceeds the city’s ability is extraordinarily high and we will deliver to generate revenue and is a major reason we’ve on them,” Noah Reiter, the assistant city had a structural deficit for years now. When manager in Sandy Springs, told the Atlanta it comes to looking at how the city can fulfill Journal-Constitution in July 2009. Johns its obligations to the public and pay for it, no Creek City Manager John Kachmar added subject should be taboo.” that the initiative should be an improvement In his April 2009 State of the City speech, over current 911 services provided by Fulton Mayor Antonio Villaraigosa noted that he County; “The level of service we’re getting intends to explore “a series of responsible was just not acceptable […] We wanted to public-private partnerships and advertising do better.” opportunities with the potential to generate more than $1 billion over the next several years” n In June 2009, Sandy Springs adopted a new to supplement sagging city revenues. And as innovation and visioning policy, establishing discussed earlier in this section, the city council a quarterly process for city workers to approved a $500,000 contract to study the provide new ideas on how to best serve feasibility of privatizing the city’s 41,000 parking taxpayers. “We started with a blank sheet of meters and six parking garages, a key component paper starting this government and I don’t of Villaraigosa’s budget plan. ever want to throw that blank sheet away,” A January 2009 article in the Los Angeles Councilman Rusty Paul told the Atlanta Business Journal noted that the last time Los Journal-Constitution in June 2009. “We Angeles engaged in a significant discussion on must continually look at how else we can privatization policy was under Mayor Richard

Reason Foundation • reason.org 49 Annual Privatization Report 2009

Riordan in the 1990s, when his proposals to don’t think we have anything to worry about… privatize Los Angeles International Airport and we can do the job. We showed them in the past the city’s parking facilities and golf courses to and we’ll do it again.” Local union leader Steven fill a $200 million budget deficit were stymied Quick appreciates that the unions will be a part by public employee unions and their city council of the process, adding, “just going through the supporters. process, I think we’ll find savings.” Things may be different today, as the city struggles to address an ongoing budget crisis amid a lingering national recession. Milken E. Milwaukee County Board Nixes Institute managing economist Kevin Klowden Privatization Push told the Journal that, “If privatization is going to In September 2008, Milwaukee County happen, this is the time it will happen.” Executive Scott Walker released his 2009 budget, which included proposals to privatize several county services, including vehicle maintenance, D. Indianapolis Returning to operation of the county’s economic support call Privatization Roots center and non-medical services at the county Facing a $23 million budget shortfall, behavioral health hospital. The proposal also Indianapolis Mayor Greg Ballard is trying allocated $500,000 for a study assessing the to return the city to its privatization roots. potential privatization of General Mitchell Indianapolis is often considered a municipal International Airport. leader in competition and privatization, “This budget turns to partnership contracts having solicited competitive bids on dozens to maintain core services while keeping jobs of services starting back in the 1990s under within the county, just not necessarily with the administration of former mayor Stephen county government,” Walker said in announcing Goldsmith, saving tens of millions of taxpayer his executive budget. “This is a budget that does dollars. more with less and presents a way to sustain Noting the cost savings and revenue vital services for years to come.” generated in Chicago from long-term asset The privatization discussion quickly became leases, Indianapolis is evaluating proposals for a politicized. In November 2008, the County long-term lease of the city’s parking meter system Board cut the privatization measures from its (discussed above), estimated to be worth $100 version of the 2009 budget. Walker responded million. The city is also looking at leasing city- with a series of line-item vetoes that effectively owned parking garages and surface lots. restored nearly all of the privatization measures But Ballard wants to do a lot more. In the County Board had cut. In turn, the County an April letter, the city executive suggested Board responded with a corresponding set bidding out grounds maintenance, pool and of veto overrides that eliminated most of the plumbing maintenance, forestry operations, privatization proposals from the budget. There towing services, water maintenance, payroll was one notable exception, however. Walker management, pool/plumbing maintenance, fleet and the County Board both agreed to proceed services, landscaping, payroll, HVAC, electrical on a contract for food services at the behavioral services and procurement. Instead of trying to health hospital, replacing 70 food service stop the Ballard administration from moving employees at the complex. This contract began forward, union leaders have stated a willingness in June 2009. to compete to keep their jobs. A city fleet services Walker’s plans to privatize Mitchell shop foreman told the Indianapolis Star that, “I International Airport failed to move forward

50 Reason Foundation • reason.org Annual Privatization Report 2009

after a County Board committee voted room has been transformed into a place for the unanimously in October 2008 to reject his smallest puppies and kittens. There is even a request for a $500,000 consultant study of a cat playground and a horse in the parking lot. possible deal. Walker had pitched his airport The new management has been able to increase privatization proposal as a way to generate $25 capacity within the same space while also million a year for transit. increasing the rate of adoption and decreasing Walker indicated that he would likely the euthanasia rate by about 100 animals a resubmit separate legislation to recreate month. City employees who had jobs working in some of the privatization initiatives he had the municipal animal shelter were reassigned to originally proposed. He brought the call center other municipal positions. privatization proposal back to the County Board In related news, Nevada City, CA may hand in January 2009 and was rejected a second time. management of two animal shelters over to The troubled call center has been under fire in private contractors and Springfield, MA officials recent years for severe staff shortages, prompting are considering privatizing some of the city’s citizen complaints and a federal lawsuit. departments—including an animal shelter—to In addition, Walker’s administration issued help address budget shortfalls. a request for proposals in July 2009 for an initiative to potentially outsource janitorial and security services currently provided by the G. Other Local Privatization News county facilities division. If it decides to move n San Francisco’s city council put the forward, the administration would include the brakes on a privatization proposal floated by initiative in its 2010 budget proposal. Mayor Gavin Newsome. Despite Newsome’s plan to contract out some services, no city F. Kansas City, King County Embrace services were privatized in this year’s budget. Elsewhere in California, San Diego voters Privatization of Animal Shelters ousted pro-privatization city council members, King County, WA and Kansas City, MO effectively ending Mayor Jerry Sanders’s push are both privatizing their local animal shelter for privatization of some city services. And operations. King County’s animal shelter while Novato, CA sanitation officials are operations have struggled to address poor pushing for privatization of a municipal waste conditions and subpar animal care, despite a $1 treatment plant, the proposal is facing significant million increase in funding. Fed up, King County opposition from some employees. officials announced in October 2008 they were n Serious budget problems forced the city getting the county out of the animal shelter council in Des Moines, IA to address spending business and will enter a partnership with a head on. In February 2009, the council approved community agency. a budget that reduced costs by cutting jobs In response to a high euthanasia rate, a low and expenses, freezing salaries and privatizing adoption rate and problems with investigations custodial work and turf maintenance. The of dangerous animal incidents, Kansas City privatization measure is projected to save the also turned to the private sector. A private city over $900,000. The city council has also veterinary group, Veterinary Management Corp., been exploring the possibility of privatizing two took over the city-owned shelter in March and publicly owned golf courses. The courses under quickly turned the facility around. The executive discussion combined to lose almost $400,000 in offices are now exam rooms, which are more the last year. comfortable for the animals. The men’s locker

Reason Foundation • reason.org 51 Annual Privatization Report 2009

n Several communities in Broward is arguing that private companies can perform County, Florida began developing private-public many city services more efficiently than the partnerships in 2008 and 2009. First, although city itself, improving service quality while Hollywood commissioners initially rejected reducing cost. Although specifics of a potential a garbage privatization proposal as a result privatization plan have not yet been determined, of pressure from unions that were concerned organizers of the pro-privatization group, about losing jobs, the commission reversed its Taxpayers for Budget Reform, say that they are decision after a public outcry when residents not advocating for privatization of the police discovered that the rejected proposal would force, fire station or county courts. According to have lowered pickup fees and allowed for bulk its mission statement, the group promotes “fiscal pickup. In addition to garbage, city officials are restraint” and “transparency in government also exploring the possibility of contracting out spending” while also educating city and county police, fire and engineering services. Second, residents about the budget reform process. Pembroke Pines is considering the privatization n After months of debate, the Tupelo, MS of its building and zoning department because city council decided in February not to privatize of a shortage of permit fees in the wake of the the city’s Public Works Department. City public housing market downturn. Union officials are works employees strongly opposed the proposal lobbying to save these jobs, offering to take pay and put pressure on the city council to nix the cuts and reductions in benefits and work hours. deal, even though the plan would have saved the Rounding out Broward County’s recent string city money while maintaining the same number of privatization initiatives is Sunrise, which is of jobs. Privatization discussions were marred by close to a deal that would hand management accusations that they were held in secret to avoid of a municipal golf course over to a private public backlash. contractor in early 2010. n The town of Duluth, MN, is weighing n Other local governments in Florida whether or not to privatize the largest city have also been active on the privatization front. owned natural gas utility in Minnesota. Mayor Because of financial issues, Jacksonville is Don Ness has requested bids from energy exploring a public-private partnership for two brokers who would assess the value of the of the city’s parks. The city is also in the early natural gas system and help the city decide stages of exploring privatization for some other whether or not to sell the utility. The union that municipal services. And though the project is represents most of the utility’s employees has moving forward, custodians in Tampa voiced voiced its opposition to the sale, citing concerns heavy opposition to the city council’s decision about the city’s ability to use the additional to contract out janitorial services, anticipated funds from the sale wisely. to result in 27 job cuts. Union opposition and concerns for public safety ended attempts by n New Detroit Mayor David Bing has Charlotte County to privatize some municipal advocated the privatization of toll booths, services, including its fire department and bridges, trash collection, venues and recreation emergency medical responders. Sarasota County centers to help address the city’s financial decided not to pursue privatization of its troubles. Elsewhere in Michigan, the Royal libraries. Oak city council agreed to privatize municipal building services and is exploring the possibility n The move toward privatization of of privatizing three downtown parking garages, some municipal services is gaining popularity while Macomb County rejected a plan to in Colorado Springs, CO. A group of residents privatize a nursing home.

52 Reason Foundation • reason.org Annual Privatization Report 2009

n Initiatives to privatize garbage services meeting with the golf commission to negotiate a got mixed results in the past year. An arbitrator privatization plan. ruled that Toledo, OH Mayor Carty Finkbeiner n Civic and sports facilities are could privatize the city’s trash collection services, increasingly in the spotlight as potential despite opposition by municipal employees. privatization opportunities. Houston Mayor The move has the potential to save millions of Bill White has established a committee that is dollars per year. An Albany-based company, considering privatization of the Greater Houston ReEnergy Holdings, LLC, has proposed a $338 Convention and Visitors Bureau. Cadillac, MI is million deal to buy the Southeastern Public accepting offers to manage the Wexford County Service Authority (SPSA), which provides trash civic center. And the Virginia Beach city council disposal services for eight Virginia communities. prepared in February to name two private ReEnergy intends to purchase all of SPSA’s assets groups as managers of the city’s Sportsplex, and invest millions of dollars toward improving though the plan is taking longer than expected to a waste-to-energy power plant. complete and will generate less revenue than was n In New York, Washington County initially projected. is examining a plan to partially privatize n In New York State, Oneida County waste removal and recycling services and East officials are looking at proposals to privatize Hampton officials are considering contracting a public health clinic and a public nutrition out management for the town’s dump and program. Also, a push to privatize the recycling facilities in order to reduce spending. Cuyahoga County Certified Home Health However, earlier this year San Bernadino, CA Agency has been met with public opposition. rejected a plan to privatize trash collection. Nassau County Executive Thomas Suozzi has In April 2009, a Falmouth, MA initiative to proposed privatizing three of the town’s sewage contract out the town’s waste management treatment plants and the emergency ambulance services hit a serious roadblock as a result of service. Meanwhile, Lewis County is reportedly citizen opposition. And, though some citizens considering cutting personnel costs by privatizing and union leaders oppose the initiatives, three municipal departments. Brookline, MA is examining proposals to contract out street sweeping, trash collection and n Privatization is on the agenda in grounds maintenance. several Massachusetts towns as well. Yarmouth Port has reached an agreement to privatize n Privatization of recreational services its town library. Wareham is taking steps has gotten a largely positive response this past toward privatization of some janitorial, IT and year. In Petaluma, CA, a private company will transportation services. The town of Milford is take over two public swimming pools in an considering privatizing its cemetery maintenance. attempt to cut costs. Miami-Dade County, FL is And the Saugus Department of Public Works is recruiting experts to advise city commissioners cutting back and contracting out more of the on possible public-private partnerships for town’s large public works projects. the county pool as well as transit, water and sewer projects. Barefoot Bay, FL established a n Officials in Fort Worth, TX are commission to explore the use of private vendors reportedly exploring the idea of outsourcing for municipal golf and food and beverage more municipal jobs. operations, both of which are facing financial n In Eugene or a private firm has taken problems. In a last ditch attempt to save its over operation of non-emergency ambulance golf course, the Alameda, CA city council is service for the city.

Reason Foundation • reason.org 53 Annual Privatization Report 2009

Surface Transportation

Contents A. Infrastructure Finance 2009 B. Long-term Concessions, the Controversy Continues C. New PPP Toll Roads D. Leasing Existing Toll Roads E. HOT/Managed Lanes Being Implemented F. Overseas Concession Projects G. China Rising: Implications for Private Capital

A. Infrastructure Finance 2009 (first-half of 2008), but after fuel prices returned to “normal” levels of around $2.00/gallon, the 1. Introduction deepening recession took over as the main factor depressing vehicle miles of travel on all roads, The credit-markets crunch beginning in the including toll roads. These changes increased the second half of 2008 took its toll on infrastruc- risk inherent in toll road financing. ture finance. In the United States, one large toll On a global basis, while some toll conces- concession project was financed in the first half sion projects are still being financed, the credit of the year (SH 130, segments 5 and 6 in Texas) crunch has led to much larger proportions of and several others were expected to close by equity being required to make the deals work. year-end. However, the only U.S. project that For example, the late-2007 financing of the has reached financial close since then (through I-495 HOT lanes project in Virginia involved 26 the first quarter of 2009) is the I-595 project in percent equity and the first-half 2008 Texas SH Florida—and that project’s financing is based on 130 project involved 15 percent. But the bid by availability payments rather than toll revenues. Abertis to lease the existing Pennsylvania Turn- (Availability payments are annual payments pike was estimated by September 2008 to be at made by the government over the life of the 50 percent equity and Gloval Via Infrastructure’s concession term, based in part on the condition $1 billion acquisition of several existing toll and “availability” of the lanes to handle traffic.) roads in Chile in late 2008 required 41 percent Thus, investors in that concession were taking on equity. By contrast, the early-2009 financial close construction and completion risks but not traffic on Florida’s availability-payment-based I-595 and revenue risks. required only 16 percent equity. In Portugal, the Toll roads in general experienced decreases $717 million Baixo Alentejo toll road project, in traffic in 2008 (and continuing into early funded by a mix of toll revenues and availability 2009) and public-private partnership (PPP) toll payments, was financed in early 2009 with 30 roads were no exception. At first, the traffic percent equity. declines reflected exceptionally high fuel prices

54 Reason Foundation • reason.org Annual Privatization Report 2009

2. Infrastructure Investment Funds Table 7: Characteristics of Top 50 Institutional After a record year in 2007 in which they Investors raised $34.3 billion, infrastructure equity funds Type of Institution Amount Percent of raised $24.7 billion in 2008, according to Pro- ($M) Total bitas Research. Probitas also reports that there Public Pension Funds $1,708 45.6% are more than 70 new funds in or coming to Insurance Companies 1,350 36.0 market as of early 2009, seeking over $92 bil- Sovereign Wealth Funds 251 6.7 lion. Together with the Probitas tally for 2004 Corporations and Corporate 244 6.5 Pension Funds through 2008 of $84.5 billion, that would mean Government Agencies 109 2.9 a total of $176.5 billion (if all $92 billion is Endowments/Foundations 43 1.2 raised in 2009). That figure is close to the $180 Supranational 40 1.1 billion estimated as available in 2009 by Kear- sarge Global Advisers (sourced to Morgan Stan- Source: Infrastructure Investor, April 2009, p. 38 ley). While many of the newer funds are focused on emerging markets, more than half aim at tan Life Insurance Co., the Harvard University developed markets, Europe or North America. Endowment and nearly a dozen public employee The 10 largest funds are listed in Table 6. pension funds. The latter include: Who is putting money into these and other n New York City Retirement System funds? A table in Infrastructure Investor lists the n California Public Employee Retirement largest 50 institutional investors by name, type System (CalPERS) of institution, amount invested, fund manager, etc. Table 7 provides a summary of the results. n California Teachers Retirement System U.S. investors constitute 31.4 percent of the (CalSTRS) total invested by the top 50 institutions sum- n Washington State Investment Board marized in Table 7. Among them are Metropoli- n Oregon Public Employee Retirement System

n Arizona State Retirement System Table 6: Ten Largest Infrastructure Equity Funds as of n Indiana Public Employees Retirement Fund December 2008 n Rank Fund Name Location Year Funded Size ($B) New York City Fire Department Pension 1 GS Infrastructure New York In market* 7.5 Fund Partners 2 GS Infra Partners II New York 2006 6.5 3. Toll Concession Industry 3 Macquarie European London, Sydney 2007 6 Statistics on global PPP infrastructure proj- 4 Macquarie Infra London, Sydney In market* 6 ects have been maintained in a database since Partners II 1991 by Public Works Financing (PWF), the 5 Global Infra Partners I New York 2008 5.6 newsletter of record in this industry. 6 Macquarie Euro Infra London, Sydney In market* 5 Partners III In the highways category, the global total 7 Macquarie Infra Sydney 2008 4 (cumulative since 1985) of PPP highway projects Partners planned and funded totals 1,046, worth $580 8 Morgan Stanley New York 2008 4 billion. Of these, 500 (worth $265 billion) had Infrastructure been funded as of October 2008. The United 9 AIM Infrastructure Fund London In market* 3 States represents a relatively small fraction of 10 AIG Highstar Capital III New York 2007 3.5 this total, especially compared with Europe.

Source: Probitas Research *“In market” means currently raising funds. Total planned and funded U.S. highway PPP

Reason Foundation • reason.org 55 Annual Privatization Report 2009

Table 8: Top 30 PPP Transportation Infrastructure Companies, 2008 2008 edition of this database (October 2008) showed a number of changes from Rank Company HQ Country # in Construction #Active or Operation Proposals 2007, in part due to continued growth and 1 ACS/Iridium Spain 57 27 in part due to the sale of interests in vari- 2 Macquarie group Australia 44 18 ous projects from one company to another. 3 Sacyr/Itinere Spain 40 22 As can be seen from a quick perusal of 4 Ferrovial/Cintra Spain 38 30 Table 8, the large majority of project expe- 5 Global Via Spain 33 17 rience is European. Of the top 10 com- 6 Abertis Spain 32 7 panies, eight are from Europe, one from 7 OHL Spain 28 33 Australia and one from China. Of the top 8 NWS Holdings China 24 2 20 companies, seven are from Spain, four 9 Hochtief Germany 23 11 from France, three from China, two each 10 Vinci/Cofiroute France 22 23 from Germany and Australia and one each 11 Road King China 22 0 from Portugal and the United Kingdom. 12 Acciona/Nesco Spain 19 22 U.S. firms only show up in positions 22, 24 13 Bouygues France 17 16 and 27—and none of them does concession 14 EGIS Projects France 16 18 projects on a stand-alone basis, since all 15 Alstom France 15 11 three are basically construction companies, 16 Cheung Kong Infrastructure China 15 9 not toll road owner/operators. 17 Bilfinger Berger Germany 13 9 18 BRISA Portugal 9 7 4. Noteworthy National Reports 19 John Laing United Kingdom 9 4 Two important national reports on 20 Transurban Australia 9 4 surface transportation infrastructure were 21 CCR Group Brazil 8 9 released early in 2009. One gave an over- 22 KBR Brown & Root USA 8 1 view of the status and prospects for toll 23 Siemens Germany 7 8 roads and public-private partnerships for 24 Fluor USA 7 5 highway projects. The other was the final 25 Strabag Austria 6 11 report of a national commission on surface 26 Bombardier Canada 6 6 transportation infrastructure finance. 27 Bechtel USA 6 5 The first is actually a set of reports and 28 Balfour Beatty United Kingdom 6 2 databases on toll financing developed by 29 Alfred McAlpine United Kingdom 6 1 Ben Perez and Steve Lockwood of Parsons 30 Skanska Sweden 5 9 Brinckerhoff for the Federal Highway Administration. It includes a white paper, Source: Public Works Finance 2008 Survey of Public-Private Partnerships four databases, three summaries and various projects number 77, valued at $84.6 billion. sortings of the data by different categories. Projects funded as of October 2008 are 33, The data concern the period from the enact- worth $14.3 billion. ment of ISTEA legislation in 1992 (which The PWF database also includes figures on began reducing federal restrictions on tolling of the world’s leading PPP transportation com- federal-aid highways) to 2008. One of its most panies as of 2008, ranked by projects under important findings is that during this period, of construction or in operation as well as active the average of 150 centerline miles added per proposals. For these data, shown in Table 8, year of expressway-standard highways, between the project types include airports, ports and rail 50 and 75 miles (i.e., one-third to one-half) were infrastructure, in addition to highways. The financed based on toll revenues. To be sure, toll

56 Reason Foundation • reason.org Annual Privatization Report 2009

revenues are still a modest 5.4 percent of total portation infrastructure at all levels of govern- highway revenues (with the vast majority coming ment and for recommending that we begin the from federal and state fuel taxes). But the trend transition from fuel taxes to a charge per vehicle is clearly upward and it is focused on the high- mile traveled (VMT) as the principal funding end portions of the system that are generally source for highways. Because this is likely to the most difficult for the public sector to amass be a long and difficult transition, the Commis- funding for. sion also recommended near-term measures that The survey identified new toll road activity would help move the country in that direction, in 33 states and territories during 1992-2008, while helping to reduce the funding gap. involving 235 new-capacity projects. The proj- It recommends that Congress remove restric- ects break down as shown in Table 9. tions on tolling urban Interstates to permit metropolitan planning organizations (MPOs) and state Table 9: U.S. Toll Road Projects, 1992-2008 DOTs to make greater use of congestion pricing. Stage Value ($B) Lane-miles And it proposes expansions of the two current Completed $40.0 3,900 pilot programs that permit toll financing of (a) In construction 17.8 1,734 new Interstates and (b) reconstruction of existing In design/finance 19.4 1,887 Interstates. And it also proposes very important In enviro review 23.3 2,266 expansion and liberalization of both the TIFIA In planning 60.5 5,900 and private activity bond (PAB) programs, which Total: $161.0 15,687 have been important tools to help put together the financing packages for PPP toll roads. Source: Federal Highway Administration, at www.fhwa.dot. gov/PPP/toll_survey.htm. When it comes to possible federal regulation of PPP toll roads, the Commission’s report The FHWA table that sorts the projects by “Pri- calls for the federal government to ensure that vate Sector Development & Financing,” shows 24 states adequately protect the public interest. projects worth $36.3 billion as having “possible” Given that many PPP toll projects will involve private involvement and another 24 projects worth the Interstate system (and some other federal-aid $21.4 billion defined as having private involve- highways), some kind of federal oversight role ment. That’s 36 percent of the $161 billion total. (on interstate commerce grounds) is justified. But That sounds pretty low, but a number of states since all of these highways are actually owned have only passed enabling legislation in the last and operated by the states, it’s appropriate that year or so. Most projects such states might do as “primary oversight responsibility should reside PPP toll roads have not yet been defined as such. with the states.” The federal government should Plus, the current recession may shift a number of ensure that states make PPP decisions based on a large projects from the public sector to the PPP “value for money” analysis (as the Government side. Hence, the data in this FHWA database prob- Accountability Office recommended in 2008) ably understate the likely magnitude of projected and could provide useful technical assistance on PPP toll road activity. best practices for PPP oversight. The report also The other major report is Paying Our Way: calls for reinvesting any proceeds from toll con- A New Framework for Transportation Finance, cessions (whether leasing of existing toll roads the February 2009 final report of the National [“brownfields”] or developing new toll roads Surface Transportation Infrastructure Financing [“greenfields”]) into highways and transit, as Commission (http://financecommission.dot.gov). defined in Titles 23 and 49 of the federal code. This report is especially noteworthy for docu- Thus, states would continue to be free to lease menting the under-investment in surface trans- existing toll roads via long-term concessions, but

Reason Foundation • reason.org 57 Annual Privatization Report 2009

the proceeds would have to be reinvested in sur- this new support for TIFIA will be important in face transportation infrastructure (as occurred in financing deals in 2009 and 2010. Indiana with the Indiana Toll Road, but not with Some evolution of views on tolling and the Chicago Skyway). PPPs has come about on the part of two key congressional leaders. Rep. James Oberstar (D, MN) and Rep. Peter DeFazio (D, OR) in 2007 B. Long-Term Concessions: the emerged as opponents of PPP toll roads, appar- Controversy Continues ently in reaction to the leasing of the Chicago Skyway and the Indiana Toll Road. But as the 1. Federal Officials highway funding shortfall has grown in serious- The PPP community awaited the appoint- ness and public awareness, their positions have ment of a new Secretary of Transportation with begun to change. some trepidation, wondering whether the new In the summer of 2008, DeFazio made a trip Obama administration would appoint someone to Europe, during which he visited several PPP who would continue or oppose the pro-toll/pro- toll projects in France and Spain and talked with pricing/pro-PPP policies of outgoing Secretary transportation officials in both countries. He told Mary Peters. Incoming Secretary Ray LaHood’s an audience at the American Road & Transporta- views on many transportation issues were little- tion Builders Association’s September 2008 Pub- known when he took office, but his early expres- lic-Private Ventures conference that he can now sion of interest in VMT charges (though quickly support PPP toll projects to develop new highway disavowed by the White House press office) capacity, as long as they are regulated to protect sounded promising. the public interest, as other public utilities are. In Soon thereafter, Secretary LaHood gave an response to a question, he said that this could be interview to The Wall Street Journal stressing done by states rather than the federal government. that since the administration was opposed to And in April 2009, Oberstar expressed support increasing fuel taxes during a recession, “We for moving toward a VMT charge or tax, as pro- need to be open-minded and think outside the posed by the Finance Commission. box. We need to take everybody’s ideas, whether In April 2009, several pieces of legislation it’s tolling a new road, tolling a new bridge or were introduced that could affect PPP toll roads. public-private partnerships.” A pair of bills supported by the American Truck- The stimulus bill enacted by Congress in Feb- ing Associations are intended to stop the leasing ruary did contain positive news for PPP toll road of existing toll roads. S.884 (Sen. Jeff Bingaman, financing. One provision exempts private activity D-NM) would exclude from the count of a state’s bonds (PABs) from the alternative minimum tax, highway miles those miles that are “privatized”; making such bonds fully tax-free. This provision such counts are used to apportion federal highway will apply to new PABs issued in 2009 and 2010, funds. Because this language would apply to new as well as new PABs issued to re-fund bonds toll roads as well as existing ones, it would under- issued between 2004 and 2009. cut the financing of the many greenfield PPP toll A second provision permits the Secretary of roads that require a mix of toll and fuel-tax fund- Transportation to use up to $200 million of the ing. The other bill, S. 885 (also by Sen. Bingaman) $1.5 billion allocation for discretionary grants would prohibit the use of accelerated depreciation to support the TIFIA credit program. TIFIA has for toll projects leased to private firms. Besides been a key component of several recent large PPP making the lease of existing toll roads less attrac- financings, but its funding was getting thin, so tive, it could also apply to the conversion of exist- (assuming that the Secretary uses this provision) ing HOV lanes to HOT lanes, at a time when the

58 Reason Foundation • reason.org Annual Privatization Report 2009

use of PPP toll concessions for larger-scale HOT the public interest in those cases where a toll lane and HOT network projects is a potentially concession makes sense. Two very important rec- important tool for states to use. ommendations concern the controversial issues On a more positive note, Sens. Kay Bailey of termination for convenience and up-front Hutchison and John Cornyn (both R-TX) have payments. On the former, the report suggests introduced S.903, which would devolve most of that a pre-defined buyout formula (favored by the federal highway program to the states, along some on the committee) in effect tells the private with the taxing authority. Unless accompanied sector that if the toll road does much better than by anti-PPP restrictions, such devolution would forecast, the state will take the upside, but if it provide greater flexibility for states to use PPP does much worse, the private sector has to take toll arrangements to upgrade and expand exist- the losses. If the state’s aim is to avoid windfall ing Interstates. profits, the report says that a better approach is revenue-sharing over the life of the agreement 2. Texas PPP Toll Road Study Committee Report (which aligns the interests of both parties for the After much controversy over whether public success of the project). On the question of up- sector toll authorities or private firms under PPP front payments, the reports recommends against concession agreements should build new toll them. Again, revenue-sharing is a wiser approach roads in Texas, the legislature in 2007 enacted a and a better fit for the majority of projects which two-year moratorium on new PPP toll projects will not pencil out as “pots of gold.” and created the Legislative Study Committee on The toughest issue the committee faced was Private Participation in Toll Roads to study the “local primacy”—the idea that local toll agen- issue and make recommendations by the end of cies should always be preferred for developing 2008. Reason Foundation’s Robert Poole was new toll roads, with the private sector option one of three appointments by Gov. Rick Perry to available only if the agency is unable or unwill- this nine-member committee. ing to do the project. While that policy might The December 2008 final report is online at not have huge negative consequences for the two www.senate.state.tx.us/75r/senate/commit/c820/ metro areas with large and well-run toll agen- SB792Report.pdf. It documents the state’s massive cies (Dallas and Houston), it could lead to many highway funding shortfall and shows that while difficulties for the brand-new Regional Mobility conventional measures can help, they are unlikely Authorities in the smaller metro areas, attempt- to resolve the shortfall. The report also corrects ing their first stand-alone, start-up toll projects, what had become a very distorted picture of what which are inherently high-risk. toll concessions would mean for Texas. Rather than trying to redefine local primacy For those afraid that nearly all new highways to fit all circumstances, the report recommended a would be PPP toll roads, it explains that “a rela- method to quantify the relative benefits of public- tively small number of projects (located primar- sector and private-sector approaches to doing ily in congested urban areas) are 100 percent specific toll projects: the Public Sector Comparator, toll-viable; toll roads and PPPs will not take over as routinely used in Australia, Britain and Canada. the state.” It also provides data showing that In many cases, the entity doing these analyses is a start-up (“greenfield”) toll roads are generally specialized one such as Partnerships BC in British high-risk propositions, rather than being (like Columbia and Partnerships Victoria in Australia. the controversial SH 121 in Dallas) large-scale So the report recommended the creation of a simi- pots of gold that can be used to fund billions of lar entity in Texas, staffed with legal and financial dollars worth of other projects. professionals hired from the private sector. The report focuses on how best to protect

Reason Foundation • reason.org 59 Annual Privatization Report 2009

3. National Reports on Protecting the Public It was stimulated by the 2008 controversy over Interest the proposed lease of the Pennsylvania Turnpike. Four national organizations have produced It’s an even-handed look at what Pennsylvania long reports on how to protect the public interest did right and wrong in pursuing this transaction. in long-term toll concession deals. They are the Though focusing mostly on the lease of existing Keston Infrastructure Institute at the University toll roads (a small fraction of the likely highway of Southern California, the National Coopera- PPP transactions over the next several decade), tive Highway Research Program (NCHRP), the its guidelines and lessons learned are pretty much Pew Center on the States and the Public Interest on-target. (Alas, this report also contains a few Research Group (PIRG). factual errors, such as the claim that most U.S. The broadest and most comprehensive is concession terms are 75 to 99 years, which is fal- NCHRP Synthesis 391, “Public Sector Deci- sified by 35-year terms in California and 50-year sion Making for Public-Private Partnerships.” terms in Texas.) NCHRP is an ongoing research program of the The PIRG report, “Private Roads, Public Transportation Research Board (TRB), in coop- Costs: The Facts About Toll Road Privatiza- eration with state DOTs. Its synthesis reports tion and How to Protect the Public,” is a are generally well-done and this one is no excep- sweeping attack on PPP toll road concessions, tion. Written by Jeff Buxbaum and Iris Ortiz of similar to the group’s previous report in 2008. Cambridge Systematics (authors of the previous, It tries to portray this ongoing trend as primar- briefer, report covering the same ground for ily about the long-term lease of existing toll the Keston Institute), it provides a comprehen- roads, even though only four such leases have sive primer on long-term concession PPPs. It taken place in the United States, while numer- describes how governments should make deci- ous greenfield projects to create new capacity sions about when and how to use this approach, have been financed or are in various stages of provides extensive discussion of public-interest procurement. It also implies that most PPP toll issues and how best to deal with them and offers road deals are 75 to 99 years and involve large a useful discussion of misperceptions about PPPs, up-front payments, neither of which is the case. including: And it also states as a good-government principle that “any private deal must demonstrate n That rigid non-compete provisions are that it saves money compared to what public always involved; authorities could generate by borrowing against n That PPP deals always mean tolling and the the same toll hikes.” This comparative-cost-of- likelihood of windfall profits; and capital argument (also used by PPP critic Dennis n That the public sector loses control of the Enright) is off-base in several ways. First, it facility. ignores the availability of tax-exempt private Unfortunately for such an important report, activity bonds, which brings the cost of debt it is marred by some errors of fact and interpre- capital for PPP deals very close to what prevails tation, several of which TRB has promised to on tax-exempt public-sector debt. More impor- correct (see discussion in Reason Foundation’s tant, it ignores the value of the large risk trans- April 2009 Surface Transportation Innovations fers likely to be involved in PPP toll roads (which newsletter, available at reason.org). is a big factor in the Public Sector Comparator The Pew report is “Driven by Dollars: What model), as well as potential savings in life-cycle States Should Know When Considering Public- cost via the PPP approach. Private Partnerships to Fund Transportation.”

60 Reason Foundation • reason.org Annual Privatization Report 2009

C. New PPP Toll Roads is preparing a report on the potential of PPP toll projects in California. 1. Enabling Legislation Activity Colorado: Although this state already has PPP-enabling legislation, it has not made use of it Alabama: Legislation to permit transportation thus far. In early 2009, the legislature passed and PPPs was enacted in the first half of 2009. Interest Gov. Bill Ritter signed SB 108, which replaces was spurred by three potential projects: elevated the Colorado Tolling Enterprise with the High express lanes on U.S. 280 in Shelby County, a West Performance Transportation Enterprise (HPTE), Alabama toll road from Mobile to Florence and as well as providing incentives for local agencies another toll road from Montgomery to I-10 in to embrace tolling and PPPs. Like its predeces- Florida and the new airport in Panama City, FL. sor, HPTE will operate within the Colorado Arizona: After several previous years in which DOT and will be the entity with the power to efforts to enact a state-of-the-art transportation authorize tolls and enter into PPP agreements. PPP measure failed to pass, the prospects have HPTE will have a seven-member board, with brightened in 2009. House Bill 2396 passed both four appointed by the governor (to represent the houses of the legislature and was sent to the Denver area, Pike’s Peak, north Front Range and governor in July 2009. It is based on the model I-70 Rocky Mountain Corridor) and three more state PPP bill drafted by the Nossaman law firm, selected by the first four. with additional provisions dealing with eminent Florida: This state has a workable transpor- domain and offering a fuel-tax rebate for miles tation PPP law under which several greenfield driven on toll roads. Arizona DOT Chief Finan- projects are moving forward. It was amended in cial Officer John McGee in April told a Senate 2007 to authorize the long-term lease of several committee that the bill could save tens of mil- state-owned toll roads (excluding the Florida lions of dollars per year in maintenance costs, via Turnpike). Florida DOT’s first planned lease, PPP toll roads that cover their maintenance costs of the Alligator Alley (I-75) toll road across out of toll revenues. In addition to HB 2396, the the Everglades, sparked two bills by state Sen. legislature passed Senate Bill 1320, a transporta- Dave Aronberg in opposition. The first, intro- tion omnibus bill that included provisions grant- duced in 2008, would have imposed a two-year ing Arizona cities and towns the power to build, moratorium on such leases. The second, filed in operate and finance the construction of toll roads; April 2009, would have required the legislature local governments in Arizona previously did not to approve any such lease agreement. Current have express statutory authority to do so. law calls for approval only by FDOT and the California: After a number of failed attempts 14-member Legislative Budget Commission. Nei- in recent years, Gov. Arnold Schwarzenegger ther was enacted during the legislative session. finally succeeded in getting a workable PPP toll Nevada: The Nevada DOT had hoped to roads bill enacted into law. The new SB 4, signed launch its first PPP toll project in 2009, but doing into law on Feb. 20, 2009, permits an unlimited so required enabling legislation. Under its Pioneer number of projects, allows for solicited as well Program, the DOT had hoped to create a $1 bil- as unsolicited proposals and applies to all levels lion PPP project that involved converting HOV of government in the state. Most critically, nego- lanes on I-15 and US 95 to HOT lanes, two in tiated concession agreements do not require leg- each direction, on one of the Las Vegas area’s islative approval (as in a previous measure that most congested corridors. Opposition to charging led to no projects); only review by a new Public tolls on HOV lanes that have been “already paid Infrastructure Advisory Commission (detailed for” appears to have doomed the bill, AB 524, in the State Update section of this report) is which the Assembly transportation committee required. The state’s Little Hoover Commission

Reason Foundation • reason.org 61 Annual Privatization Report 2009

chair refused to introduce in April 2009. lead agency for such projects. New York: The stage appears to be set for Texas: Despite the pro-PPP findings and the introduction of enabling legislation. The recommendations of the Legislative Study Com- nonprofit Citizens Budget Commission released mittee on Private Participation in Toll Projects, a report in December 2008 on “How Public-Pri- the state Senate in March 2009 passed several vate Partnerships Can Help New York Address bills that would have curtailed PPP toll projects Its Infrastructure Needs.” And a second report had they become law. SB 17 by Sen. Robert was delivered to Gov. David Paterson in April Nichols would legislate “primacy” for local toll 2009 from the New York State Commission on authorities, relegating PPP toll projects to the Asset Maximization (discussed in depth in the last available option. And more damaging still, State Government section of this report), review- this measure would allow the state to terminate ing the issues involved and identifying potential a PPP agreement for convenience, paying a pre- candidate projects. Based on that report, the gov- specified price (which would leave the private ernor is expected to propose enabling legislation. partner to absorb losses and also block the con- Pennsylvania: Despite the 2008 rejection of cessionaire from any higher-than-expected prof- Gov. Rendell’s proposed lease of the Pennsylvania its). The session adjourned without passing any Turnpike, interest remains high in PPP legislation transportation bill, leaving Texas DOT without to enable greenfield toll projects. In 2008 such authorization to continue past 2010 (based on legislation passed the state Senate by a vote of the state’s Sunset Law). Gov. Perry called a spe- 49-0, but was not acted upon by the House before cial session which reauthorized TxDOT and sev- the session ended. The Pennsylvania Turnpike eral other agencies but failed to take any action Commission late in 2008 requested expressions of on PPP toll projects. Hence, no new projects of interest from the private sector in developing the this kind may be authorized, unless and until proposed Southern Beltway and a missing section the next legislative session (in 2011) enacts new of the Mon Fayette Expressway near Pittsburgh enabling legislation. and received responses from three experienced teams. In the first half of 2009, new PPP-enabling 2. Notable PPP Projects legislation was introduced that, if enacted, would Virginia remains a hotbed of PPP toll road permit both solicited and unsolicited proposals activity. The $1.9 billion Fluor/Transurban for new toll projects. It passed the Senate in June project that is adding two new HOT lanes in 2009 and a slightly different bill is to be consid- each direction to the Beltway (I-495) will enter ered during the summer in the House. its second year of construction in August 2009. Puerto Rico: The new government of Luis The same team is negotiating a concession agree- Fortuno “is pushing hard for PPPs as part of ment for a complementary project, under which its reconstruction plan to jump-start the ailing it would add a third lane to the existing HOV economy,” according to Caribbean Business lanes on I-95/395 (the Shirley Highway) and (March 19, 2009). It is seeking passage of broad extend those lanes to Fredericksburg and Mas- enabling legislation that would apply not only saponax, a total distance of 93 miles. to transportation but to other types of infra- A new PPP toll project emerged late in 2008, structure (including ports, energy, water and the when the city of Chesapeake, VA accepted an lottery). The previous administration of Gov. unsolicited proposal from Figg Bridge and Brit- Acevedo Vila laid a lot of the groundwork, in ton Hill Partners to replace the obsolete Jordan terms of expert consulting advice and studies. In Bridge. In exchange for a perpetual franchise, June 2009, the legislature passed and the gover- the team will replace the old two-lane draw- nor signed a broad PPP-enabling act that would bridge with a $100 million high-level span and make the state’s economic development bank the has agreed to add a second span when traffic

62 Reason Foundation • reason.org Annual Privatization Report 2009

levels warrant it. The team is funding the project was despite project team leader Bouygues Publics entirely with equity, avoiding the troubled debt Travaux’s plan to replace that firm with Merid- markets for the time being. Toll collection will be iam Infrastructure. Several months of fierce non-cash, with a combination of E-ZPass tran- lobbying by local elected officials succeeded sponders and video billing. by mid-April 2009 in defeating FDOT’s plan The other large PPP project now moving for- to re-compete the project. Instead, FDOT will ward is a $2 billion effort to relieve congestion continue with the Bouygues-led team, provided in the Hampton Roads/Norfolk area. Elizabeth it can achieve financial closing by Oct. 1, 2009. River Crossings LLC (Skanska, Macquarie and The 35-year concession will be funded entirely Kiewit), in response to a VDOT request for con- by availability payments, with the state, county ceptual proposals, has proposed adding a second and city shares being 59 percent, 36.5 percent tube to the existing Midtown Tunnel, refurbish- and 4.5 percent, respectively. ing the existing Downtown Tunnel and extend- A third Florida project—the Outer Beltway for ing the Martin Luther King Freeway. Open-road Jacksonville—had been on hold for about a year (cashless) tolling on all three crossings would due to uncertainty over the tax treatment of con- be the source of revenue. If a panel of experts cessions. But in May 2009 the legislature passed a approves the concept, VDOT will seek detailed bill exempting concession projects from property proposals in 2009 for a 50-year concession. taxes. That has cleared the way for restarting the Florida has the distinction of having the only concession procurement, which Florida DOT U.S. PPP concession project financed during the began in June by withdrawing the prequalifica- first half of 2009. The 10.5-mile long I-595 proj- tions from March 2005 and starting over. The ect in Broward County (greater Ft. Lauderdale project is estimated to cost $1.8 billion. area) will completely rebuild and modernize this Mississippi is the newest state with a PPP toll congested freeway, including the addition of three road project under way: the $500 million Jack- reversible express toll lanes in the median. A team son Airport Parkway. In 2008 Mississippi DOT led by ACS and advised by Macquarie submit- prequalified three teams and, in August, invited ted the winning proposal in 2008 and the project them to submit proposals. The three teams are achieved financial closing in early March 2009. led by ACS, Cintra and Global Via. The 12-mile The total $1.656 billion financing comprises $780 tollway will link downtown Jackson with its air- million of 10-year bank debt, a $603 million port to the southeast and with its northeastern 35-year TIFIA loan and $273 million in equity suburbs; it includes a long bridge over the Pearl from ACS. The express toll lanes will charge River. Proposals were due June 15, 2009 and variable-rate tolls to manage traffic flow, but the Mississippi DOT hopes to execute a 50-year con- revenues will go to FDOT. In turn, FDOT will cession by Sept. 30th. pay the ACS team via availability payments. This North Carolina’s Turnpike Authority in April approach has the state taking the traffic and reve- 2009 signed a project development agreement nue risk, with the private partner taking construc- for its first toll concession project: the Mid- tion, completion and operating and maintenance McCurrituck Bridge. Under the agreement, the risk over the 35-year term of the concession. winning team (ACS/Dragados/Iridium/Lochner) Florida’s other availability payment project, will finish the route selection, do environmen- the Port of Miami Tunnel, has encountered dif- tal and design studies and a traffic and revenue ficulties. In December 2008, FDOT Secretary study, make cost estimates and assess the proj- Stephanie Kopelousos pulled the plug on the ect’s financing—as well as having the right of $1.1 billion project, which had been unable to first refusal to become the toll concession firm if achieve financial closing due to the near-collapse the project proceeds on that basis. of project team member Babcock & Brown. This Texas continues to move forward with PPP

Reason Foundation • reason.org 63 Annual Privatization Report 2009

toll projects that were exempted from the two- of SH 114/SH 121 near the DFW Airport. The year moratorium imposed by the legislature winning bidder was a team of Kiewit and Zachry in 2007. Three major project awards were Construction. Because tolled express lanes are announced in the opening months of 2009. In a smaller part of the total project, it could not January, the $2.1 billion North Tarrant Express be financed based on toll revenues. But because project (Phase 1) was awarded to a team of design-build is considered one variant of the Cintra, Meridiam Infrastructure and the Dallas broader category of Comprehensive Develop- Police & Fire Pension System. The project will ment Agreement (CDA) with the private sector add four managed toll lanes (with HOV dis- (with toll concession projects being the other counts) to about 13 miles of congested freeways major category), this project is the last CDA (SR 121 and I-820) in Ft. Worth. The 52-year project to have been exempted from the 2007 concession was awarded conditional on financial moratorium on CDAs. closing being achieved by late 2009. The financial plan estimates the financing to be $600 mil- 3. Notable Proposals lion in bank debt and/or private activity bonds, A number of large-scale PPP toll projects are a $600 million TIFIA loan and $370 million in in the planning process around the country, some equity (which puts equity at 23.6%). The bal- in states that already have enabling legislation ance of the funding, some $600 million, will and others in states where such legislation is at come from TxDOT. The terms of the competi- least being considered. tion were that the bidders would propose how In Alaska, the Knik Arm Bridge in Anchorage much of the overall 36-mile, $5 billion North (not the “bridge to nowhere”) is being pursued Tarrant Express each could deliver with $600 as a PPP toll concession, by the special-purpose million from TxDOT as a down payment. The Knik Arm Bridge and Toll Authority. A traffic second-place bidder would have delivered a and revenue study by Wilbur Smith Associates Phase 1 consisting of 64 lane-miles, versus the has been completed and two teams to develop winning Cintra team’s 169 lane-miles. and operate the project have been pre-qualified. The second project was the $2.7 billion LBJ However, the bridge has become an issue in the Freeway (I-635) managed lanes project. Here, 2009 Anchorage mayoral race, with one can- again, a Cintra/Meridiam team came in first. didate in favor and the other opposed. Those TxDOT offered up to $700 million in state funds political factors led to a 3-2 vote by the local toward the project, but the winning proposal metropolitan planning organization, AMATS, to asked for just $445 million of that amount. remove the project from the region’s long-range Second-place bidder ACS proposed a more costly plan, in April 2009. A final vote on the action project totaling $3.9 billion. The project will add was to be held in June. managed lanes within the right of way on I-635, In anticipation of passage in 2009 of state- partly in tunnels, as well as elevated managed of-the-art PPP-enabling legislation in Arizona, a lanes along I-35E. Financial close is expected number of potential projects are being consid- sometime in 2010. As of early 2009, the financ- ered, reports Tollroadsnews.com. One of these is ing was projected to be an $800 million TIFIA an I-10 bypass, allowing through traffic on I-10 loan, $800 million in bank debt and/or private to avoid having to drive through the congested activity bonds and $598 million in equity (27 downtown Phoenix portion of I-10. Another percent equity). Adding the state’s $445 million would be an I-10 Tucson bypass, with several puts the total close to $2.7 billion. alternate routes being studied. Several addi- The third project, announced in March, was tional toll road possibilities in the Phoenix area the DFW Connector, a $900 million design-build include completion of the South Mountain Loop project to double the capacity along 14.4 miles 202, creation of an outer Loop 303 and an I-10

64 Reason Foundation • reason.org Annual Privatization Report 2009

reliever parallel to the Interstate to the south. Yet would be a $500 million, six-lane, cable-stayed another possibility is a toll road between Phoe- bridge, to replace the old bridge. Simultaneously, nix and Las Vegas, 300 miles to the north. There a four-government planning process (Michigan, is no Interstate highway between these two large FHWA, Transport Canada and Ontario) early metro areas, only US 93 and US 60. in 2009 received environmental approvals for a Now that California has workable PPP- new $800 million, six-lane, cable-stayed bridge enabling legislation, there are a number of urban about two miles south of the Ambassador Bridge project possibilities. Several of these are deep-bore and offering more direct connections to Highway tunnels which have been proposed and prelimi- 401 in Canada and I-75 in the United States. narily studied to complete missing links in the Total cost of that project, including connecting greater Los Angeles freeway system. The most highways and customs yards, is estimated at likely near-term project is a tunnel beneath South $4.2 billion. Both Michigan DOT and Transport Pasadena to close the gap in I-710, connecting this Canada favor doing the project as a tolled con- key north-south route to east-west I-210. That cession and MDOT is planning to propose PPP- project has been held up for about 40 years due to enabling legislation in 2009. community objections to the negative impacts of a New PPP toll bridges are also in prospect in freeway splitting the town in two. Caltrans is now New York, although that state lacks enabling pursuing the tunnel as the only feasible way to legislation thus far. Replacing the obsolescent complete the project. More costly and higher-risk Tappan Zee Bridge is the project that may lead would be two much longer tunnels. One would to PPP-enabling legislation. After about six years link Glendale with Palmdale and its potential of study, the state seems to have settled on a $6.4 commercial airport, by extending the Glendale billion bridge concept, with various mass transit Freeway (SR 2) northwards mostly as a tunnel alternatives still to be determined. In August under the mountains of Angeles National Forest. 2008 the NYDOT hired Merrill Lynch to assist The second would be an east-west tunnel link- with planning the financing alternatives. But PPP ing I-15 in Riverside County with the toll roads toll bridges may come to Staten Island sooner. of coastal Orange County. This new link would The Port Authority of New York & New Jersey relieve congestion on the only high-volume cor- needs to replace the ancient Bayonne, Goethals ridor between the two counties, SR 91. and Outerbridge crossings between New Other California PPP projects could include Jersey and Staten Island, a potential $2 billion networks of HOT lanes in the Los Angeles, San endeavor. The agency is not bound by the pro- Diego and San Francisco metro areas. A likely curement laws of either state, so it can use a toll near-term project is the planned High Desert concession approach if it decides that approach Corridor, an east-west route linking Victorville makes sense. To help it decide, in April 2009 it and Palmdale, providing a short route between selected a team led by Halcrow (and including I-15 and SR 14. An RFP for a large-scale feasibil- Jeffrey Parker & Associates and Allen & Overy) ity study is due out by the middle of 2009. under a $460,000 contract. In Michigan, a new crossing of the Detroit In Washington State, two tolled megaprojects River between Detroit and Windsor, Ontario, are in the planning stages, one or both of which has long been needed, since the existing Ambas- could be developed under PPP concessions, which sador Bridge and Detroit-Windsor Tunnel are are allowed under the state’s enabling legislation. often highly congested, especially with truck traf- Replacing the SR 520 floating bridge (which is fic. Two projects are vying to provide that capac- not tolled) with a modern, electronically tolled ity. The privately owned Ambassador Bridge bridge has been in prospect ever since WSDOT has proposed building a second span adjacent to was selected as one of five Urban Partnership the existing 1929 four-lane suspension span; it Agreement winners by the U.S. DOT in 2007.

Reason Foundation • reason.org 65 Annual Privatization Report 2009

Their proposal called for variable tolling for this D. Leasing Existing Toll Roads project, as both a congestion-relief measure and a funding source. In April 2009, the legislature 1. Pennsylvania Turnpike approved a bill to permit variable tolls to be Spanish toll road company Abertis—the levied for the project, beginning on the existing winning bidder for a 75-year lease of the Penn- bridge. The second mega-project will be a deep- sylvania Turnpike—withdrew its bid on Sept. bore tunnel to replace the seismically unsafe Alas- 30, 2008, after having extended the time period kan Way Viaduct. That bill provides for partial twice. The legislature had failed to enact the nec- toll funding, with large sums to come from the essary enabling legislation over the summer and city of Seattle and the state. Of the estimated $4.3 with the credit markets deteriorating and some billion cost, an estimated $600 million has not analysts estimating that the $12.8 billion offer yet been linked with a funding source. The tunnel was too high, the company decided to throw in would be the world’s widest, with a diameter of the towel. The legislature failed to act despite 54 feet. The plan calls for four lanes plus wide the FHWA rejecting the state’s application to shoulders, with the lanes on two decks. put tolls on I-80, which parallels the Turnpike Finally, several possible toll truckway proj- further north. The federal agency ruled, as most ects are in various stages of feasibility study. The analysts expected, that using the toll revenues most studied one would link the Ports of Long from I-80 for all manner of transit and highway Beach and Los Angeles with the Inland Empire projects statewide was not consistent with the warehouses and distribution centers in Riverside conditions of the federal pilot program that per- County, traversing the I-710 and SR 60 rights mits up to three Interstates to be rebuilt using of way. Recent studies by the Southern Califor- toll finance. Tolling I-80, as well as increasing nia Association of Governments have estimated Turnpike tolls, was the legislature’s alternate the value provided by uncongested truck trips, way of meeting the state’s transportation fund- as well as possible use of double-trailer rigs, to ing shortfall (called Act 44). Without the rev- be high enough to permit the project to be self- enue stream from I-80 tolls, the legislature must funding via tolls. Two long-haul truck tollway come up with a replacement source of funding studies are also under way. One is being carried by July 1, 2010. In the interim, to meet its near- out under the FHWA’s Corridors of the Future term obligations under Act 44, the Pennsylvania program, focused on I-70 from Kansas City on Turnpike Commission increased toll rates by 25 the west to Columbus on the east, a major truck percent as of Jan. 4, 2009. corridor. The study is reviewing the possible widening of this route by means of truck-only lanes, 2. Alligator Alley which could possibly be financed by toll revenues The Florida DOT’s plan to lease the Alliga- and could possibly be designed and operated tor Alley toll road portion of I-75 (connecting to handle longer combination vehicles (LCVs), the Ft. Lauderdale area on the east with the meaning turnpike doubles and triples. And the Naples area on the west) created considerable Wyoming DOT is doing a tolling study for I-80 controversy during 2008, with one state senator across that state, which might be extended to introducing legislation that would put a two-year adjacent states. The phase 1 study was released moratorium on such leases, despite the legisla- in October 2008, estimating costs and revenues ture having given FDOT the authority to pursue for three alternatives: tolling all existing lanes, such leases in 2007. The deadline for submitting adding one lane each way and tolling all lanes bids has been changed several times, to give the and adding two lanes each way as truck-only short-listed teams more time to work out their lanes, with all lanes tolled. A second phase will financing proposals. The final deadline was May begin during the first half of 2009.

66 Reason Foundation • reason.org Annual Privatization Report 2009

18, 2009. On that date, the state received no plus direct connector flyover ramps at six major bids from the prequalified teams, apparently due interchanges. Under most scenarios in the feasibil- to a combination of credit market conditions ity study, the network would be self-supporting and concern over widespread public and political from toll revenues. San Diego is under way on a opposition to the lease. more modest network, beginning with widening and lengthening the reversible I-15 HOT lanes 3. Southern Connector and going on in future years to add HOT lanes to This 16-mile startup toll road near Greenville, several other major freeways, including I-5 and South Carolina, one of a handful developed using I-805. Los Angeles won a federal grant in 2008 a nonprofit entity created under IRS 63-20, has to convert HOV lanes on two freeways, I-10 and been struggling to meet its debt-service obligations I-110, to HOT lanes and it has a feasibility study due to traffic and revenue far below original pro- under way on a network of HOT lanes. Riverside jections. After initially announcing plans in 2007 County received legislative permission in 2008 to to lease the Connector under a long-term conces- extend the HOT lanes on SR 91 from the Orange sion arrangement, the Connector 2000 Associa- County line eastward to I-15. tion decided to first do an investment-grade traffic In Florida, the I-95 Express Lanes project and revenue study in 2008. As of April 2009, opened its first phase in December 2008, pro- the Association told Tollroadsnews.com that the viding two variably priced managed lanes from study should be out “shortly” and will help them near downtown Miami northward to the Golden to assess their options. Glades interchange in northern Miami-Dade County. The southbound portion is under construction and slated for a late 2009 opening. A E. HOT/Managed Lanes Under Way subsequent phase will extend the Express Lanes to A number of the PPP toll projects discussed Broward Blvd. in Ft. Lauderdale and at that point previously involve managed lanes, including there will be nonstop express bus service between I-595 in Florida, I-495 and the subsequent Miami and Ft. Lauderdale. This project, an Urban I-95/395 project in Virginia and the LBJ (I-635) Partnership Agreement winner, permits registered and North Tarrant Express projects in Texas. carpools of three or more to use the Express There are a number of other managed lanes proj- Lanes at no charge; all others pay a variable toll ects in various stages of planning and implemen- via the SunPass transponder that is standard state- tation in large metro areas, some of which have wide in Florida. Florida DOT has feasibility stud- PPP potential. Here is a brief recap. ies under way on adding managed lanes to I-75 California is the site of considerable managed in Broward County and portions of SR 826 (the lanes activity. In August 2008 the Metropoli- Palmetto Expressway) in Miami-Dade County. tan Transportation Commission for the entire Reversible managed lanes are also being imple- San Francisco Bay Area approved a $4.8 billion mented on I-595 in Broward County. FDOT’s plan to convert existing HOV lanes to HOT winning Urban Partnership proposal suggested lanes and build new lanes to close many gaps, that these and possibly other variable pricing proj- making a relatively seamless network. The bill to ects could become a network of managed lanes. permit this plan to move forward, AB 744, was Georgia won a competitive FHWA grant in approved 12-1 by the Assembly Transportation 2008 to convert the existing HOV lanes on I-85 Committee in April 2009. The 800-mile network to managed lanes, as the potential first step in will consist mostly of a single lane in each direc- developing a managed lanes network spanning tion, like the current HOV system. It will involve most of the metro area’s freeway system (replac- converting 500 miles of existing HOV lanes and ing the previous plan of building a large network building another 300 miles of new HOT lanes, of HOV lanes). The initial project will extend 14

Reason Foundation • reason.org 67 Annual Privatization Report 2009

miles on I-85 outside the I-285 Perimeter. tunnel for an extended (30 to 99-year) period In Texas, both Dallas and Houston have and then hands it back to the government in outlined networks of managed lanes based on good condition, has a long history outside the feasibility studies done several years ago. The United States. It originated in post-World War II Dallas/Ft. Worth metro area has adopted a Europe as the principal means for France, Italy, region-wide managed lanes policy, which will be Portugal and Spain to develop modern super- adhered to by all such projects, whether devel- highway networks—the equivalent of the U.S. oped by the local toll agency (NTTA), TxDOT Interstate highway system. In Europe some of the or companies operating under toll concession toll road companies (e.g., Cofiroute in France) agreements. The map on the region’s long-range were investor-owned from the outset, whereas transportation plan, Mobility 2030, shows an others were either state-owned or a mixture of extensive set of toll roads and managed lanes state and investor ownership. During the past on freeways. In March 2009, Houston Metro decade, the governments of France, Italy and announced plans to convert 83 miles of HOV Spain sold off their remaining ownership stakes lanes on five freeways into HOT lanes, using in toll road companies, putting such major firms federal stimulus funds. This will complement the as Italy’s Autostrade; France’s ASF, APRR and four new managed lanes on the Katy Freeway SANEF; Spain’s ENA; and Portugal’s BRISA (I-10), which began charging tolls in early 2009. fully into the marketplace. In those instances A HOT network study for the Houston metro where a previously state-owned toll company area was completed in 2008, funded largely by had held, de-facto, permanent ownership of its the FHWA’s Value Pricing Program. toll roads, upon privatization of the company The Washington, DC metro area is another the government defined a concession term of a one that has done fairly extensive studies of a fixed number of years. Hence, while the compa- HOT or managed lanes network, with a compre- nies are traded on stock exchanges, their value is hensive feasibility study completed in 2008. This based on the income from the various concession region has a number of elements already in place agreements they have, not on actual ownership or under way that could be incorporated into of the roadways they operate. such a network, including the under-construction During the 1990s in particular and continu- HOT lanes on the I-495 Beltway in Virginia, the ing into the new century, the toll concession existing Dulles Greenway toll road, the planned model spread to Australia and to East and South HOT lanes on I-95/395, the variably priced Asia (especially Hong Kong and then China and InterCounty Connector toll road under construc- India), Latin America and much of Central and tion in Maryland and the express toll lanes under Eastern Europe. The emphasis in the Asia-Pacific construction on I-95 in the Baltimore area. The and Eastern/Central European countries has been Metropolitan Washington Council of Govern- on the development of greenfield toll roads, both ments is developing a staging plan for the HOT/ urban and inter-city. In Latin America, the pri- Priority Bus network. mary focus has been on upgrading existing two- lane inter-city highways into modern, four-lane divided toll roads. F. Overseas Concession Projects 2. Canada 1. Overview The largest PPP toll road in Canada is High- The long-term concession model, under way 407 in Toronto, which celebrates its 10th which the private sector designs, finances, builds, year of privatized operation during 2009. Called operates and maintains a roadway, bridge or 407 ETR (Electronic Toll Route) in recognition

68 Reason Foundation • reason.org Annual Privatization Report 2009

of its complete absence of toll booths, the core 1990s. With the completion of the Lane Cove segment was built as a public-sector toll road in Tunnel in 2008, Sydney now has an “orbital” the 1990s but was leased for 99 years in 1999, (ring road) consisting of six toll-concession high- for C$3.1 billion (which retired the Ontario gov- ways and tunnels, as well as the separate M4 and ernment’s C$1.6 billion in toll revenue bonds). Cross City Tunnel concessions. A report produced Since taking over, the 407 ETR Concession Com- by Ernst & Young, commissioned by Transurban pany (a joint venture of Cintra, Macquarie and (which holds the majority of these concessions) SNC-Lavalin) has invested an additional C$1.18 estimates that these toll roads boosted the metro billion on eastward and westward extensions, area’s economy by A$1.8 billion in 2008 and an interchanges and lane additions. The 407 ETR estimated A$3.4 billion in 2020. was the world’s first non-cash toll road. It’s been However, all three tunnel projects have highly successful, attracting some 375,000 driv- encountered financial difficulties. The original ers each weekday. Harbor Tunnel concession agreement included Most of Canada’s other PPP highway projects a provision by which the New South Wales gov- are concessions based on availability payments. ernment agreed to supplement toll revenues, if That is true of the Sea-to-Sky Highway, South needed to meet the company’s debt-service obli- Fraser Perimeter Road and Golden Ears Bridge gations. (That provision was included since the projects in British Columbia; four such highways tunnel competes with the Harbor Bridge, whose in the Calgary and Edmonton metro areas of tolls are based on decades-earlier construction Alberta; the Disraeli Bridge in Winnipeg; and the costs.) The Sydney Morning Herald reported in Route 1 widening project in New Brunswick. December 2008 that due to reduced traffic, the One large project that was intended to be a toll- Harbor Tunnel payments were running about financed concession—the Port Mann Bridge in $1 million per week and could total $1.1 billion Vancouver, BC—fell victim to the credit crunch between then and 2022, the end of the conces- in February 2009. The toll bridge will now be sion period, unless traffic recovered. The Cross financed by the BC government and procured as City Tunnel is in receivership, due to traffic run- a design-build project. Quebec, too, is making ning far below projections, while the Lane Cove use of availability payment concessions. In 2007 Tunnel’s first-year traffic is about 30 percent it selected a Macquarie-led team for a 35-year below projections. concession to develop and operate the C$400 In Victoria, the 24-mile A$2.5 billion EastLink million A25 highway and toll bridge project in Motorway in the Melbourne suburbs opened five Montreal, financed via a combination of tolls months ahead of schedule in July 2008, but with and availability payments. And in September fuel prices then at record levels, initial traffic was 2008, Quebec awarded the C$1.2 billion A30 28 percent below opening week forecasts. The project to an ACS/Acciona joint venture, based ConnectEast consortium consists of Macquarie on availability payments. Bank, Thiess and John Holland. The next project Overall, in 2008, some 32 PPP projects (not in Victoria, the A$750 million Peninsula Link, just in highways) worth C$8.7 billion reached will be financed via availability payments, the first financial close in Canada, according to Public use of this method in Australia. Works Financing. Much recent concession activity centers on Queensland, where several major projects 3. Asia/Pacific are under way in Brisbane. The third of three Australia and New Zealand: Australia was major projects—the A$4.9 billion Airport Link a pioneer of toll road concessions in this region, toll tunnel—began construction in late 2008, dating back to the Sydney Harbor Tunnel in the despite financial difficulties. Two huge tunnel-

Reason Foundation • reason.org 69 Annual Privatization Report 2009

boring machines from Germany will begin work projects encompassing 11,000 miles and invest- in 2010. The other projects—the A$2 billion ment of $27 billion. The government also opted North-South Tunnel and the A$1.9 billion Gate- for revenue sharing, rather than up-front conces- way Bridge—are well along in construction. sion payments. A number of concessions were New Zealand’s first modern toll road opened awarded during 2008, but by November, the in January 2009, the NZ$215 million North- credit market crunch appeared to have slowed ern Gateway Toll Road, NZ1. Just 4.7 miles things down. The Wall Street Journal (Nov. 12, long with two lanes each direction, the toll road 2008) quoted the head of the National Highway extends the non-tolled Orewa-Punhoi expressway Builders Federation as estimating that $6 billion to Auckland’s northern suburbs. It uses open-road worth of highway projects could be delayed as video tolling, with off-line cash options. much as two years, due to reduced availability China: By the time of the handover of Hong of both public-sector and private funding. And Kong to China in 1997, the former British colony in the first quarter of 2009, the National High- had already pioneered toll concessions for several ways Authority of India said it had received bids harbor crossings. China since then has taken up on only 22 of 60 offered toll concession proj- the idea in a major way, with 53,600 km. of tolled ects. Some link the difficulty to the Authority’s expressways in operation by the end of 2007, “model concession agreement,” developed prior mostly developed under long-term concessions. to the credit crunch. It now plans to redraft the The goal is to complete a toll road network of RFPs for the 38 projects that received no bids 70,000 km. (43,470 mi.) by 2020. Most of the and offer them again by mid-2009. investment has come from domestic sources, but China has gradually opened up to outside invest- 4. Latin America ment in toll projects. In August 2008, as reported Brazil: South America’s largest country contin- by Tollroadsnews.com, China Infrastructure Invest- ues to have the largest toll concession program. ment Corp. secured a listing on the NASDAQ The global fiscal crunch has led to the delay or exchange. The company’s principal toll road is the cancellation of $4.5 billion worth of infrastruc- 66-mile Pinglin Expressway in Henan. Most other ture projects of all types since September 2008, publicly traded Chinese toll road companies are according to the Journal of Commerce. But listed on the Hong Kong stock exchange. concessions are still being awarded. In February Some of the Chinese toll concession proj- Sao Paulo state’s ARTESP signed five 30-year ects are impressive engineering feats. One is the concessions covering the upgrade of 1,700 km. world’s longest ocean crossing: the $2 billion, 36 of highways in that state. Winners must pay up- km. long, six-lane Hangzhou Bay Bridge, which front concession fees as well as making significant opened to limited traffic in July 2008. The bridge investment in upgrading existing mostly two-lane reduces the road distance from Ningbo to Shang- highways to limited-access toll roads. At the hai from 400 km. to just 80 km. Large roadway national level, federal agency ANTT awarded a tunnels are also part of the program, including 25-year concession for 680 km. of tollways to the twin 50’ 6” tunnels under the Yangtze River in RodoBahia consortium, headed by Spain’s Isolux Shanghai, as part of a $1.6 billion tunnel and Corsan. In this case, ANTT decided against an bridge project. An estimated 40 to 50 large-scale up-front concession fee and selected the winner tunnel-boring machines are estimated to be at based on which team could make the required work on such projects in China, with diameters $1.3 billion worth of improvements at the lowest ranging from 37 to 50 feet. toll rate. The work involves mostly upgrading India: This country’s ambitious highway con- from two lanes to four limited-access lanes. cession program was announced in early 2008. Chile: As the most advanced economy in South It was intended to include 175 toll concession America, Chile also has the most sophisticated toll

70 Reason Foundation • reason.org Annual Privatization Report 2009

concessions. While some projects have involved ment requirement. A scaled-back and restruc- upgrading existing highways to limited-access toll tured package, now totaling just 345 km., was roads (and more of these are in prospect for 2009), unveiled in April 2009, with a July 10 bidding recent years have seen the development of a set deadline. It requires upgrading two existing toll of all-new urban toll roads in the capital of San- roads and developing three new ones. tiago. Developed and operated by several different Prior to the credit crunch, during the first half concession companies, they use an interoperable of 2008, Mexico awarded two ambitious conces- all-electronic toll system. Two additions to this sions for new toll roads. One is a $679 million system are now in process. One, awarded to Itinere project for an 84-km. toll road between Mexico in August 2008, is a 40-year concession for a 24.5 City and Veracruz, to be financed via a combina- km. northern access toll road for Santiago, valued tion of tolls and availability payments. The win- at $310 million. The other is a $1 billion project ning bidder was a consortium of ICA and FCC, to add the final 13 km. to the Santiago Americo both from Spain. The other project is a $1.1 bil- Vespucio ring road. Of the total length, some 7 km. lion, 30-year concession for twin tolled elevated will be built as tunnels. The planned 30-year con- highways from Mexico City to Queretaro, 32 km. cession will be offered in 2010. in length. The winning bidder was OHL, which The Chilean toll road market is now consid- will pay an up-front $73 million concession fee ered “mature,” which has led to some of the toll and share 0.5 percent of its toll revenues. It will concessions changing hands during the past year. initially build a single 22 km. elevated roadway Global Via purchased two of them for about $1 (above an existing highway), by 2011, which will billion and Abertis also bought two, for $1 bil- operate one-way during peak periods. When traf- lion, from ACS. Cintra has several toll roads on fic warrants, OHL will extend the initial section the market, estimated to be worth $2.3 billion. another 10 km. and build a parallel elevated sec- Other South America: Toll concession proj- tion over the full length of the corridor. ects also exist in Argentina, Colombia and Peru. The Journal of Commerce reports that Colum- 5. Europe bia’s national road authority in 2009 plans to France: One of the most spectacular toll tender 19 highway projects worth $1.1 billion. concession projects in Europe will open in June Peru expects to be in the market for $1.6 billion 2009: the first segment of the seven-mile A86 in road concessions during 2009-10. Duplex tunnel. The overall $2 billion tunnel Mexico: America’s southern NAFTA partner provides the missing link on the A86 ring road was one of the pioneers of toll concession proj- around Paris, originally planned as a surface ects in Latin America, but its initial program expressway through the historic Versailles area. in the 1990s was poorly structured, resulting After decades of opposition to the government’s in most of the projects being taken over by the plan for a surface roadway, French concession government and eventually re-privatized in the company Cofiroute succeeded with its unsolic- last few years, a process which is continuing. The ited proposal to finance, develop and operate second batch, called FARAC II, was originally the project as a deep-bored tunnel, financed by to include a combination of existing toll roads congestion-priced tolling. The innovative double- and new construction in the northwestern part of deck design is for cars only, with the same over- the country, 13 total roadways totaling 810 km. head clearance as in parking structures. This and estimated to require a $2.3 billion invest- permits six lanes to be accommodated within ment. But after several postponements due to the the 34-foot diameter tunnel (though initially credit crunch, the bidding that closed on Feb. 27, the tunnel will use one lane on each deck for 2009 led to the government rejecting the only emergency stopping only). The initial three-mile two bids as falling below their minimum invest- northern section (to the A13 interchange) is com-

Reason Foundation • reason.org 71 Annual Privatization Report 2009

plete and has been undergoing extensive testing n Foster the development of a private-sector since December 2009; it will open to traffic in roads industry; and

June. Tunnel boring for the remaining four miles n Minimize the financial contributions is complete, but outfitting and testing of that required from the public sector. second segment (from A13 south to N286) will The largest DBFO project is the $8 billion, take another year. 30-year concession to widen and operate the All of France’s tolled motorways are operated principal London beltway, the M25. In 2008 the by concession companies, some of which are bidding was won by a consortium led by Balfour former state-owned firms that were privatized in Beatty and Skanska. Financial closing had been 2005. One other toll tunnel project made news expected by the end of the year, but was impeded in 2008. Financial closing was achieved in Octo- by the credit crunch. Public Works Financing in ber for a $244 million project to extend by 1.5 November 2008 quoted a Balfour Beatty execu- km. the double-deck Prado Carenage tunnel in tive’s expectation that the deal would still be Marseille. Vinci and Eiffage comprise the tunnel financed in the first half of 2009 and potentially company, whose 25-year concession for the orig- with no more than the initial 10 percent equity inal 2.5 km. tunnel extends to 2025. The conces- and 90 percent debt. sion for the extension runs for 46 years. Scotland in January 2009 achieved financial U.K. and Ireland: England has few tolled closing on its third DBFO highway project, the projects, all of them developed as concessions $478 million M80, heading northwest from with the private sector. The only actual toll road, Glasgow. The 30-year concession is based on the M6Toll near Birmingham, provides an alter- shadow toll payments by the government, as was native to the frequently congested M6 motorway. the case with the first two projects. Thanks first to record-high fuel prices in 2008 Ireland has done both toll concession projects and then to the recession, traffic on both M6 and and DBFO concessions based on availability pay- M6Toll has dropped in the second half of 2008 ments. The earliest projects date to 1990, when and early 2009. The other U.K. toll concession National Toll Roads plc opened the Westlink projects are all toll bridges. Bridge, developed under a 30-year toll conces- However, Britain also has a thriving highway sion with the County of Dublin. More recent concession industry, thanks to the country’s over- toll concessions include the N6 (awarded in all Private Finance Initiative for infrastructure 2006), the Limerick Tunnel (2006) and the M7/ PPPs. In the highway sector, these projects are M8 (2007). In March 2009 the National Roads financed based on either shadow tolls or avail- Authority authorized four new DBFO highway ability payments. A dozen design/build/finance/ projects, to be financed via availability payments. operate (DBFO) highway concession agreements Italy: As with France, all of Italy’s toll motor- had been signed as of late 2008, with eight such ways are operated under long-term concessions, roadways in operation by that date. An article in with Autostrade as the largest toll company. That Tollways (Autumn 2008) by Nigel Lewis itemized company secured a $1.3 billion loan from the the government’s objectives for such projects as: European Investment Bank late in 2008 to add n Ensure that the project is designed, a third lane in each direction to 155 km. of the maintained and operated to maximize A14 tollway. Earlier in the year, the government benefits to road users; approved a new toll increase mechanism, provid- n Transfer the appropriate level of risk to the ing for annual increases of up to 70 percent of the private sector; inflation rate, supplemented by increases based on

n Promote innovation, in both technical/ the company’s investment into the roadway system operational areas and in financial/ over the previous 12 months. Early 2009 interest commercial areas; centers on the Lombardy region, in anticipation of

72 Reason Foundation • reason.org Annual Privatization Report 2009

the 2014 Milan World Trade Fair. A consortium In 2006, the government decided that the future led by Autostrade and Impregilo obtained financing liabilities created by these long-term concessions in the first quarter of 2009 for a $2 billion proj- were unaffordable and began negotiating with ect to build and operate the 33 km. missing link the concession companies to transition them to in the eastern part of Milan’s ring road. Though introducing electronic tolling, so as to phase out a toll road, it was financed based on availabil- shadow toll payments. In late 2007 it assigned ity payments over a 50-year concession term. A responsibility for concessions to Estrades de Por- second major project will build a 151 km. largely tugal (EP), a state agency. EP has the power to toll sunken expressway, of which 87 km. will be tolled, existing roads and to offer concessions to private between Bergamo and Varese, north of Milan, at a companies under toll-sharing deals. cost of $6.5 billion. A third tollway will be the 62 In 2008 EP announced it would proceed with km., $2.4 billion road from Milan to Bergamo. nine availability-payment concessions to upgrade Spain & Portugal: Spain’s large and diverse 1,500 km. of highways, which will be tolled but concession toll industry developed out of the gov- are not expected to be self-supporting from toll ernment’s reliance on toll concessions to develop revenue. The first of these 30-year concessions its initial motorway system in the 1960s and was awarded in November 2008—a $900 mil- 1970s. Called “autopistas,” their extent totaled lion upgrade of 177 km. of highway from Vila 2,000 km. by 1991, developed and operated by Real to the Spanish border, including a new 14 a dozen companies. Government policy under km. tolled section. Toll revenues will go to EP, the socialist government of Felipe Gonzales in while the concession company will get 70 per- the 1980s turned against toll roads and policy cent of its revenue from availability fees and the shifted toward developing non-tolled “autovias.” rest based on traffic volumes (i.e., shadow tolls). Several financially struggling autopista compa- A second project reached financial close early in nies were nationalized by the government. By the 2009. The $508 million deal will design, build, early 1990s, the cost of building and maintain- finance and operate 344 km. of tollway. Here ing autovias had become a strain on the national again, tolls will be paid to EP and the Iridium- budget and some of the regional governments led consortium will derive 55 percent of its rev- (such as Catalonia) began authorizing tolled auto- enues from availability fees and the balance from pistas of their own. Thus, the 1990s saw a revival, shadow tolls paid by EP. under a conservative national government, of toll Germany: The land of the non-tolled autobahn concessions. But the early 2000s saw yet another has not adopted tolling, except for heavy trucks change of government and of highway policy, this and an occasional toll bridge or tunnel (such as the time retaining concession companies but shifting Herren Tunnel in Lübeck). Instead, the government to shadow tolls. In 2008 regional governments in has adopted a variant of shadow toll, which it calls Catalonia, Galicia, Madrid and Valencia all pur- A-model highways. The projects offer companies sued shadow toll concession projects. Major toll a 30-year concession to upgrade an existing high- concession companies such as ACS and Ferrovial way, financed by fees linked to traffic volumes. are actively bidding for these projects. The government is using some of its revenues from Portugal likewise has gone through several its national heavy truck tolling scheme to pay for shifts of policy, beginning with toll concessions its shadow-toll commitments. The last of the four mostly carried out by state-owned companies A-model concessions was awarded in early 2009 to such as BRISA, that were eventually privatized. a consortium led by Vinci. The $756 million deal (BRISA today is responsible for 57 percent of the will refurbish and operate 60 km. of the A5 and tolled network in Portugal.) In the 1990s, for new widen another 41.5 km. In June 2008, transport highways, Portugal shifted primarily to conces- minister Wolfgang Tiefensee announced that the sions financed via shadow tolls, on a DBFO basis. federal government would authorize eight more

Reason Foundation • reason.org 73 Annual Privatization Report 2009

concession projects with a combined value of $2.4 enterprises to spur indigenous innovation. billion. The first two, for the A8 and A9 highways, These recent reports are significant because are intended to be tendered in 2009 so that con- they suggest that the pull back from foreign invest- struction can begin in 2010. The next four projects ment was temporary and that Chinese officials are would likely involve segments of the A1 and A6 focused on figuring out how to further privatize and two segments of the A7, with subsequent proj- major portions of the economy. The NDRC policy ects on the A45 and A60. statement specifically targeted railways, telecommunications and power generation as potential industries open to foreign investment and capital. G. China Rising: Implications for Indeed, China has used private capital Private Capital and foreign investment to leverage domestic Private capital will continue to play a central resources to build electrical plants, water treat- role in China as the emergent economic giant con- ment facilities, roads and ports. Private capital, tinues its long-term investment in core infrastruc- particularly foreign finance and equity, was cru- ture despite what appears to be retrenchment on cial in underwriting these early projects. public-private partnerships (PPPs). Infrastructure Unfortunately, a few poorly designed agree- demands and the need for efficient facility man- ments created problems for local government offi- agement will give the nation little choice. cials. In some cases, private firms overvalued their As high-income countries, such as the U.S., projects through optimistic revenue and demand Japan and England, continue to regroup from forecasts to maximize the use of debt finance and the global recession, China’s economic growth minimize exposure by private investors. Problems is increasingly driven by domestic demand and also emerged when private companies would investments that focus on the interior and non- invest in facilities and, once constructed, flip them export sectors of the economy. Thus, the current to new owners. The new owners sometimes man- retrenchment may end up being more a reflection aged the facilities at lower levels of service than of a retooling of the PPP regulatory process to promised in the initial agreement. Public-private address two issues: 1) problems experienced with partnerships were supposed to shift risk to the the implementation of early agreements and 2) a financiers and managers of the facility, but they refocusing of investment priorities on projects in failed to do so and in some cases even shifted risk less accessible (from a foreign investor perspec- back to the public sector. As a result, Chinese tive) parts of the domestic economy. policymakers are now working to re-craft legisla- Policymakers at the national and sub-national tion in a way that both reduces the potential for levels recognize that private equity and finance— private investors to shift undue risk to the public domestic and foreign—are critical for meeting sector and creates stronger incentives for private growing infrastructure needs. Notably, the Chi- investors to manage facilities efficiently based on nese government has explicitly recognized the the economic life-cycle of the asset. essential role private capital will play in meeting The character of China’s growth and the its future infrastructure needs. The National investment opportunities for private capital Development and Reform Commission (NDRC), may be fundamentally different as a new era of for example, recently called for an increase in private investment unfolds. The global reces- private investment to improve competitiveness sion has weakened traditional export sectors and spur economic growth. This echoed the mes- and the urban economies that supported them. sage in Enterprise-Led Innovation in China, a More than 70,000 factories have closed since World Bank report published in 2009 that urged the recession began, leaving more than 20 mil- the Chinese to shift research and development lion workers unemployed. More than half of into private companies and out of state-owned China’s toy factories have disappeared, most of

74 Reason Foundation • reason.org Annual Privatization Report 2009

which were in key coastal trading centers such as To sustain this growth, the city needs and wants, Guangzhou, Shenzhen and Shanghai. The result- infrastructure that can support investments fitting ing social unrest has caught the attention of the a 21st century economy with global connectivity. nation’s top leadership. That means an expanded airport, more roads and Yet these economic losses in the export sector highways, new investments in energy production have not yet translated into negative growth for and expanded public utilities. the nation, which is a key indicator of the funda- In transportation, Chongqing policymakers mental long-term strength of China’s economy. have adopted an impressive mobility goal of achiev- Parts of the Chinese economy continue to hum ing a 30-minute maximum travel time within the along at robust rates. Despite the global reces- urbanized area with a population about the size of sion, China watchers still expect the nation to Houston and a 10-minute maximum travel time achieve 6 percent growth in 2009. While some, within the hilly and topographically challenged including the American Enterprise Institute’s downtown Yuzhong District. To achieve this goal, John Makin, are appropriately skeptical about local planners are looking at a wide menu of strate- growth continuing at this robust rate, no one is gies that still struggle to get on the radar screen of predicting negative growth. U.S. transportation planners, including congestion As the global recession wanes, China’s econ- pricing and public-private partnerships to build omy will build on the strength of its domestic new bridges and tunnels to speed up travel times. markets and will likely come back even bigger Current plans include an underground highway and stronger. This bodes well for major invest- that links major destinations within the central ments in infrastructure beyond the $500 billion business district. Their commitment to using mar- stimulus package approved by the Chinese gov- ket-based approaches to expanding and managing ernment in early 2009. As an emergent economic road capacity may well put the municipality in a tiger, China recognizes that connecting its cities league of its own in the global economy. to the world with roads, rails, airports and tradi- Historically, the benefits of private capital to tional ports will be a key to its sustained growth. China’s economic future are hard to dismiss. A $12 Private capital will have a role to play in billion expansion of the Shanghai container port on this investment. In fact, a general rule of thumb the Yangshan Islands, connected to the mainland by for Chinese policymakers is that the source of the 32.5 km (20.2 mile) Donghai Bridge, ensured financing will come in equal parts from the gov- China could claim the title of the world’s largest ernment, domestic non-government financial container port in 2005. The nation has committed institutions and foreign capital. to building a 21st century road network at least Private investors should thus look beyond the as large as the U.S. Interstate Highway System to traditional export economies and toward the domes- improve mobility and link its major urban cen- tic market for new opportunities. A better barometer ters. The early toll roads in Shenzhen developed of China’s future economic health is probably in the by Hong Kong-based Hopewell Holdings simply interior, where construction cranes are still on dis- could not have been built without private capital play and earth-movers are clearing paths for dozens providing resources and expertise. of new roads and highways in urban areas such as The new era of investment, however, will Beijing, Chengdu, Xi’an and Chongqing. require that foreign firms have a greater apprecia- Take the example of Chongqing, a city with six tion for the nuances of operating in the Chinese million people in its urbanized area and 30 million market and a willingness to invest based on a long- people in the entire municipality. This burgeoning term commitment to infrastructure management. metropolis will forge an economic influence compa- Global capital and firms with experience in these rable to the early twentieth century industrial jug- areas will find a thriving and interested market for gernaut of Chicago-Detroit-Cleveland in the U.S. their services in China.

Reason Foundation • reason.org 75 Annual Privatization Report 2009

Air Transportation

Contents A. Airport Privatization B. U.S. Airport Security C. Air Traffic Control

A. Airport Privatization Table 10: Geographic Scope of Airport Privatization Companies, 2008 (Financiers, Developers and Owner/ 1. Introduction Operators) As airport privatization became a hot Country of # of Example of Company Headquarters Firms issue in the United States in 2008, poli- Argentina 1 AA2000 cymakers and reporters seemed largely Australia 5 Macquarie Airports unaware that this phenomenon has been Austria 3 Flughafen Wien AG a major trend globally since 1987, when Belgium 1 Brussels International Airport Co. Margaret Thatcher privatized (via a 100 Canada 7 Canadian Pension Plan Invest. Board percent public stock offering) the former China 2 Hong Kong Airport Authority British Airports Authority (now BAA, Costa Rica 1 Alterra Partners plc). A detailed report on the subject was Cyprus 1 Hermes Airports published in late 2008 by David J. Bent- Czech Rep. 1 Penta Equity Group ley Associates in Manchester, U.K. In 160 Denmark 1 Copenhagen Airports A/S pages (with subsequent appendices), World France 2 Aeroports de Paris (AdP) Airport Privatization 2008 & Beyond Germany 3 Fraport provides a comprehensive overview of the India 6 GMR history of airport privatization, the types Ireland 1 Aer Rianta/DAA of transactions involved, a country-by Italy 4 Aeroporti di Roma (AdR) country review and a profile of about 100 Malaysia 2 Malaysia Airport Holdings Berhad companies that own and operate airports, Netherlands 2 Schiphol Group finance airport privatization or participate New Zealand 1 Infratil in projects to finance, design, build and Singapore 2 Changi Airports International operate new airports or airport terminals. South Africa 1 Airports Company South Africa The list of companies from this report Spain 4 Abertis/TBI is too long to reproduce here, but to give Switzerland 3 Unique (Flughafen Zurich) some idea of the geographical scope of this Turkey 2 TAV Airports industry, Table 10 summarizes the number UAE 2 Dubai Aerospace of firms by country of headquarters, along UK 10 BAA plc with an example of a company from each United States 10 Goldman Sachs Infrastructure Fund of the 26 countries involved. Source: Airport Privatization 2008, David J. Bentley Associates

76 Reason Foundation • reason.org Annual Privatization Report 2009

2. U.S. Airport Privatization has only one slot for a “large hub” airport, the category to which Midway belongs. And while Midway Airport and the Airport Privatization a number of airports around the country have Pilot Program been suggested by local officials as privatization During 2008 and early 2009, the main focus candidates, nearly all have been “medium hubs,” of attention in U.S. airport privatization was the for which there are three slots in the Pilot Pro- impending 99-year lease of Chicago’s Midway gram. The exception is “large hub” Minneapolis/ Airport. Spirited competitive bidding—with the St. Paul International Airport (MSP). basics of the concession agreement presented to In January 2009, state Sen. Geoff Michel and all bidders and the only factor in the competition state Rep. Laura Brod proposed leasing MSP among pre-qualified bidders being the price— along the lines of what Chicago was doing with led to a winning bid of $2.5 billion from the Midway, figuring that because of MSP’s much Midway Investment & Development Company greater traffic, it would yield far more than $2.5 (MIDCo) in September 2008. Originally the deal billion. And Gov. Tim Pawlenty was expected to was supposed to reach financial closing by Janu- announce a proposal aimed at closing the state’s ary, but MIDCo received permission from the $5.5 billion revenue shortfall and (according to city of Chicago to extend this to April 1, 2009, the think tank Minnesota 2020) “has hinted at due to difficulties in arranging the financing, large asset privatizations, which may include given the credit market crunch. When MIDCo Minneapolis-St. Paul International Airport.” The failed to close by that date, the city terminated potential release of Chicago’s “large airport” slot the deal. would remove a serious obstacle to leasing MSP Observers pointed to several factors in this under the Pilot Program. outcome. First, John Schmidt of Mayer Brown, At least eight medium hub airports have been the city’s legal advisor on the deal, told Public proposed by public officials as candidates for Works Financing that the value of publicly long-term leases under the Pilot Program: Austin, traded airports had declined by 30 percent or Bradley (Hartford), Jacksonville (FL), Kansas more since the bid was put together. That means City, Long Beach, Milwaukee, New Orleans and MIDCo overpaid by that amount and under- Ontario (California). Of these, New Orleans standably had difficulty making the numbers appears to have the strongest political support pencil out. Secondly, 89 percent of MIDCo con- as of this writing. As part of a series of local sisted of Citi Infrastructure Investors, an infra- and state reform efforts, a new Regional Airport structure investment fund that was also a bidder Authority was created in 2008 to manage the on the forthcoming sale of London Gatwick Louis Armstrong International Airport (which Airport, arguably an airport with significantly is owned by the city of New Orleans but whose greater growth potential than Midway (if it can land includes portions of two other jurisdic- win planning permission for its desired second tions). That body is considering two options, runway). It may have made more sense for Citi either a takeover by the state government or to conserve its cash for higher-return deals on privatization under the Pilot Program. Privatiza- which it can bid based on current market values. tion appears to have the support of Mayor Ray Although some expect Chicago to try again Nagin, several council members and key business once credit market conditions return to more leaders. As of June 2009, however, New Orleans normal conditions, an immediate impact of the had not filed an application with the FAA. collapse of the Midway deal is that it opens up Here is the state of play in the other jurisdic- possibilities for other large cities. That’s because tions as of July 2009: the federal Airport Privatization Pilot Program Austin: Discussions began in 2007, with

Reason Foundation • reason.org 77 Annual Privatization Report 2009

several elected officials raising the idea and by Los Angeles World Airports, a city agency. continued into 2008 with an Airport Advisory Although Mayor Villaraigosa is pursuing the Committee meeting on airport privatization. No long-term lease of the city’s parking facilities, no official decision on whether or not to pursue the action has been taken regarding Ontario airport.. idea has been forthcoming. While these discussions were going on, the Bradley/Hartford: Several Republican mem- chairman of the House Aviation Subcommittee, bers of the state legislature in February 2009 Rep. Jerry Costello (D, IL), revived his anti- introduced legislation under which the state privatization language from the 2007 House bill would study or proceed to lease this state-owned to reauthorize the Federal Aviation Administra- airport, as a means of coping with the state’s tion. (Because the Senate never brought its ver- budget deficit. sion of the bill to the floor, the new Congress is Jacksonville (FL): Aviation Authority CEO having to start all over on FAA reauthorization.) John Clarke proposed a long-term concession Sec. 143 of the House bill (HR 915) would for the landside (terminals, etc.) portion of the exclude airports leased under the Pilot Program airport and disclosed discussions with Fraport from receiving federal Airport Improvement and Macquarie concerning the idea. However, in Program grants—even though passengers using early 2009 Clarke announced that he was leav- such airports would continue to be charged the ing Jacksonville to become the director of the passenger ticket tax which funds that grant pro- Indianapolis airport. gram. In addition, it would increase the airline Kansas City: Mayor Mark Funkhouser, for- approval requirement (of the terms of the lease) merly the city auditor, proposed the idea of leas- from the current 65 percent to 75 percent. These ing the airport in February 2009 and favorable measures are clearly intended to make airport comments were made by the airport director and privatization more difficult to carry out and less several council members. But on April 23, 2009, attractive to all parties. By contrast, the FAA’s citing too many unanswered questions, the city own reauthorization proposal from 2007 would council voted not to pursue the idea at this time. have expanded the Pilot Program by increasing Long Beach: In January 2009, the city council the number of slots from five to 15 and eliminat- held a closed-door session to discuss possible ing the airline approval requirement. privatization of the airport, following expressions of interest from J.P. Morgan and Merrill Airport Contract Management Lynch. Since then, however, it has gotten into In all the debate over long-term leasing of a public tiff with JetBlue CEO Dave Barger airports, many people remain unaware that the over the lack of progress on promised airport private sector has been managing various U.S. improvements. airports for decades. There are a number of firms Milwaukee: County Executive Scott Walker that operate and manage general aviation (GA) proposed a long-term lease of the county’s Gen- airports (those without scheduled airline service). eral Mitchell International Airport in 2008, as Besides those cases, U.K. firm TBI (now owned one component of a set of asset divestitures and by Abertis) still operates Burbank and Avports cost reductions to resolve shortfalls in the county Management operates Albany, Atlantic City, budget. The idea has not generated a critical New Haven, Stewart (NY) and Westchester/ mass of support, thus far. White Plains, in addition to a number of GA air- Ontario: Los Angeles City Controller Laura ports. And for about 10 years, the U.S. division Chick in January 2009 proposed an array of of BAA operated Indianapolis under a manage- budget measures, including the possible long- ment contract. Avports is the direct descendant term lease of Ontario Airport, which is owned of Pan Am World Services which dates back to

78 Reason Foundation • reason.org Annual Privatization Report 2009

the early days of Pan American World Airways. acquiring and will own the land and be respon- It was subsequently owned by Johnson Con- sible for the airside (runways, taxiways, control trols, then American Port Services and more tower) while the private sector would finance, recently by Macquarie Aviation. It was acquired develop and operate the landside (terminal, park- recently by Virginia-based Aviation Facilities Co. ing, etc.). Along the way, Rep. Jesse Jackson (D, (AFCO). IL), who represents much of the south side of And speaking of BAA USA, that company Chicago, has become a champion of the airport. recently signed its fourth contract to manage In March 2009, Gov. Pat Quinn renewed the U.S. airport retail operations. In addition to its state’s commitment to getting the project done. AirMalls at Pittsburgh, Baltimore/Washington In 2008 the state submitted updated plans to International and Boston Logan, BAA now has a the FAA and it continues to acquire land for the 10-year contract for the same purpose at Cleve- airport. land Hopkins International. Another privately owned airport may cease to operate as an airport, a casualty of the pullback Privately Owned Airports of DHL Express from the domestic U.S. market. May 2009 saw the opening of an entirely DHL acquired the Wilmington (OH) Air Park private airport in country music haven Branson, when it bought freight carrier Airborne Express, MO. Noting that the nearest airport with sched- which owned the airport and used it for its cen- uled service was 52 miles away (in Springfield) tral sorting hub. DHL had previously sorted and offered virtually no service by low-cost car- packages at the Cincinnati-Northern Kentucky riers, a group of entrepreneurs created Branson International Airport (CVG), but consolidated Airport LLC, acquired a suitable parcel of land operations at Wilmington after the acquisi- in Branson, received airspace approvals from the tion. But since DHL as of 2009 has dropped its FAA and set about raising money. With $140 domestic service and will only serve international million in hand, they have created a one-runway markets, its sorting hub needs are drastically airport with a contractor-operated control tower reduced. When the state of Kentucky offered it and a modest terminal building. In advance of a $1.87 million tax credit to make CVG its hub, the airport’s May 2009 opening, they began that offer decided the issue for DHL. The future marketing it to low-fare airlines. Because it is not of Wilmington as an airport is now in question. constrained by the usual FAA grant agreements, Branson Airport can offer airlines two-year 3. Global Airport Privatization exclusive rights to link specific cities to Branson. Thus far, it has signed up AirTran for exclusive Europe service to and from Atlanta and Milwaukee and In the summer of 2008, the U.K. Competi- Sun Country for Minneapolis-St. Paul. tion Commission issued its preliminary report on Another would-be private airport is still BAA, the privatized operator of the three large trying to get off the ground—the third Chicago airports serving London and all of southeastern airport at Peotone, 40 miles south of the Loop. England: Heathrow, Gatwick and Stansted. It For more than a decade, the local business com- recommended that BAA be broken up, by selling munity, outside consultants and the Illinois DOT two of the three London airports and one of its have been promoting the airport as the answer two Scottish airports. Rather than waiting for to the need for additional airport capacity in the the final report, Ferrovial (BAA’s majority owner) greater Chicago area. While the initial concept decided to put Gatwick on the market and this was more like Branson, it has evolved into a sale has become the main event for European air- public-private venture, in which the state DOT is port privatization in the first half of 2009.

Reason Foundation • reason.org 79 Annual Privatization Report 2009

Three bids were submitted by the April 30, or so. Most French regional airports are cur- 2009 deadline. One came from Lysander Gat- rently operated by local chambers of commerce, wick Investment Group, which is composed of under license from the national government. the same three firms that constituted MIDCo Two such airports, Chambery and Grenoble, are (the winning bidder for the failed Midway Air- operated under quasi-concession arrangements port lease): Citi Infrastructure Partners, John by Vinci and Keolis. Table 11 lists the outcomes Hancock Life Insurance and Vancouver Airport of recent tenders or concession management of Services. Another bid came from Global Infra- regional airports. structure Partners (GE and Credit Suisse), the Most of Italy’s larger airports have been fund that owns London City Airport. And the privatized, including Rome, Florence, Naples, third bid was from Manchester Airports Group, Parma, Pisa and Venice. Attempts to privatize Borealis and the Greater Manchester Pension Milan’s airports have thus far not succeeded, Fund. Passenger numbers at Gatwick in March partly due to uncertainties over the future of 2009 were 17.7 percent lower than the previ- money-losing state-owned airline Alitalia. With ous year (a larger decline than at Heathrow or the very recent privatization of Alitalia and the Stansted) and cargo volume had fallen by about new Lufthansa Italia now operating at Milan, 50 percent in comparison to the previous year privatization of Milan’s airports may now return for more than six months. The government’s to the policy agenda. Greece apparently still “regulatory asset base value” of Gatwick is plans to sell at least part of the 55 percent of the $2.33 billion (£1.6 billion) and there was much Athens airport that it retains (with 40 percent speculation over whether any of the bids would owned by developer/operator Hochtief). It may exceed that amount. On May 13, BAA dropped also privatize some of the larger regional air- the Lysander group, saying its price was uncom- ports. petitive. Spain’s government announced in August Only minor activity took place in Germany 2008 that it will sell a 30 percent stake in the 47 in 2008. Privatized Fraport, majority owner of airports operated by state agency AENA (which Frankfurt and various overseas airports, sold its also operates the air traffic control system). The 65 percent interest in money-losing Hahn air- plan is to first separate the ATC system and then port to the original co-shareholder and investor, offer investors stakes in individual airports, with the German state of Rhineland-Palatinate, for a AENA retaining majority interest in each. For symbolic price of one euro. The no-frills airport the two largest airports, Madrid and Barcelona, had been losing money and its major airline, the governments of Madrid and Catalonia, low-cost-carrier Ryanair, had threatened to move respectively, will also be allowed to buy shares. out if Fraport imposed a planned passenger This privatization has been delayed by a reshuffle facility fee. Most other German airports remain of government ministers and no time frame has owned by their state and municipal governments, yet been published. Portugal also plans to priva- although Hochtief and its affiliated investment tize its state airports agency, ANA, but in this arm own 30 percent of Düsseldorf Airport and case a key aspect is the selection of a private-sec- 49 percent of Hamburg Airport. tor consortium to build a new airport for Lisbon France’s Aeroports de Paris was partially (at Alcochete) and take over at least some of the privatized in 2006 and in 2008 announced its other airports (such as Faro and Porto). In April interest in acquiring stakes in some of the French 2009 a consortium of Portuguese firms (includ- regional airports, such as Bordeaux, Marseilles, ing toll road operator BRISA and Banco Espiritu Nice, etc. as well as acquiring part-interests in Santo) teamed with Changi Airport Consultants six to 12 airports overseas in the next five years from Singapore to bid for this opportunity.

80 Reason Foundation • reason.org Annual Privatization Report 2009

Table 11: French Regional Airport Concessions tional acquired 100 percent of Aerodom, a leading airport operator in Central America and the Airport Concession Operator holder of a 30-year concession for six airports Vatry (cargo airport) SNC Lavalin, Aeroport de Montreal, et al. in the Dominican Republic. Advent is a global Vannes SEVA, SNC Lavalin firm with a history of investing in Latin America, Angers SGAAM, Keolis especially in the airport sector. Troyes SGATC, Keolis Mexico’s airport privatizations in the late Grenoble SEAG, Vinci-Keolis 1990s, followed by initial public share offer- Chambery SEAC, Vinci-Keolis ings (IPOs) in the early years of this century, Clermont Ferrand SEAAFA, Vinci-Keolis produced three successful airport operators that Picardie SEAAP; Keolis-Group K now plan to branch out elsewhere in Central Nimes VTAN, Veolia America, the Caribbean and South America. Beauvais SAGEB, Veolia But ASUR, GAP and OMA have all experienced Annecy CCI traffic declines due to the global recession of Deauville CCI 2008/2009, which has put most expansion plans Morlaix CCI on hold. Once things recover, the Mexican gov- Tenders awaiting Lille, Avignon, Brive Souillac, Dinard-St. Malo, Le Havre ernment plans a tender for a new airport serving Source: David J. Bentley Associates. the Mexican Riviera and is still working on plans for additional airport capacity in the Mexico Previously, the only party that had proclaimed City region. its interest was Spain’s Abertis. The tender is After the successful privatization of the Jorge expected to begin before the middle of 2009. Chavez airport in Lima, Peru via a 30-year con- The big action in Central and Eastern Europe cession in 2002 (with Fraport acquiring 100 is expected to be the long-promised privatization percent of that concession in 2007), the Peruvian of the Prague airport. Although the government government in 2006 privatized, also via long- approved the plan in June 2008 and a number of term concession, 12 regional airports. It plans to firms expressed interest, by year-end the trans- privatize six more in 2009, with final bids due in port minister said he would advise against the July and an award planned for August. sale if bids came in at $2.5 billion or less. As of It now seems likely that Brazil’s Galeao (Rio early 2009, the government was still in the pro- de Janeiro) and Viracopos (Sao Paulo) airports cess of selecting an advisor for the privatization, will be privatized in 2009. The specifics will which is nominally scheduled for the second half be developed with the assistance of both the of 2009 and now looks unlikely before the end national development bank (BNDES) and the of 2009. civil aviation agency (ANAC). The terms and Latin America & Caribbean conditions are expected to be released in July Jamaica several years ago privatized its major 2009. The procedures are part of a plan to tourist airport—Sangster International, in Mon- prepare Brazil for the 2014 soccer World Cup, tego Bay—via a 30-year build, operate, transfer which it will host. (BOT) concession. Based on the success of that Asia/Pacific privatization, the government wants to do the India’s three brand new (“greenfield”) air- same thing for its other major airport, Norman ports developed under long-term concessions Manley International in Kingston. In October are all operational (at Bengaluru, Cochin and 2008 the government approved hiring an advi- Hyderabad) and the government-approved devel- sory team to manage that privatization process. opment of another such airport in January 2009, And in the Dominican Republic, Advent Interna-

Reason Foundation • reason.org 81 Annual Privatization Report 2009

at Kannur in Kerala. And work is continuing on Singapore’s highly regarded Changi Interna- the modernization of two major international tional Airport is being corporatized in 2009. The airports via long-term public-private concessions Civil Aviation Authority of Singapore will be at Delhi and Mumbai, with a third runway open- split in two, as of July, with the airport becoming ing at the former in August 2008. Whether the a government corporation and the rest of CAAS PPP approach will be used for the next two mod- becoming NewCAA, responsible for air safety ernizations, at Chennai and Kolkata, remains to regulation and air traffic control. South Korea’s be seen, as the Airports Authority of India seems Incheon airport was announced as a privatiza- to be resisting further loss of control over the tion candidate in August 2008. A specific time- country’s airports. table and the method of privatization have yet to Air travel has been growing by leaps and be announced, but the Ministry of Land, Trans- bounds in China over the past decade, but only port and Maritime Affairs has confirmed that it about a dozen of the country’s 150 airports will begin selling shares in the airport in 2010. operate in the black. The government has gradu- Of the 49 percent that will be sold, a maximum ally lifted restrictions on foreign investment in of 15 percent will be allocated “strategically” airports, with the limit recently increased to 49 to a foreign company that specializes in airport percent. Among those taking partial stakes in management, with the remaining shares sold to various airports have been Aeroports de Paris, private and institutional investors. Changi International, Copenhagen Airports, Nearly all of Australia’s airports were long- Fraport and the Airport Authority of Hong term leased in the late 1990s, culminating with Kong. Both AdP and Copenhagen Airports have Sydney in 2002. But the state-owned airports since withdrawn from their strategic partner in Queensland—Brisbane, Cairns, Mackay and minority stakeholdings in Beijing Capital and Mount Isa—were not. In 2008 Queensland Hainan Meilan airports, respectively, but Fraport announced plans to privatize Cairns and Mackay remains committed to China and is seeking new and to offer a 12 percent stake in Brisbane. opportunities. The planned initial public offering Mackay was sold in November 2008 to a con- of Hong Kong International, first planned for sortium of private interests. And Australia’s fed- 2006, still has no revised date. eral government has begun the process of seeking Japan has talked about privatizing one or a site for a second airport to serve the Sydney both Tokyo airports, but the political will to region, since expansion of single-runway Sydney move forward has been lacking. In July 2008, International has been ruled out. the government announced a new study of what regulations should apply to foreign investment in Japanese airports, probably stimulated by B. Airport Security Macquarie’s acquisition of a 20 percent stake in In a report prepared for the OECD’s Interna- Tokyo Haneda Airport. But in May 2009, Mac- tional Transport Forum in December 2008, Rea- quarie announced that it was selling its shares son’s Robert Poole finds considerable parallels back to Japan Airport Terminal, the government in the aviation security policies of Canada, the airport company.The most recent annual report European Union countries and the United States. of Tokyo Narita Airport under the heading IPO In all three cases, policy changes were driven says “Public listing as soon as possible.” But the by hijacking incidents, especially after the 9/11 government approved a bill in March 2009 to attack on the United States. In all three cases, cap equity ownership by an individual share- there is much rhetoric about the importance holder in Narita International Airport Corp. at of risk-based policies (i.e., allocating resources less than 20 percent. in ways that reflect the risks and benefits), but

82 Reason Foundation • reason.org Annual Privatization Report 2009

instead major policy decisions have been made vate security companies that must meet defined for political reasons, without benefit of analysis. performance standards. This enables the num- This is particularly the case for passenger and bers of screeners to be easily adjusted upward or baggage screening. downward, as threat levels dictate. And should terrorists turn their attention to other sectors 1. Passenger and Baggage Screening at some point in the future, it would be rela- Researchers on terrorism at the RAND tively easy to scale back the extent of passenger Corporation and elsewhere point to the asym- and baggage screening in Canada. In most EU metries between terrorists and governments. The countries, screening is the responsibility of the former tend to be far more flexible and are able airport, under national government regulatory to wreak havoc at relatively low cost, compared oversight. In most cases, the screening operations with the costs of defending against them. A gen- are outsourced to private security companies, eral policy of “target-hardening,”—providing operating under performance contracts. Even protective measures at specific sites—unless more so than in Canada, the level and extent of done in a flexible and ever-changing manner, is such screening operations can be tailored to the a losing proposition, since advanced societies circumstances of each country and airport. And are inherently target-rich environments, whereas the system retains the flexibility to increase or terrorists present governments with a miniscule decrease the numbers employed for this purpose. number of targets. Thus, as a general proposi- By contrast, the system mandated by Con- tion, there is greater leverage in intelligence gress in the Aviation and Transportation Secu- and interdiction efforts than in target harden- rity Act of 2001 is highly centralized. In all but ing. Nonetheless, since air transportation seems a handful of cases, airport screeners are direct to be an attractive target for various reasons, employees of the Transportation Security Admin- some kinds of defenses against terrorist attacks istration, hired and trained by TSA and paid on it are probably justified. But security policy uniform salaries and benefits nationwide, as civil should avoid creating the equivalent of Maginot servants. This 43,000-person workforce would Lines—costly, static defenses that terrorists have be difficult to downsize, should conditions incentives to work around. The elaborate and change. It is also difficult to adjust the numbers very costly structure of 100 percent screening of of screeners to rapidly changing levels of airline passengers and baggage at airports is a potential service (and hence passenger throughput). Maginot Line of this sort. In a compromise with opponents of cen- In the OECD/ITF paper, Poole finds similar tralization, Congress permitted five airports to airport passenger and baggage screening in all opt out initially; after 2004, all other airports three jurisdictions. But the United States stands in theory could also have opted out. However, out in two ways. First, it is the only one of these since TSA is also the aviation security regulator, jurisdictions to use very costly explosive detec- no airport that already has a large TSA screener tion systems on all checked bags, rather than workforce has chosen to “kick out” the TSA only on suspicious bags. Second, it is the only screeners—though all five original opt-out air- one whose passenger and baggage screening ports (including San Francisco and Kansas City) system is operated almost entirely by government have chosen to remain with contract service. The employees. In Canada, screening is the respon- only airports that have taken advantage of the sibility of a crown corporation called CATSA post-2004 opt-out provision have been small (Canadian Air Transport Security Authority). airports just beginning to offer scheduled air Rather than hiring and training a large force of service at the level that requires airport screen- civil servants, CATSA contracts with a dozen pri- ing. As of the beginning of 2009, there were

Reason Foundation • reason.org 83 Annual Privatization Report 2009

10 airports using contract screening firms, with frequent flyers (who constitute a large fraction TSA’s concurrence. The TSA has issued an RFP of all those showing up at airports each day) to for contract screening at seven small Montana volunteer for some kind of clearance and if they airports receiving subsidized airline service under passed and could prove when they got to the the federal Essential Air Service (EAS) program; airport that they are the person who was cleared selection of the winner is expected in summer (via a biometric identity card), to let them go 2009. Separately, Butte, MT has applied to TSA through an expedited line, no more burdensome to join the contract screening program and air- than pre-9/11 screening? Subsequent analysis port boards in Missoula and Glacier Park/Kal- by operations researchers showed that the con- ispell, MT have voted to do likewise. cept could cut passenger and baggage screening In 2008 TSA received the results of a study it costs dramatically, while permitting screening had commissioned on the performance and cost- resources to be focused on higher-risk passen- effectiveness of in-house versus contract security, gers. conducted by Catapult Consultants. Judging The TSA said it was willing to test the idea, from a GAO report summarizing the results renamed Registered Traveler (RT) and allowed (GAO-09-27R), the study found that contract start-up company Verified Identity Pass to screeners performed somewhat better than TSA develop the technology and try it out at Orlando screeners and probably did so at no higher cost Airport. After several years, TSA expanded the than TSA screeners. The company recommended pilot program to up to 20 airports and allowed that TSA reduce its administrative costs at the other companies to develop inter-operable sys- airports with contract screeners (which unfairly tems. As of early 2009, there were three com- inflate the cost of contract screening) and that it panies in the market, with the large majority of take the initiative to expand contract screening participating airports offering the “Clear” brand to several types of airports: those with low-per- pioneered by Verified Identity Pass. RT lanes forming TSA screeners, those with large seasonal were available at 22 airports, including all three swings in passenger throughput and those where in New York, both airports in Washington, DC, TSA finds it difficult to hire and retain screeners. Indianapolis, San Francisco and many others and It also suggested giving screening contractors as of May 2009, some 260,000 air travelers had additional “degrees of freedom” to foster inno- joined one of the three RT programs. vation, superior performance and cost controls. However, although RT members could Instead of taking these findings and recommen- bypass the long lines at screening checkpoints, dations seriously, TSA did not release the Cata- they still had to go through exactly the same rou- pult study and instead did a quickie study of its tine once they were at the checkpoint—removing own downplaying the performance comparison shoes, jackets, laptops, etc. TSA has taken the and portraying the contract firms’ cost in a less- position that RT is not a security program, but positive light. merely an identification program. It can maintain this position because the agency itself has 2. Registered Traveler refused to perform background checks on those Several months after 9/11, aviation experts applying for membership. RT program opera- Michael Levine and Richard Golaszewski sug- tors dutifully forwarded the fingerprints from gested the idea of “trusted traveler.” It began applicants to the clearinghouse operated by the with a thought experiment: why should someone American Association of Airport Executives holding a government security clearance have to (AAAE), which also provides this service to air- go through the passenger-screening rigamarole? ports, to facilitate obtaining FBI criminal history Wouldn’t it be far more cost-effective to permit background checks on hundreds of thousands

84 Reason Foundation • reason.org Annual Privatization Report 2009

of airport workers who must have daily access C. Air Traffic Control to secure areas at airports. Ever since the RT program began and continuing into 2009 under 1. Global ATC Trends a new Administration, the TSA has refused to During the past two decades, nearly 50 gov- allow the AAAE clearinghouse to submit RT ernments have “commercialized” their air traffic applicants’ fingerprints to the FBI. Instead, TSA control systems. What that means is they have itself merely checks the name of each applicant organizationally separated this set of functions against its terrorist watch list and tells the com- from their transport ministry, removed it from pany yes or no on each one. This is the same civil service and made it self-supporting from watch list against which airlines must match the fees charged to aircraft operators for ATC ser- name of every single passenger before they can vices. These new air navigation service providers be issued a boarding pass. In other words, the (ANSPs) are also, for the first time, being regu- only background check which TSA allows for lated at arm’s length by their government’s avia- RT applicants prevents the program from being tion safety agency. a security program, as originally intended. Most of these commercialized entities have In 2008 Verified announced a doubling of its been set up as government corporations (analo- annual fee from $99 to $199 to cope with the gous to the U.S. Tennessee Valley Authority), high costs of staffing its various facilities with though a few remain as government depart- fewer members than projected in its business ments, despite being paid directly by their users plan. A number of members failed to renew, and being able to issue revenue bonds to finance apparently on grounds that the higher new rate modernization. A handful can be called “priva- was excessive, since the RT program did not tized,” but the two principal examples are not reduce the hassles at security checkpoints, only for-profit companies. Nav Canada is a not-for- the time spent waiting in line. The subsequent profit corporation, governed by a board made up reduction in revenue led Verified to the sudden of aviation stakeholders—in effect, it functions announcement, in June 2009, that it was termi- as a kind of user co-op. And the U.K.’s National nating all operations. Air Traffic Services (NATS) is a public-private Ironically, a TSA sister agency is now oper- partnership, with British airlines owning 42 per- ating a risk-based program something like the cent, airport company BAA owning 4 percent, original RT concept. It is Customs & Border employees owning 5 percent and the government Protection’s Global Entry program. Would-be owning the balance. NATS, also, is operated on members pay a $100 fee and must pass both a a not-for-profit basis. background check and an interview. Then, when A growing number of studies have found returning to the United States, they can bypass that the changes encompassed by ATC com- regular passport control and go to a kiosk where mercialization have made significant differences they scan their passport and biometric ID card. in performance, with improved service quality, During the trial period at the initial three air- significantly improved modernization and lower ports, 1,100 people signed up for Global Entry. costs. These changes appear to stem from the By the beginning of 2009 it had expanded from new customer-provider relationship, in which Houston, New York (JFK) and Washington “user pay means user say,” as they describe Dulles to include travelers re-entering the United it in Canada. At the same time, air safety has States at Atlanta, Chicago O’Hare, Los Angeles remained the same or improved and the public and Miami. interest has been protected. The most recent

study is the book, Managing the Skies: Public Policy, Organization and Financing of Air Traf-

Reason Foundation • reason.org 85 Annual Privatization Report 2009

published in January 2007. The airline industry strongly supported the FAA proposal, the GA organizations strongly opposed it and Congress almost entirely ignored it. During 2007, the House passed a status- quo FAA reauthorization bill, including modest increases in GA fuel taxes but leaving the basic funding structure unchanged. The Senate Com- merce Committee passed a bill that included a $25 per flight user fee, only for jet and turbo- prop planes flying under instrument flight rules (IFR)—the principal users of ATC services. And it included authorization for the ATO to issue up to $5 billion in revenue bonds based on that user-fee revenue, with spending decisions overseen by a board representing aviation stakehold- fic Management, by Clinton V. Oster and John ers. This was a small step in the direction of ATC S. Strong (Ashgate Publishing, 2007). Oster and commercialization. But that bill did not make it Strong explain how air traffic control works to the Senate floor during 2007, even though the and review the global evolution of air naviga- FAA’s authorization expired as of Sept. 30, 2007. tion service providers. They follow this with In 2008, the FAA essentially reintroduced its detailed reviews of the ANSPs of Australia, New previous proposal. The House took no further Zealand, Canada, the United Kingdom and action, awaiting passage of a companion bill in Europe, as well as a look at the challenges facing the Senate. In April 2008, the Senate reached a developing countries vis a vis air traffic control. compromise under which the user fee, bonding Finally, they discuss the U.S. system, contrasting and board were dropped from the bill. This was the tax-funded, politically controlled FAA system expected to lead to Senate passage, but other with the customer-focused ANSPs in the rest of business and the November elections took prece- the developed countries. dence and the bill never reached the Senate floor. In 2009, the House Aviation Subcommittee 2. U.S. ATC Reform revived and approved essentially its 2007 mea- In 2007 the FAA submitted a sweeping pro- sure, sending it to the floor. As of press time, the posal to revamp the way U.S. air traffic control corresponding Senate committee had not taken is funded, by shifting largely from user taxes action, but speculation continues as to whether (mostly the tax on airline tickets) to user fees the $25 per turbine IFR flight user fee will be based on the en-route and terminal-area ATC reintroduced, especially now that revenue for the services provided. And the FAA’s Air Traffic Aviation Trust Fund is declining, due to reduced Organization would be allowed to issue revenue airline service, fewer passenger trips and lower bonds for modernization programs, based on the air fares—all of which decrease revenue from user fee revenue. Because general aviation (pri- the ticket tax, the largest source of Trust Fund vate plane) organizations expressed all-out oppo- revenue. Another straw in the wind is that the sition to any switch from their fuel taxes to user Obama administration’s 10-year budget proposal fees, the FAA proposal would have let GA con- includes $7 billion of user fee revenue replacing tinue to pay fuel taxes, but at significantly higher existing aviation tax revenue starting in 2011, rates, based on a new FAA cost allocation study suggesting that the user fee concept has not died.

86 Reason Foundation • reason.org Annual Privatization Report 2009

Education and Child Welfare

Contents A. School Voucher and Tax Credit Programs Expand in 2009 B. 2009 Voucher and Tax Credit Student Outcome Data C. Democrats Cancel D.C. Opportunity Scholarship Program D. Charter Schools Enjoy Increasing Market Share E. 2009 Charter School Achievement Data F. Philadelphia School Privatization Produces Student Gains G. School Districts Embracing Privatization to Cut Costs, Focus on Education H. Weighted Student Formula Yearbook 2009

I. Child Welfare Privatization school year, according to a study released by Proposals for 2009 Florida’s Office of Program Policy Analysis and Government Accountability. In light of the tough economy and tight state budgets across the United States, school choice continues to be an important policy tool A. School Voucher and Tax Credit to reduce state education budgets and offer Programs Expand in 2009 parents more high quality options. Numerous fiscal studies have shown consistently that school In the 2008–2009 school year, the Alliance voucher and school tax credit programs save for School Choice reports that more than money both for state budgets and for local public 171,000 children are benefiting from 18 school districts, even after the fixed costs of school voucher and tax credit programs in 10 public schools (costs that do not go away when states. Tax-credit school-choice programs give students leave a school) are taken into account. individuals and corporations credits against their A 2005 analysis by the Friedman Foundation for taxes for donations they make to scholarship Educational Choice, found that America’s school organizations that pay the tuition for low-income choice programs have saved a net total of $22 children to attend private schools. Student million for state budgets and $422 million for enrollment in school choice programs grew eight local school districts. More specifically, for fiscal percent over the 2007-2008 school year and has year 2009 alone, the state of Wisconsin saved grown 89 percent since the 2003-2004 school $37 million as a result of the Milwaukee school year. In 2009, the five states with the largest choice program. Similarly, Florida’s statewide school choice programs are Pennsylvania (43,764 voucher program for low-income students saved students), Florida (41,843 students), Arizona taxpayers $38.9 million in the 2007–2008 (29,539 students), Wisconsin (19,538 students) and Ohio (16,411 students).

Reason Foundation • reason.org 87 Annual Privatization Report 2009

In 2009, Arizona, Florida and Iowa The program also will retain its present cap lawmakers have passed legislation to increase of $118 million a year. With only corporate tax investments in tax credit programs and expand credits, the program has fallen well short of that access and enrollment. In addition, Indiana cap, donating $73.5 million in the last school lawmakers enacted a new tax credit program to year for about 23,000 students attending more offer students scholarships to private schools. than 1,000 private schools. In Arizona, Governor Jan Brewer signed In May 2009, Iowa expanded its tax legislation in May 2009 creating a new tax credit credit program to include contributions from scholarship program for children with special corporations in addition to donations from needs and children in foster care. This program individuals. Allowing corporations to donate to was enacted in response to a state Supreme scholarship programs will allow companies to Court ruling declaring that a voucher program be good corporate citizens while ensuring that serving these children was unconstitutional. additional scholarship money is available to The new legislation offers priority to the students. children who received vouchers under the earlier Democratic Governor Chet Culver increased program, ensuring that the educational needs of the School Tuition Organization Tax Credit limit these children will continue to be served. from $5 million in 2007 to $7.5 million in 2008. This new legislation also expands tax credit Since 2006, Iowans have been able to receive tax scholarship programs in Arizona by allowing credits worth 65 percent of their contributions to a new class of corporation to participate. eligible organizations that provide scholarships Insurers can now take a credit against premium for students to attend accredited private schools. tax liability for contributions to school tuition Families of scholarship recipients must earn less organizations operating under the existing than three times the federal poverty amount corporate tax credit scholarship program and the guidelines. The corporate tax credit expansion new tax credit scholarship program created by will allow more families to participate in the this legislation. program. In Florida, more students will receive On June 30th 2009, Indiana lawmakers annual scholarships to quality schools thanks enacted a $2.5 million corporate and personal to legislation signed June 2, 2009 by Governor education tax credit. The program will provide a Charlie Crist that will boost the state’s tax credit 50 percent tax credit for donations to scholarship scholarship program. programs that help lower income students to Donations to the newly renamed Florida Tax attend private schools. The bill passed the Senate Credit Scholarship Program may now include 34-16 and the House 61-36 with 27 percent of contributions from S-Corporations (including the Democrats voting for the bill. insurance companies), which will receive dollar- for-dollar credits against premium taxes. The tax credit law (HB 453) expands B. 2009 Voucher and Tax Credit the number of businesses that can participate Student Outcome Data by giving insurance companies a dollar-for- In 2009, several new studies profile specific dollar credit against their premium taxes for vouchers and tax credit programs that save donations they make to a program that sends taxpayers money and/or improve academic low-income children to private schools. The tax outcomes for participating students and students credit program now is supported only through who remain in the traditional public schools: corporate income tax credits and those will n The Comprehensive Longitudinal Evaluation continue. of the Milwaukee Parental Choice Program,

88 Reason Foundation • reason.org Annual Privatization Report 2009

Figure 6: 2008-9 Scholarship Recipients by State

Rhode Island

Utah

Louisiana

Georgia

Washington, DC

Iowa

Ohio

Wisconsin

Arizona

Florida

Pennsylvania

0 5,000 10,000 15,000 20,000 25,000 30,000 35,000 40,000 45,000 50,000

* Based on latest program data contained in the School Choice Yearbook 2008-9. ** Georgia data does not include the Georgia Scholarship Tax Credit Program, for which data is not yet available.

released by the University of Arkansas’s federal sources are included, it costs $13,468 School Choice Demonstration Project on to educate an MPS child, versus a maximum of March 24, 2009, shows voucher students in $6,607 to educate a voucher student. Milwaukee are getting an education at least n A February 2009 study by the Friedman on par with children in Milwaukee’s public Foundation for Educational Choice reviewed schools for half the cost. 17 empirical studies that examined the The report found that students in the impact of vouchers on academic achievement program generally posted achievement gains for students who remain in public schools. comparable to students in the Milwaukee Public All but one found that vouchers improved Schools (MPS). When compared to children public schools and none found that vouchers in MPS, students enrolled in the Milwaukee harm public schools.

Parental Choice Program experienced statistically n Florida’s statewide voucher program for significant gains in 7th and 8th grade math. low-income students saved taxpayers $38.9 The report also found that the Milwaukee million in the 2007–2008 school year, voucher program continues to save Wisconsin according to a study released by Florida’s taxpayers tens of millions of dollars a year. Office of Program Policy Analysis and For fiscal year 2009 alone, the state saved $37 Government Accountability. million as a result of the program. While the n A study by the Friedman Foundation report focuses on state sources of funding, when for Educational Choice found that the

Reason Foundation • reason.org 89 Annual Privatization Report 2009

competition provided by Ohio’s Educational year evaluation of it, which was completed in Choice Scholarship program is having November 2008. positive effects not only on voucher That evaluation shows statistically recipients but on the state’s public schools significant academic gains for the entire voucher- as a whole. According to the study, the receiving population. Children attending private increased competition provided by the schools with the aid of the scholarships are EdChoice voucher program, available reading nearly a half grade ahead of their public to students in underperforming schools school peers who did not receive vouchers. statewide, led to academic improvement in Children in the first cohort of voucher recipients the public schools. More specifically, in the are now 19 months ahead of their public school 2006-2007 school year—the program’s first peers in reading. year of operation—public schools showed President Obama has proposed funding positive effects in three grades, while no the current 1,700 voucher recipients until they negative effects were found in the other graduate from high school. But the program will seven grades evaluated. not be expanded and the president will not let new students into it. For the program to survive, new legislation will be needed to reauthorize C. Democrats Cancel D.C. Opportunity it. That seems politically unlikely to happen, Scholarship Program given the voting record of the legislature on the omnibus spending bill that ended the program. The 2009 Omnibus Appropriations Act, a $410 billion spending bill signed by President Barack Obama in March 2009, will cancel the D. Charter Schools Enjoy Increasing D.C. Opportunity Scholarship Program unless it Market Share is reauthorized by Congress and authorized by President Obama championed charter the District of Columbia City council. schools in a major education speech in March The program, created in 2004, currently 2009, praising their innovation and urging provides scholarships worth up to $7,500 to states to lift caps on their growth. Charter more than 1,700 low-income children, serving schools continue to be the largest example families with average incomes of $22,300 per of privatization reforms in public education. year. Since its inception, the program has given These schools operate through a contract with a scholarships to more than 3,000 students. The government authorizer. According to the Center program’s per-pupil costs are one-third the cost for Education Reform, in the 2008–2009 school of educating a child in the traditional D.C. year, over 4,700 charter schools served more public school system. than 1.4 million children across the nation. Language added to the omnibus bill by Sen. The National Alliance for Public Charter Dick Durbin (D, IL) withholds future funding Schools reports that in 2007–2008 school year, from the program unless it receives the required 12 communities had at least 20 percent of their approvals. The program received $14 million public school students enrolled in public charter for the 2008–2009 academic year. The federal schools, double the number of communities Department of Education sat on a positive from the 2005–2006 school year (see Table 12). performance review of the program while A total of 64 communities now have at least Congress was dismantling it. After the program 10 percent of public school students in charter was canceled, the department released the third- schools.

90 Reason Foundation • reason.org Annual Privatization Report 2009

Table 12: Communities With At Least 20 Percent Market Share, older students from dropping out has been 2007-8 School Year an intractable problem for public education. Graduation rates in the United States Community Charter Market Share Charter Non-charter All have hovered around 70 percent since the New Orleans, LA 55% 17,925 14,962, 32,887 1970s. For the sake of high school students Washington, D.C. 31% 22,175 50,270 72,445 especially, where these niche schools with Southfield, MI 28% 3,638 9,372 13,010 more personalized attention and diversified Dayton, OH 28% 252 16,241 22,493 curriculum seem to be making a difference, Pontiac, MI 25% 2,649 8,162 10,811 we need to rapidly expand on the more than Youngstown, OH 24% 2,663 8,282 10,945 4,700 charter schools serving 1.4 million of Phoenix Union High 23% 7,901 26,450 34,351 School District, AZ the nation’s 56 million public students.

Kansas City, MO 23% 7,134 24,449 31,583 n A 2009 study of charter public schools in Detroit, MI 22% 30,433 105,554 135,987 the Oakland Unified School District by the San Antonio TX 22% 13,015 45,888 58,903 California Charter Schools Association Tempe Union High 21% 3,714 13,702 17,416 shows that charters are outperforming their School District, AZ district public school peers at all grade levels, Cleveland, OH 20% 1,274 50,175, 62,849 with high-poverty students, with English Source: National Alliance for Public Charter Schools, 2009 Language Learner (ELL) students and with ethnic minority students. The report also E. 2009 Charter School Achievement Data found that these gains are most prominent at the middle and high school levels and Several new studies demonstrate that charter that the gains are increasing over time. The schools continue to have a positive impact on report, A Longitudinal Analysis of Charter student outcomes: School Performance in Oakland Unified n A RAND study released in March 2009, School District, analyzed results from Charter Schools in Eight States: Effects California’s Academic Performance Index on Achievement, Attainment, Integration (API) growth results and also assessed, in and Competition, examines charters in the most detailed analysis to date, charter Chicago, Denver, Milwaukee, Philadelphia, schools’ performance compared to their most San Diego and the states of Florida, Ohio “similarly-matched” Oakland district public and Texas and bolsters the case for lifting schools that students would otherwise likely the cap on charters. While the RAND study attend. The report found that nearly seven in found no significant difference in student 10 charter schools (69 percent) on average achievement gains in charters versus regular outperformed their three most “similarly- public schools, it found that charter students matched” district schools on 2008 API graduate high school 7 to 15 percent more Growth results. The report also found that often and are 8 to 10 percentage points more charter schools significantly outperformed likely to enroll in college. The study also district public schools in middle (836 to found that charter schools do not skim the 624) and high schools (688 to 528) and top students away from traditional public slightly outperformed district schools at the schools. In fact, in many locations, students elementary school level (725 to 705). Of transferring to charter schools have below- the 10 highest-performing public schools average test scores. While public schools in Oakland, all secondary schools were have generally made progress with student charter schools. Asian, African-American, achievement in the early grades, keeping Latino, English Language Learners and high-

Reason Foundation • reason.org 91 Annual Privatization Report 2009

poverty students in Oakland’s public charter n Massachusetts charter schools are schools outperformed their counterparts outperforming traditional public schools in Oakland’s traditional public schools. in math and English, according to a 2009 African-American and socioeconomically study sponsored by the state’s education disadvantaged students had the largest gains commissioner and the Boston Foundation, over their public school counterparts on the a community organization devoted to API scoring 77 and 76 points higher. bettering the city and region. The study was

n According to the Los Angeles Times, a conducted by researchers from Harvard 2009 survey by the California Charter University and the Massachusetts Institute of Schools Association shows that 12 of the Technology. top 15 public schools in performance on California’s Academic Performance Index that enroll a majority of low-income F. Philadelphia School Privatization students are charters. The association Produces Student Gains focused on schools where at least 70 percent Philadelphia began its historic privatization of the children qualify for free or reduced- experiment in 2002, after the state took over the price lunches. Of more than 3,000 public Philadelphia School District. A 2009 study by schools statewide that meet the criteria, Paul E. Peterson and Matthew M. Chingos of the highest API score, 967, was earned by the John F. Kennedy School of Government at American Indian Public Charter, a middle Harvard University finds that positive student school in Oakland whose students are outcomes followed the experiment. primarily Asian, black and Latino and have In 2002, the Philadelphia School Reform a poverty rate of 98 percent. Ben Chavis, Commission contracted with the for-profit leader of the American Indian Public Charter education-management organization Edison school, credited the school’s success to a Schools to manage 20 of the district’s simple focus on the basics. “These poor kids underperforming schools and with Victory are doing well because we practice math Schools and Chancellor Beacon Academies and language arts,” he said. “That’s it. It’s to manage five each. The commission also simple.” Of the 12 top-performing charter contracted with four nonprofit organizations schools, five are in Oakland, three in Los to manage 16 schools: the University of Angeles County, two in Santa Clara County Pennsylvania (five schools), Temple University and one each in San Bernardino and San (five schools), Foundations (three schools) Diego counties. California has more than and Universal (three schools). Since then, the 700 charter public schools serving more than district has terminated several of the contracts 250,000 students statewide. and regained control of those schools. Do n According to a survey by GreatSchools, the terminations reflect the schools’ relative charter schools make up 14 percent of the performance? The study by Peterson and top-performing public schools nationwide, Chingos finds that they do not and concludes despite accounting for only 5 percent of the that (1) for-profits outperform district-managed public schools in operation. GreatSchools, a schools in math but not in reading, (2) San Francisco-based nonprofit organization nonprofits probably fall short of district schools that helps parents choose the best schools in both reading and math instruction and (3) for- for their children, released the study in profits outperform nonprofits in both subjects. January 2009 with BusinessWeek. The Peterson-Chingos study, published in the peer-reviewed research section of the Hoover

92 Reason Foundation • reason.org Annual Privatization Report 2009

Institution’s spring 2009 Education Next, school district approximately $250,000 annually. confirms that the effect of for-profit management In addition, the company will buy the district’s of schools is positive relative to district schools, fleet of roughly 150 buses and will acquire 15 with the effect on math achievement statistically new buses every year to replace the aging stock significant. Over the last six years, students over time. The district’s current drivers who meet each year learned an average of 25 percent of a minimum standards will be offered positions standard deviation more in math—roughly 60 with the company. percent of a year’s worth of learning—than they A Roanoke Times article noted that would have had the school been under district one school board member said “a private management. In reading, the estimated average transportation system would make it possible annual impact of for-profit management is a for school officials to focus more on instruction positive 10 percent of a standard deviation— without the distractions of running a bus approximately 36 percent of a year’s worth of system.” reading. In 2009, several school districts are moving In 2009, Philadelphia schools Superintendent to privatize services. In Columbus, Ohio, the Arlene Ackerman introduced a five-year plan district is planning to contract for a portion that calls for up to 35 underperforming schools of its food operations with a private company to be shut down and reopened as district- that is committed to making the food service authorized charters or privately managed department more profitable. The schools’ food- schools. The first 10, which have not been service department has been losing money at selected, will convert in 2010. an annual rate of about $3 million and officials have long discussed privatizing some of the operations. The company, Sodexo, a Maryland- G. School Districts Embracing based food-management corporation, plans Privatization to Cut Costs, Focus on to raise lunch prices, shrink staffing through Education attrition and use its national purchasing power to reduce the district’s losses. In Leominster, States and municipalities are not alone in Massachusetts, the school committee will select facing tremendous fiscal pressures these days. a food-management firm to take over the school- School districts nationwide are being forced to lunch program, having voted to privatize the cut costs to respond to the challenges of budget service on May 19, 2009, after the program shortfalls and declining tax revenues. reported a $400,000 loss. And the Board of In this context, the Roanoke school Education in Troy, Michigan, voted unanimously board’s recent decision to contract out school in 2009 to privatize transportation services and transportation services, as well as similar school contracted with First Student, Inc. The decision services privatization initiatives around the will save the district an estimated $2.5 million country—are notable developments that other over the next three years. school districts are likely to be watching closely, Privatization of non-instructional support as it offers a timely reminder that privatization services—such as transportation, food and can be a powerful tool to help “right-size” janitorial and maintenance services—is school districts and keep them focused on their a common management tool that school core mission of educating children. boards nationwide use to save money on non- The school board in Roanoke, Virginia instructional services in order to direct more voted in 2009 to contract with a Pennsylvania- resources into the classroom. based bus company to provide transportation A 2008 survey of Michigan’s 552 public services; the board estimates this will save the

Reason Foundation • reason.org 93 Annual Privatization Report 2009

school districts by the Mackinac Center for vehicles, taking a major risk off its hands. In Public Policy found that 42 percent of the fact, policymakers routinely cite this sort of districts were contracting out for food, janitorial risk transfer as a key benefit of privatization: and/or busing services. The research also contracting out offers a powerful method identified one Michigan district which estimates of shifting important long-term capital and a three-year savings of $14.7 million to $21.5 operations/maintenance risks to the private million from privatizing all three services, sector. And when the contract is up for renewal creating a savings of $557 to $814 per pupil in five years, the Roanoke board can rebid it every year. A similar survey in 2007 found that to ensure it gets the most cost-effective service 78 percent of school districts contracting out provider. services reported cost savings from privatization As with any privatization initiative, the key and nearly 90 percent reported that they were will be developing a strong, performance-based satisfied with their privatization experience. contract that holds the company accountable for Similarly, a 2008 survey by the Illinois meeting enforceable standards that policymakers Policy Institute found that 56 percent of school set. The school board will need to establish districts in that state contracted for one or more a process for monitoring the contractor’s of the aforementioned services, with 43 percent performance and ensuring it delivers. contracting for transportation services (though With a bleak fiscal forecast on the horizon recent changes in Illinois state law now threaten for state and local governments, school districts to reverse the trend toward privatization). in the United States will need to make strategic School districts seeking to cut costs and management decisions along the lines of streamline have other options as well. A 2005 Roanoke’s if they are going to provide quality study by Reason Foundation and Deloitte education for less money. Budgets may rise and Research estimated that U.S. public schools fall, but districts’ core missions—preparing districts could save an estimated $9 billion—the students to compete in an increasingly equivalent of funding for 900 new schools or competitive global economy—remain the same. more than 150,000 new teachers—by combining As Roanoke and other districts demonstrate, just a quarter of their non-instructional service privatization is one tool school administrators costs with other school districts. The study can use to free up dollars from bureaucratic also notes that in many places, at least 40 overhead and drive them into the classroom percent of every dollar spent on education where they belong. never makes it into the classroom and is instead spent on business operations: transportation, food services, information technology, building H. Weighted Student Formula maintenance, administration and other Yearbook 2009 bureaucratic support functions. In 2009 Reason Foundation published a The good news for school districts is that detailed weighted student formula yearbook these services are widely provided in the private available www.reason.org/news/show/weighted- sector, usually at lower cost, with less risk. student-formula-yearb. Below is a short synopsis For instance, Roanoke’s school board stands of the Weighted Student Formula Yearbook 2009. to realize significant long-term operational In the United States, weighted student savings by ridding itself of service-delivery formula initiatives exist in at least 14 school and maintenance obligations of its buses. The districts and Hawaii. district will no longer be responsible for the The weighted student formula is a policy costs of owning and maintaining those 150 tool and financing mechanism that can be

94 Reason Foundation • reason.org Annual Privatization Report 2009

implemented within existing district education 5. Funding systems should be as simple budgets to create more efficient, transparent and as possible and made transparent to equitable funding. Weighted student formula administrators, teachers, parents and is a student-driven rather than program-driven citizens. budgeting process. It goes by several names, In addition to the weighted student formula, including results-based budgeting, student-based a full school-empowerment program includes budgeting, “backpacking” and fair student public school choice and principal autonomy. funding. In every case the meaning is the same: Every school in a district becomes a school of dollars rather than staffing positions follow choice and the funding system gives individuals, students into schools. In many cases, these particularly school administrators, the autonomy resources are weighted based on the individual to make local decisions. This autonomy is needs of the student. granted based on the contractual obligation that Student-based budgeting employs a principals will meet state and district standards weighted formula that helps ensure more money for student performance. Student-based funding is allocated to students with more expensive is a system-wide reform that allows parents educational needs. Today, in most school the right of exit to the best performing schools districts, individual schools are held accountable and gives every school an incentive to change for results, but principals have negligible practices to attract and retain families from their autonomy because decisions about budgeting, communities. expenditures, curriculum and hiring are largely Under the weighted student formula model, made by district, state and other officials outside schools are allocated funds based on the number individual schools. Integral to meaningful of students that enroll at each school, with accountability, then, is (1) empowering principals extra money for students who need services to act as leaders of their schools over these such as special education, ELL instruction or matters and (2) empowering parents to pick help catching up to grade level. Each principal the public schools they believe best meet their controls how the school’s resources are allocated children’s unique needs. for salaries, materials, staff development and Student-based budgeting proposes a system other areas that have traditionally been decided of school funding based on five key principles: at the district level. Accountability measures are 1. Funding should follow the child, on a per- implemented to ensure that performance levels student basis, to the public school he or she at each school are met. With its emphasis on attends. local control of school funding, most teachers’ 2. Per-student funding should vary according unions have been reasonably supportive of the to the child’s need and other relevant weighted student formula model because it circumstances. devolves autonomy to each school and places responsibility in the hands of its principal. 3. Funding should arrive at the school as real In each district, local context has flavored dollars—not as teaching positions, ratios or the weighted student formula in different staffing norms—that can be spent flexibly, ways. School districts vary on the names of with accountability systems focused more their programs and extent to which they have on results and less on inputs, programs or empowered schools. activities. 1. In 2008, Baltimore City Public Schools 4. Principles for allocating money to schools began operating under a decentralization plan should apply to all levels of funding, called Fair Student Funding. The plan shifted including federal, state and local dollars. resources and discretion over those resources

Reason Foundation • reason.org 95 Annual Privatization Report 2009

from the schools’ central office to its 202 schools three more pilot schools opened: the School and programs. Under the plan, schools get more of Visual Arts and Humanities, the Academic resources and have more control over them, so Leadership Community and the Los Angeles that decisions about students can be made by Teacher Preparation Academy. A total of 10 pilot school leaders rather than at the central office. schools are expected in Los Angeles by 2012. This shift in resources led to a reconfiguration The pilot schools represent a fundamentally of the central office administration, so that it different approach to transforming urban public became leaner and more focused on providing education, providing schools with maximum basic administrative support to the schools. control over their resources in exchange In 2008, Baltimore City Public Schools faced a for increased accountability, all within the $76.9 million budget shortfall; the Fair Student economies of scale of an urban school district. Funding plan identified $165 million in cuts from Pilot schools are exempt from district policies the central office to cover the funding shortfall and mandates. Teachers who work in pilot and redistributed approximately $88 million schools are exempt from teacher union contract in central office funds to the schools. Schools work rules, while still receiving union salary, have dramatic new flexibility over this money. benefits and accrual of seniority within the They can redesign their programs according to district. Teachers voluntarily choose to work at their needs and identify the staffing positions pilot schools; when hired, they sign an elect- they require within their budget without staffing to-work agreement that stipulates the work positions being dictated by the central office. The conditions in the school for the coming school money follows the students into schools based year. This agreement is revisited and revised on the students’ individual characteristics. Under annually. Fair Student Funding, principals have discretion 3. The Boston School District has 21 pilot over at least $5,000 per student as a base schools as a result of a partnership launched in funding level, up from about $90 in the 2007– 1994 by Mayor Thomas M. Menino, the Boston 2008 school year. Schools also receive $2,200 School Committee, Boston District Superintendent for each student who is struggling academically and the Boston Teachers Union (BTU). The pilot and each student qualifying as gifted, plus $900 schools were explicitly created to be models of for every low-income student in high school. On educational innovation and to serve as research average, schools will receive more than $9,000 and development sites for effective urban public per student, with some of that money designated schools. In 2009–2010, Boston public schools for specific purposes. Unlike most districts will open seven new pilot schools, including one that weight poverty based on the number of run by the BTU. Studies from the Center for children who qualify for the free-lunch program, Collaborative Education have found Boston pilot Baltimore weights academic achievement. schools outperforming district averages on every 2. In Los Angeles Unified School District, student-engagement and performance indicator. the innovative partnership called the Belmont Boston’s pilot elementary, middle and high Zone of Choice was initiated by teachers and schools have higher attendance and lower transfer, community members. The plan calls for a suspension and dropout rates than the district network of pilot schools with autonomy in five average. On the Massachusetts Comprehensive significant areas: staffing, budget, curriculum Assessment System tests, pilot schools surpass the and assessment, governance and scheduling. district averages at every grade level in English In 2007, the first two pilot schools opened: and math. Civitas School of Leadership and the Los 4. In the Chicago public schools, Angeles High School for the Arts. In 2008, Renaissance 2010 (Ren2010) is an initiative

96 Reason Foundation • reason.org Annual Privatization Report 2009

to launch 100 new schools in the city’s most budget is spent at the school level. Through the underserved communities by 2010. Ren2010 student-based budgeting portion of the school- was unveiled in June 2004 by Mayor Richard M. level budget, principals control close to 80 Daley, then-schools Chief Executive Officer Arne percent of school resources. Cincinnati continues Duncan and Chicago business and philanthropic to be one of the leaders among Ohio’s urban leaders and with a goal of transforming Chicago’s school districts in performance. The district is public education system and to provide all tops among these urban systems in the number families, regardless of their socioeconomic of state-level report card indicators earned (nine, standing, with options for a high-quality public versus the next highest urban school system, education. Under Ren2010, new public schools Columbus, with six) and is second only to Akron have been started by universities, corporations, in its Performance Index Score which is based foundations, philanthropic citizens, private on the state’s standardized tests for student schools and teachers. The approach is the achievement. opposite of the traditional one-size-fits-all view 6. In 2006–2007, four schools in of education. Ren2010 schools are independent, Nevada’s Clark County School District (CCSD) giving school leaders the flexibility to respond implemented student-based budgeting and to students’ education needs. In exchange for became Empowerment Schools. Empowerment this autonomy, they are held to a high degree Schools are given autonomy regarding of accountability. By 2010, Chicago will have governance, budgeting, staffing, instruction 107 Renaissance schools (including new schools and instructional minutes with the expectation and pre-existing charter schools) serving 53,679 that they will demonstrate increased student students at capacity, equaling 13 percent of the learning annually. According to Jeremy Hauser, Chicago public school enrollment. The first cohort an academic manager for Superintendent’s of Renaissance schools from 2005, including Schools, “The CCSD empowerment model charter and non-charter schools, showed larger is transformational. It places resources and annual gains on the state test than the average decision-making in the hands of those who are gains for other district schools. The Renaissance best equipped to meet the changing educational schools gained 6.5 percent in 2006–2007, and social needs of their children—the school compared with 2.3 percent gains for the rest of community.” In 2009–2010, 17 schools will the Chicago public schools. participate in the Empowerment Schools 5. The Cincinnati Public Schools District program. was a pioneer in the use of student-based 7. In 2007, then-Superintendent Michael budgeting, which took effect there in the Bennet moved the Denver public schools to a 1999–2000 school year. Unlike the previous, student-based budgeting system. Schools have centrally controlled allocation system, which flexibility in deciding how they want to prioritize resulted in wide swings in funding levels from their dollars on key staffing decisions about school to school, dollars now follow the student teachers, intervention services, social workers under student-based budgeting. A key premise of and librarians. In 2008–2009, the school student-based budgeting is that all students with system’s operating budget was $712 million; the same level of need receive the same level of $338 million of that went to the student-based funding within school categories, so a school’s budgeting system, $325 million was controlled budget is tied to its enrollment in each student centrally and used for direct support services to category. Also, schools determine how their students and $49 million was the central office allotted money is spent. In Cincinnati, about budget. Therefore, principals controlled about 60 percent of the school district’s operational 47 percent of the district’s operating budget.

Reason Foundation • reason.org 97 Annual Privatization Report 2009

Denver principals also have more discretion 9. In 2004, the Hawaii Legislature over hiring staff than most urban districts in the passed a weighted student formula program United States. The teachers do not change jobs through the Reinventing Education Act. Under based on seniority and Denver has an open- the formula, each public school receives a set market teacher-hiring process in which principals amount of money for basic needs before student can interview multiple candidates and decide characteristics are considered. In 2009–2010, which teachers will fit best with their schools. the base allocation will be $4,885.87 per pupil. The district has also used school closure as an After the basic allocation, additional funds are accountability mechanism. In 2007, the school given to educate students with special needs that board approved closing impact their learning eight schools that were and achievement. Since under-enrolled and adopting weighted lower-performing. The student formula, board projected that Hawaii has seen small, moving students from incremental increases in these schools to higher- student achievement on performing schools state and federal tests and would save $3.5 increased the number of million annually. That students taking advanced money is being used to placement courses. improve the education 10. The Houston of students who will Independent School be affected by the District implemented school closures, deliver “weighted student additional resources formulas” in the to underperforming 2000–2001 school year. schools and to make In 2009, the district money available for remains committed to new schools and new the decentralization of programs. resources and decision- 8. In 2008, making authority to Hartford, Connecticut the school level, where implemented an all-choice system of schools student academic success is the highest priority. and student-based budgeting. Students will be About 60 percent of the district’s operating equitably funded according to their needs and budget goes to the schools in the form of this money will follow the students to their weighted student allocations. Each school’s school of choice. In 2006–07, less than one- allocation is approximately 80 percent of its half of the school system’s money was spent in total resources. The only mandated school schools and classrooms. In the system’s 2009– position is principal, who has discretion over 2010 budget, 70 percent of resources have been how to spend the money. Even though Texas allocated to schools and classrooms to support raised accountability standards, the number of instruction. The district achieved this increase Houston schools earning an “exemplary” rating with a 20 percent reduction of central office from the state increased from 15 to 38 and the expenses, including the elimination of 40 district- number of “recognized” schools rose from 69 level positions. to 119—for a record total of 157, an 87 percent

98 Reason Foundation • reason.org Annual Privatization Report 2009

gain since 2007. less senior staff members. In Oakland, schools 11. In 2007, Joel I. Klein, chancellor of are charged actual salaries rather than the New York City’s public schools, announced district average. This increases equity because that the schools would receive their highest- schools that have more beginning teachers with ever funding for the 2007–2008 school year lower salaries will have more resources based on and that the administration’s new Fair Student the same number of students to invest in extra Funding program would bring greater equity staff, teacher development or additional support and transparency to New York City’s public mechanisms to help their students achieve. Even school budgets. Beginning with that school though Oakland Unified was forced to make year, the principals and their teams at all 1,500 significant budget cuts because of declining public schools were given broader control over enrollment and California’s budget crisis, the resources, choosing their staffs and creating majority of reductions were made at the central programming for their students. Under Fair office and the district worked to protect the Student Funding, schools have increased dollars unrestricted funding that goes to schools, so that because the new formula allocates funds based more than 87 percent of the unrestricted budget on student need. Before 2007, principals would go to schools in 2009–2010. The school controlled just 6 percent of their schools’ district has posted the largest four-year Academic budgets. In the 2008–2009 school year, each Performance Index (API) gain among large urban principal controlled about 85 percent of his or school districts in California. her budget. Principals also have greater control 13. In 2007, Poudre School District, in over staffing because of a historic agreement Fort Collins, Colorado, adopted student-based the New York City Department of Education budgeting to begin with fiscal year 2007–08. negotiated with the United Federation of This more equitable, transparent, flexible, Teachers. In exchange for an immediate 15 student-centered model replaced a traditional percent increase in teacher salaries, the new model that allocated full-time equivalent staff contract gives principals the power to make (FTEs) to schools. In 2007–2008, the new final decisions regarding hiring for all vacancies. funding formula distributed approximately $83 There is no more “bumping” by more senior million of the district’s $170 million general teachers and no more involuntary placements of fund budget directly to schools. The remaining teachers in any school. This means that, for the $87 million goes to areas excluded from the first time, principals can choose the teams they district’s student-based budgeting, such as special think are best for their students. education, alternative programs, textbooks, 12. The Oakland Unified School District athletics, utilities, transportation, district service in 2004 adopted “results-based budgeting,” budgets, grants and custodial services. The a process based on a per-student formula district gives principals control of approximately that accounts for all expenses associated with 49 percent of its general operating budget. The school operations. Budgets are allocated to and majority of school districts that have turned managed by the schools. Results-based budgeting to student-based budgeting have done so to increases equity, transparency, accountability increase equity and to help hold schools more and site-based decision-making in the budgeting accountable for student performance. Poudre process. In most school districts, schools are demonstrates that student-based budgeting charged for average teacher salaries rather can be a flexible and transparent tool even in than actual teacher salaries. This means a more school districts with a consistent record of high popular school with more experienced teachers performance. In Poudre, student-based budgeting is often subsidized by less popular schools with is better at allocating resources to individual

Reason Foundation • reason.org 99 Annual Privatization Report 2009

assignment system that gives parents the right to choose their children’s schools. In San Francisco, school principals control approximately 74 percent of their school-level budget through the weighted student formula allocation. For seven consecutive years, the city’s school district outperformed the seven largest California school districts on the California Standards Tests.

I. Child Welfare Privatization Proposals for 2009 In 2009, two states, Nebraska and Washington, moved toward privatizing their child-welfare services. The Washington State Legislature approved schools than the previous model. a pilot project in performance-based contracting 14. Saint Paul Public Schools in Minnesota for foster care that the governor signed into law adopted a student-based budgeting system in May 18. Under the plan, the first pilot programs 2002. The goal was to more equitably allocate will be launched statewide in July 2012. After resources to schools as a part of a new school two and a half years, the Washington State funding formula. In fiscal year 2008, the Institute for Public Policy will evaluate the pilot district’s operating budget was $516 million; program for the governor, who will then decide 45 percent or $234 million, went directly to whether to expand or terminate it. the schools; 27 percent or $137 million, was By January 1, 2011, the Department resources controlled by the central office that of Social and Health Services (DSHS) must fund school-level programs; and 28 percent or consolidate and convert its existing contracts $144 million, paid for central office programs at for child-welfare services to performance-based the district level. Principals also have discretion contracts linking the contractors’ performance over hiring through a voluntary transfer process to the level and timing of reimbursement for whereby teachers can apply to open positions services. DSHS, as well as private contractors every year and the principal and the school’s and Indian tribes, may provide child-welfare local council conduct interviews and make the services, including case-management services, final decision about which teachers to hire. under performance-based contracts. Non- 15. In 2002 school year, Arlene Ackerman, a profit private contractors must receive primary former San Francisco superintendent of schools, preference over for-profit contractors. introduced the weighted student formula, which The legislation calls for the establishment allows money to follow students to the schools of a Child Welfare Transformation Design they choose while guaranteeing that schools with Committee, which will select two demonstration harder-to-educate kids (low-income students, sites at which the DSHS must contract out for all language learners, low achievers) get more funds. child-welfare services and develop a transition Ackerman also introduced site-based budgeting, plan for implementing the performance- so that school communities, not a central office, based contracts. The committee will select the determine how to spend their money. Finally, she location and size of the demonstration sites worked to create a true open-enrollment student to ensure a large enough sample size to assess

100 Reason Foundation • reason.org Annual Privatization Report 2009

any meaningful differences in outcomes at the of the state and don’t live with their parents or demonstration sites compared with the current other custodial relative. service-delivery system. State workers would assess the children’s Effective July 1, 2012, the DSHS must needs and then the contracted agencies or contract for all child-welfare services at the companies would provide foster or group homes demonstration sites, including the following and coordinate services. case-management functions: The changes are designed to cut the number n conducting child-caseworker visits; of times children are moved between foster homes and eliminate duplication and confusion n arranging for family visits; that result when several agencies provide n convening of family group conferences; different services to a child. n development and revision of case plans; The department plans to reform in-home n coordination and monitoring of services and out-of-home care for foster children. It is needed by the child and family; negotiating contracts with six private providers of out-of-home care: Nebraska Families n performance of court-related duties, Collaborative, KVC of Kansas, Visinet, Cedars, including preparing court reports and Boys and Girls Home and Family Services of attending hearings; and ensuring the child is Nebraska and Region 3. progressing toward permanency within state The state will require providers to acquire and federal mandates, including the federal foster homes and facilities and coordinate and Indian Child Welfare Act. deliver services. Children’s safety and well-being The DSHS may not directly provide child- and preservation of families or timely adoption, welfare services at the demonstration sites except will be achieved with financial incentives and in an emergency or if the DSHS is unable to disincentives to contractors. contract with a private agency or the contractor or the DSHS terminate the contract prematurely. The Washington State Institute for Public Policy must report to the governor and the legislature on the DSHS’s conversion of existing contracts for child-welfare services to performance-based contracts. The institute also must review the measurable effects achieved by private contractors at the demonstration sites compared to measurable effects achieved outside them and must report its findings to the governor and the legislature by April 1, 2015. Based upon the reports from the institute, the governor must, by June 1, 2015, determine whether to expand the demonstration sites or terminate the contracting of all child-welfare services, including case-management services. Nebraska also began implementing a plan to privatize child-welfare services. The state’s Department of Health and Human Services is proposing to contract with a few large agencies for the more than 4,300 children who are wards

Reason Foundation • reason.org 101 Annual Privatization Report 2009

Emerging Issues

Contents A. Economics, Bailouts and Stimulus: Uncle Sam Replacing the Invisible Hand B. Expanding and Modernizing Port Infrastructure through Public-Private Partnerships C. Are Roads Still Public Goods? How Technology is Changing the Character of Transportation Infrastructure D. The Value of Real Property Inventories

A. Economics, Bailouts and Stimulus: discount window to investment banks instead Uncle Sam Replacing the Invisible Hand of just traditional banks that are a smaller credit risk, it placed taxpayer money at risk to On March 16, 2008, the Federal Reserve save securities traders. When Congress passed (Fed) announced a momentous decision to the Stimulus bill in February it increased the give investment bankers access to the discount projected national debt by over $1 trillion. window (which offers cheap government loans) (See text box for a complete list of government for the first time since the Great Depression. spending to fight the recession over the last 18 The move came in tandem with a bailout for months.) Bear Stearns, a storied institution that is the Not only has the government used spending fifth largest investment firm on Wall Street. to fight the recession, but there has been an Government officials defended the market increase in direct governmental control over intervention at the time on the grounds that it private businesses. Facing public outcry, the was necessary to prevent systemic failure. This Treasury Department denied A.I.G. bonuses. was only the start of Uncle Sam stepping in to Trying to avoid another bailout, former Treasury replace the Invisible Hand in the market. Secretary Henry Paulson demanded that Bank Six months after the bailout of Bear Stearns, of America go through with a purchase of government rescue of firms deemed “too big to Merrill Lynch—even though the move essentially fail” became the norm rather than the exception. killed the struggling financial giant. And later, Starting with A.I.G. and then the Troubled Asset Paulson’s predecessor, Tim Geithner, would Relief Program (TARP), the Bush administration pressure the Bank of America board to clean “abandoned free market principles to save the house in the wake of its need for additional free market system.” The Obama administration bailout money, even though those “fired” were has taken the same position, bringing the full the ones that warned against the Merrill merger power of the U.S. government to bear on the in the first place. bear market. Outside of the financial sector, President The result has been to leave taxpayers on Obama fired Rick Wagoner, CEO of General the hook for trillions in loans and spending Motors. The White House tacitly took control commitments. When the Fed opened the

102 Reason Foundation • reason.org Annual Privatization Report 2009

of Chrysler and, after four months of trying to reforms that would dramatically change the roles use taxpayer money to bail out the sinking auto of the Fed, Treasury, Securities and Exchange manufacturer, decided to take it into bankruptcy. Commission (SEC) and Federal Deposit The Treasury Department has also extended Insurance Corporation (FDIC) in the market. its control over executive compensation and Some of these provisions include: bonuses to the auto industry, with Geithner n Creating a council to be a super-regulator personally weighing whether to honor GM’s of systemic risk in the marketplace, largely contract with Wagoner to pay him a $20 million using the power of the Federal Reserve to severance package. dramatically increase rules on firms that are There have also been moves to increase seen as too interconnected in the system to regulatory control for the financial industry. fail; Secretary Geithner has proposed sweeping n Requiring financial institutions to increase their capital reserve ratios—this will reduce Federal Spending to Fight the Recession (Jan. 2008 to Jul. 2009) systemic risk, but also will also limit the Federal Reserve capital that banks have to invest;

$1.7 trillion Commercial Paper Funding Facility (CPFF) n Extending SEC oversight and restrictions $1.45 trillion Mortgage-Backed Securities Purchase Program to hedge funds—never before required $900 billion Term Asset-Backed Loan Facility program (TALF) to register or comply with SEC protocols $900 billion Term Auction Facility Lending (TAF) because they offer services specifically to $727 billion Global Liquidity Loans those who want to take big risks; $540 billion Money Market Investor Funding Facility (MMIFF) n Establishing comprehensive oversight of $301 billion Citigroup Bank derivatives—under current law, derivatives $300 billion Treasury Securities (essentially financial contracts with value $200 billion Term Securities Lending Facility (TSLF) derived from an underlying asset) are not $152.1 billion Asset-Backed Commercial Paper registered with a regulatory agency, but $150.3 billion American Insurance Group the White House is pushing for them to $118 billion Bank of America be traded on an open exchange instead of $29.5 billion Bear Stearns/JP Morgan Chase behind the scenes on paper; and $9 billion Morgan Stanley Treasury Department n New powers for the Fed and FDIC to take $900 billion Public-Private Investment Program over any financial institution—currently, $787.2 billion American Recovery and Reinvestment Act of 2009 the FDIC only has the power to forcibly $700 billion Troubled Asset Relief Program (TARP) seize banks, but President Obama’s proposal $400 billion Fannie Mae and Freddie Mac would give the government wide-reaching $300 billion Housing Rescue and Foreclosure Prevention Act of 2008 authority. This, combined with other $168 billion Economic Stimulus Act of 2008 measures, will essentially institutionalize $24.9 billion Housing and Economic Recovery Act of 2008 the concept of “too big to fail” and make $9 billion Unemployment Compensation Extension Act of 2008 bailouts the explicit policy of the United $4 billion Worker, Retiree and Employer Recovery Act of 2008 States. Federal Deposit Insurance Corporation All of these measures were being debated in $2 trillion Temporary Liquidity Guarantee Program (TLGP) Congress when this went to print. $81 billion NCUA Capital Stabilization Program Finally, Congress has moved toward passing $25 billion Making Home Affordable Program legislation that would allow the Treasury $10.7 billion IndyMac Bank Department to set salaries for private employees. Total: $12,886,700,000,000 Not content with laws that limit the pay of

Reason Foundation • reason.org 103 Annual Privatization Report 2009

executives of financial firms and the bonuses they than $31.2 billion to improve their facilities can receive, in April the House passed a law that between 1946 and 2006, nearly a quarter of would grant Secretary Geithner oversight over which was invested after 2001. Between 2007 the compensation of any employee—down to and 2011, 35 of the 85 ports surveyed by the janitors and tellers—at any firm that has received AAPA are committed to investing approximately federal bailout funds. The bill (HR 1664) was $9.4 billion in infrastructure improvements. being debated in the Senate when this went to Unlike highways and airports, shipping print. ports do not have a dedicated source of In total, the government has spent nearly federal funds for land-side facilities (There is a $13 trillion trying to end the recession, while Harbor Maintenance Trust fund for dredging dramatically increasing its role in the economy. projects.) Historically, ports have relied on the The free market principle of letting the Invisible revenues generated from their own operations, Hand guide the market—even through ups and bonds supported by those revenues and a few downs—has been largely abandoned in favor of government grants to keep their facilities up control from Washington. Secretary Geithner to date. Some state and local governments and President Obama have both said they don’t appropriate a limited amount of money from want to control the economy in the long-term, their budgets to support port improvements. but feel they must right now. Unfortunately, the Generally, however, ports are left to fund negative consequences of their actions are only themselves. prolonging real recovery and may perpetuate Public-private partnerships (PPPs) are conditions that lead government officials to becoming increasingly popular because port believe that Uncle Sam must maintain control of authorities can no longer rely on just their own the economy. revenues and the limited amount of funding available from state and local governments to fill in funding gaps and because a growing number B. Expanding and Modernizing Port of private investors see that ports have a great Infrastructure through Public-Private potential for future returns. These investors are Partnerships confident that ports will be at the forefront of the economy when global economic conditions Efficient trade depends on the capacity begin to improve. As Christopher Lee, managing of our nation’s transportation infrastructure, partner of the private infrastructure investment making ongoing infrastructure maintenance and firm Highstar Capital, puts it, “Ports are going modernization projects crucial to the long-term to be one of the first lines of the economy to turn success of the economy. With the economy in when the environment improves. We want to be recession and nearly every state facing budget ahead of the competition.” deficits, legislators and local officials are being One of the forces driving investor confidence forced to consider better ways to pay for in ports is the opening of the expanded Panama infrastructure improvements. Canal, which is scheduled to be completed by Like America’s highways and railroads, ports 2014. Once the Panama Canal is expanded, are an integral part of the nation’s transportation mega-ships, which cannot fit through the Canal system. Today, many ports must update their in its current condition, will be able to reduce facilities to accommodate for changing vessel their transit times by cutting through the canal sizes, fluctuating trends in world trade and en route from China to East and Gulf Coast escalating global port security standards. ports in the United States. Private investors who According to the American Association of Port put their money down now are likely to receive Authorities (AAPA) U.S. ports invested more

104 Reason Foundation • reason.org Annual Privatization Report 2009

generous returns from the lucrative container initially met with skepticism from legislators trade from China, which will be able to arrive on and members of the media, it is now in the the East Coast faster through the Panama Canal competitive process prescribed by Virginia’s than it could moving inland by truck or rail from Public Private Transportation Act of 1995. The West Coast ports in the U.S. Virginia transportation department’s time-tested PPPs are a natural extension of the business process of reviewing proposals has successfully model for ports because, unlike traditional brought other transportation PPPs to fruition, highway transportation departments, port such as the Beltway (I495) High Occupancy Toll authorities operate as self-supporting businesses Lane Project, the Pocahontas Parkway and the and have always had to compete with other ports Dulles Greenway. Competitive proposals for the to maintain a customer base. Port authorities Port are due in late July, 2009. that capitalize on the port’s natural ability to The proposal posted on the Virginia Port operate in a business climate by seeking capital Authority (VPA) Website suggests that Virginia from public-private partnerships will be well International Terminals (VIT) would become a positioned when the expanded Panama Canal subsidiary of CenterPoint with all 450 current ushers in a new and improved world of shipping. VIT employees retaining their positions. The deal would also commit CenterPoint to building 1. Recent Public-Private Partnerships in the the new marine terminal on Craney Island, long Ports Arena considered the only expansion opportunity for Oakland, California: Ports America Outer VPA with an estimated cost of $2.4 billion. Until Harbor LLC, owned by Highstar, recently won now, the cost had always looked prohibitive for the right to upgrade and operate five container this long-desired project. berths in the Port of Oakland through a 50-year The Port Authority receives 4.8 percent of concession and lease agreement. Virginia’s Transportation Trust Fund spending, The company’s operational plan includes an which amounted to $36 million in 2008. With initial payment of $60 million, paid to the Port this deal, Virginia can save that $36 million or Authority, as part of a total investment of up to spend it on other high-priority transportation $150 million to upgrade 160 acres and berths projects. Additionally, Virginia would get billions within the Port of Oakland. A second, larger of dollars up front from CenterPoint that could phase of the port agreement could involve a be spent on improving other infrastructure and $350 million investment that would link the port the Craney Island project could finally begin. with more rail lines. Maryland: On April 15, 2009, the Maryland Virginia: The Virginia Department of Port Authority (MPA) issued a request for a Transportation (VDOT) received an unsolicited private investor to lease and operate the Port of $3.5 billion proposal from an Illinois firm, Baltimore’s Seagirt Marine Terminal. The MPA CenterPoint Properties, to develop a public- would like to partner with a private investor private partnership with the Virginia Port to fund a new 50-foot berth and increase the Authority. capacity of Seagirt Marine Terminal’s waterborne The company wants to take over the state’s containers. port operations, including the Port of Virginia, According to the terms of the proposed which ranks among the 10 busiest ports in the deal, the MPA would lease the 200-acre Seagirt country. The proposed deal is for a 60-year Marine Terminal exclusively to the private partnership and could be worth $8.9 billion investor. The private investor would be required should the Craney Island investment opportunity to invest in a new berth, cranes and other be exercised. Although the proposal was necessary infrastructure, while providing a

Reason Foundation • reason.org 105 Annual Privatization Report 2009

revenue stream to MPA. efforts to identify a private sector partner for On June 30, 2009 MPA announced that two development of the intermodal facility and is consortia—Ceres Terminals, Inc./ Alinda Capital a continuation of the Choctaw Point project Partners LLC and Ports America Group/Highstar that started in early 2000. From the beginning, Capital—had qualified to submit offers to enter a we have envisioned this project as a true public possible PPP agreement with the MPA to operate private partnership.” Potential private investors the Seagirt terminal. must submit a formal expression of interest by Ceres Terminals, along with parent shipping May 22, 2009 (more information is available company NYK Shipping Line, operates 32 here). terminals around the world and it handles more than three million TEU (twenty-foot equivalent 2. Conclusion unit) containers annually at 23 ports in Canada Despite the current recession and drop-off and the United States. Ceres currently performs in business, private investors are still looking some stevedoring services at Seagirt and has had for opportunities to invest in the nation’s a presence in Baltimore for more than 30 years. ports, suggesting that investors think ports Allinda Capital Partners is an infrastructure will improve before many other parts of the fund, with $5.8 billion in capital commitments economy. With state and local fiscal woes and about $15 billion in purchasing power. expected to continue for several years, cash- Ports America operates 15 container strapped governments are increasingly likely to terminals in North America with a combined seek opportunities to expand and modernize throughput of near 13 million TEUs annually. port infrastructure through public-private The company has operated Seagirt since the partnerships. terminal opened in 1990. Ports America is owned by Highstar Capital Fund L.P., a $3.5 billion private equity fund. C. Are Roads Still Public Goods? The agency will now issue a confidential How Technology is Changing request for offers document to each group, the Character of Transportation specifying terms, conditions and other financial Infrastructure responsibilities of a PPP lease at Seagirt. Offers The 1990s represent a watershed in the will be due to the MPA on September 4, 2009. history of transportation. In the early 1990s, Alabama: The Alabama State Port Authority privately financed toll roads (most notably the recently solicited a request for a private partner M4 and M5) opened in Australia, demonstrating to invest in the development and operation of the viability of private sector road development the 74-acre Garrows Bend Intermodal Container and operation in high-income countries. In 1995, Traffic Facility (ICTF) in Mobile, Alabama. the world’s first fully automated toll road opened The ICTF would handle both domestic and in Riverside County, California (the 91 Express international traffic for multiple rail carriers Lanes, www.91expresslanes.com). This project and steamship lines and would finance its own was completely financed through private capital operations. According to the ASPA, the facility (the first such U.S. facility in 50 years) and used would benefit the local economy by creating variable tolling to regulate traffic levels at free jobs, improving the ASPA’s competitive position flow speeds. Two years later, the world’s first and reducing highway congestion. independent, fully electronic toll road (ETR), According to Jimmy Lyons, director and Toronto’s 407, opened. Two years after that, San CEO of the ASPA, “This is the first step in Diego opened the first HOT lane on I-15, fully the process by the Port Authority to initiate funding the expansion through tolling. Private

106 Reason Foundation • reason.org Annual Privatization Report 2009

financing of toll roads was no longer considered dramatically changed the road management exotic. landscape. First, it allowed users to enter and Now, virtually no toll road in the U.S. is leave the road without stopping. The toll road built without electronic tolling capabilities and was boothless. Second, electronic tolling allowed most are transitioning to either electronic-only non-subscribers to use the road without stopping tolling or at least dual capabilities. Combined as well, maintaining the same level of service as with worldwide progress in developing subscribers (although for a higher fee). cutting-edge tolling technology to fund Currently, more than three quarters of infrastructure and manage traffic (e.g., European the daily travelers use electronic transponders GPS-based tolling for commercial trucks, that allow the 407 ETR Concession Company interoperability successes in Chile), a new era (owned by Spanish company Cintra) to bill users for road investments and planning has emerged, to permanent accounts similar to debit or credit challenging conventional ideas about how we cards. The other users are identified visually and provide and manage transportation facilities. billed; video cameras photograph license plates The implications for when, how and and cross-match the plate number with motor by whom public roads are provided are vehicle records. revolutionary. Historically considered a More importantly for the future of road “textbook” case of a public good—a service that management, the facility is self-financing because only the government could provide because the the toll acts as a true user fee. With electronic private sector wouldn’t or couldn’t—privately tolling, a provider can maintain a high level of financed, maintained and operated roads service while also allowing the provider to divide are now considered a viable alternative to up the market based on willingness to pay. In pure public provision. More importantly, as this case, regular users have access to discounted technology enables greater market segmentation, rates through transponders while occasional reduces collection costs further and allows users pay on a per-use basis through automatic pricing to prioritize investments more effectively, visual billing. Thus, for all intents and purposes, roads may well transition into a predominantly the ETR is a “private” toll road in the sense that private good. it operates like a non-government business and Of course, we’re still a long way from a fully does not depend on subsidies from non-users in privatized, comprehensive road network, but the form of taxes (or other fees on non-users) to technology has advanced to the point where the operate. concept is no longer largely theoretical. In some The system has been so successful that cases, private provision of roads is a practical the roadway has already been widened several necessity. Over the long run, the transition is times. The highway started as a road with two probable. lanes going in each direction (2 x 2). It was then A thumbnail history of a few signature expanded to 3 x 3 and in some places 4 x 4. projects helps explain why. Some sections are now even 5 x 5. Canada’s Highway 407 ETR opened in Of course, the 407 ETR was not the first 1997 as an east-west limited access highway privately financed road facility. On the contrary, running 67 miles just north of Toronto. What its contribution was demonstrating how the use made this road different from previous roads of electronic technology can fundamentally alter in North America (and elsewhere in the high the way roads are operated. In the long run, this income world) was how drivers paid for will enable greater private sector participation. using the facility: 100 percent electronic toll Electronic tolling, however, is only part of collection. This allowed two innovations that the story of the evolution of roads from public

Reason Foundation • reason.org 107 Annual Privatization Report 2009

to private goods. Another critically important free flow traffic 24 hours a day, seven days a innovation was pioneered by the 91 Express week. (In fact, tolls are refunded at the end of Lanes when the facilities adopted variable the trip if the vehicle doesn’t travel at the speed pricing to ensure a high level of service 24 hours limit.) As of April 1, 2009, the toll authority set a a day, seven days a week. Most highway tolls maximum rate of $9.50 (lower than the $10 peak are flat rates: one price regardless of the time of set in 2008) to achieve this goal. While the high day or traffic volume, although the toll level is toll rates are sometimes criticized by the public, commonly adjusted for the length of the trip. officials at the authority note that they need This rate structure reflects the historical roll tolls to set the price to maintain free flow or “they have played to finance the initial construction of have nothing to sell.” During times with lower roads and pay off the resulting debt, but not to demand, prices are substantially lower; at night, pay for road management. This structure served for example, prices can be as low as 12 cents per the purposes of the taxpayers who were funding mile. With toll rates adjusted based on traffic road improvements from general revenues, but volume, users of the 91 Express Lanes experience not the travelers who actually used the road. a reduction in driving time on that stretch of road Travelers value the service that the road from 40 minutes to less than 10 minutes. provides—quick, reliable access to preferred Down the road on I-15 in San Diego, high destinations. The concrete and asphalt is a means occupancy vehicle (HOV) carpool lanes were to an end, not an end in itself. Thus, while a flat- converted into high occupancy toll (HOT) rate toll might generate revenues to pay off the lanes where the toll rate changes in real-time debt incurred to build the facility, toll rates are based on current traffic volume and conditions. typically not structured to regulate traffic flow so Thus, in addition to using variable rates, tolling as to maintain a specific level of service. In other on the I-15 HOT Lanes is dynamic, allowing words, they are not used to enhance the value of road managers to regulate the volume and the product to the road user. level of traffic to maximize the value to its Historically, this made sense for most roads. traveling consumers. The program has been so The technology didn’t exist to allow for toll successful that the transportation authority is rates to change within a window sufficient to now expanding the HOT lanes to accommodate influence driver behavior. Most toll collections additional traffic. Similar technology is being were manual and little thought was given to used on I-394 in Minneapolis where rates are measuring the actual volume of the traffic on the adjusted every three minutes to ensure at least 50 roadway. New technology, however, has given mph speeds on its managed lanes. road managers more flexibility for setting toll The combined effects of this technology are rates based on the volume of traffic at specific revolutionary. Transponders, video license plate times of the day, as well as the ability to change recognition and other emerging technologies the price as traffic patterns change. (e.g., GPS) can collect tolls at free flow speeds, The global pioneer in variable rate tolling is segment the driving market based on willingness the 91 Express Lanes project in Orange County in to pay and set prices to manage the flow of Southern California. The 10-mile stretch of limited traffic, enabling more and more facilities to “pay access highway was originally added to a highly their way” without subsidies from governments. congested freeway (SR 91) by a private company, While the number of new facilities that but was sold to the Orange Country Transportation can be completely funded through user fees Authority (OCTA) several years later. remains limited to highly congested urban areas, Like the private company, the OCTA sets the self-funded roads are often more viable than toll rates based on the traffic volume to ensure conventional wisdom allows. For example,

108 Reason Foundation • reason.org Annual Privatization Report 2009

Reason Foundation released a comprehensive technology is once again providing new ways road-based congestion mitigation strategy for the to transition to true user fees that may enable Atlanta metropolitan area in 2006 that included private participation. The most promising tunnels and new highway capacity. Free-flow U.S. experiment is a mileage fee pilot project travel would be guaranteed through a self- undertaken by the Oregon Department of funded HOT Lane network that would generate Transportation (ODOT). Using state-of-the-art enough additional revenue to make financially GPS technology, the ODOT experimented with feasible a new north-south tunnel. This tunnel levying a charge on drivers based on the miles would allow regional through traffic to avoid they traveled rather than the gas they consumed. highly congested Downtown Atlanta. Reason In the pilot project, the state levied a mileage Foundation’s research on several projects that charge that differed based on whether the driver could be financed with toll-based user fees is was traveling in state, out of state or at peak summarized in Table 13. periods. Conceptually, this is a much more efficient Table 13: Potential Toll-Based User Fee Projects funding system since mileage is a much better Project Description Est. % Self- Cost Support indicator of impact on the road system than fuel South Pasadena 4.5 mile, 4 lanes each $1.5 B 100% consumed. More importantly, with a mileage Tunnel direction charge that varies by time of day, drivers would Palmdale- 21 miles (5 miles at $3.7 B 100% be given stronger and more direct information Glendale Tunnel grade); double decked about the economic cost of traveling on Riverside-Orange 14 miles $7.4 B 59% County Tunnel particular roads at particular times. Since GPS LA HOT Lane 1,009 lane-miles (385 $13.5 B 92% technology provides a means for levying fees network of them new) based on the specific location and time a car is San Bernardino- 410 lane-miles (320 of $5.8 B 72% driving, revenues can be raised directly from the Riverside HOT them new) Lane network users regardless of the type of road they use and Atlanta Four major $25 B 78% prices can be used to manage traffic flow. Congestion infrastructure projects Technology is also providing a more Mitigation including regional competitive environment on the supply side. strategy HOT Lane network, truck toll lanes and This is a critical step if the private sector is to new tunnel become more involved in providing roads. While road networks still may need to be designed in a These facilities, of course, are limited-access holistic context, specific elements and segments highways. It is more difficult to design a system of the road network should probably not be for private provision of local and regional roads. managed or operated through a monopoly. By Local roads typically involve multiple points of allowing multiple providers to choose different entrance and egress, since vehicles are provided levels of service and quality, regions can more frequent access to local destinations such as effectively tailor services to specific segments of restaurants, offices, residences, shopping centers travelers. For example, operators specializing and entertainment venues. Levying a toll at the in meeting the needs of commercial truck traffic point of entry and exit is impractical, although may be better owners, operators and managers the recent success of implementing a cordon of commercial roads, with stronger incentives charge around central London suggests that to create (and maintain) facilities such as many issues with this approach are now political truck-only toll lanes. Similarly, other operators rather than technical. may specialize in providing road facilities for Even in the case of local roads, however, passenger traffic.

Reason Foundation • reason.org 109 Annual Privatization Report 2009

The possibility of differentiating road of limited-access highways already exists. facilities based on a diversity of providers Moreover, by some estimates, tolling has is not as farfetched as it might seem. Public financed the expansions of as much as half of the transport services—whether rail, trolley, ferry limited-access highway capacity added in recent or bus—have a long tradition of relying on decades. multiple providers with varying ownership The expanded use of Public-Private interests and types. In Santiago, Chile, four Partnerships (PPPs) to harness the efficiencies of independent toll road companies manage 97 private management as well as tap into private miles of urban toll roads using electronic, equity markets clearly demonstrates that the open-road tolling technology to achieve system- private sector recognizes the economic value wide interoperability. The system is seamless of road facilities. As national, state and local for consumers, who may never even realize governments fine-tune and refine their PPP that they are driving on roads maintained and agreements, full privatization by the middle of operated by different private companies. Since this century of select limited access highways the toll road network is an open road system, the is conceivable. With additional modifications firms have an incentive to create a seamless and and innovations in GPS technology, even the user-friendly billing system that minimizes toll privatization of local roads could be feasible by avoidance. To accomplish this, providers adapted the turn of the century. and applied software already used by utilities to This article was adapted from Chapter 13 their toll road systems. in Samuel Staley and Adrian Moore, Mobility Combined with GPS technology, where First: A New Vision for Transportation in a drivers can be charged based on location, Globally Competitive 21st Century (Rowman & time of day and traffic volume, roads can Littlefield, 2008). be managed and operated by small as well as large companies. Indeed, within the road infrastructure investment and management industry, companies frequently combine with D. The Value of Real Property other competitors to manage different facilities. Inventories Complete privatization of roads is unlikely Governments struggling in the economic within the next decade or two. Nevertheless, downturn have been looking to divest assets as with open road tolling, the potential for a way of raising money to cover a reduced tax privatizing the management, if not ownership, base. But many are discovering that their lists of property are very outdated. Nearly half of the states and Washington, D.C. Figure 7: Technology, Pricing and Stages of Road Privatization Figure 7: Technology, Pricing and Stages of Road Privatization do not have the basic property and asset data that a well-run business or responsible family relies on to manage their finances. Several others are still trying to develop them. Furthermore, most state 1 1. Limited access Highways (now) governments that do have inventories 2 2. Major arterials (10 years) of their property are not proactively 3 3. Local roads (20 years?) managing what they own, which has led to frequent misuse and Source: Reason Foundation underutilization of land and assets.

110 Reason Foundation • reason.org Annual Privatization Report 2009

Particularly in times of economic crisis, any cohesiveness. Integrating these databases government must pursue efficient operations identifies redundancies that can be eliminated and know the full array of financial opportunity and enhances management capabilities. associated with its assets. Critical to centralization is making agencies produce reports compatible with 1. Real Property Inventories each other. Often, state agencies will develop The basic problem is that governments do their own criteria for measuring property, not keep accurate track of how many acres creating incompatible reports leading to missed they own, how much property they lease, opportunities in space management. Government how many buildings they maintain and how agencies and departments must use similar space is being maximized. In many states, metrics when taking inventory of their land and inventories are required by law; however, these assets both to make processing more efficient laws are often ignored. But even aside from the and also to make management easier. law, a comprehensive understanding of what government owns is good public stewardship. 3. Managing Beyond Mapping The first step is for states and the federal Mapping is not enough. A centralized government to map out what land they own or inventory is not even enough. Only when a lease, organized either by county or agency (or real property inventory is used to actively both). Geographic information systems (GIS) manage government-owned land and assets have been used by all levels of government for will the inventory initiative be successful. Too various purposes—comprehensive planning, many states stop at just an inventory and tax-mapping and Enhanced-911, to name a do not proactively seek to divest unused or few—and are an important tool for developing underutilized property. An inventory project accurate property maps. These maps can also must be undertaken with the expressed intention led to more accurate lists of taxable property, as of reviewing and acting to use land and assets Wyoming and Ohio recently discovered. more appropriately and efficiently. Land With property maps states can create an inventories must also be continual and dynamic. inventory of all their real property, both owned An initial inventory and assessment should be and leased. With this centralized inventory, done to reduce the bulk of misuse, but the assets states can then assess what property they are of the government must be constantly monitored using and what they are not (often called space to ensure efficiency. management). States can ensure efficient land Only when government has an accurate use and sell unnecessary property, bringing in map and inventory of its land and assets can it revenues for the government and encouraging properly manage its resources—constantly and local economic growth. accurately—to maximize efficiency, responsibly steward public resources and take advantage of 2. Centralized Asset Management all economic benefits. States often have decentralized accounting methods where agencies, counties or 4. Case Studies municipalities keep track of government-owned Ohio: In 2007, former State Treasurer land. This means that no one is able to see Richard Cordray, recently elected Ohio Attorney the big picture and there is no accountability General, realized his state didn’t know how all of to ensure good records. Data is limited, its land was being used. “Although perspectives fragmented, in many cases agency-specific may vary,” he said, “some of that land is and recorded in multiple formats that lack certainly unused or underutilized.” He directed

Reason Foundation • reason.org 111 Annual Privatization Report 2009

his office to set about on a two-fold mission: not yet complete, the state has already begun first, to compile a comprehensive inventory looking for opportunities to use its resources of state-owned property and second, to begin effectively. Government doesn’t have to wait looking for ways to put misused property to for its inventory to be complete to start using better use. its information to collect revenues that address Cordray first used GIS to map the state’s current budget needs. land. The initial survey found large amounts In the spirit of efficiency, the state has of unimproved land along state roads and put the entire inventory online for citizens to highways. Properties designated for public office see. There is a search function available for space or storage were discovered to be vacant properties identified. There is also a place for and unused. Still other state-owned parcels were citizens to report public property that the state identified as too small or so peculiarly shaped as might not be aware of. Citizens should easily to be unusable and had been ignored for years, be able to access information on how much wasting potential tax revenues and squandering property their government owns and what it is the economic growth that the private sector using that property for. would have generated. On December 30, 2008, Ohio Governor By July of 2007, Cordray’s inventory Ted Strickland, signed into law HB 420 had identified many underutilized properties, which, along with providing state spending including a 12.9-acre parcel in west Columbus transparency and increasing state real property that was not being used by the state at all. The management, codified the Cordray inventory and state treasury department then arranged to sell established a council to oversee its operation and that land, with legislative approval, to the city maintenance. of Columbus for a new police heliport. The Georgia: January 12, 2005, Georgia city benefited and the state brought in nearly Governor Sonny Purdue issued an Executive $200,000 with the sale. Order creating a statewide land inventory with Even though the real property inventory is the intention of selling unused property. After

112 Reason Foundation • reason.org Annual Privatization Report 2009

a review council researched what would be the Arkansas geospatial data infrastructure; necessary for the project, the Senate introduced developing procedures for the inventory, storage S.B. 158, directing all state agencies “to file and distribution of spatial information; and inventories of their real property assets with the providing GIS educational programs. Georgia State Properties Commission (SPC) and Unlike other states, Arkansas organizes authorized the SPC to compile and index all such publicly owned land by county, instead of inventories into a single complete inventory of all by agency. The board is composed of 12 real property.” gubernatorial appointees representing state From these records, Georgia created the government, city, county and local government, Building, Land & Lease Inventory of Property. the private sector and institutions of higher The state contracted with the Information education. Technology Outreach Services of the Carl Vinson Arkansas has established the County Institute of Government at the University of Assessor Mapping Program (CAMP), which Georgia, which had agreed to use its expertise stems from a 2002 report recommendation. with Web-based geographic information systems Through CAMP the state maintains a constant to build the system from the ground up. BLLIP is relationship with the counties, providing an online, interactive geographical information support and collecting real property data. State system that citizens and state employees can use Geographic Information Coordinator Shelby D. to search and generate reports using real time Johnson told Reason Foundation, “We have information about publicly owned and leased anecdotal evidence that economic development properties and buildings. is the biggest use/return on investment for this Georgia’s example reveals a healthy mix data.” of executive-initiated efficiency that worked with the legislature and representatives from 5. Conclusion state agencies to develop an inventory that Real property inventories and management is publicly accessible, designed by top-rated systems are simply efficient government. It local technology experts and actively seeking is not a partisan issue, nor one of spending divestiture opportunities. priorities. It is a good governance initiative that Arkansas: In 2001, the Arkansas state can help governments struggling with economic legislature funded GIS technology to be used in difficulties. creating a statewide inventory of real property, This article was adapted from a forthcoming to be managed by the Arkansas State Land Reason Foundation study, Knowing What You Information Board (ASLIB). The established Own: Efficient Government Through Real duties of ASLIB include identifying issues, Property Inventories, to be released in fall 2009. problems and solutions in implementing

Reason Foundation • reason.org 113 Annual Privatization Report 2009

Telecommunications

Contents A. Broadband Stimulus Update B. IT Outsourcing Update C. Network Neutrality Update

A. Broadband Stimulus Update Major commercial carriers, including AT&T, Verizon and Comcast, say they won’t apply given On July 1, 2009, the Obama administration these rules, which they say will degrade service, released the rules and deadlines for the $7.2 bil- an opinion shared by other network engineers— lion broadband portion contained in the mam- including many unaffiliated with service provid- moth $787 billion stimulus bill. The National ers. In what some see as a hedge, NTIA and RUS Telecommunications and Information Agency left open the possibility of revising the rules if they (NTIA), part of the Department of Commerce need to attract a field of viable applicants. (For and the Rural Utilities Services (RUS), an arm of more on network neutrality, see Section C). the Department of Agriculture, are responsible The Federal Communications Commission is for the grants and began accepting applications also expected to weigh in. Although its influence July 14. The deadline for applications for the first to choose specific recipients may be limited, the round, which is expected to entail some $4 bil- FCC may be able to use rulemaking to favor some lion in allocations, is August 14. Finalists will be applicants over others. announced September 15, with awards going out The broadband stimulus is aimed at reduc- November 7. Two more rounds are expected to ing the “digital divide,” the gap between urban follow. The bill requires that the money be allo- and rural broadband infrastructure as well as cated by September 2010. the adoption gap between middle- and high- For purposes of the stimulus, NTIA and income households and lower income households. RUS have defined broadband as 768 kilobits per Today’s telecom policymakers get the subsidy second (kb/s) downstream, 200 kb/s upstream, message from both sides. Progressives look at relatively low considering most cable modems these trends and say free market mechanisms connect at six megabits per second (Mb/s), almost have failed and more government subsidies are eight times as fast, with service reaching 10 Mb/s required. Rural telephone companies say the only in some areas. Fiber-to-the-home connections way they can provide affordable broadband is if transmit between 50 and 100 Mb/s. The govern- subsidy mechanisms continue. ment said the low speed was set to encourage But other facts challenge this conventional wireless development. But even now, wireless wisdom. While rural penetration lags, it’s still broadband is pushing speeds twice that. increasing. From 2001 to early 2008, according to NTIA and RUS also imposed a network neu- the Pew Internet and American Life Project, rural trality requirement. This means recipients will broadband penetration grew from 5 percent to 38 be prohibited from optimizing their networks percent. If we break that down, we see that rural for specific Web applications, especially video.

114 Reason Foundation • reason.org Annual Privatization Report 2009

penetration grew from one in 20 households to vice. In Pew’s 2008 Broadband Census survey, 19 almost eight in 20 or 40 percent. This compares percent of respondents using dial-up said nothing to an overall national penetration of 55 percent, would convince them to get broadband. This would according to Pew. Again, there are more users in suggest the need for funding programs that provide cities and suburbs, but plenty of real growth in training on the use of computers and Web-based the rural areas, too. resources, as well as general education and aware- Even so, $7.2 billion does not amount to much ness of broadband benefits. compared to the investment commitment the tele- However, free-market oriented policymakers com industry has already made, relatively speaking. believe it would be economically counterproductive Combined, telephone, cable and wireless companies to direct stimulus funds into areas where broad- invested close to $115 billion in 2007 alone in infra- band is plentiful, but not necessarily state-of-the-art. structure, much of it broadband upgrades and some The fear is that it will slow private investment in $350 billion in the four years preceding, according faster cable modems and fiber-to-the-home pro- to the Bureau of Economic Analysis. grams. Cablevision, a major New York City area The allocation process is expected to draw a cable TV provider, introduced a 101 Mb/s cable cross-section of commercial service providers, rural modem service in April. Verizon’s FiOS fiber-to-the- cooperatives, nonprofits, municipal telecom opera- home service passes nine million homes. Still, the tions and public-private partnerships. Who will city of Seattle, where there are several companies walk away with how much cash—and whether providing wired and wireless broadband service at a the broadband stimulus will succeed—depends on range of prices, reportedly may seek stimulus funds several factors, including how the NTIA, RUS and for its $500 million citywide fiber-to-the-home net- FCC define “unserved” and “underserved” areas in work, which has been on the planning boards since the context of broadband availability, what regula- 2005. On the other hand, the city also said it is in tory conditions will be placed on stimulus recipients search of a private sector partner. and how much emphasis the agencies will place on supply-side programs—e.g., broadband infrastruc- 2. “Sustainable” Projects ture buildouts—versus demand-side programs such Although progressives see the stimulus as an as education and training for income, ethnic, racial opportunity to fund government broadband ini- and age segments of the population that have been tiatives, particularly municipal broadband proj- adopting broadband at a slower-than-average pace. ects, analysts watching the process thus far see no evidence that NTIA or RUS are inclined toward 1. Determining Priorities favoring public, government-financed models Fiscally conservative analysts say truly unserved over others. Neither the NTIA nor the RUS has areas—communities with no broadband service engaged in any anti-phone or anti-cable company and no immediate likelihood of private sector rhetoric. We may know more once FCC Chair- investment—should be the stimulus priority. Indeed, man Julius Genachowski settles into his post, but the stimulus package sets aside $350 million for thus far there has been little in his statements indi- identifying and mapping these unserved areas, fol- cating that he will pursue a doctrinaire approach. lowing examples pioneered by policy reformers in On the contrary, those who want to see the Kentucky, North Carolina and Tennessee. stimulus work in favor of greater investment have The second priority should be underserved been pleased by the emphasis NTIA and RUS say populations. This is more of a demographic issue they will place on the economic sustainability of than one of infrastructure. The task is not only to the applicants. While in the end the allocation raise broadband penetration in rural areas, but also process will be something of a beauty contest increase adoption among low-income households among applicants—there will be close calls with in areas where there is competitive, affordable ser- some subjectivity involved—both NTIA and RUS

Reason Foundation • reason.org 115 Annual Privatization Report 2009

say they want to see business plans that demon- 3. Undermining Good Models? strate realistic sources of revenue growth once But even if it emphasizes sustainable projects, the stimulus dollars are spent. “Applicants must the federal stimulus can short-circuit more fiscally state what needs the funds will be used to meet,” responsible approaches. For example, a former said one source close to NTIA. “It can’t be ‘we’ll World Bank and Senate economist and 35-year vet- build it and they will come.’” Plus, all applicants eran of the telecom industry is trying to bring fiber- must have a financial commitment for at least 20 based broadband to a rural section of Vermont percent of the amount of cash they are requesting using a business model that combines private sector from another source. dollars and a nonprofit grassroots effort. If the federal agencies hold to these require- According to The Wall Street Journal, a group ments, the process should end up favoring incum- of Vermont towns with a combined population bent service providers and viable private-public of 55,000 partnered with ValleyNet Inc., a local partnerships. nonprofit group, which in turn hired Tim Nulty, These partnerships can take a variety of forms, economist and telecom professional, who set up a including a number of sustainable models that high-speed network for Burlington, Vt., in 2006, have been attempted in the wake of the purely to manage the project. municipal-run broadband failures. In these cases, The plan is to string 1,400 miles of fiber-optic a local government seeks out a private industry lines across telephone poles to provide a combina- partner to build and operate a local broadband tion of high-speed Web access, phone and cable network. The local government agrees to be the TV service. The project is to be financed through “anchor tenant,” providing the primary source a capital lease, with the towns raising money from of revenues for the private partner at the outset. investors to build the network and then leasing it Those funds provide the necessary cash flow to back from them over 23 years. permit greater investment in local commercial ser- Nulty told the Journal he would have pre- vice. The caveat is that the decision to outsource ferred federal loan guarantees, which would must be made on the basis of sound economics— reduce the risk of private investors without neces- i.e., the city’s participation in the broadband sarily resulting in any cost to taxpayers in the long partnership must cost less in the long run than run. But a proposal by Sen. Patrick Leahy, a Ver- other competitive broadband service arrange- mont Democrat, that would have directed loan ments (should they exist). To be sure, investment guarantees to projects like Nulty’s, was shot down decisions are always subject to risk, but there is in the congressional stimulus negotiations. So far less danger to local treasuries and taxpayers now Nulty will request a direct cash grant instead. if cities do not favor low bidders by agreeing to Nulty and ValleyNet may have been on their cover any losses with subsidies or transfers. way to proving that the slow rollout of rural broad- Other models involve nonprofit agencies or band was not due to market failure; it just needed an operations. The idea is the same as a commercial adequate business model. Examples like these show partnership, only in this case the nonprofit, while it the stimulus’s potential to supplant private sector still must demonstrate a viable and sustainable base investment dollars that demonstrably exist, serving of income and funding, does not face the return- only to increase debt and reduce wealth. on-investment priorities that a commercial partner would. Such nonprofits can operate outside of the 4. Conditions and Requirements government sphere or use funding mechanisms that There also is growing concern that the govern- tap both private and public funds. Once again, the ment could attach regulatory conditions to any key to their success is to avoid using local taxpay- stimulus recipients. Here’s where the FCC could ers as their final guarantors. make its influence felt most: the stimulus bill, in

116 Reason Foundation • reason.org Annual Privatization Report 2009

very elastic language, calls on the NTIA to follow budget pressures and growing demand from citizens any rules the FCC sets down for applicants. This for a greater online presence, states and municipali- would give the executive branch tremendous ties are turning to outsourcing as a way of unifying discretion and could indirectly influence stimulus and streamlining the information technology and allocations simply by driving away prospective services they use for day-to-day operations. private sector applicants who would fear that the Virginia is generally credited with launch- conditional regulations would put them at a coming the large-scale IT outsourcing trend in 2005. petitive disadvantage. Even without FCC input, There, state officials approved a 10-year, $2-bil- NTIA and RUS have already attached network lion agreement with Northrop Grumman to neutrality requirements. Nor has the government manage the state government’s IT operations. been shy about attaching conditions to banks and Other states and cities—examples include Geor- auto companies that have received bailout dollars. gia, Florida, city of Minneapolis and county of Additional telecom policy stipulations are not San Diego—have either launched or stepped up beyond the realm of possibility. programs in the past four years. These conditions and stipulations could be: While some of these projects have hit bumps, n Content filtering, perhaps against adult sites, most have begun to meet their goals in terms of gambling sites, social networking sites and reducing costs while improving IT operations for peer-to-peer services. city and state employees and residents and busi- n Agreement to collect sales taxes from out- nesses who use them. Even when problems did of-state online merchants, even if federal arise, as they did in San Diego, they provided and state laws in this regard are either under critical lessons that have been absorbed elsewhere. challenge or have been ruled inapplicable. Government IT outsourcing generates far less n Agreement to be deputized into law controversy than outsourcing and privatization enforcement activities, including agreement initiatives in other areas, such as roads, prisons to turn over phone, email and search records and airports. This is due to several factors. First, on government request. IT was never a “traditional” responsibility of n Agreement to some kind of “fairness government, the way other services supported doctrine” for the Internet, such as a by heavy infrastructure—transportation, utilities requirement to push links to a liberal site on and schools—are perceived. Second, govern- conservative blogs (and vice-versa). ment IT operations are inwardly focused—they n Agreement to ban the use of targeted Web support the day-to-day processes of government ads, even though they are invaluable to the departments and employees. Hence, politically, growth of small commercial Web sites. there’s no negative perception among voters that All of these regulations or controls have been a “free” government service is being transferred proposed at the state and federal level in the to a corporation that will run it for profit. Quite past several years and most of them are part of the opposite: To the extent that the public sees the Democratic agenda (although some, such as a benefit from improved IT, it’s in the way they content filtering and an electronic records search, can handle their government business online. If have Republican support). The degree to which anything, the private sector has raised constitu- they will be imposed comes down to how activist ents’ expectations about Web- and Internet-based the FCC chooses to be. applications such that frustrations will grow if people can’t find critical information, submit B. IT Outsourcing Update forms or make payments via the Web. Faced with multiple and often incompatible Finally, even state and local governments computer and information systems, combined with realize that their IT operations are inefficient

Reason Foundation • reason.org 117 Annual Privatization Report 2009

and could benefit from outside management that n Revenue could streamline systems and run them more n Technical and Audit Education cost-effectively. In this they are not so different IBM will provide the state with a range of from many large corporations, which over the data center services including mainframe and years realized that they were spending so much mid-range system management, service desks and time and money managing IT resources that it disaster recovery. IBM Internet Security Systems was detracting from their core business. will supply security services. In addition, the States, counties and cities are realizing that, agreement will enable the state to replace an aging over the years, their various departments and infrastructure and migrate older technologies onto agencies have been adding computers, networking newer IBM technology platforms. Dell, Xerox equipment, applications and databases in isola- and AT&T are also supplying equipment and ser- tion of one another. The Department of Motor vices as part of the deal. Vehicles might use one system; the Tax and Rev- According to the Georgia Technology Author- enue Department, another; the agency charged ity, IBM began providing IT infrastructure services with unemployment and welfare benefits, still April 1, 2009. AT&T began providing managed another. Not only are costs duplicated, so are network services May 1, 2009. In the initial two data. What’s more, data cannot be shared, errors years of the deal, IBM and AT&T must deliver: cannot be corrected, nor can updates be made in n An enterprise-wide service desk with any uniform way. With states under new man- 24/7/365 coverage dates relating to homeland security, immigration, n Consolidation of application servers and public health, driver’s licenses and taxation, not to data storage mention their own IT budget pressures, the lack n Consistent IT security of a unified, common IT infrastructure does noth- n Improved disaster recovery ing but exacerbate cross-agency communications n Standardized service levels across all agencies problems, data errors, security risks and costs. n Comprehensive asset management, and Such projects, however, come with multi-mil- n Up-to-date technology through regular lion dollar price tags and multi-year commitments equipment upgrades. and involve multiple subcontractors. States that As part of the agreement, all 291 state have been successful have done their due diligence employees involved in infrastructure services and set measurable goals. were offered jobs with IBM. Of the 191 state employees involved in managed network services, 1. Georgia Streamlines 11 IT Operations 33 received offers. Salaries offered were “compa- For example, in November 2008, the state of rable” but not necessarily equivalent pay. State Georgia awarded IBM an eight-year, $873-million employees absorbed by IBM and AT&T, however, contract to consolidate the following 11 indepen- retained health benefits (pre-existing conditions dent IT environments into an integrated operation: were covered) with no waiting time. Their 401(k) n Administrative Services eligibility and vesting did not change and their n Community Health years of service were recognized. n Corrections Employee issues are perhaps the one hot n Driver Services button with outsourcing and states have learned n Georgia Bureau of Investigation to be careful about attempting to derive signifi- n Georgia Technology Authority cant cost savings through staff reductions. Indi- n Human Resources ana learned this lesson when it awarded its IT n Juvenile Justice outsourcing contract to India’s Tata, one of the n Natural Resources world’s biggest IT firms, in 2003. As chronicled n Planning and Budget by Thomas Friedman in The World is Flat, Tata’s

118 Reason Foundation • reason.org Annual Privatization Report 2009

bid came in at $8 million less than its near- from Unisys, the city has installed a safety camera est competitor. Much of that savings, however, system that it cites as contributing to a 44 percent derived from replacing state employees with Tata reduction in robberies, a 17 percent decrease in employees transplanted from India at much lower car thefts and $6 million savings in court costs. pay scales. A backlash ensued, forcing Indiana Also, the city and Unisys outfitted a fleet of to re-award the contract to a U.S. company that emergency command vans for wireless field com- would draw from Indiana workers. munications. Those vehicles enabled the city to Since then, like Georgia, states and munici- respond within minutes and to direct rescue opera- palities have been adopting outsource plans that tions in the field during the I-35W bridge collapse retain but “re-badge” IT staffers with the out- in August 2007. Similarly, Unisys has worked with sourcing company. the city to deploy mobile laptops in Minneapolis police vehicles and to provide similar systems to 2. Minneapolis’s Award-Winning Partnership the city’s health and building inspectors. The city of Minneapolis’s IT outsourcing con- The Minneapolis partnership provided some tract with Unisys has become one of the most pointers for best practices, as identified by Gary admired in the country, earning a “Best Partner- M. Stern in an article for SourceMag.com, a site ship” award from the Everest Group, an IT consul- covering the IT outsourcing industry. tancy, in April. Unisys signed its first five-year deal Bring union leadership in early. with Minneapolis in 2003. In 2008, Minneapolis To overcome union objections, the union was awarded the company a second five-year contract included in the original business planning of the worth $48 million. outsourcing agreement. Moreover, the city nego- Unisys will continue to provide a full range of tiated a three-year job guarantee for the people outsourcing services to manage the city’s complete that Unisys hired. A total of 26 union IT personnel IT infrastructure, from the data center to desktops were offered jobs by Unisys, of which 14 accepted and mobile devices. Unisys provides IT manage- and the remaining 12 found other jobs in the Min- ment and support services for approximately neapolis government. Unisys offered the 14 who 4,500 city of Minneapolis employees, fielding transferred signing bonuses and improved benefits. an average of 1,600 service desk calls and 160 Minneapolis saves about $2 million a year, mostly equipment installs, moves, adds and changes per because it has reduced staff and eliminated 40 con- month. Unisys manages more than 210 server tract workers at $100 to $200 an hour. computers and 4,400 e-mailboxes for the city, Engage the transferred IT staff through training. along with more than 330 network devices, The Minneapolis city staffers who were hired 3,650 desktop devices and 1,100 printers. The by Unisys were trained at Unisys University, a Unisys services range from technology planning virtual learning center, where they learn about to end-user support, data center management and Unisys’ technologies and processes. network management and address all agencies of Listen to the users. the city government, including the mayor’s office, Once the staff was trained, Unisys launched a city council, fire and police departments and the “discovery” process, asking stakeholders, includ- public works department. ing department heads at police, fire and public According to the city, this outsourcing rela- works, what IT changes and improvements they tionship has enabled it to save more than $18 wanted to see. Unisys staff also met with existing million while expanding the services it provides to IT staff, technical teams and field service teams to residents of Minneapolis. add to their knowledge base. In addition, the city has embraced wireless Government processes are different than cor- networking and mobile computing. With assis- porate processes. tance and ongoing infrastructure management Unisys staff had to become integrated into

Reason Foundation • reason.org 119 Annual Privatization Report 2009

every facet of city government in order to make sons. For instance, all costs associated with a the IT partnership work. A difference for Unisys desktop, such as networking and security, were consulting for the city of Minneapolis rather than previously bundled into one price, which made it simply another company is that major IT projects difficult to compare prices. Those costs are now need to be authorized by a vote of the entire city being split up. council, rather than a CEO sign-off. For example, The county also has created 59 line items to when Community Planning and Economic Devel- delineate responsibilities for running the help opment—which had been a separate arm of the desk. Among those responsibilities, Northrop city—was integrated into city government, the city Grumman must produce and submit help desk council had to pass an ordinance to permit it. The solutions and service-level requirements and the same applies to new IT work. county is responsible for reviewing and approving them. A 152-page document defines the opera- 3. San Diego Quantifies Deliverables tional services and 76 minimum acceptable service In January 2006, the county of San Diego levels, each with its own penalty (transaction signed a $667-million IT outsourcing contract response time has nine service levels associated with Northrop Grumman Information Technol- with it and desktop repair has 15). ogy. Northrop Grumman replaced a previous IT Consistent with commercial best practices, the contractor, Computer Sciences Corp., with which contract also breaks pricing for services into compo- the county had had a bumpy relationship. nents. Desktop maintenance costs, for example, are Transition to the new contractor occurred divided into hardware, software and printer main- in five distinct phases: Help Desk, Applications, tenance, among other line items. The first contract Desktop, Network and Data Center. Sub-con- included only a lump sum annual service charge. tractors on the project include Hewlett Packard’s The willingness of governments to truly act EDS, BearingPoint and AT&T. like enterprises has been a key reason for the Northrop Grumman replaced Computer Sci- growing success of IT outsourcing. Technology ences Corp. (CSC) as prime contractor on the authorities supervise state and local projects with county’s outsourcing project. That previous deal IT professionals in charge, which holds contrac- was marked by a contract dispute over deliver- tors to project targets, deliverables and milestones. ables that, at one point, had led the county to So far, state and local legislators have avoided withhold $34 million of a $44 million payment. attempts at picking one technology strategy over The dispute ultimately was settled, but the county another or hamstringing state IT directors with is incorporating the lessons learned from the CSC politically motivated agendas or priorities. If gov- experience into the new Northrop Grumman deal. ernments continue to embrace this “hands-off” Although the episode forced the county to model, allowing state IT authorities to develop endure some criticism of the outsourcing plan, its and follow industry best practices, states, munici- problems were not unique; David Perara, an inde- palities and sub-divisions will become part of the pendent IT analyst, told CIO magazine in May digital revolution that much faster. 2006 that commercial companies also struggle with large outsourcing deals and the second expe- C. Network Neutrality Update rience is usually better than the first. A problem Under the guise of encouraging competi- with the first San Diego deal—which the county tion, protecting consumers and preserving First took responsibility for—was a lack of sufficient Amendment freedoms on the Internet, a coalition detail in the contract regarding prices, responsi- of corporations and organizations representing all bilities and service levels. parts of the political spectrum have been urging The new contract includes benchmarking the Federal Communications Commission, Con- changes that will allow for better price compari- gress and even state legislatures to adopt laws that

120 Reason Foundation • reason.org Annual Privatization Report 2009

codify “network neutrality” on the Internet. would be running counter to its own business Thus far, efforts at regulation have failed to model. That’s why, in the nearly 15-year history gain headway, but the Obama administration of American ISP service, there has only been one and the new Congress, which has demonstrated a violation of these guidelines— by tiny Madison stronger regulatory bent than in the past, show no River Communications, which attempted to block signs of backing down. The latest legislative strat- Vonage’s Voice over Internet Protocol (VoIP ser- egy may be an attempt to impose network neutral- vice). The FCC forced Madison River to halt the ity conditions on any service provider that accepts blocking and make a $15,000 payment to the funds from the $7.2 billion broadband stimulus. U.S. Treasury as part of an agreement to drop the Network neutrality would regulate the transmis- investigation. Beyond that, it was short-sighted. sion of Internet data. It would impose obligations VoIP services are popular and ISPs, to keep their and prohibitions on major service providers that own customers, find they must support them. the networks that connect homes and businesses By definition, any IP-compatible device can to the Internet. It would dictate the technology and communicate over an IP network. This is simply software that phone companies, cable companies and the way the equipment works. An ISP can’t do other Internet service providers (ISPs) could develop, anything about it. An ISP may require a password purchase and use in their network. It would limit the if a user wants to use the portion of the network it quality of choices they could offer their consumers owns to connect to other devices, but a password and business customers. It would lead to a host of requirement does not interfere with the IP connec- unintended consequences, the most immediate and tion itself. Just getting a password prompt is proof likely being a slow, congested Internet with little or that your IP device is operating on the network. none of the utility for the multimedia applications And ISPs are not the only businesses that use pass- with which it has become associated. words to protect their networked assets. Most busi- The principles of network neutrality that nesses and consumers, if they are wise, password- would be instituted as law are: protect any laptops, PCs and larger computers that n Carriers should be prohibited from blocking connect to the Internet. That’s precisely because access to any legal Web site or application; any IP device can communicate with any other. n Carriers should be prohibited from Information about service is covered in the preventing any application using the Internet basic buyer-seller agreement. And if an ISP were to Protocol (IP)—the basic programming violate it to the point where a consumer or business language used on the Internet—from running owner thinks he’s been defrauded, there are exist- on their networks; ing legal mechanisms to address those cases. n Carriers must allow any IP-addressable So while any Internet regulation is undesir- device to attach to the network; able, the initial four neutrality provisions don’t n Carriers must provide users with information really “safeguard” anything. They have the same about their network service plan information; effect as would a decree that required every motor n Carriers should treat all data the same and vehicle built in the United States to drive forward be prohibited from altering, prioritizing and in reverse. Law or no law, cars are going to or partitioning data with the intent of be built that way. improving quality for their own services or The fifth principle, however, would hold seri- for select groups of customers or partners. ous consequences if given the force of law. The The first four principles are pointless to leg- fifth principle of network neutrality would impose islate because they are necessary conditions for limits on how service providers can use their net- an ISP to do business. An ISP exists to connect works to improve the quality, reliability, prioriti- individuals and businesses to the Internet at large. zation and management of data and applications A service provider who “violates” these principles as they move across their facilities. Specifically,

Reason Foundation • reason.org 121 Annual Privatization Report 2009

phone and cable companies, along with ISPs such providers would not be able to take technical as EarthLink and Covad Communications that countermeasures that would balance bandwidth predominantly serve businesses, would be pro- consumption. Conversely, they would not be hibited from offering Web site owners (sometimes allowed to offer rabid P2P users priority connec- called Web hosts) any improvement in application tions at a higher price. And whether they charged speed or performance for an added price. The for it or not, service providers would not be able Web site owners could be of any size, ranging to prioritize transmission of certain types of data; from companies the size of Google to small entre- for example, streaming video or online gaming, preneurial Web storefronts. even if it would make the application perform Network neutrality proponents say regulations better. They would not be allowed to enter agree- are needed because phone and cable companies ments with third party providers to give their ser- control most consumer connections to the Inter- vices special handling. They would not be permit- net. As an example, they point to Comcast, the ted to improve the quality of their own services, nation’s largest cable company, which in October such as Voice over Internet Protocol (VoIP) phone 2008 confirmed reports that it was intention- calling, without providing the same level of qual- ally slowing down the rate of voluminous video ity to competitors who use their network. files that were being transferred via BitTorrent. As such, network neutrality enforcement would com, one of many so-called peer-to-peer (P2P) add an unprecedented level of government inter- sites that allow users to search for and exchange ference in the way Internet applications work and movies and TV shows between and among their would dramatically influence the extent to which own PCs. Although an October 2007 AP headline sophisticated transmission mechanisms within reported that Comcast was “blocking” P2P appli- the Internet could be used to facilitate future Web cations, that turned out to be untrue. BitTorrent applications such as telemedicine and distance software is designed to set up as many simultane- learning, as well as entertainment and e-commerce. ous connections as possible between the user’s PC Network neutrality proponents state that with- and BitTorrent’s file-sharing site (the more connec- out neutrality, service providers will be able to tions, the faster the transmission). To keep BitTor- create high-speed “toll” lanes on the Internet and rent users from flooding the network, especially relegate those without deep pockets to some sort at peak times, Comcast introduced software that of “slow” lane. These suppositions are presented limited the number of simultaneous connections with no evidence. Today, the Internet reaches the the BitTorrent software could set up. BitTorrent customer at speeds as high as 15 megabits per users could still reach the site, but the rate of second (Mb/s), hardly pokey by any measure and transfer was slowed. Comcast argued this net- there’s every reason to believe speeds will get faster. work management decision was made to ensure The norm was 4 Mb/s in 2005 and 8 Mb/s last service quality for the vast majority of Comcast year, while prices have remained stable. All this has Internet customers whose high-speed connections come about without mandated network neutrality. would be slowed by the amount of bandwidth As justification for a ban on service provid- P2P applications were gobbling up. ers creating differentiated pricing for faster data The Comcast action, juxtaposed with the speeds or guarantees of higher quality, supporters reality that P2P protocols such as the BitTorrent cite the historical classification of network owners protocol are designed to consume as much band- as “common carriers,” a status which they say width as is available, has sharpened the debate obligates them to treat all data the same. But the about what the unintended consequences of net- “common carrier” rationale no longer holds. work neutrality might be. If network neutrality True, only a few years ago, telecom networks were were enacted as bills are currently written, service neutral common carriers by default, but then two

122 Reason Foundation • reason.org Annual Privatization Report 2009

things changed. First, the Internet and broadband Hospital networks, which use the very same IP together enabled an unlimited number of parties to protocol as the Internet, can and do prioritize use the network to deliver diverse content, applica- traffic. So do many other business and organizations and services. Second, network technology tions that operate over the Internet. evolved to the point where service providers could The fact is, the Internet is not and never has manage, manipulate and prioritize data in their been, neutral. Nor will a network neutrality networks in ways that could add greater value. policy make it so. In a mistaken belief that they Network neutrality mistakenly assumes that are preserving a democratic Internet, network service providers deliver commoditized data when, neutrality proponents are asking Congress to in fact, they deliver packaged information products force the industry to return to a best-effort trans- that have been created and crafted by numerous mission platform that was the rule only in the parties. The amount of bandwidth consumed Internet’s earliest days. depends on the amount of processed informa- Such a policy would be nothing short of disas- tion contained in the application. Like a big truck trous for broadband development precisely because holding up traffic with its slow pace, a bandwidth- it flies in the face of Internet evolution to date. intensive application can bog down an entire net- Network neutrality was a necessary condition at work if not relegated to a “toll lane” where it can the Internet’s birth. Since then, all players have been be partitioned from general Internet traffic. working toward creating a better, more functional Processed information, as opposed to raw and intuitive online experience—sometimes through data, can take many forms and can be valued cooperation, other times through competition. using any number of measures. To the user, there- What existed in the past was not network neu- fore, the Internet as a delivery mechanism is inher- trality for the Internet, but network neutrality for ently commercial and non-neutral. As a party to the phone calls. Calls were point to point, between an information-based transaction, the consumer two parties. The Internet changed that by allowing implicitly accepts that the enterprises that have third parties to add value. That created a new busi- invested in the creation, processing, transmission, ness model. By limiting service providers to a role as presentation and sale of that information are providers of “dumb” pipes, lawmakers would fail entitled to compensation. to recognize the ability of networks to add value Network neutrality would lock service providers to content and applications and participate in the out of the process. It would prohibit the companies further innovation of broadband applications. that build, own and operate the nation’s broadband The American system of free enterprise generally networks from taking any strategic role in the man- respects private property and the freedom to invest agement and optimization of information products and to realize a return on investment through vol- that use their facilities, to the detriment of everyone untary transactions that yield value to both parties who depends on a high-performance Internet. Net- while providing consumers in the market with more work neutrality would pre-empt the development of diverse products, lower prices and greater value. A an entire class of optional, but valuable, products, policy that allows the law of supply and demand features and services that would make for a better to develop for bandwidth optimization is the best network. For example, any application that has way to preserve the Internet, drive down costs and life or death implications and calls for real-time deliver the promised benefits of a robust Internet to communication—say a remote home-based health consumers everywhere. monitoring system linked to emergency alarms at a hospital—would benefit from and perhaps require, This article is excerpted from the May 2009 transmission prioritization. Reason Foundation report, The Internet is Not In fact, the capability to do so already exists. Neutral (and No Law Can Make It So).

Reason Foundation • reason.org 123 Annual Privatization Report 2009

Corrections and Mental Health

Contents A. Arizona Policymakers Considering Groundbreaking Prison Privatization Program B. New Vanderbilt Study Finds Private Prisons Reducing State Corrections Costs C. U.S. Prison Population Growth Slows D. Private Prisons Battle to Retain Proprietary Rights E. State Private Corrections Update F. International Private Corrections Update G. Mental Health Services Privatization Update A. Arizona Policymakers Considering Senate Bill 1028, passed in June, would Groundbreaking Prison Privatization require the state to issue a request for proposals Program for a concession agreement allowing private vendors to operate one or more Arizona state prison facilities for a 50-year term in exchange for an Arizona has long been known as a prison up-front payment of no less than $100 million. privatization leader, but the state’s ongoing fiscal The bill would also require the ADOC to enter crisis has prompted policymakers to explore into a lease‑purchase finance agreement for its new—and potentially groundbreaking—correc- prisons no later than May 2010. Under the law, tions privatization proposals. Currently, several the agreement would be for a fixed 20-year term private prison facilities are located in Arizona, and would be required to yield $495 million in but these facilities primarily house federal or net available proceeds for use in fiscal year 2010 out-of-state prisoners. While the Arizona Depart- and would use ADOC prison facilities as col- ment of Corrections (ADOC) does contract with lateral. In addition, SB 1028 would require the private prison operators to house several thou- state Department of Administration to issue a sand prisoners in out-of-state facilities, it does request for proposals to rebid the ADOC food not contract with any in-state private facility to and commissary service contracts. house state prisoners. SB 1028 was promptly vetoed in July 2009 This may change amid negotiations between by Governor Jan Brewer along with a number of Governor Jan Brewer and the state legislature other budget bills, a move designed to continue over how to close a budget deficit in excess of budget negotiations with the legislature. At press $3 billion. Prison privatization became a cen- time, the legislature was in a special session to tral issue in the budget development process, as complete its budget work and the status of the the legislature passed a budget bill that would prison privatization proposals remains uncertain. require the state to enter into what would repre- According to the Arizona Capitol Times, sent the first long-term concession (lease) of state Gov. Jan Brewer has expressed skepticism about prison facilities.

124 Reason Foundation • reason.org Annual Privatization Report 2009

the concession plan and prefers sale-leaseback tive pricing. In addition, public facilities likely agreements for prisons that would keep them benefit from being introduced to operating pro- under ADOC operation. ADOC director Charles cedures that enable them to lower costs. Ryan also expressed concerns over the potential The study references a Harvard Law Review privatization of maximum security facilities and report suggesting that private prisons perform as has floated an alternate proposal to tap the pri- well or better than public counterparts. It con- vate sector to build and operate new prison facil- cluded that privately operated prisons not only ities on vacant land at state prison complexes to bring about “clearly positive direct cost savings” add needed capacity and provide space to house when compared with publicly operated prisons, the 4,600 Arizona inmates currently held in pri- but also, on balance, “outscore public prisons on vate prisons in Colorado and Oklahoma. most quality indicators.” The study notes that cost savings appear to be B. New Vanderbilt Study Finds more significant in states that used in-state private Private Prisons Reducing State prisons, rather than those that send their prisoners Corrections Costs to private facilities in other states. The study suggests that this could be because public prisons can A study published by Vanderbilt University in learn from in-state private prison practices. December 2008 found that states that contracted According to the authors, the study’s findings with private corrections companies significantly “should provide policy makers with an addi- reduced their prison costs compared to states tional reason to favor privatization of some por- that did not. The study, “Do Government Agen- tion of a state’s prisons.” cies Respond to Market Pressures? Evidence from Private Prisons,” focused on public and pri- C. U.S. Corrections Population vate prison data from 1999 to 2004. Study author James Blumstein says, “The Growth Slows fundamental conclusion is that, over that six- The number of adults in the corrections system year period, states that had some of their pris- in America continued to rise in 2008. One in 31 oners in privately owned or operated prisons adults in America are under some type of cor- experienced lower rates of growth in the cost of rectional supervision, according to a March 2009 housing their public prisoners—savings in addi- study by the Pew Center on the States. Counting tion to direct cost savings from using the private offenders in prisons, on probation and out on sector.” In addition to saving money at privately operated prisons, the Table 14: U.S. Prison Population, 2000-2008 study found that public facilities Year Total Federal State Local Male Female that remain under state operation Jail also had reduced costs. 2000 2,012,410 145,416 1,245,845 621,149 1,848,189 164,221 States could save an average of 2001 2,035,272 156,993 1,247,039 631,240 1,860,232 175,040 $13-15 million per year (based on 2002 2,105,619 163,528 1,276,616 665,475 1,921,476 184,143 an average of $493 million in state 2003 2,159,902 173,059 1,295,542 691,301 1,969,187 190,715 corrections expenditures) through 2004 2,211,090 180,328 1,316,772 713,990 2,013,449 197,641 the introduction of private prisons, 2005 2,275,458 187,618 1,340,311 747,529 2,073,261 202,197 according to the study. 2006 2,335,764 193,046 1,376,899 765,819 2,124,305 211,459 The authors speculate that cost 2007 2,378,416 199,618 1,398,624 780,174 2,163,489 214,927 savings likely occurred due to com- 2008* 2,396,140 201,142 1,409,442 785,556 2,180,688 215,452 petition between public and private *Statistics as of June 2008 facilities, leading to more competi- Source: Bureau of Justice Statistics

Reason Foundation • reason.org 125 Annual Privatization Report 2009

parole, 7.3 million adults were in the corrections 2008, a Nashville, TN judge ruled that Cor- system in 2008. Although most of those, about rections Corporation of America (CCA) must five million, were on probation or parole, the comply with the state’s open records laws. Under prison population also grew from 2007 to 2008. the ruling, the court found that the private In March 2009, the Bureau of Justice Statis- prison company was “the equivalent of a govern- tics released data for the preceding year, showing ment agency.” CCA has appealed the decision, an increase of 17,724 inmates (see Table 14). but the ruling leaves open the question: should However, this was a significant decline from the all private firms that contract with government previous year’s increase of 42,652. The number be considered public entities? of inmates in private prisons also grew, albeit at On May 15, Representative Sheila Jackson- a slower rate than in 2007 (see Table 15). Lee (R-TX) introduced H.R. 2450—the Private Prison Information Act—a reprise of a similar Table 15: U.S. Private Prison Population, 2006-2008 bill that failed last year. This bill would subject Year Total Federal State all prisons holding federal inmates to Freedom 2006 113,697 27,726 85,971 of Information Act (FOIA) requests and make 2007 125,997 31,310 94,687 them report all the same information as publicly 2008* 126,249 32,712 93,537 operated federal facilities. There is currently no Source: Bureau of Justice Statistics law that requires private prisons to be subject to FOIA, that forces them to release inspection D. Private Prisons Battle to Retain results or incident reports or that mandates that Proprietary Rights they comply with state open records laws. In Oklahoma, state legislators have been The ability of private corrections to protect trying to get information from private prisons in propriety information has come under attack a different way. As they consider what price they recently at the state and federal level. In July will negotiate with companies that run six pris-

Figure 8: Growth of the U.S. Prison Population

2,500,000

2,400,000

2,300,000

2,200,000

2,100,000

2,000,000

1,900,000

1,800,000 2000 2001 2002 2003 2004 2005 2006 2007 2008 Source: Bureau of Justice Statistics

126 Reason Foundation • reason.org Annual Privatization Report 2009

ons in their state, lawmakers want to know how capacity. In addition, Michigan Governor Jennifer private firms like CCA, The GEO Group (GEO) Granholm has offered two empty public prisons and Cornell develop their bid proposals. The pri- in her state to California if the states can reach an vate firms consider this information proprietary agreement on the right price. and believe that making it public would hurt In May, San Diego County planning commis- their competitive advantage. sion officials approved a proposal from CCA to build a massive, 2,172-bed secure detention facil- E. State Private Corrections Update ity for immigrant detainees. CCA already oper- Arkansas has considered multiple propos- ates the 700-bed San Diego Correctional Facility als in their legislature this year that would open nearby the proposed location of its new prison. the state to privatizing some or all of their jails. This facility houses immigrants awaiting depor- These efforts have been largely unproductive, as tation or appealing an immigration case. The Governor Mike Beebe and leaders in the legis- new mega facility will employ over 300 people. lature are opposed to using private companies A Colorado prison is experimenting with an to run state correctional facilities, even though innovative rehabilitation program at the medium Arkansas state prisons are exceeding capacity by security, 750-bed Cheyenne Mountain Re-Entry 8 percent, forcing the state to rely on over 1,200 Center (CMRC). The facility, run by CEC, county beds. However, in Texarkana, a city that focuses intensely on drug and alcohol treatment sits on the Texas-Arkansas border, Miller County programs, education, job search and computer sheriff Ron Stovall has said he would like to skills and a “lifestyle change” class. These pro- hire a private security company to take over the grams have established a unique prison culture. deteriorating Miller County Correctional Facil- At CMRC, inmates call each other “mister” ity. Necessary repairs are estimated at $1 million. and confront each other about unacceptable Community Education Centers (CEC), which behavior. The prison is full of signs declaring the runs a similar facility in neighboring Bowie special facility’s primary axioms: “If you don’t County, Texas, has offered to run the Miller like yourself change,” “Be right-sized,” “Make County facility. Depending on the success of this better decisions,” “Examine your motives,” and public-private partnership, Arkansas may recon- “Anger is one letter away from danger.” Results sider privatizing state facilities. have thus far been mixed, with some inmates California is considering expanding its use of speaking highly of the program and others private prisons to manage massive overcrowding. noting a struggle to decrease violence. Governor Arnold Schwarzenegger said in a June The operations of a prison in Delaware were 2009 policy speech, “other states have privately successfully transferred from The GEO Group run correctional facilities that operate at half of (GEO) to CEC in January. Eight months after the cost. Why can’t we?” The system is currently taking over the George Hill Correctional Facility, about 59,000 inmates over the 100,000 inmate GEO found itself in an unusually high amount capacity it was designed to hold—and that is after of litigation. With costs running high, GEO transferring about 11,000 inmates to out-of-state decided to exercise its right to leave the deal and prisons (see Reason Foundation’s Annual Priva- after another managed competition, CEC, which tization Report 2008 for more details). A federal focuses more heavily on rehabilitation programs, court ruled in February 2009 that California won the contract to manage the facility. would have to release a third of its prison popula- Florida’s prison population is nearing tion. The state has appealed and litigation could 100,000 and legislators are looking at all options continue for years. However, in the meantime the to handle the growing number of inmates. In June state may pursue contracting with private firms to 2009, Governor Charlie Crist signed into law ease the burden of overcrowding and add in-state Senate Bill 1722, which authorizes the state cor-

Reason Foundation • reason.org 127 Annual Privatization Report 2009

rections department to begin shipping prisoners the potential to double capacity through expan- out of state, including some to private prisons. sion. The current community jail is over-crowded, The state also increased its prison capacity with a according to Jackson County Communications 384-bed expansion of the privately run Graceville Chief Calvin Williford. Correctional Facility, set to open in July. The Nevada legislature passed a bill in June Not all has gone well though. A bid to that sets basic standards for all private prisons in privatize Suwannee Correctional Institution fell the state. These standards include staff level and through in May. Even though the privatization training requirements. The legislation also requires was written into the state budget and would have that private facilities reimburse the state for costs of saved the state an estimated $3.4 million in oper- apprehending escaped prisoners. The first new facil- ating and payroll costs, the fear that a private firm ity to be built under this new law is being developed wouldn’t be able to handle inmates with behavior by CCA as a 3,000-inmate facility for Storey County problems thwarted the privatization process. that would employ roughly 600 people. On the federal front in Florida, U.S. Immigra- New Jersey is also experimenting with its tion and Customs Enforcement awarded GEO corrections system. Residential Assessment Cen- a renewed contract in April to operate the Bro- ters in Newark and Trenton, run by CEC, are ward Transition Center, which the private prison designed to house parole violators that haven’t company has done since 1998. The new contract committed a new crime, but have missed a meet- totals $21 million per year and requires GEO to ing or failed a drug test. New Jersey has a recidi- expand the number of beds from 600 to 700. vism rate of 65 percent for the 14,000 inmates it Georgia will be getting 160 new jobs in Hall releases each year. This new program will house County after U.S. Immigration and Customs select non-crime-related parole violators for up Enforcement (ICE) gave CCA a contract in to 30 days and then release them back on parole. March to manage the North Georgia Detention State officials estimate the program will help Center in Gainesville. Idaho announced this avoid $14 million in costs to incarcerate inmates. May that it would not pursue privatization of The program has already diverted nearly 1,000 the Idaho Correctional Institution in Orofino. parolees and saved over $2 million. As reported in last year’s Annual Privatization In Oklahoma, Comanche County commis- Report, the state has a history of private correc- sioners approved a 1,536-bed medium security tions challenges from the legislature. However, facility proposal from GEO. The new prison will CCA did win a contract to continue running the create 300 correctional officer jobs, plus addi- Idaho Correctional Center in Kuna. Maine Gov. tional staff and could be open by January 2010. John Baldacci’s budget for 2010-11 includes a CCA completed the expansion of its Cimarron plan to send 118 inmates to a CCA prison in Correctional Facility two months earlier than Minnesota. The proposed two-year deal would announced, increasing capacity to 1,692-beds. save the state $2 million as it tries to close an However, the state has withheld $200,000 $838 million budget deficit. of payments, claiming that CCA failed to meet A new prison in Mississippi will create over contract terms, which required keeping staff 400 jobs, opening in fall 2009 and boasting 2,567 positions at Cimarron filled, including certain beds. The $128 million facility to house federal medical personnel. In 2008, Oklahoma has with- prisoners (mostly illegal immigrants) is the fourth held over $589,000 from different private prison CCA prison in the state. A developer in Missouri companies for failures to meet contractual obli- has proposed building a minimum-security jail gations regarding staff positions. The Oklahoma near Kansas City, the area’s first private deten- legislature commissioned an audit of contract tion center. The $7 million facility would create violations in 2008 that uncovered the shortages. 65 jobs and would hold about 350 inmates, with In the wake of legislative investigations into

128 Reason Foundation • reason.org Annual Privatization Report 2009

CCA, the state has decided not to renew its con- and Order Committee. A key priority for legisla- tract with the private operator. However, the tors is that contracts are clearly worded and tightly state is not abandoning privatization. The Board managed. Although there are no private prisons in of Corrections will be seeking contract propos- New Zealand today, the Auckland Central Remand als to house 1,920 medium-security inmates and Prison was privately run from 2000 to 2005. 360 maximum-security inmates. The state is also In nearby Australia, a recently released New seeking new terms on contracts, including an South Wales (NSW) parliamentary report found opt-out clause for the state to terminate the con- that “the private management of prisons will… tract at will and an increase in the provision of likely produce greater cost savings and efficiencies mental and physical health services. than if they were to remain in the public system.” In Tennessee, a new effort is being made to The report details the results of the committee’s privatize Shelby County Jail after two previously inquiry into the privatization of prisons and prison- failed attempts in 2005 and 2006. Shelby County related services in NSW, covering such topics as Sheriff Mark Luttrell wants to lease some beds cost savings, public safety and escape rates, reha- from a CCA-owned detention facility, the Shelby bilitation programs, staffing levels and the impact Training Center. of privatization on publicly managed prisons. Texas, which has used private firms to run Elsewhere in Australia, Sydney’s Parklea jail prisons for years, successfully transferred three will continue its move toward privatization, with prisons from one private firm to another in five companies bidding to manage the facility. January. Management & Training Corporation However, the Cessnock jail privatization plans (MTC) won a $62.6 million, six-year contract have been shelved. And in England, a penal to operate three northeast Texas prisons. The reform charity has teamed up with a private secu- Billy Moore Correctional Center and Diboll rity company to bid on a management contract Correctional Center were handed off to MTC, for three 600-bed prisons. which beat out CCA in a bid for the contract. MTC also took over Sanders Estes Correctional G. Mental Health Services Center from GEO. The process shows how con- Privatization Update tinued competition for contracts helps provide The past year has seen a slew of new privati- governments with the best quality and price. The zation initiatives that are changing the landscape Billy Moore facility was originally privatized by for how states are delivering mental health ser- MTC, who later was outbid by CCA, only to get vices. Florida has long been the leader in psychi- it back this year. Meanwhile, in April, GEO won atric care privatization. Since the mid-1990s the a ten-year contract worth over $100 million to state contracted with the private sector to oper- continue operating the 685-bed Central Texas ate several of its psychiatric facilities, ranging Detention facility in Bexar County. from large state hospitals to forensic psychiatric treatment centers to its civil commitment center F. International Private Corrections for sexually violent predators. But in 2008, New Zealand Prime Minister John Key intro- Georgia shifted the paradigm one step further in duced a bill to the nation’s legislature that would starting to develop a program to close all of its allow managed competitions to award contracts to existing state-run facilities and contract with a private prison companies. The bill states: “Opening private firm to build and operate a new system of up prison management to contractors provides an hospitals for the mentally ill. opportunity for innovation and change in the way Like many states, Georgia faces rapidly esca- in which prisons in New Zealand are operated.” As lating costs to maintain its aging mental health of this writing the bill was being debated in the Law facilities, along with budget cuts to help close the

Reason Foundation • reason.org 129 Annual Privatization Report 2009

state’s two-billion-plus-dollar budget shortfall. the construction and operation of a new 100-bed At the same time, the state has also become the forensic hospital to address the state’s need for focus of a U.S. Justice Department investigation additional capacity. The state and Montgomery into civil rights violations after the Atlanta Jour- County are working out an intergovernmental nal-Constitution exposed appalling conditions in agency agreement whereby the county would pay Georgia’s state-run mental hospitals in February for the construction of the hospital and subcontract 2008. Since 2002, the paper found that over 130 the operation of the hospital to a private company. patients have died from neglect, abuse or poor These reform efforts—along with initiatives medical care in the state-run facilities and there in Missouri, Montana and Alabama—come on have been nearly 200 cases of patient abuse. the heels of several successful innovative projects To clean up its act and avoid a federal civil demonstrating why policymakers around the rights lawsuit, Georgia’s Department of Human country are increasingly turning to privatization Resources has recently taken the first steps in an to dramatically improve the quality of mental initiative to privatize the operations and manage- health services while reducing costs. ment of all of its state psychiatric hospitals. The initiative would involve a massive consolidation, 1. Case Study: South Florida State Hospital closing all seven of its existing state hospitals and For over a decade, Florida has successfully replacing them with three new, privately financed, privatizel a number of state psychiatric hospitals privately operated facilities—all by 2012. The and correctional mental health services, dramati- central goal of the privatization initiative is to com- cally improving patient care and outcomes while pletely reshape the way the state provides services, innovating to drive costs down. The first was dramatically improving service quality and patient South Florida State Hospital (SFSH), privatized outcomes, treating more patients in the community in November 1998. The aging Pembroke Pines and lowering spending from current levels. facility had never been accredited in its 40-year In October 2008, the District of Columbia’s history and was facing a major class action law- Department of Mental Health similarly announced suit concerning patient abuse and abysmal condi- that it would be closing all of its mental health cen- tions when it was privatized. ters and replacing them with privately run facilities, Within 10 months of receiving the contract, expanding the number of patients treated while the private operator was able to get the exist- generating tens of millions in cost savings. ing facility accredited by the Joint Commission In May 2009, Santa Barbara County, Califor- (a national, nonprofit healthcare accreditation nia announced a proposal to transfer operations organization), while at the same time financing of its mental health system to Prison Health and building a new, modern facility to replace it. Services (PHS). Sheriff Bill Brown said, “Over No state capital dollars were involved and the the years, with the closure of mental health lawsuit was subsequently dismissed. In addition, facilities across the state, county Jail has become the annual debt service on the new hospital, plus the de facto mental health facility. The jail is the cost to operate it, has been less than what the not the best place for people with mental health state had spent to simply operate the old facility. problems.” Under the proposed plan, PHS will Further, the state will own the new facility when operate the psychiatric care facilities for two the debt is retired. years, starting in July 2009, before coming up The results speak for themselves. After priva- for renewal. Sheriff Brown estimates the contract tization, the hospital reached some significant will save the county more than $500,000. operational milestones, reducing the average In July 2009, the Texas Department of State patient stay from eight years to less than one Health Services initiated a discussion with Mont- year while maintaining a low recidivism rate gomery County, Texas and a private company on and virtually eliminating the use of seclusion

130 Reason Foundation • reason.org Annual Privatization Report 2009

and restraints to manage patient behavior. SFSH including Williamsburg’s Eastern State Hospi- has also significantly increased the number of tal (ESH)—the nation’s first public psychiatric patients admitted and discharged to such a hospital dating back to 1773. By the late 1990s, degree that Florida was able to close a sepa- conditions at ESH had deteriorated to the point rate state hospital and its catchment area was that it became the subject of a U.S. Justice assumed by South Florida State Hospital, with Department lawsuit to rectify substandard care the savings invested into community services. and living conditions. South Florida State Hospital now serves over In addition, the combined challenges of a decreas- 50 percent of Florida’s population with just 25 ing patient population, obsolete facilities on a sprawl- percent of the state’s civil beds. Noting these ing 500-acre campus, noncompliance with industry improvements, the Florida Statewide Advocacy accreditation standards and the potential loss of Council—a state watchdog group—unanimously Medicare/Medicaid reimbursement dollars prompted passed a resolution in 2003 supporting further policymakers to look to private sector solutions. privatization of Florida’s psychiatric facilities. To turn things around, the Department SFSH also recently rolled out the first elec- embarked on a large-scale ESH modernization tronic health records system in a Florida state project facilitated by an innovative public- psychiatric hospital. The system increases the private partnership. This multi-phase project accuracy of treatment at the hospital and has involves partnering with a private contractor to created a benchmark for every other hospital in consolidate 26 buildings into six, deliver new the state to aspire to. Significantly, the contrac- state-of-the-art geriatric and adult mental health tor paid to develop this cutting-edge system facilities, and develop a strategic plan for the itself—recognizing the operational improvements 400 surplus acres generated as a result of the it would facilitate—even though such improve- initiative. The first phase of the project—the new ments immediately become property of the state. Hancock Geriatric Treatment Center—opened Cost savings in Florida have also been in April 2008 and recently won an innovation impressive. The state’s Department of Children award from the National Council of Public- and Families reported to a legislative commit- Private Partnerships. The next phase of the ESH tee in 2007 that the average cost per bed in the modernization—a new adult mental health treat- privately operated facilities was as much as 15 ment center—is set to open in 2010. percent lower than at the state-run hospitals. One of the more notable aspects of the ESH In Florida’s contracts, the state retains the abil- modernization is that the initiative did not come ity to terminate the contract without cause with a from within, but was received as an unsolicited, mere 30 days notice, a provision clearly aimed at private sector proposal for turnkey development ensuring contractor accountability. Further, Flor- submitted under the state’s Public-Private Educa- ida has also negotiated fixed-cost contracts that tion Facilities and Infrastructure Act (PPEA). The effectively hold facility budgets flat over multiple contractor is not only delivering the new facilities budget cycles, a far cry from the budget variability on an accelerated schedule, but the efficiencies typically seen under state operation. incorporated into the design will deliver large future cost savings through dramatically reduced 2. Case Study: Williamsburg’s Eastern State life-cycle maintenance costs. And because of the Hospital more efficient use of space on the campus and The Virginia Department of Mental Health, the patient-centric design of the new facilities, the Mental Retardation and Substance Abuse Ser- partnership will deliver where it really counts— vices currently operates sixteen mental health improving patient care, outcomes and safety. and other residential treatment facilities,

Reason Foundation • reason.org 131 Annual Privatization Report 2009

Water and Wastewater

Contents A. Public Works Financing Issues 13th Annual Water Privatization Report B. EPA Estimates $335 Billion in U.S. Water System Investment Needs C. White House, Congress Seek to Increase Water/Wastewater Funding D. Standard & Poor’s Gives U.S. Investor-Owned Water Utilities ‘Excellent’ Rating E. Milwaukee Puts Water Privatization Study on Hold F. U.S. Conference of Mayors Recognizes Phoenix Water Partnership

A. Public Works Financing Issues 13th According to the companies surveyed in the Annual Water Privatization Report PWF report, a key challenge currently facing the water industry is opposition to privatization on Despite the current recession, the municipal the part of both consulting engineers who advise water privatization market seems to be in a municipal water managers and environmental holding pattern, according to the 13th annual activists. Furthermore, the federal stimulus water contracting report from Public Works appears to be prompting municipalities to delay Financing (PWF). A spurt of new business the decisions on capital projects and hold out for previous year drove industry-wide revenues up stimulus funding. Larry Chertoff of Alinda 4 percent in 2008. At the same time, deepening Capital told PWF that “Everybody thinks municipal fiscal woes did not prompt large they’re going to win the lottery, but they’re not.” numbers of municipal utility managers to seek Chertoff believes this bodes well for proponents operating efficiencies through privatization. of alternate project delivery methods, because A total of 1,336 municipal, state or federal municipalities will be increasingly eager to build government agencies contracted out at least one critical projects in coming years, a natural fit for part of their water or wastewater utility in 2008, private developers. representing a 9 percent decrease from 2007 (though almost identical to 2005). Also, a total of 25 new operations and maintenance (O&M) B. EPA Estimates $335 Billion in U.S. contracts worth over $943 million in lifetime Water System Investment Needs value were signed in 2008, while six privately operated plants reverted to municipal control. The nation’s drinking water systems will The survey is based on a review of the six largest require $335 billion in capital investment by water utility operators. 2027, according to a new U.S. Environmental Government clients appear to remain largely Protection Agency (EPA) report. satisfied with their current outsourcing contracts, The EPA’s 2007 Drinking Water as the water industry’s contract renewal rate has Infrastructure Needs Survey and Assessment averaged nearly 95 percent since 2005 (see Table 16). identifies a 20-year capital investment need of

132 Reason Foundation • reason.org Annual Privatization Report 2009

Table 16: Contract Renewals and Lost Government Contracts, 1999-2008 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 Industry Renewal Rate (%) 88 95 87 97 96 97 93 92 98 95 Renewed by Incumbent (%) 83 91 81 94 94 95 92 89 94 90 Reverted to Competitor (%) 4 4 7 3 2 2 1 3 3 5 Reverted to Muni (%) 11 5 13 3 4 3 7 2 2 5

Source: Author calculations using data published in Public Works Financing, March 2009.

$335 billion for public water systems eligible infrastructure network that has aged considerably to receive funding from state Drinking Water since these systems were constructed, in many State Revolving Fund (DWSRF) programs cases, 50 to 100 years ago.” (approximately 52,000 community water systems The EPA uses the assessment results, and 21,400 not-for-profit, non-community water published every four years, to allocate DWSRF systems). The estimate includes costs for repairs funds to states and tribes as required by SDWA. and replacement of transmission pipes, storage Overall needs are likely much higher than the and treatment equipment and other projects EPA estimate, which excludes capital projects required to ensure compliance with the Safe related to dams, raw water reservoirs, future Drinking Water Act (SDWA). growth and fire protection from the analysis. As Figure 9 shows, transmission and distribution account for the largest portion of spending needs ($200 billion or 60 percent), with C. White House, Congress Seek to additional needs for treatment, storage and new Increase Water/Wastewater Funding water supply projects. Federal policymakers are taking steps According to the EPA, “The large magnitude to increase funding water and wastewater of the national need reflects the challenges infrastructure. The American Recovery and confronting water systems as they deal with an Reinvestment Act (ARRA), the federal stimulus bill signed into law in February, included a $6 Figure 9: Drinking Water Infrastructure Needs, billion appropriation for water infrastructure. 2007-2027 ($ billion) ARRA provides $4 billion for the Clean Water Other State Revolving Fund and $2 billion for the Source $2.3 $19.8 Drinking Water State Revolving Fund. 1% Transmission & Storage distribution ARRA also modifies state revolving fund $36.9 $200.8 6% procedures for the use of these funds. For

11% example, the funds will remain available until September 30, 2011 and the current 20 percent state matching requirement will be waived. States must give funding priority to 22% 60% projects ready to begin construction within Treatment $75.1 12 months and they must disperse at least 50 percent of the funds in the form of principal forgiveness, negative interest loans, grants or any combination thereof. Source: U.S. Environmental Protection Agency, 2007 The stimulus bill was not the only piece of Drinking Water Infrastructure Needs Survey and Assessment, March 2009, available at http://www.epa.gov/safewater/ federal legislation related to water infrastructure needssurvey/. development. In March 2009, the House of

Reason Foundation • reason.org 133 Annual Privatization Report 2009

Representatives passed the Water Quality for 2009 and 2010, a move designed to spur Investment Act of 2009 (H.R. 1262), authorizing investor demand for these bonds.] $19.4 billion for a variety of water quality In July 2009, Representative Earl measures. The bill combines five separate bills Blumenauer (D-Ore) introduced H.R.3202 passed by the House in 2008. The bill includes: (Water Protection and Reinvestment Act) grants to state pollution prevention and control to establish a $10 billion annual water trust programs, watershed pilot projects, grants to fund to repair and upgrade America’s water states for water pollution control revolving and wastewater systems. H.R. 3202 would be funds, alternative water source pilot projects, financed by fees on bottled beverages, products sewer overflow control grants and remediation disposed of in wastewater, corporate profits and of sediment contamination in parts of the Great the pharmaceutical industry. Lakes region. At press time, the Senate was The indirect nature of the proposed fees working on their version of the legislation. raised eyebrows in the water industry. “The Next, in early 2009, Representative Bill trust fund mechanism created by this bill would Pascrell, Jr. (D-N.J.) introduced the Sustainable serve to further mask the value of water through Water Infrastructure Investment Act (H.R. taxes on unrelated activities and discourage 537), which would encourage a greater private responsible water use and conservation through sector role in water infrastructure development heavy, broad utility subsidizations,” said the by expanding access to private activity bonds National Association of Water Companies (PABs), a tax-exempt financing mechanism made Executive Director Michael Deane in testimony available to private companies developing public before the U.S. House of Representatives infrastructure projects. Committee on Transportation and Infrastructure. H.R. 537 would remove current volume Deane continued, “Aggregate water use can caps that limit the amount of PABs that can be only be reduced by changing the way people issued in a given state for water and wastewater think about flushing their toilets, watering projects, expanding the availability of low-cost their lawns and washing their dishes and financing for private infrastructure developers. how industries think about water as an input According to the National Association of Water cost. Similarly, public support for spending Companies, removing the state volume cap on on environmental infrastructure can only be PABs would help to control water rates (due increased by changing the way people and to lower cost project financing), free municipal businesses think about those very same activities. partners from limitations on tax-exempt Neither goal can be achieved by creating opaque financing, spread virtually all financial risk to ways to fund water initiatives that allow users the private sector, free up traditional tax exempt to continue thinking of water as a disposable municipal bonds for other uses and provide resource.” municipalities with the security to facilitate and Last, a bill (S.1005) to reauthorize the fund critical multi-year water projects. State Revolving Funds and improve water and [Note: ARRA authorized $15 billion in wastewater infrastructure was marked up in additional private activity bonds for “exempt the Senate Environment and Public Works facilities,” including water and wastewater Committee in May 2009. The Clean Water infrastructure. The expanded PAB allocation is State Revolving Fund (CW-SRF) and Drinking available for two years and the portion of the Water State Revolving Fund (DW-SRF) were $15 billion each state receives will be based on last reauthorized 22 years ago and 13 years unemployment levels. ARRA also exempted all ago, respectively. S.1005 would appropriate PABs from the Alternative Minimum Tax (AMT) $35 billion for water projects expected to take

134 Reason Foundation • reason.org Annual Privatization Report 2009

more than five years, including infrastructure, the city’s Water Works. recycling and conservation measures. Of that, Mayor Tom Barrett and the city’s common $20 billion is allotted for the CW-SRF and the council had previously authorized City DW-SRF could receive up to $14.7 billion in Comptroller Wally Morics to solicit proposals funding. for a consulting team to conduct a study on the potential lease. The solicitation netted 16 proposals from teams of financial, legal and D. Standard & Poor’s Gives U.S. engineering advisors. Investor-Owned Water Utilities Morics proposed a 75- to 99-year lease of ‘Excellent’ Rating the city’s water system in return for an up-front payment in excess of $500 million. Morics U.S. investor-owned water utilities have proposed investing and annuitizing the up-front excellent business risk profiles and the water payment to generate over $30 million a year to utility sector continues to display significant supplement tax revenues, avoid layoffs and shore stability, according to the findings of a December up the city budget. 2008 report (“Industry Report Card: U.S. Morics predicts significant interest on the Investor-Owned Water Companies: Steady As part of potential bidders, as the utility has been She Flows”) released by Standard & Poor’s well-maintained and nets $20 million a year. Ratings Services. However, political pressure to keep rates low According to the report, the rating of prompted the utility to draw $10 million from Excellent “reflects the supportive regulatory reserves to cover 2008 expenses. environments, monopolistic market positions, a Morics sees a water system lease as a way mostly residential customer base and relatively to extract value currently trapped in the asset. low operating risk compared with other Under current law, all system profits must utilities.” remain with the system and cannot be used to The report continues: “Many rated water supplement general fund dollars. Privatization companies also have modest nonregulated offers the city a way to use the up-front proceeds segments, which primarily provide operational to augment general fund dollars. and consulting services to water and wastewater Environmental activists and public employee facilities. Despite tight margins and low cash unions lined up in opposition to the proposed flow generation, these nonregulated operations lease, forming the Keep Public Our Water pose limited incremental risks to the company’s coalition to lobby aldermen and oppose any consolidated credit profile. In addition to privatization attempt. Responding to opponents’ the complementary nature of the utilities’ fears over losing control of the system and the nonregulated segments to their regulated potential environmental implications of such operations, the risks are mitigated because the an agreement, Morics noted that “[w]hatever water companies pass operating and capital costs safeguards that need to be there in terms of through to the facility owners, who are usually quality, performance, maintenance of the plant, highly rated.” those will be built into the lease arrangement to assure that at the end, you turn on your tap, E. Milwaukee Puts Water you’re still going to get clean, safe drinking Privatization Study on Hold water and you’re not going to be draining Lake Michigan away to nothing.” In May 2009, Milwaukee city officials Wayne State University law professor Noah announced that they had put on hold a study on Hall, an architect of a recent eight-state compact a potentially groundbreaking long-term lease of

Reason Foundation • reason.org 135 Annual Privatization Report 2009

to prevent water diversion from the Great Lakes basin, told the Milwaukee Journal-Sentinel in May 2009 that “[i]t is not an environmental issue one way or the other, but really an issue of ensuring good management and accountability, which can be accomplished through either public or private operational management.” He added that, “[t]he lakes don’t care whether it’s public or private employees who are treating the wastewater and running the water systems. […] From the lakes’ perspective, what matters are the results.” An April 2009 article in Public Works Financing suggests that The Lake Pleasant plant incorporates the Milwaukee’s long history with wastewater latest in modern water treatment technology privatization could be beneficial in navigating and automation and the design uses indigenous the union and political hurdles associated with a materials and replanted native flora to blend the groundbreaking water system monetization. The facility with surrounding environment. Metropolitan Milwaukee Sewerage District first “American Water is truly honored to privatized the operation of its wastewater system receive such a prestigious award from the U.S. in 1998 and last year it signed a new 10-year, Conference of Mayors,” said Donald Correll, $400 million wastewater operations contract president and chief executive officer of American with Veolia Water North America. Water. “The city of Phoenix decided in the early 90s that it wanted to proactively address the future water supply needs for its citizens. F. U.S. Conference of Mayors Working with our partners, in 2007, we opened Recognizes Phoenix Water a state-of-the-art plant that serves approximately Partnership 216,000 customers and has a capacity to treat 80 In January 2009, the U.S. Conference of million gallons of water per day.” Mayors announced that the Lake Pleasant Phoenix Mayor Phil Gordon added, Water Treatment Plant—built and operated “Thanks to the efforts of the partners and our by American Water on behalf of the city of city of Phoenix staff, the plant also was designed Phoenix—earned the 2009 Excellence in Public/ to easily expand to treat 320 million gallons per Private Partnership Outstanding Achievement day, continuing to ensure a viable water plant for Award. Phoenix for years to come.” The plant, built to address the water American Water was awarded the $336 needs of one of the fastest growing U.S. metro million DBO contract in August 2003 to areas, opened in 2007 and was built by the serve as the prime contractor and to manage design-build-operate (DBO) team of American and operate the facilities for the first 15 years Water, Black & Veatch and McCarthy Building (with a subsequent five-year renewal option). Companies. The facility is the largest DBO Construction of the Lake Pleasant facility began project in the nation. in the summer of 2004 and opened in 2007.

136 Reason Foundation • reason.org Annual Privatization Report 2009

Land Use and Property Rights

Contents A. Private Land Development in Houston Defies Recession B. Property Rights Update C. Property Rights in Arizona: The Sky Hasn’t Fallen

A. Private Land Development in evaluate the risk of those investments. Thus, Houston Defies Recession when the housing market folded, the financial market seized up as banks and investment houses The effects of the economic recession have scrambled to re-evaluate their books and deter- been surprisingly uneven among and within mine the value of their assets. As foreclosures nations. On a global level, some nations, most mounted, investment banks folded, dramatically notably China and India, are expected to post increasing uncertainty in financial markets, send- economic gains in 2009 and beyond. More sur- ing marginal banks into bankruptcy and squeez- prising may be the resilience of certain regions ing out lending for all but the most credit-worthy and urbanized areas within nations. Houston, borrowers. Texas is a case in point for the United States, The collapse of consumer demand, com- particularly since it provides lessons for other bined with an effective lock-down on commer- cities on how a relatively unregulated land cial and consumer lending in the fall of 2008, market allows the private housing market to sent an already sluggish world economy into a respond to local economic circumstances. full-blown recession. As consumer demand in The story of the global recession is now high-income nations fell, imports of goods and familiar. Prolonged economic expansion com- services plunged in those countries, dealing a bined with easy credit fueled a housing bubble severe blow to export-dependent economies in in the U.S. and elsewhere. Lenders provided the developing world. (Notably, as discussed in increasingly exotic mortgages and relaxed lend- the Surface Transportation section of this report, ing rules to meet apparent rising demand for China’s economy is humming along at about 8 homeownership in the face of an unsustainable percent growth on the strength of its domestic escalation in housing prices. When housing economy while the regions relying on exports, prices finally outstripped household incomes, the such as Shanghai and Guangzhou, have con- market collapsed. tracted severely). The collapse of the housing industry alone, In the U.S., housing markets in several met- however, was not enough to reverse economic ropolitan areas went into a tailspin. Sixty-two growth. The riskier lending agreements were of the 100 largest metro areas experienced hous- folded into mortgage-backed securities and ing market declines between the first quarter of financial markets didn’t (or couldn’t) adequately

Reason Foundation • reason.org 137 Annual Privatization Report 2009

2008 and the first quarter of 2009, according to according to the U.S. Bureau of Labor Statistics, an analysis by the Brookings Institution. Metro but that figure is still well below the national areas experiencing double-digit declines in hous- average (although higher than in San Antonio ing prices included Fort Myers (FL), Fresno and Austin). (CA), Las Vegas (NV), Miami (FL), Riverside- Yet Houston’s economic resilience is itself a San Bernardino (CA) and Stockton (CA). Over- bit of a puzzle. During periods of strong world- all, housing prices fell by 6.9 percent among the wide economic growth, the region would natu- nation’s largest metro areas. rally benefit from its position as a global hub This is why Houston’s 4.7 percent increase for the energy industry and international trade. in housing prices stands out. Rather than falling ConocoPhillips, Marathon Oil, Halliburton off a cliff, Houston’s housing market remained and Sysco call Houston home. The city’s port relatively stable even as its regional economy is the nation’s second busiest (behind the Port stagnated in the face of the recession. Houston’s of Los Angeles and Long Beach), although it’s average monthly residential building permits the largest in terms of foreign tonnage. While climbed higher and peaked later than every other these are advantages in boom times, one would Texas metropolitan area, including Dallas-Fort expect that the city’s economy would be more Worth, San Antonio and Austin. Indeed, even vulnerable to swings in exports and imports after the housing market began to soften (in and slumps in the energy industry. High energy 2006), 100,000 single-family permits were issued prices in the summer of 2008 boosted profits for over a two-year period in Houston. major energy companies, but prices dropped as In part, a robust regional economy helped the recession hit full swing. International trade shore up local housing prices. Houston is the swooned in the fourth quarter of 2008 and first fourth largest city in the U.S., with a population two quarters of 2009. of about 2.2 million and the sixth largest met- But Houston has avoided major economic ropolitan area, with a population of 5.7 million pitfalls. Its housing market has remained (and an urbanized area population of about 4.3 remarkably strong, accounting for 36 percent of million). Houston’s economy would rank 20th single-family housing permits issued in Texas. worldwide in terms of the total value of goods In fact, Houston’s multifamily permits have out- and services produced and it boasts the nation’s produced its main in-state rival Dallas in seven highest concentration of Fortune 500 headquar- of the last eight years and the combined Dallas- ters outside Chicago and New York. Fort Worth metropolitan area in four of the last As the recession unfolded in late 2008 and eight years. early 2009, output as measured by the Gross So, what explains Houston’s robust housing Metropolitan Product declined by only 0.7 per- market? cent from its peak as metropolitan area output A significant part of the answer may be in declined by 3.3 percent nationally, according to the way the city approaches land development. the Brookings Institution. Wages increased 1.3 Meeting consumer demand and adjusting to percent during the first quarter of 2009, higher changing economic circumstances is easier and than the average of 0.4 percent for the 100 larg- faster in Houston than in any other major urban est metropolitan areas. An unemployment rate area in the United States. This efficiency is an of 6.5 percent in Houston at the end of the first artifact of history as well as a result of Houston’s quarter of 2009 is well under the average for the stubborn resistance to planning fads and conven- largest metropolitan areas (8.8 percent) and the tions. Citywide zoning referenda were turned nation as a whole (9.0 percent). The unemploy- down at the ballot box in 1948, 1962 and 1993. ment rate inched up to 6.9 percent in May 2009, Houston remains the largest city in the coun-

138 Reason Foundation • reason.org Annual Privatization Report 2009

try without land-use zoning, a planning practice its subdivision regulations in Chapter 42 of the that makes land use a political decision rather city code. Thus, property owners can purchase than an economic one. Zoning implements com- single-family homes and redevelop the property prehensive urban planning by dictating specific for mixed use or higher density use without land uses for specific parcels of land and it is interference from the city as long as they meet usually approved through a legislative process at the requirements for physical infrastructure, the local level. public safety and other codes. (And the private Cities typically have a zoning code that deed does not restrict the particular type of land specifies which land uses are permitted in which use.) types of zones. A zoning map is then overlaid on The construction of new buildings or expan- the city to geographically peg zones to specific sions of existing buildings require plat approval, parcels of land. Some zoning codes are simple, but the key criteria involve whether the devel- identifying a dozen or so residential, commer- oper has made sufficient accommodations for cial, industrial, open space or agricultural zones. code specified performance measures such as Others are far more complex, specifying land street widths and access, stormwater runoff, uses for as many as 100 or more zones. For land sewer access, rights of way, open space (in multi- to change use, for example, from residential to family units) and other concerns related to public commercial (or changing even from one single- infrastructure. family housing type to another), the zoning map Plats that do not require the dedication of must be amended through an open, participatory public streets or increased demand on infrastruc- legislative process. Rezoning for small projects ture often can be sent through a streamlined can take months, while approvals for complex review process that includes administrative projects may take years. approval. Houston, in contrast, allows for a mostly free Moreover, the planning commission’s primary market in land development. Since most land criteria for approval are whether the proposed parcels were platted before contemporary urban plat is in compliance with the performance stan- development, land use is regulated through deeds dards established in the city code. In principle, or covenants that run with the land, not with the even a complex, mixed-use plat application owner of the land. In many cases, particularly in requiring planning commission action could be older parts of the city, deeds are very broad and approved in four weeks as long as it met the sometimes do not specify any restriction on use performance requirements specified in the Hous- or include only very specific restrictions (e.g., ton subdivision code. Even if the planning com- exclusions for meat packing plants, farms, gro- mission defers a decision, the city code requires cery stores, boarding houses, etc.). action within 30 days of the deferral. Traditional zoning designates specific land Given the streamlined nature of development uses for specific parcels. So, in a single family approvals, Houston is accommodating urban residential zoning district, only single-family infill at very high rates (for the U.S.). Between homes are allowed. The zoning code often speci- 2000 and 2007, the city of Houston attracted fies lot sizes, square footage, set backs, height 53 percent of the region’s population growth, restrictions, garage design and even landscaping according to demographer Wendell Cox. Popu- requirements. lation density increased by 14.3 percent (a sig- While land use is largely regulated through nificantly greater share than either Dallas-Fort private deeds and covenants, land development Worth or San Antonio, but slightly less than is subject to other public restrictions and approv- Austin). Most of this growth is likely going als. The city regulates land development through inside the I-610 loop, a circumferential limited-

Reason Foundation • reason.org 139 Annual Privatization Report 2009

access highway three to five miles (five to eight as large and diverse as Texas.” kilometers) outside of the downtown Houston. Indeed, the adoption of a politically oriented Unfortunately, this streamlined approach to legislative approach to planning may well undo a regulating development, which accommodates process in Houston that has worked efficiently to market-driven tastes and preferences, is under meet local needs and has provided an important assault. Increasingly, local officials and citizens hedge against the global recession. are agitating for a more open and participatory planning process that could potentially compro- B. Property Rights Update mise the ability of private developers to make the Texas Governor Rick Perry has signed a bill kinds of adjustments necessary to keep Hous- that asks voters to amend the state constitution ton’s housing market dynamic and flexible. by limiting the government’s ability to take pri- Oddly, the clamor to supplant the market- vate property using eminent domain authority. based approach to land development in Houston If voters approve the ballot measure, HJR 14, is promoted under the banner of Smart Growth, in this November’s elections, the constitutional a political movement established to combat sub- amendment would prohibit government officials urban sprawl and promote higher densities and from taking property and giving it to a private mixed land use. Houston’s system of private cov- developer to increase tax revenue. Critics like enants and deeds has created a flexible and effi- the Texas Farm Bureau say the bill would not go cient regulatory framework that already meets far enough in protecting property rights. They these goals without specific political involve- believe that additional protections, such as com- ment. pensation for property owners for lost access to By imposing a legislative approval process their land, fair market value reimbursement and combined with traditional zoning, local Smart the right to repurchase land not actually used Growth activists may be throwing the baby for the condemning purpose must be present in out with the bathwater. An open, participatory reform efforts. procedure lengthens the time it takes to approve Meanwhile, the Texas Supreme Court has new projects. Pegging land uses to politically refused to hear a case involving the use of emi- determined designations on a map triggers leg- nent domain to take 17 properties for the new islative review. Thus, the private sector will be Dallas Cowboys stadium in Arlington. If passed, faced with a more burdensome process for devel- HJR 14 might offer some protections to the oping land to meet the increasing urban needs of affected landowners. the city of Houston and the region. Federal officials are optimistic that they will Fortunately, an attempt to create a central- be able to acquire land in southwestern Pennsyl- ized, statewide approach to urban planning was vania for the 9/11 Flight 93 Memorial without defeated when Gov. Rick Perry vetoed Senate invoking eminent domain. Interior Secretary Ken Bill 2169. In his veto message, Gov. Perry said: Salazar says agreements have been made with “Decisions about the growth of communities most of the landowners and that the rest are con- should be made by local governments clos- tinuing negotiations, which are expected to end est to the people living and working in these quickly. The government’s original deadline for areas. Local governments can already adopt negotiations passed, but they have not attempted ‘smart growth’ policies based on the desires for eminent domain proceedings. the community without a state-led effort that The U.S. Supreme Court has agreed to hear endorses such planning. This legislation would arguments regarding the constitutionality of promote a one-size-fits-all approach to land use Florida’s Beach and Shore Preservation Act. The and planning that would not work across a state Court will determine whether a project that

140 Reason Foundation • reason.org Annual Privatization Report 2009

suit prompted a new law in 2004 that requires municipalities to inform property owners by certified mail or personal delivery that they intend to take the land. Another lawsuit involving the 1999 development project in Port Chester was dismissed by a federal appeals court. The owner of a seized parcel of land in Didden v. Village of Port Ches- ter alleged that a city official in 2003 demanded an $800,000 bribe for the owner to keep his property. Joined by Supreme Court nominee Sonia Sotomayor, the 2nd Circuit upheld a lower court’s ruling for the defendant, holding that the suit was filed after the statute of limitations had passed. The court held that the time limit began when the owner knew that his property might would widen a seven-mile stretch of beach by be seized, rather than at the time of the alleged 210 feet would violate the property rights of extortion. Legal scholars like University of Chi- beachfront landowners. Florida has proposed a cago’s Richard Epstein have heavily criticized the state-owned public beach, 60 to 120 feet wide, Circuit Court’s decision, which is sure to gain between private beachfront land and the Gulf some attention during Sotomayor’s nomination of Mexico. At issue is the state government’s hearings. authority to restore eroded coastline when it A New Jersey bill that would limit the use modifies private property boundaries. The Flor- of property seizures to further private develop- ida Supreme Court determined last year that the ment may become law by the end of the year. restoration does not unconstitutionally deprive The bill would require that developers pay ten- owners of littoral rights without just compensa- ants for vacating a property and would give tion. up to $21,000 in rental assistance to displaced A case facing Wisconsin’s Common Coun- residents. It would also narrow when and how cil about a property dispute between a private developers must notify tenants that their prop- landowner and the city of Milwaukee turns on erty is being seized. Notices to affected tenants the city’s designation of the property as blight. would state whether or not eminent domain Although the empty grass plot poses no health is being invoked and also clearly inform those hazard, it impedes business growth and should affected that they have 60 days to challenge the be seized, according to Assistant City Attorney municipality’s decision in court. Municipal offi- Greg Hagopian. Following Kelo v. City of New cials would be required to produce the evidence London, courts have yet to make the narrower they relied on to support a blight determination determination of blight in terms of economic if the seizure was challenged in court. The bill health versus public safety. comes in light of recent abuse of eminent domain A New York property owner whose four by private developers following 2005’s Kelo v. buildings were seized a decade ago received an City of New London decision. apology and $475,000 from the village of Port Missouri’s courts are involved in a battle over Chester. William Brody’s property was seized potential ballot measures that would restrict the in 1999 after the city posted notice in a local use of eminent domain to take private property newspaper, which was the minimum require- for redevelopment. Previous measures in 2006 ment under the law. Brody’s subsequent law-

Reason Foundation • reason.org 141 Annual Privatization Report 2009

and 2008 did not survive legal disputes. Support- $200,000 per year, but may face even higher ers of the ballot initiative are starting earlier this long-term litigation costs. time, trying to claim a spot in the 2010 election. Massachusetts State Representative Richard Cole County Circuit Judge Richard Callahan Ross has introduced a bill that would prohibit heard arguments in May on a lawsuit by the the government from taking property by eminent Missouri Municipal League. The suit claims the domain in order to give it to another private state ballot summaries and financial estimates developer. The bill would require that the state prepared for the eminent domain initiatives are demonstrate that property is being seized for unfair and insufficient. public use. Multnomah County officials have petitioned State legislators in Maryland passed a bill the Oregon Supreme Court to review the long- allowing the government to seize Pimlico Race running Dorothy English case, seeking to avoid Course, home of the Preakness Stakes. They can a $1.15 million judgment it was ordered to pay also seize Laurel Park racetrack and the Wood- last month. The case is at the heart of Oregon’s lawn Vase, which is awarded to the Preakness Measure 37 campaign, a law passed in 2004 that Winner. The move comes after Magna Entertain- allows property owners whose property value ment Corporation, which owns Preakness, went is reduced by environmental or other land use bankrupt this year. regulations to claim compensation from state or A state Senate committee in Virginia voted local government. down Delegate Rob Bell’s proposed constitu- City officials in Montgomery, Alabama are tional amendment to ban the exercise of eminent under fire for using eminent domain to system- domain solely for the purposes of economic atically seize hundreds of parcels of property. development. The Senate Privileges and Elections Despite a tightening of the state’s blight laws Committee defeated Bell’s bill, HJ 725, in a 10-5 after the Kelo decision, critics say that officials vote. The measure had already cleared the House are finding creative ways around any restriction of Delegates in a 68-31 vote. Proponents of the through local and state blight, tax, zoning and measure said a constitutional amendment would public nuisance ordinances. enact permanent protections for owners of pri- Maine State Representative Jayne Crosby vate property. Giles has introduced a bill to protect Maine A bill that would have prohibited gas pipeline businesses from unfair treatment under eminent companies working in Arkansas’ Fayetteville domain proceedings. Her proposal would base Shale Play from using eminent domain to acquire compensation on a “going concern” value when a right-of-way for feeder pipelines was defeated the state needs to acquire business properties for in a House committee. roads, bridges and other public projects. This The Mississippi House and Senate over- valuation method will take into account the full whelmingly passed separate versions of a bill value of the seized business, rather than just restricting government takeovers of private prop- the real property. LD 1207 would appoint an erty. House Bill 803 limits the state government’s ombudsman to each property owner whose busi- eminent domain power, saying it can’t be used to ness property is seized via eminent domain. buy private property to enhance tax revenues by In Connecticut, Governor M. Jodi Rell has turning property over to commercial developers. proposed the elimination of the Office of the However, Governor Haley Barbour vetoed the Ombudsman for Property Rights. The Office, bill in March 2009 on the basis that “it would established in 2006, assists both government and do more damage to job creation and economic property owners in working through eminent development than any government action since domain takings. The state is expected to save Mississippi rightfully began trying to balance

142 Reason Foundation • reason.org Annual Privatization Report 2009

agriculture with industry in 1935.” ignored until a recent court decision); and a A bill limiting eminent domain seizures in requirement that cities pay compensation when Colorado was indefinitely postponed by the state their regulations restrict the use and diminish the legislature. Senate Bill 63 would prohibit rail- value of a person’s property, except in specified road companies from condemning land through circumstances (such as public health and safety, eminent domain. It went on to propose that transportation or traffic control, pollution, etc.). because of lingering concerns left by federal law, Generally, cities are complying by restrict- in the event eminent domain was used, railroads ing their land-use regulations to the exceptions must reimburse the property owner for all attor- listed in the law. They are not taking actions like ney’s fees and other costs related to the condem- limiting building heights so as not to obstruct a nation. neighbor’s view or down-zoning to reduce per- Hawaii residents showed support for exercis- missible uses. ing eminent domain against Molokai Ranch, Initially, several cities tried to create a the island’s largest landowner for more than a loophole wide enough to drive a Mack truck century. Community leaders and over 300 activ- through. The bill allows a city to ask a property ists gathered to debate the seizure of the ranch, owner to waive Prop 207 rights in connection which accounts for 40 percent of Molokai with a building permit or variance application. Island. It makes sense that if a property owner asks the city for permission to do something, he can’t turn around and sue the city for diminution in C. Property Rights in Arizona: The value for granting the request. But some cities Sky Hasn’t Fallen forced applicants for development permits to waive Prop 207 rights for all future city regu- By Clint Bolick, Goldwater Institute lations, in essence repealing Prop 207 for the Back in 2006 when I was debating in favor of affected property owners. Because the waivers Proposition 207 (Prop 207), the Arizona Prop- run with the property, a developer could bind erty Rights Protection Act, the reaction from city thousands of future homeowners by signing a attorneys and those who feed at their trough was single Prop 207 waiver. one of absolute hysteria: if the initiative passed, The Goldwater Institute sent letters to cities they fretted, civilization as we know it would that were using the illegal letters, threatening end. Or at least municipal zoning and planning, to sue. One by one, they abandoned the illegal which, after all, is the basis of modern civiliza- waivers. Now cities spend more time figuring out tion. how to comply with the law than how to evade Nearly three years later, after Prop 207 was it. passed by a 2-1 margin among Arizona voters, At least three Prop 207 claims have been none of the doomsday predictions has come to filed: pass. Arizona cities still zone and plan. Very few n The city of Flagstaff enacted a historical lawsuits have been filed. But something else has preservation ordinance that diminished transpired: Arizona cities are (generally) behav- property values. Pacific Legal Foundation ing themselves and no longer are riding rough- is seeking compensation for the property shod over property rights. owners. Prop 207 contained two components: a prohibition against the taking through emi- n The city of Tucson passed an ordinance that nent domain of private property for the use placed severe restrictions on the ability to of another private owner (which already was demolish property. The Goldwater Institute part of the Arizona Constitution but had been represents Michael Goodman, an in-fill

Reason Foundation • reason.org 143 Annual Privatization Report 2009

developer who buys dilapidated buildings into one with which most Arizonans could and replaces them with upscale housing personally identify.

for university students. The city repealed n Unlike the Oregon law, Prop 207 is not the ordinance, but the Institute is seeking retroactive. Compensation claims for city compensation for the diminished value actions that were valid under previous law during the time when the ordinance was will almost certainly undermine public effective. support.

n Maricopa County imposed a complete n Having an effective watchdog group like moratorium on building permits on the Goldwater Institute or Pacific Legal thousands of properties surrounding Luke Foundation is essential for keeping local Air Force Base, which limited even the governments honest. Some cities will enact replacement of damaged property. The regulations even in the face of compensation Goldwater Institute filed claims on behalf of claims. But that is the point: under Prop 207, hundreds of property owners and the county it is the public generally and not individual repealed the moratorium. property owners, that will bear the financial Why did Arizona succeed in enacting the burden of land-use restrictions. nation’s most sweeping protections of private Property rights reforms can flourish, especially property rights when voters in other states have when local governments overstep the bounds of failed to do so? And why is the law effective, when constitutional limits and fair play. Sadly, local a similar law in Oregon faced enormous backlash? governments can be counted on to do just that. Three circumstances in Arizona provide lessons for The challenge for freedom advocates is to take property rights reforms in other states: advantage of local government tyranny to persuade n The campaign for Prop 207 emanated from legislators and voters that more stringent limits on the city of Mesa’s eminent domain case government power are necessary. against Randy Bailey, in which the city tried Clint Bolick is director of the Goldwater to take Bailey’s brake shop and give it to a Institute Scharf-Norton Center for hardware store that wanted to expand. The Constitutional Government and a research Bailey case was highly publicized and won widespread sympathy for property rights fellow at the Hoover Institution. reform. It transformed an abstract issue

144 Reason Foundation • reason.org Reason’s archive of privatization and government reform research and commentary is available at www.reason.org/areas/topics/privatization/

For the best bimonthly analysis of developments in outsourcing and privatization, subscribe to Privatization Watch: www.reason.org/publications/privatizationwatch/

And for regular privatization commentary, please visit Reason’s weblog, Out of Control: www.reason.org/blog Annual Privatization Report Reason Foundation 2009