Opinion: Berkeley should only fund infrastructure projects that have a higher return than their borrowing costs.

Just because interest rates are low doesn’t mean Berkeley should borrow $100M for T1. The city should only fund projects that have a higher return than its borrowing costs.

By Robert Krumme

Robert Krumme is a structural engineer and researcher specializing in seismic design, founder of the award-winning Seismic Technical Advisory Panel, and former member of various Berkeley commissions including the Public Works Commission.

George Orwell famously said that there are some ideas so silly that only academics will believe them. Listening to the arguments for the $100 million T1 bond measure, now we apparently must promote Berkeley politicians to the august status of academics. Or perhaps it is not that the Berkeley politicians actually believe their arguments on T1 spending but rather that they are more cynical than their academic brethren and thus there is no need that they actually believe their arguments. Only the simulation of belief is necessary to get the money flowing.

One specific argument that recurs constantly in City Council deliberations on T1 spending is the idea that we must act now to issue bonds because money is cheap – that is bond interest rates are low. Of course, this is a common argument heard almost every hour on TV and radio, advanced by mortgage brokers and car salesmen. Act now before rates rise or you will be sorry. It plays on both anxiety and greed and is thus quite effective in many areas. But usually, there is a reason that the salesman wants you to concentrate on the shiny object in front of you and to act before he takes it away.

Essentially the proposition here is that low-interest rates make all the massive infrastructure needs of the City a good investment. Act now and quickly or you will lose the opportunity to fix Berkeley’s crumbling infrastructure. Perhaps the City should step back and apply a deeper and more nearly correct economic analysis. A formal capital investment analysis would at a minimum comprise the following basic steps:

  • Develop a complete inventory of the capital investment needs of the City looking at least ten years into the future. In constructing this inventory it is particularly important to distinguish between true capital investments and projects that are actually operating costs tarted up to look like capital investments. For example, repaving streets, while expensive, is an operating program and not a capital investment.
  • Rank these capital investment projects on various criteria, the most important criterion being the discounted rate of return on the capital investment.
  • Develop a long term (term should match the life cycle of the longest capital project in the inventory) financial plan which would include an assessment of all funding options General Obligation bonds, revenue bonds, COPs, sinking funds, private/public partnerships, etc. Additionally and very importantly the financial plan must include an estimate of other funding demands the City faces. For example, in addition to the hot topic of the $800 million of unfunded infrastructure needs, there is the small matter of the $1.4 billion of unfunded pension and healthcare looming over the City.
  • Finally, using the best financial and management science tools, produce an integrated financial plan based on the above information on both funding demands and funding costs.

Of course, there are a few obstacles to adopting this approach to financial planning, including:

  1. The City lacks the basic financial analysis and management tools to actually execute a disciplined approach to capital investment budgeting/planning. Specifically, the City lacks a separate capital budgeting tool. It also lacks any facility for design review of capital investment proposals. Indeed, the present system for developing capital programs consists essentially of a totally opaque city staff dictating capital programs investment while the impotent and feckless public commissions pretend to have a say in the process. The result is that what should be capital investment is diverted to funding operating costs with a few capital projects thrown in to satisfy the political needs of the Council and the commissions.
  2. The political culture of Berkeley has destroyed the concept of civil society investing in true community welfare. The feeding frenzy over the relatively trivial amount of T1 funding (relative to the true capital and unfunded liabilities faced by the City) has set every special interest group against every other special interest group. Public Works is fighting Parks and Waterfront. Transportation is fighting Environment and Energy. North Berkeley Senior Center advocates fight all the rest. Each part of the elephant has its advocate and its claim to be the whole or at least the most important part.

So what is to be done?

Here are my suggestions:

  1. Set up an Independent Financial Advisory Panel based on the enormously successful Berkeley Seismic Advisory Panel. Write me if you really want an in-depth explanation of what this means.
  2. Reject adolescent arguments like that low-interest rates mean we should borrow immediately. Instead, say we should borrow based on a well-developed plan and only for projects the have a higher return than our borrowing costs. After all, would you trust a broker who said “hey interest rates are low and Bernie Madoff needs more money”

But do not hold your breath awaiting a change – after all “Yay money is cheap” is a seductive ad.