I work for Moody's Investment Service, and we do credit ratings. Credit ratings play a very narrow role in the financial marketplace. They help to set pricing in the financial marketplace. Our role in this is kind of a narrow middleman role, yet our ratings seem to reverberate quite loudly throughout the general media as they are often viewed as sort of a Good Housekeeping seal of approval, even though that's really not our function.

We are independent. Our job is to do financial and credit analysis. We are a private company, we are for profit. And our ratings only have value to the extent investors in the financial marketplace view them as being accurate and independent barometers of credit risk.

Just this week, the Dow for the first time crossed 11,000. This is being used as a kind of barometer of the economy recovering... Similarly New York City's economy has recovered since September 11 and the bursting of those stock market bubbles and finds itself in pretty good financial condition right now.

Above Average Credit Rating

In recognition of this in April we raised the city's rating to A1, which is generally viewed as a slightly above average rating. At A1, the city's rating is the highest it's been in our history of rating the city, which is probably about 60 years. It reflects the fact that, in our view, the city has recovered from September 11, which is arguably one of the most severe stress tests ever applied to any municipality around the country, until Hurricane Katrina in the Gulf Coast. New York City's economy recovered as a result of external forces nationally and internationally and as the result of good internal management. A lot of hard decisions were made by this administration, in terms of taxes and spending, to do the things that were necessary to restore budget balance.

When we do credit risk, the calculus that we look at can get quite complicated, but it boils down to something very simple, which is: When you set your priorities -- when elected officials decide what's important -- they raise enough money to pay for what they want to spend. To the extent they do, you're in balance. To the extent they don't, you run deficits.

Relying On The Financial Services Industry

The equation of course gets much more complicated because these growth rates are not always in sync. They are driven by different forces. And of course, in New York City, perhaps the most significant force they are driven by is the financial services industry. Though New York City is by no means a one-industry town, the financial services industry's direct and indirect effects disproportionately drive the city's finances. And the financial services industry can be highly volatile. New York City is a far better place for the fact that the financial services industry has chosen New York City as its home and remains here. But with that comes attendant risks for budget management and for fiscal policy. That risk is simply that the city must recognize the inherent volatility that its primary revenue driver creates and build buffers around that. It must also adopt conservative views in revenue forecasting and budget management generally --more so than other cities or other states around the country.

Now is the time to do this. The city's finances are in good shape, and it's a good time to build some of these buffers.

Challenges

Notwithstanding the city's very strong financial performance, it is important to note the city hasn't really fully recovered in all respects. Jobs remain about 200,000 below the peak, which occurred back in 2000.

And the city does face some significant out-year budget gaps, as well as some challenges that are not fully reflected in those gaps. One, of course, is the Campaign For Fiscal Equity [school funding] lawsuit, which for better or worse has been pegged at a cost of $5.6 billion. At this point there is no determination about how that is going to be paid for. The state -- the governor -- has indicated that in his view the city should pick up about 30 percent of that cost, which would be $1.8 billion. That's not factored into any of those out-year budget gaps at this point.

One other looming factor out there is another accounting change. It is the requirement to account for the accrued liability for retiree healthcare. It's going to be a very, very significant cost to New York City. That reporting requirement begins in fiscal 2008. That's still a little way off but it's going to require the city to set aside more money to fund that liability, which is a rapidly growing one.

To sum up: The city's finances are in good shape. There are significant challenges out there, and there is not as much money out there to fund all the desires as many of the interest groups would like. The city is probably going to continue to be in a tight budget mode despite the revenue surge it's going through and it probably would be prudent of the city to try to set aside more of these moneys as buffers because we have learned the hard way over the last 20 years that the financial services industry, which is the revenue bread and butter of this city, is prone to some pretty dramatic swings. Recovering from those swings can be very painful.

Robert Kurtter is senior vice president of Moody's Investors Service

Next: Preserving the Economic Growth, by Kathryn Wylde