With All These Savings, We Will Soon Be Broke

Unlike the private sector, government accounting is unaccountable. Governments are free to toss out ridiculous figures without an audit or criticism – Pres. Obama’s stimuli have saved 3 million jobs, please. One way governments claim to save money is through creative financing that would be illegal in the private sector. One recent example is the Denver bus system’s claim that it has saved $1.9 bln on a future train to the local airport. This savings is huge, considering the project’s budget is $2.3 bln. Nobody in the press questioned the improbability of such amazing savings or how the simple math could add up so favorably. In reality, RTD, Denver’s transit system, pulled a fast one by effectively taking out an illegal loan and raising taxes to pay for its airport train.

A little background on RTD’s train lust: RTD has always wanted to build a local train system for metro Denver, and voters rejected a series of tax measures to do so. In 2004, RTD finally succeeded in doubling the transit sales tax to fund an ambitious train system, including a link to the airport. Considering the fact that RTD had tried this several times in the past, one might assume that the budget was in place and that the tax increase would be sufficient. Oh naive ones, no. There was no budget or schedule, only empty promises. RTD eventually disclosed that they needed about twice as much money as they had initially told the voters. RTD wrestled with asking for a further 50% tax increase, but due to the recession and voter sentiment, they backed down. The solution, it turned out is a popular financing trick called the Public Private Partnership, or P3, which allows for off balance sheet financing of large construction projects.

While financiers like to parse deals to attract investors and sometimes hide risk, there is always a simple underlying truth. The reality of the airport train is that it will cost billions of dollars up front and passenger revenues cannot be collected until the work is done. Voters authorized a sales tax increase, along with eventual ticket sales, to pay for this project. No financial engineering can change the fact that this project needs about twice as much money as it has. The only solutions are to either delay construction or issue debt.

Enter the P3 concept. RTD partnered with a team of private contractors and train operators to reduce its upfront costs. This partnership will get the operating and tax revenues for most of the life of the train in exchange for building and operating it. Since the train is a money loser, RTD will pay the partnership $2.3 bln for taking on the liability. RTD will also allow the partnership to issue tax advantaged bonds to pay for the construction of the train. So, everyone is happy?

Everyone shouldn’t be happy because there are unanswered questions. Why didn’t RTD just issue its own bonds and save the middle man cost of a P3? Such muni bonds require the vote of the people, and public sentiment is generally against more government debt, so RTD went around the law and likely will of the people with the P3 concept. RTD has effectively entered into off balance sheet financing that, due to its lengthy term, violates the accounting rules a private company would have to follow. While the debt goes on the balance sheet of the private partners, the ultimate risk is still carried by the taxpayers, a financial sleight of hand that is often illegal under the Sarbanes Oxley law. Further, tax advantaged bonds like the one for the airport train siphon capital from the private sector because only the government can give investors a pass on income taxes. Further still, RTD has not stated who will set the train fares to and from the airport. Currently the bus to the airport is five times more expensive than a regular bus ride, and the P3′s train certainly won’t lower the fare.

Because RTD is the government, it makes its own rules. RTD engages in lease financing that would be illegal in the private sector. RTD skirts the law by issuing bonds without a vote of the people. RTD uses the power of the government to pay a lower coupon on its debt at the expense of regular bond issuers. Many of these sleights of hand that the Denver press lauded were tried ten years ago, by Enron. Former Enron CEO Jeff Skilling must be frustrated that had he done such things for the government, he would be a hero today instead of a federal prisoner.