Stephen Goldsmith talks about government innovation and fiscal crisis

According to the old adage, necessity is the mother of invention. But you’d never know it, looking at the way state governments, including our own, are reacting to their current budget crises. To be sure, two of the methods government officials across the country are using to close budget gaps are the result of innovation. One has its roots in past fiscal crises: the “rainy day” reserve funds that states stockpiled during the go-go years of the 1990s, with Massachusetts amassing, and now burning through, one of the largest. The other–the national tobacco settlement–lies in another breakthrough: the discovery by state attorneys general (again, Massachusetts was among the early converts) of the virtues of product-liability lawsuits, at least against the right defendants. But beyond those two sources of fiscal balm, state officials, here and elsewhere, have found themselves stuck on the horns of a traditional deficit dilemma: raise taxes or cut services.

To an extent, this political Hobson’s choice–the only option less appealing is doing both at once; just ask any survivor of the 1989-90 fiscal meltdown–is unavoidable. When the revenue stream starts to dry up, there is an immediate need to go after more dollars or curtail operations, meaning, for the most part, service cutbacks. But it would also seem that after a period of expansion with no need for hard choices, thanks to a robust economy that kept state coffers overflowing, there might be efficiencies to be found (we won’t say fat) in the way the state does what it does. In other words, doesn’t a budget crisis seem like a good time for reinventing government?

To find out, I turned to one of the most acclaimed government innovators in the country. In the 1990s, Stephen Goldsmith made headlines for his reforms as mayor of Indianapolis, the nation’s 12th largest city. In two terms in office, from 1992 to 1999, the Republican rationalized the city’s personnel system, making it possible to hire for competence and reward for performance, and created a so-called “popular” budget, which detailed city spending in layman’s terms.

But his most notable achievement came in the realm of making government services more cost-effective through vigorous competition. The Competition and Costing program broke down municipal services–ranging from street repair to vehicle fleet maintenance to wastewater treatment–in ways that they could be put out to bid. But rather than simply farming out the work to private vendors, the administration encouraged city agencies–and their public-employee unions–to bid on the work, allowing them to restructure staffing and procedures to be competitive. (Indeed, in the pothole-filling competition, union workers won 80 percent of the bids.) In recommending his approach to the beleaguered post-September 11 city of New York, in a New York Times op-ed in December, Goldsmith stressed that “the aim is not to privatize the work for the sake of privatization, but to serve the public better with existing resources.” The Indianapolis program, which won an Innovations in American Government award from Harvard’s Kennedy School and the Ford Foundation in 1995, was credited with reducing Indianapolis’s annual operating expenses by $26 million, or 5 percent, and reducing the number of non-public safety municipal employees by 33 percent.

Since leaving office, Goldsmith, 55, has made government innovation his profession in other ways. He is now senior vice president of ACS, a Dallas-based information-technology and business-process outsourcing firm, for which he works on e-government and other initiatives. And, since last fall, he has been professor of public administration at the Kennedy School, where he is now faculty director of the program that once honored him, Innovations in American Government.

Though Goldsmith divides his time between Cambridge and Washington, DC, I found him easier to track down in the nation’s capital than in Harvard Square. When I asked him whether a budget crisis isn’t the perfect time to find ways to make state government more efficient, he said it was a good time to start the process of innovation, but maybe not to finish it. What follows is an edited transcript of our conversation by phone.

CommonWealth: Our situation in state government is this: A relatively mild national recession has produced a budget crisis for states pretty much coast to coast. Forty of the 50 states are now projecting budget shortfalls for the current fiscal year that total $40 billion. For many, including Massachusetts, 2003 is looking as bad if not worse. As states scramble to close their budget deficits, solutions are being looked for in four main areas: draining “rainy day” reserve funds; cashing in on the national tobacco settlement; budget cuts in direct services to needy constituents; and tax increases, mostly in so-called sin taxes such as cigarette and gaming revenues, or suspensions of promised tax cuts. I have been looking in vain for examples around the country of real attempts to do more–or even the same–with less. Shouldn’t a budget crisis be enough to prompt government to be re-thinking how it does business?

Goldsmith: Well, let me answer your question generally, without specifically commenting on any state, including Massachusetts. Particularly at the city level, in the early ’90s, there were a substantial number of efficiency initiatives. Those included outsourcing, business-process reorganization, public-private partnerships, downsizing, and others. Then, when the economy got hot, it was a good time for cities and states. Although those processes continued, they lacked much of the intensity that occurred when times were tougher. Your question would suggest, appropriately, that we now have a similar environment to that which occurred in the late ’80s and early ’90s, and what will that lead to? I do think it is an appropriate time to ask this [other] question, which is: How can we creatively become more efficient in a way that helps us match revenues and expenses? Yet there hasn’t been a dramatic increase in that across the country. There has been some incrementally increased activity, but not a dramatic increase.

CommonWealth: But is a crisis the best time for innovation? Does innovation happen out of necessity–that is, when times are tough and government is in a panic? Or does it happen when things are going all right and government leaders have the time and the space to try out different things without feeling that they’re putting the state’s solvency at risk? It seems that the things you did in Indianapolis–that you and the city won an Innovations in American Government Award for in 1995–took a while to get everybody on board. Certainly that was true for getting the city employee unions involved in your cost-cutting efforts, in competing with private sector firms for government work. I’m finding it hard to see how that could happen in the context of a budget panic the likes of which we are going through now.

Goldsmith: You know, Ed Rendell, then mayor of Philadelphia, and I appeared on a panel once at Columbia University and the students asked which was a tougher place to re-engineer and infuse with efficiency initiatives, Indianapolis or Philadelphia? I said, well, Philadelphia is a much more difficult place. It’s more confrontational and had some additional labor issues. And Ed said, no, it was Indianapolis. I said, well, it can’t be Indianapolis. He said, well, look, we both did this at the same time. Indianapolis was relatively successful [at the time]. Philadelphia was essentially on fire, almost literally, and so we had no choice. So he said, I think it is easier to innovate in those circumstances. Now, I actually think that the answer is a mixture, to this extent: The conditions are ripe for change when there is a crisis. But the best time for permanent reform is when you have the ability to be thoughtful about it and deliberate. Therefore, I think that maybe the best answer is that states use this time to begin the process of structural reform, [while they make use of] rainy day funds and reduc[ing] expenditures to bridge the gap,…because you can’t save money fast enough when you begin [efficiency initiatives] in the middle of the crisis. So the answer is somewhere in between.

“Conditions are ripe for change when there is a crisis”

CommonWealth: One of the things that I see as a striking contrast between the current state fiscal crisis and the last one we went through in Massachusetts in the late ’80s and early ’90s was that 10 years ago there were ideas in the wind. There were ideas for reducing government spending or making government more efficient–ideas like the privatization of government services, outsourcing, competition, that sort of thing. Welfare reform was very much on the agenda. Managed care was all the rage in the health care industry and people were talking about bringing that to bear on state Medicaid programs. Now, some of those ideas were more popular than others but they were all on the agenda, getting discussed and being up for consideration. A good many of them got tried, some here in Massachusetts, some more in other areas of the country. But I don’t hear the same number of ideas about what government could be doing differently than it is being tossed around today.

Goldsmith: There are two issues here. One is, what should government be doing? And the second is, once something is recognized to be a public responsibility, what is the most efficient way to deliver those services? There is no one, dramatic, state-level initiative rippling across the country. There are people in every state looking at tough decisions about saving money, how to reform, how to make Medicaid work better. There is a lot of activity on the pharmacy-benefit side, although every small step there is laden with political land mines. So there are a number of mid-sized or smaller initiatives but none that is widespread and no one of which would come close to solving the budget gap in many of these states. Massachusetts is obviously not alone. The size of the deficit in other states, percentage-wise, is every bit as bad or worse in some others. There is no simple solution, I don’t think.

CommonWealth: Of these, as you call them, mid-sized ideas that are kicking around, are there any that catch your fancy, any that you think are deserving of a closer look by other states?

Goldsmith: Well, there are efforts to make sure that the federal government pays what it is supposed to pay. Massachusetts has been a leader in this, actually, for some number of years. Let me reflect a little bit on that question, maybe get back to you on which ones stand out. [In an e-mail follow-up, Goldsmith noted that “there is innovative activity everywhere, but there is no one jurisdiction that is really ahead of the pack…. The one state that is very, very creative in personnel practices, outsourcing (state human resources activities), and welfare-to-work is Florida, with Gov. Jeb Bush.” Goldsmith also added that e-government will provide opportunities for “a great deal of re-engineering and cost saving…, but the savings will be over time.”]

CommonWealth: One that was the core of what you did in Indianapolis, the competition and privatization of services‹

Goldsmith: Can’t do it in Massachusetts.

CommonWealth: –well, it played out very differently here in Massachusetts than it did for you.

Goldsmith: [In Massachusetts] we have one of the strangest–that’s unfair. We have one of the most difficult state legal environments, I think, in the country [with regard to privatization and competition]. What is the name of that law?

CommonWealth: The Pacheco law.

Goldsmith: Yes, very unusual.

CommonWealth: It is very unusual but it was very much a product of an extremely confrontational debate over privatization here, both in terms of the proponents and those who fought against it. Here, the proposals for privatization really made no provision for the bidding on government services by existing government agencies or the unions. The goal of privatization was straight-out replacement of public-employee services, straight outsourcing. And contracting out was portrayed, with some justification, as a kind of patronage for politically connected firms in the private sector, as opposed to the patronage of government jobs. As a result, we ended up with the Pacheco law, which its defenders still say only requires that privatization provide real savings and real efficiencies, not just savings from replacing well-paid state employees with poorly paid private employees. But folks in state government say the law has the much more severe effect of making it virtually impossible to privatize anything. As a result, they say, the door to a whole realm of government innovation, introducing competition and putting the power of the market to work at streamlining state government, has been shut tight.

Goldsmith: Well, I think the unfortunate part about that…is it has the tendency to punish not just the taxpayers but the employees. And I mean it in this sense. We are having attrition rates in most governments that exceed the rate of even robust outsourcings. The baby boom retirement hitting state and federal government is significant over the next five years. So, if you had a flexible pool inside government and a way that the union employees could participate in bidding, there would not be a need to lay off large numbers of employees [even if some government services were shifted to outside vendors]. It would be necessary to be able to have flexibility in moving those employees to other important state jobs. Often what states do when they outsource is outsource not the high-end work but the low-end work–low-end in terms of salary. If you have the opportunity to reconfigure your work force, …those who are still there, their work is actually more meaningful. They have more discretion, etc. So, the Massachusetts state law, I would maintain–and not all would agree with me–but I would maintain [that it] not only restricts the flexibility of the governor, it actually, in the long run, restricts the work fulfillment of the employees. You know, the Harvard award for innovation that Indianapolis received was awarded jointly to the city and its labor unions. It didn’t just go to the management. It went to the management and the unions.

CommonWealth: Right. We tried to follow up on this privatization story last year (“For Privatization, the Devil is in the Details‹and Politics,” Summer ’01) and found that not only was the privatization option pretty well shut off but nobody, including the Republican Swift administration, really seemed eager to open up that discussion again, for political and personal reasons I find easy enough to understand. I mean, nobody wants to go back to such an old wound and reopen it. Nonetheless, I wonder if it wouldn’t make sense to open up the dialogue again with, as you say, an eye toward long-term structural reforms, but in a context of fiscal crisis that once again reminds people what’s at stake in government efficiency.

Goldsmith: Well, it would be nice to find a situation where the union leadership and the management were both progressive–you know, sometimes it is one, sometimes it is the other, and sometimes it is both–and would approach this as a good time to rethink the structure and the relationship because [privatization] has been generally perceived in Massachusetts as being kind of a zero-sum game, somebody loses, somebody wins. That would change the political dynamic, I think.

CommonWealth: One thing you brought up has to do with the matter of government employees retiring in the coming years. One of the first measures taken here in Massachusetts when the budget situation started to go south was to introduce incentives, in fact, for state employees to retire early. And an early retirement program has undeniable attractions in comparison to layoffs. It softens the blow. It makes job losses at least in part voluntary and keeps the layoff ax from falling exclusively on state government’s newest blood. But it also strikes me as a particularly passive approach to government streamlining. When employees decide on their own who leaves and who stays, that’s not the same thing as government setting priorities about what should happen and what shouldn’t. Then, inevitably, some high-ranking government managers–department heads, etc.–take the buyout and they have to be replaced anyway. We are not going to go without a commissioner of the welfare department [Department of Transitional Assistance] because she takes early retirement. So there is really very little money to be saved there. Shouldn’t public managers be setting priorities and cutting staff in accordance with those priorities, rather than leaving it up to this kind of voluntary process?

Goldsmith: Well, predictably, I am not going to choose between those two. I think it is helpful to take a broader view, and in that broader view to determine which areas of government are going to grow and which areas of government are going to shrink. One way of producing value in rationalizing your work force is to encourage early-outs but, as your question suggests, that could just be a mechanism for flexibility in arriving at a larger and more strategic conclusion. So I would view it not as the end. The end is not just offer[ing] cash-outs and having reductions by the coincidence of where those people leave from but to view that as one additional way to provide room for change. So think about it this way: You have some outsourcings you want to do; you have committed public workers you want to protect. How do you make the two match? Well, you look at what private vendors would take the public employees, what public employees want to retire early, what public employees might want to change jobs, whether it is public jobs or private jobs. Then you have an inventory of open jobs and you have these outsourcing opportunities. It gives you the flexibility to make things work. So I view them all as components of a strategic downsizing solution.

CommonWealth: Gov. Swift released her latest approach to the budget problem recently, and one of her key messages, as debate of the fiscal ’03 budget begins, is a plea to the Legislature to give her and her managers more flexibility and authority to manage the budget for the best result, rather than lawmakers micro-managing the budget through extensive line items that very much tie public managers’ hands in terms of how they spend their money, refraining from earmarking portions of those line items that dictate very specific funding for pet programs of various legislators. As I listen to it, it all makes perfect sense, but what’s missing, often, in those pleas is an argument that goes like this: If we had the flexibility, this is how we’d be able to do more with less. Here is how that flexibility would allow us to reduce expenditures, and do so not at the expense of those who depend on state government for direct services. Do we–and legislators–have the right to expect more of a rationale for believing that managerial flexibility would make possible a better state-government outcome or should the Legislature take her at her word?

Goldsmith: Well, I am not an expert on Massachusetts, although I have had some opportunity to be with the governor and appreciate her approach. I come from the executive branch of government–mayors, governors–not the legislative branch of government, so my answer is probably predictable. I think the legislative branch ought to set priorities through its appropriation process, …and they ought to insist that there be performance measurements in place so they know what they are getting for their money. But I do believe the Legislature should allow the executive branch to manage. Hold them responsible for results but don’t tell them how to manage. So I would favor a system where as much flexibility in input and production methods as possible goes to the governor and that the legislative branch holds the executive branch responsible for output. Obviously, legislatures fight with their governors, including obviously Massachusetts’s reluctance to pass some things the governors ask for, and it is always helpful for the executive branch to explain what it would do with that authority. But some of these things are quite difficult to do and I think they are better done in the executive branch than in a legislative hearing.

“The Legislature should allow the executive branch to manage.”

CommonWealth: One area is looming particularly large in this budget crisis, as it was in the one of the early ’90s, and that is health care. With health care budgets rising regularly 10 to 15 percent a year, cuts in other so-called discretionary funding–in human services, local aid, and education–become almost inevitable when the revenues start to slow down. In Massachusetts, Medicaid has once again become a budget buster, at the same time that community hospitals and nursing homes are being driven to the brink of bankruptcy by Medicaid’s low rates of payment. Nationally, governors are calling on the federal government to assume more of the Medicaid cost burden, but so far that call has gone unheeded. Is there any innovative answer to the medical-inflation conundrum for state governments?

Goldsmith: Well, I don’t think anybody has found it–how’s that [for an answer]? I’ve traveled around the country a little bit and watched isolated initiatives. We’ve gone from managed care initiatives to integrated service delivery. We have looked at ways to reduce waste, fraud, and abuse, which often tend to be as much about bureaucratic red tape as waste, fraud, and abuse. So the deficits are enormous. I am not an expert on Medicaid but I have watched enough states now to know that everyone is groping for a creative answer, especially this year. The issue that I think the governors are facing is how much they can reduce [Medicaid spending] without directly harming beneficiaries. I don’t know if anybody has that quite right. You do have a fair amount of activity on the prescription-drug side but no clear results about what is best. So I am going to pass on that one. That’s out of my league.

CommonWealth: Well, let me ask one that should be straight down the middle for you, and take advantage of your experience as a mayor in order to give some advice to municipal officials in Massachusetts. When there is a state budget crisis, a local budget crisis is always sure to follow, and municipal officials in Massachusetts are girding themselves for a tough 2003. Last month, the mayors of the major cities here called on the state to completely undo the income-tax rollback–approved here by voters in 2000 and now halfway through its three-year phase-in–in order to avoid cuts in local aid. What advice do you have for municipal leaders in confronting their potential budget problems other than simply going to Beacon Hill to lobby for more money?

Goldsmith: Which is kind of traditional in most states. First, let me answer a question you didn’t ask. One way for the state to get the best benefit for the money it does distribute to cities is to distribute it with maximum flexibility and let the cities decide the priorities. Because any time the state dictates how dollars will be spent it’s not allowing maximum value for those dollars at the local level. Second, there is an enormous amount of money in many cities and towns in terms of wastewater and water, privatemanagement contracts–very big transactions in areas that are generally municipally owned, not necessarily selling the asset but management contracts. IT [information technology] outsourcing–there are some opportunities at the local level. Most cities and many states haven’t maximized even their collection systems. I don’t mean just in terms of the routine management of receivables but creatively looking at the universe of what is owed to them, not raising taxes, even just more equitable collection of what is out there [in taxes and fees owed]. Federal reimbursements: The states are generally pretty good at federal reimbursements for health costs and other [costs], but often cities aren’t. So there are a number of tools that cities can use to increase their revenues, decrease their expenses, and increase their efficiency. To some extent, it is almost easier at the city level. Mayors tend to have a little more–I think control is a fair word. They are a little better able to manage big, bold, quick changes than a state because of the size [difference].

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CommonWealth: Have we learned anything about government outsourcing–I certainly hope we have–in the last 10 years? As I said, we had a bloody battle in Massachusetts that ended in being able to do very little outsourcing of anything that government is already doing. If we were to do it again today, would we know a lot more about how to get the best bang for the buck–and also how to make this kind of change fairly?

Goldsmith: Yes, because outsourcing is not a panacea. It’s just one tool, and some things should be outsourced and some shouldn’t and inherent in this is that you’re buying performance. You are setting high levels as it relates to value. You are not looking to privatize, you’re looking to create competition. Government’s responsibility is to make sure that its citizens are protected fairly and equitably, that private and public vendors have the opportunity to compete, and that it is a fair and even playing field. I think we know a lot about what can work and what can’t and how to run those systems much better than we did before.