At the onset of the pandemic, S&P Global Economics predicted a difficult period for major U.S. cities, featuring a precipitous drop in tax collections on consumer spending, coupled with a surge in unemployment. Although much of this bleak forecast was realized, the challenges were mostly temporary, followed by a much stronger rebound than anticipated, largely due to federal support.

Major U.S. cities demonstrated remarkable rating stability due to several factors. First, the CARES Act, coupled with FEMA reimbursement, was mostly sufficient in covering immediate costs associated with fighting the virus. Further, many cities were able to use excess revenue to cover already budgeted expenditures and prevent a reduction in services. Second, multiple rounds of direct payments to individuals and families bolstered consumer spending and accompanying tax revenue. Third, multiple rounds of federal support for schools alleviated pressure on local districts and state governments that support them, creating an environment of stability across the sector. Finally, the American Rescue Plan (ARP) provided $350 billion in direct aid to state and local governments to be received over two years, greatly stabilized the sector and providing a lifeline to U.S. cities.

COVID-19-induced lockdowns for health and safety considerations resulted in unemployment peaks in April and May 2020 in most areas. Since then, like the U.S. as a whole, unemployment rates in most major cities have fallen precipitously, although rates are still higher than pre-pandemic levels. U.S. GDP reached its pre-crisis peak in the second quarter, and we expect that it will climb to its pre-crisis growth trajectory in the third quarter of this year. Our forecasts of real GDP growth for 2021 and 2022 are 6.7% and 3.7%, respectively. (See S&P Global Ratings' most recent forecast, "Economic Outlook U.S. Q3 2021: Sun, Sun, Sun, Here It Comes," published June 24, 2021, on RatingsDirect.) Should the national economy continue its recovery at this rapid pace, it will provide stability for local government issuers, including large cities.

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Revenue Declines Were Smaller Than Originally Feared; Fund Balances Were Mostly Maintained

In our view, cities that entered the recession with weak liquidity and reserves or with a high amount of economically sensitive revenue were particularly vulnerable. However, unbudgeted COVID-19 expenditures were mostly covered by federal dollars and revenue loss was less than initially projected. Property taxes were remarkably stable, and in many cases, increased at a strong pace, particularly given robust demand for housing. Revenue shortfalls were mixed across our selected 10 cities, but overall, most have rebounded to pre-pandemic levels. Still, certain sectors and associated revenue streams are expected to be pressured for some time, namely leisure and hospitality revenue and enterprise revenue tied to convention centers and arenas.

Table 1

Management Teams Plus Federal Stimulus Ensured Credit Stability

Management and governance proved critical in maintaining credit quality by carefully managing COVID-19-related revenue and expenditures, monitoring internal liquidity, and accessing external sources. The cities in this article all enjoy proactive management teams focused on both current and future pressures. We note all the cities responded quickly to an unprecedented situation by making necessary budgetary adjustments, most of which, when coupled with federal support, have proven sufficient in preventing credit deterioration. We expect some issuers will use the one-time stimulus dollars to plug holes created by the pandemic; others will use the money to accelerate projects and programs. How the dollars end up being used could have an effect on future credit quality. Ratings could be pressured for those cities that create a fiscal cliff by using federal revenue for new recurring expenditures.

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What We're Watching: The Delta Variant, Changing Work/School Patterns, And The Desirability Of Downtown Cores

According to S&P Global Economics, despite the jump in COVID-19 cases tied to the delta variant, the pace of U.S. economic activity remains high. Even with a virus resurgence, we expect revenue to remain strong and that these major cities will continue to navigate the pandemic successfully. However, given uneven vaccination rates and divergent public policy responses, we are likely to see varying degrees of recovery. Additionally, we expect to see notable pressure on hotel/motel tax revenue, reduced business travel, and a limit on large gatherings--all of which will affect revenue and could create longer term pressure for some.

Large cities will also have to navigate changing work and school commuting patterns, which could pressure downtown core commercial and retail areas and this "new normal" could also pressure the tax base of some cities, especially those with a high concentration of commercial property. Finally, we will also be watching the recent trend of an uptick in violent crime which could hamper the recovery of city centers. Despite these ongoing challenges, risk of recession and the inevitable revenue decline that follows remains low at a 10% to 15% chance over the next 12 months. Further, the increased likelihood of more federal support through a large infrastructure package could free up budgets that, in some cases, are consumed by fixed costs and deferred maintenance, not to mention the added economic benefits resulting in higher tax revenue.

The following information serves as a follow-up to "COVID-19: A Closer Look At How It Affects 10 Major U.S. Cities," published April 2, 2020, on RatingsDirect.

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Ten Cities Facing The COVID-19 Pandemic

New York City (AA/Stable)

New York City, the epicenter at the onset of the pandemic, initially managed the fiscal stress from revenue loss thanks to expenditure reductions and federal stimulus through the CARES Act. As COVID-19 cases declined and the easing of social restrictions gave way to improved activity levels through summer and fall 2020, the spike in the winter and the emergence of variants led to renewed economic restrictions. When combined with uncertainty over additional federal stimulus and the vaccination rollout, we revised the outlook to negative in December 2020.

However, with the city's successful vaccination progress, receipt of over $15 billion in federal stimulus funding through the ARP, and an improved revenue forecast for fiscal years 2021 and 2022, we revised the outlook back to stable in May 2021. The outlook revision reflected greater clarity regarding the city's credit trajectory, including:

• Nearly 10.2 million vaccination doses administered and over 4.6 million residents fully inoculated as of Aug. 10, 2021, that, in combination with a recovery in domestic tourism, spurred a faster labor market recovery;
• Reserves maintained at higher levels than previously anticipated through elimination of the $1.6 billion draw on the Retiree Health Benefits Trust Fund in fiscal 2021 and establishment of a dedicated rainy day fund with a $493 million deposit in fiscal 2021 and $500 million planned deposit in fiscal 2022;
• Improved year-over-year sales tax collections that are more than $330 million, or nearly 10% higher than the prior-year six-month period (January through June);
• Balanced fiscal 2022 adopted budget that totals $98.7 billion and includes reasonable budget gaps as a percentage of revenue in fiscal years 2023 to 2025, which remain lower (nominally and as a percentage of revenue) than following the Great Recession and subsequent financial crisis.

The city programmed the ARP funding into its June financial plan through fiscal 2024 and will allocate a large portion to one-time expenditures, including: temporary personnel positions dedicated to cleaning up the city and removing graffiti and trash, education services to assist students with learning loss experienced during the pandemic, and replacing public safety expenditures in fiscal 2021 to reduce operating costs.

Los Angeles (AA/Stable)

Los Angeles has, at times, also been the epicenter of the COVID-19 pandemic. However, with significant vaccination rates, relatively low infections, the removal of most social distancing orders, and substantial ARP funding, its fiscal 2022 budget has restored most of the cuts from fiscal 2021. Beginning in fiscal 2020, Los Angeles reduced its fund balance by $141 million due to the revenue shortfalls from pandemic-related closures and travel restrictions. The city began fiscal 2021 with optimistic budget assumptions that the social distancing orders would be lifted after just a month and that revenue would rapidly return to pre-pandemic levels. However, revenue declined rapidly. The city negotiated with unions to delay wage increases, implemented a hiring moratorium, and reduced city services. However, these reductions would still have necessitated the use of reserve funds and commercial paper (CP) for working capital without the receipt of the first $639.5 million installment of ARP funds and an additional $125 million from the earlier COVID-19 Federal Relief Act.

Los Angeles' current projections for fiscal 2022 include the second installment of ARP funds and a rebound in several receipt categories that were weakened by the COVID-19 pandemic, which are in part offset by rising disbursements as the city restores positions and services that were previously expected to be frozen or curtailed and funds programs to mitigate the effects of the pandemic. Notably, the current forecast for fiscal 2021 does not include the reserve drawdowns and use of CP for working capital that were previously anticipated because the city received the first installment of ARP funds in May 2021; however, under the current projection for fiscal 2022, ongoing expenditures exceed ongoing revenue by about $132.5 million.

Chicago (BBB+/Negative)

Chicago was working to achieve structural balance as the pandemic began, a particular challenge given that it needed to absorb sharp increases in pension funding contributions over a short ramp-up period. Our view of the increased challenges the pandemic created for Chicago to regain structural balance prompted our revising the outlook to negative in April 2020. We affirmed our rating with the negative outlook in June 2021, considering the hurdles the city faces in recovering from the pandemic, as well as its pension ramp-up period to 2022. Chicago was aided significantly by federal stimulus, but the effects of the pandemic pushed out its long road to achieving structural balance by one year to 2023, indicating continued vulnerability to changing economic conditions. We will be watching to see what kind of effect, if any, the delta variant has on the city's post-COVID-19 recovery.

Chicago started its 2021 budget process with estimated 2020 COVID-19-related revenue losses of $886 million (approximately 20% of the general fund budget) and without knowing if additional federal stimulus would be provided. The city made $88 million in operating cuts to help close the 2020 budget gap, but decided to maintain its reserve position and close the remaining $798 million shortfall using $350 million in CARES Act funds and $500 million in short-term notes to be taken out in 2021. If additional federal stimulus had not been forthcoming, it planned to take out the $500 million in notes with a "scoop-and-toss" refinancing to free up space in the budget. Instead, Chicago intends to use a portion of its nearly $1.8 billion ARP allocation to make up for revenue shortfalls in other areas and take out notes with funds on hand. This will leave the city with approximately $1.2 billion in ARP dollars to deploy as part of the 2022 budget. It reports year-to-date 2021 revenues are ahead of budget and expenditures are on track. For fiscal 2022, the city announced an initial budget gap of $733 million.

Chicago's pension funding levels and funding discipline are a critical part of the rating. Early pandemic concerns of a volatile market in 2020 bringing catastrophe to pension fund earnings were not realized and the city's projections indicate all four funds (Police, Firm, Municipal, and Laborers) saw returns greater than 10%. As of Dec. 31, 2019, its pensions had a combined funded ratio of only 23.2% and a combined net pension liability of $31.8 billion. When they reach full actuarially based statutory payments of $2.25 billion in 2022, this amount will be $928 million more than the city's contributions in 2019. Even with such a sizable contribution increase, it will still only keep the city on pace to fund 90% of the liability in 40 years. Given the very low funding levels of the four plans, it is imperative that the city maintain its funding discipline even as required contributions grow; a backward move would likely lead to swift deterioration of its credit profile.

Houston (AA/Stable)

Houston received a little more than $400 million in federal Corona Virus Relief Fund support in 2020. Most of the funding went into direct support of public health expenses, but also supported payroll for public health and safety employees as well as economic support, including vulnerable population assistance. Since March 1, 2020, the projected revenue loss for the city's general fund due to COVID-19 ranges between $160 million and $200 million, which includes losses in sales tax collections, mixed beverage taxes, and parking revenue.

At fiscal year-end 2020, the city's unassigned general fund balance totaled $316.2 million, or a strong 12.3% of adjusted expenditures when calculating transfers out of the fund. As of June 30, 2021, the controller's office is projecting an ending fund balance of $261 million for fiscal 2021. This is $2 million lower than the projection of the finance department. The difference is due to a $2 million lower revenue projection from the latter. Based on the city's current projections, the fund balance will be $107 million above its target of holding 7.5% of total expenditures (excluding debt service and pay-as-you-go) in reserve.

Anticipated revenue decline due to the COVID-19 pandemic as well as the existing property tax revenue cap combine to create a roughly $200 million budget shortfall for 2022. However, Houston is anticipated to receive over $600 million in historic ARP funding in fiscal years 2021 and 2022, which should help alleviate near-term budget gaps and one-time expenditures. The city has received funding through FEMA related to damage caused by Hurricane Harvey, which struck Texas in 2017. Yet, Harris County and Houston recently requested roughly $1.3 billion in federal aid through the Department of Housing and Urban Development related to Hurricane Harvey yet were not named in the first round of funding by the federal government.

The city reports that the metro area lost 350,200 jobs in March and April 2021, but has since recouped roughly 60% of those losses. Generally, the regional economy and key economic metrics remain stable, including regional population growth, demand for housing, and market value growth. We anticipate continued strengthening of key economic metrics which, with fiscal aid, should support near- to medium-term credit stability.

Phoenix (AA+/Stable)

Phoenix relies on economically sensitive revenue but it braced itself for potential reductions in fiscal years 2020 and 2021. In response, the city implemented hiring and spending freezes and delayed some of its planned capital projects. However, in fiscal 2020, its total governmental revenue increased over the 2019 levels, including its local sales and franchise taxes (36% of total governmental revenue) due in part to strong growth in retail sales and construction-related activities, which offset the decline in excise taxes for restaurants and bars. Further, as a result of the relatively rapid pace of growth within Phoenix and the state as a whole, the city's state-shared revenue trend has remained positive through fiscal 2021, including vehicle license fees, sales taxes, and income taxes (combined 21% of total governmental revenue).

For fiscal 2021, the city adopted a balanced operating budget and developed various scenarios for its revenue forecasts for fiscal 2021 and beyond, ranging from 0.7% to 5.9% declines, each of which it has outperformed to date despite the duration of the pandemic outlasting several of its more optimistic projections. Based on the most recent estimates for fiscal 2021, most the city's primary operating revenue streams have increased over the fiscal 2020 level, aside from various user fees and miscellaneous revenue. The fiscal 2021 estimates are further enhanced by a favorable variance in operating expenditures due to conservative budgeting and the use of Coronavirus Relief Fund dollars to offset permitted public safety salaries. The adopted budget for fiscal 2022 is structurally balanced and reflects continued revenue growth for the upcoming fiscal year. The city is budgeting for additional pandemic-related expenditures for ongoing COVID-19 relief and resiliency, including IT upgrades across several departments, continued funding of its Emergency Food Assistance Program, and continued contracting for expert medical and public health consultation.

Phoenix's multiyear forecasts incorporate moderate and severe recessionary scenarios to insulate against future uncertainty, with projections ranging from modest drawdowns to modest surpluses through fiscal 2025. We note, however, that current projections exclude future federal stimulus. The city was allocated approximately $396 million in federal stimulus through the ARP, a large portion of which it intends to invest in the community through small business assistance and underserved populations. Looking ahead, we are monitoring how the city's primary revenue continues to recover and how it navigates potential growth-related pressures and rising pension costs.

Boston (AAA/Stable)

Boston entered the pandemic and recession well-positioned to mitigate potential budgetary effects. It relies on a stable revenue mix, with property taxes consistently accounting for about two-thirds of audited general fund revenue. While the collection rate declined slightly in fiscal 2020--from 99.3% to 98.8%--the city's primary revenue source remained predictable. Entering fiscal 2021, it cut $65 million from the proposed fiscal 2021 budget. This primarily reflected an approximately 45% reduction in budgeted excise tax revenue, including hotel room occupancy and meals taxes, and aircraft fuel and vehicle rental surcharges related to Logan Airport. The city also budgeted for a potential reduction in state aid, which consistently accounts for about 16% of audited general fund revenue; we understand it now expects to receive state aid consistent with fiscal 2020.

Of note, the school department is accounted for in the city's general fund and is its chief expenditure, with education accounting for more than one-third of operating costs. Boston had additional procurement costs for supplemental instructional materials related to distance learning, but costs were offset by savings from school building closures. The city was able to absorb additional costs into the school operating budget, with supplemental support from its new Boston Resiliency Fund.

The entirety of the city's debt is general obligation (GO), with all revenue sources available for debt service payments. It maintains a very strong liquidity profile, with high cash balances. While the city had some personnel turnover related to now former-Mayor Marty Walsh's departure, we believe it will maintain its very strong financial management environment under new Mayor Janey due to significant and well-embedded planning and coordination. We expect the city to maintain its current credit profile.

Miami (AA-/Negative)

Miami's budget may be affected due to the uncertainty regarding the extent of the pandemic while it contends with rising fixed costs. We affirmed our 'AA-' rating on the city and extended the negative outlook in April 2020. During fiscal 2020, its operating fund balance declined by $3.4 million, reducing reserves to about $86.4 million, or 11% of recurring expenditures, which is a little bit stronger than original estimates at $82 million, or about 10.5%. The city's fiscal 2020 primary operating revenue consisted of property taxes (51%), franchise and other taxes (15%), charges for services (14%), licenses and permits (9%), and intergovernmental revenue (8%). Its operating and debt service millage rate was reduced to 7.99 mills from 8.03 mills to provide property tax relief for homeowners, business owners, and renters. The city's operating revenue fell about $33.3 million below the final budget, with the largest variances in intergovernmental revenue (Miami Parking Authority, half-cent sales tax, and municipal revenue-sharing revenue) and charges for services due to the pandemic. General fund operating expenditures decreased $32.2 million lower than the final 2020 budget, despite a $13.4 million increase in public safety expenses due to agreed-on wage increases because of restrictive purchasing and budgeting measures implemented in response to the pandemic. Any purchases greater than $50,000 and hiring of critical positions had to be reviewed and approved by a committee.

Through April 2021, the fiscal 2021 budget is staying relatively on track, with total revenue nearly 9% above budget and expenditures slightly more than 9% above budget, resulting in a negative net result of $5 million for the operating fund. Franchise and other taxes, fines and forfeitures, and investment earnings are currently performing below budget. The budget did not include wage or step increases during 2021 and incorporated some job eliminations. The long-term financial plan published in the 2021 budget includes revised general fund revenue growth forecast to 12.5% for fiscal years 2022-2025, whereas general fund expenditures are projected to grow 15.9% during the same time frame. This forecast highlights a budget gap and projections for use of reserves starting in 2022 that worsens through 2025. While we believe the assumptions for revenue growth are reasonable and align with our recent economic forecasts, some uncertainty persists as to how much flexibility there is in the budget to contend with rising fixed costs given the near-term bargaining unit renegotiations and the seasonal need for fungible resources as we enter into hurricane season (typically June-November).

In addition, the city's fiscal 2020 combined pension and other postemployment benefit (OPEB) carrying costs are elevated at 12.5% of the governmental budget and are anticipated to increase in the near term. We are watching the rate of tax base growth, which was decelerating ahead of the pandemic, employment base recovery (particularly for the tourism sector) and shifts in demographic trends (temporary and permanent) due to changes in international and domestic migration. Also, we are monitoring the city's ability to remain structurally balanced following the receipt and allocation of $139.05 million in ARP funds despite fiscal constraints apparent ahead of the pandemic reflecting rising fixed costs and near-term collective bargaining agreement renegotiations. Finally, maintenance of sufficient reserves and flexibility in the budget to contend with chronic contingencies associated with environmental risks (such as sea-level rise and hurricanes) is critical to maintaining credit quality.

Philadelphia (A/Stable)

Philadelphia's rating outlook was revised to stable from positive, reflecting the decreased likelihood of upward rating movement given the economic effects of the shutdowns and projected revenue losses. During the tail end of fiscal 2020 (June 30) and throughout fiscal 2021, the city sustained steep declines in revenue. Pennsylvania does not tax unemployment benefits, so the city's largest general fund revenue source, wage and earnings taxes (33% of general fund revenue), was hit harder relative to income taxes in states where increased unemployment benefits buoyed revenue. As a result, the city's 2020 general fund balance fell to $290 million (5.8% of expenditures) on a budgetary basis.

In fiscal 2021, revenue was down 4.5% relative to 2020, reflecting a full year's effect of the pandemic. The city was able to reduce expenditures by 2% by deploying some one-time fixes, including deferrals of capital projects and the restructuring of debt. Still, given the revenue loss, it is projecting a $212 million (4.3%) draw on reserves, bringing the general fund balance down to just $78.7 million (1.7%). Despite the decline in reserves in 2021, we are projecting credit stability due to strong federal support, and we anticipate that the city will be able to rebuild its reserves over the next several years. Philadelphia is allocated to receive $1.4 billion of ARP funding, of which it received $700 million in May 2021. It plans to use the funds to fill projected revenue shortfalls in fiscal years 2021 through 2025, allowing it to maintain its service levels and target new investments. The city is proposing a drawdown schedule by which it would use $25.8 million in fiscal 2021, followed by $575 million, $425 million, $250 million, and then $149 million in 2021 through 2025, respectively. Reserves are anticipated to improve modestly over the city's five-year forecast, but only if Philadelphia does not have to tap into its budgeted reopening and recession reserve will it make real headway improving its reserve levels. If it does not use the reopening and recession reserve, fund balance would increase to over 3% in 2022 and just over its target of 6% by the end of 2025.

Over the long term, we believe that challenges remain for the city as it has grappled with improving pension funding levels and addressing its pockets of poverty. If its economic recovery is slower than currently anticipated or changes in commuter behavior result in a longer-term drag on city revenue, we could see downward rating pressure. The city's ability to navigate through this period while maintaining pension funding discipline and sufficient operational flexibility are key to supporting the current rating.

San Francisco (AAA/Negative)

San Francisco saw lodging prices fall by more than half and asking rents by about one-quarter in 2020 as the pandemic scared away business and leisure travelers and remote work policies made many prospective new residents think twice about moving into expensive apartments. This cratered fiscal 2021 lodging tax revenue, which made up 5% of fiscal 2020 general fund revenue. Likewise, state data show that sales tax revenue distributions fell by substantial 34% and 39% rates in the fourth quarter of 2020 and first quarter of 2021, respectively, which contrasted with the state's nominal decrease and subsequent 5% decline during the same periods. But with sales tax revenue making up a modest (by state standards) 3% of fiscal 2020 revenue and a recent voter-approved change to the city and county's tax structure bolstering business tax revenue (15% of fiscal 2020 general fund revenue), the fate of property tax revenue, which made up 38% of fiscal 2020 general fund revenue, remains key to understanding the city and county's budgetary picture. This source tends to be resilient during recessions and, due to ever-rising prices of owner-occupied housing and office building property values that are bolstered by multiyear leases, the city's total assessed value (AV) rose by 4% for fiscal 2022. We think this provides the city and county some budgetary upside in the intermediate term, as its recently adopted fiscal 2022 budget assumed essentially flat AV.

San Francisco was able to rescind most of its public health controls with confidence in June 2021 due to a high vaccination rate. Hotel rates and rents have generally increased during the past six months and restaurants are welcoming customers, especially outdoors. Employers have started to invite office employees back to their workplaces in the second half of the year, but we think the recent resurgence in COVID-19 cases nationwide has probably pushed into 2022 a substantial refilling of offices. It will also delay the kind of business travel recovery that we think likely would be a precondition for hotel tax revenue to fully recover. The uncertainty of the slope of the revenue recovery underlies our weak assessment of the city and county's budgetary performance, but we think that ARP grants equivalent to about 11% of expenditures in fiscal years 2021 and 2022 have significantly lessened the severity of budgetary tradeoffs.

Seattle (AAA/Stable)

Seattle's long-term economic strengths may have been reinforced by the pandemic. Now dominant in online retail and cloud computing, locally-headquartered Amazon anticipates continuing to grow its office-based staff within the city and we see signs that market and government policy changes in the past year have increased demand for the products and services associated with the IT and life science industries, who have a strong presence there. Like its metropolitan coastal peers, Seattle's owner-occupied residential property prices have continued to climb amid low inventory, although residential rents, particularly in the city center, softened in the latter half of 2020 before starting to recover. Metropolitan Seattle's vaccination rate has been above the nation's and we think that the city's urban core is well-positioned to recover as a sales and lodging tax revenue engine now that the state has lifted most of its public health controls since the end of June 2021. This reflects our view that local conditions are likely consistent with national data showing accumulated savings among households with highly compensated workers over the past year as the latter stayed home and from signs that leisure travel is starting to pick up again. However, it may also take time for the local leisure and hospitality industry to ramp up hiring in a region with a high cost of housing, while a resurgence in COVID-19 cases spurred Amazon to push back its headquarters' reopening to January 2022.

Revenue diversity in the city's general fund, with the largest component, property tax revenue (22% of general fund revenue in 2020) generally resilient during periods of weak economic performance, was not sufficient to avoid a 6% overall loss in revenue in 2020, but we see the city's budgetary performance as strong due, in part, to the adoption of a tax on highly compensated employees taking effect in 2021. Management estimates that the tax will generate the equivalent of 13% of expenditures and put it on the path to filling up its rainy day funds by 2024. Coupled with ARP grants coming in at the equivalent of 7% of expenditures for 2021 and 2022, we anticipate that the city will maintain very strong budgetary flexibility even if the economic recovery is slow.

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All ratings are current at the time of publication. We will review all GO ratings on the included cities individually and could revise the rating and/or outlook on a case-by-case basis. S&P Global Ratings will continue to publish on local government credit as conditions change and in response to market interest.