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MUNICIPAL PRICE INDEX By NORMAN WALZER and CAROL RACHUS* Financing local public services continues as a major concern in many Illinois cities. In 1989, welcome relief was provided from the temporary increase in the Illinois Income Tax (approximately $340 million for cities and counties) but, in the gubernatorial campaign, renewal of this tax is under debate. Much of the current discussion about city finance involves property tax increases and expenditure growth. Even relatively small percentage property tax increases are scrutinized usually without much consideration of the impact of inflation on purchasing power. While inflation in the private sector has been relatively low in recent years, there is evidence that the impact on public sector finances is higher. In the private sector, increased inflation is expected. Since 1970, the Illinois Municipal League has financed the construction and update of a price index showing the impact of inflation on goods and services purchased by Illinois cities. Municipalities in Illinois and other states use the index to estimate the effects of inflation on revenues and expenditures. A price index depicts the costs of a marketbasket of goods and services through time and, in this case, the marketbasket is composed of goods and services most commonly purchased by Illinois municipalities. Price Index Components Because the municipal price index is constructed to depict the effect of inflation on Illinois municipalities, it is especially important that the price increase of each good or service is considered along with its relative importance in the overall city budget. To accomplish this, city expenditures are subdivided into similar groups. The largest expenditure by most cities is personal services so wages and salaries must be weighted by the proportion represented in the municipal expenditure package. Expenditure weights were constructed from expenditure patterns in Illinois municipalities larger than 25,000, excluding Chicago. These expenditures have been kept constant so that increases in the cost of the marketbasket is attributed only to price increases. The expenditure weights are constructed by department within cities and for aggregate city expenditures. The price increase for each good and service category is the other important component of the price index. Because wages and salaries are so important, detailed information for employee classifications, by department, is gathered from the Annual Municipal Compensation Survey conducted by the League. This project has been delayed this year because of computer changes so the results in the index are preliminary. They will be adjusted based on the full sample of cities at a later date. Detailed price information for purchases other than wages and salaries is obtained from the detailed Consumer Price Index and the Producer Price Index. This information is in sufficient detail to be matched with expenditure categories used by municipalities as described above. Municipal purchases vary with department causing the effects of price increases to differ. Wages and salaries differ in importance by department and wage increases vary with employee classification. These differences also determine the effects of inflation. Price Index Comparisons Two sets of price indices are presented. First is an aggregate index covering all municipal expenditures. Second is a detailed index for each major municipal department. Each has a separate use in municipal budgeting practices. a. City Index. The aggregate municipal index is compared with the Consumer Price Index and the Producer Price Index. The Consumer Price Index portrays price increases faced by an average family or single individual and includes appropriate expenditure weights for these groups. Thus, housing and food are important categories. The Producer Price Index measures markets other than retail and is weighted according to the industrial structure. Neither of these expenditure patterns is especially relevant to municipal expenditures. What is especially important for measuring the effects of inflation on city finances are wage and salary increases, which vary by city. Between 1977 and 1989, the Consumer Price Index increased 104.6 percent (Table 1). A distinct difference exists between price increases for commodities and those for services. Prices of commodities increased 81.8 percent compared with an increase of 135.5 percent for services. Because personnel are a major portion of municipal expenditures, one might expect the effect of inflation on municipalities to exceed that for commodities in the private sector. Prices for goods and services purchased by municipalities increased 5.7 percent between 1988 and 1989. Goods and services purchased by cities for $100 in 1977 would have cost $197 in 1989. This means that unless revenues have increased by a similar percentage during this period, real resources available for city services have decreased. Productivity increases may mean that the same services can be provided with fewer inputs but, since many, if not most, municipal services are labor-intensive, major cost-savings from productivity increases are unlikely. b. Departmental Indices. Three issues are important in estimating the effects of inflation on departmen- April 1990 / Illinois Municipal Review / Page 15
tal expenditures. First are variations in purchases by department. Second is the relative importance of each department in the municipal expenditure package. Thus, if a department with large price increases represents only a small portion of city expenditures, the overall impact on a city may be low. From the perspective of the affected department, however, the impact may be substantial. Third is the base from which the input costs started. This is especially important with wages and salaries. Thus, in 1977, wage and salaries for sworn personnel already were relatively high compared with other municipal employees. Therefore, pay increases will not represent as high a percentage increase as if the starting levels were is relatively low. These issues are important in a comparison of Table 2. The three major city expenditure categories are police protection, fire protection, and streets. Fortunately, the price increases for items in these departments did not increase as rapidly as in some other instances. In 1989, it cost $195.20 to purchase police related items that cost $100 in 1977. Thus, in evaluating police expenditures, it is important to recognize these price increases. If police budgets have not increased by this amount, fewer real resources for services are available. Since 1977, the greatest impact of inflation was on library expenditures, it cost $210.10 in 1989, to purchase the same items as $100 would have purchased in 1977. Price Increases of Selected Items Detailed price increases are provided for several specific items purchased by cities to provide additional information about price changes (Table 3). For example, since 1977, gasoline increased 83 percent, auto maintenance and repair increased 93.6 percent and petroleum products increased 52.3 percent. Concrete and concrete ingredients, however, were relatively stable for the past three years.
Summary Municipal management requires an understanding of real resources allocated to public services. The only way to monitor these resources is with information on the effects of inflation. The price index described in this article has been used since 1969, and provides a method of determining the extent to which real resources for public services changed during this period. While effective planning does not mean automatically budgeting inflation into city expenditures, understanding the effects of inflation can be very useful. • * Director and graduate assistant, Illinois Institute for Rural Affairs, Western Illinois University. The authors thank Poh P'ng for assistance in data tabulation and the Illinois Municipal League for financial support in updating the price index. Any statements of fact or conclusions belong solely to the authors. Page 16 / Illinois Municipal Review / April 1990 |
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