I fear that I’m perseverating on Detroit. Of all of the editorials and columns I’ve read on Detroit’s woes, I think I like this one from the Philadelphia Inquirer best:
KICKING the can down the road – delaying action on the hard problem – is one time-honored political strategy. Why do something today when you can wait until you are safely re-elected, or even longer? The bankruptcy of Detroit is proof of the flaw in that strategy. And the lesson we can learn from Detroit, says Jennifer Bradley, of the Brookings Institution, is that “any place that thinks it can kick the can down the road will find the road can drop off abruptly.” Certainly not all of Detroit’s problems were of its own making. It had no hand in the collapse of the auto industry and the flight of one million of its residents to the suburbs. But, successive city administrations did have a hand in letting property-tax delinquencies pile up. And they did have a hand in letting its pension plan roll up huge deficits. And city fathers did engage in the bad habit of floating bonds to pay budget deficits without ever changing the bad habits that led to those deficits in the first place. Detroit’s city leaders kicked the can down the road again and again and again. Until there was no more road.
That rings true to me. I don’t think Detroit’s problems are due to the perils of socialism or the malice of labor unions. I think that in the final analysis they’re as simple as refusing to deal with your problems and, indeed, not having the incentives to do so.
Meanwhile, can anybody think of a solution for Detroit’s problems that doesn’t include massive state and/or federal aid and re-writing Detroit’s municipal employees’ pension benefits packages? I can’t. Detroit has both near term and long term problems and economic growth, while necessary, is a solution to Detroit’s long term problems as well as being terribly unlikely. It’s short term problems will remain.
I continue to advocate keeping our attention on the people rather than the city. Do we need to sacrifice a city every once in a while to encourage the others? That’s a sad thought.
Update
Steven Malanga lays out the details of Detroit’s financial problems. He concludes:
The real message of Detroit may be that some state and local governments seem incapable of dealing with the cost of their retirement benefits, even when it becomes apparent they are unsustainable, until the government is virtually insolvent. By then, taxpayers, government workers and bondholders are all losers.
I am curious how many city pensioners have city addresses. It may be deeply cynical, but helping out-of-city pensioners does not really help the city.
Federal court rules state court cannot act to bar bankruptcy proceedings. State court proceedings stayed.
For me the only surprise in this is that it took the federal bankruptcy judge so long.
I think the bankruptcy judge said something to the effect that there is not a lot of law on the topic, which either means the creditor’s position was crazy or possibly it could mean there is not a lot of law on this topic.
It will be interesting, can the bankruptcy create new revenue streams that weren’t otherwise available (such as sale of parks and art or speedy foreclosures on 47% of property-owners not paying property taxes)?
Will the constitutional protections for pensions be deemed illusory for want of an income-stream to pay them and reduced as part of a grand bargain with the bond market?
Does the state or federal government have any incentive to pledge any support until after bankruptcy? Since Michigan cannot file bankruptcy does it have an incentive to shift financial burdens to the cities, which can?
Well, as you know, PD, the court’s powers in equity are practically unlimited. The court could order the sale of assets, declare contracts null and void, order an increase in taxes, or any number of other remedies.
I think that’s generally true, but I in the municipal bankruptcy context where there are state sovereignty concerns, I believe the bankruptcy code requires the municipality to propose those things.
If I remember the maxims of equity, equity aids the vigilant. If the state does not elect to exercise its sovereignty, the court probably won’t do it for it. It seems to me that, as you suggest above, the state has incentives to maintain a low profile.
As to the city, it’s hard for me to see what remedies the city might propose short of canceling its contracts that would solve its problems.
How much you guys and gals want to bet state and municipal bondholders start taking a more careful look at the credit agreements? Some were crammed down to unsecured status ala the GM model. The cost of government capital just went up. Taxpayers hosed Part II.
And selling off assets? Can you say parking meters or the Skyway?
PS –
I wonder how many of those fond of govt and oh-so-critical of securitization in the private sector realize that government securitization of tolls or parking fees is really the same thing. (Don’t answer, I know the answer)
And I would love to compare the projections at sale vs subsequent reality. heh. They might even attain the status of “liars loans.”
“Kicking the can down the road,” is the opening salvo to most problems — whether they are in the public, private or personal sector of peoples’ lives. But I disagree that there is no connecting link to the problems, like Detroit is now experiencing, to “the perils of socialism or the malice of labor unions.”
IMO, economies grow and thrive under the auspices of the private sector, versus the bulky weight of socialistic bureaucracies, where individual incentives and stalwart oversight are muted, while corruption, unwisely using other people’s money, is encouraged. It becomes an ever so subtle lose/lose environment, with people moving out of these eroding metropolitan areas, taking with them the very revenues that are needed to support a toxic government, managed by near-sighted politicians engaged in mainly promoting their own self-interests.
Even though Detroit is currently the poster child of government failure, there are many other cities, around the country, on the road to the very same fate as Detroit. Even here in California, where a shell game of hiding debt has produced a temporary balanced budget, such debt remains unfunded and our tenuous fiscal basics unsteady. In a recent local housing industry newsletter the following analysis was offered about the state of our state, under the guidance of our current super democratic majority legislature in CA:
I doubt the public was much interested in Detroit’s budget either, or in considering how fair or sustainable were the Union wages or pension demands. Most people just tune these things out until the crisis personally hits them, and by then it’s usually too late. That’s why socialism and unreal pensions go hand in hand with the political actions of ‘kicking the can down the road.’
I’ve been browsing through the City of Detroit Proposal for Creditors (pdf)
One of the key assumptions is that if the city continues to shrink, it will not be able to get a fresh start, so they want to spend money to improve the infrastructure (particularly the electrical grid), eliminate urban blight, and improve police protection. They also want to lower taxes, pointing out that suburbs with twice the per capita income are paying half the per capita taxes as Detroit.
That seems to be where the difficulty will be. If you are just a creditor, you want to maximize your return and move on. And by creditor, I mean bondholders and pension beneficiaries.
(Also of interest, proposal is to dump healthcare benefits and put everybody on exchanges or Medicare)
One of the biggest problems if not the biggest problems facing local government is healthcare expenses. In Cook County, for example, fiscal problems would largely disappear if healthcare costs stopped growing or only grew at the non-healthcare rate of inflation. In many state and local governments revenues are, in fact, increasing but they’re not increasing as fast as healthcare costs are and those costs eat up an enormous proportion of their budgets.
One of the reasons I was so upset over the ACA’s “solution” to our healthcare system problems. It solves a problem that’s easier to solve with low costs while increasing costs.
Apparently about ten years ago, Detroit tried to increase co-payments and deductibles, and require higher contributions for monthly healthcare premiums for its retired police/fire employees. The city had to give them back as a result of a class action lawsuit for violating the collective bargaining agreement. That judgment is responsible for over 40% of retiree health and life insurance benefit costs.
I don’t think the unions are primarily to blame for Detroit’s problems, but if you think its all about kicking the can down the road, then unions are big impediments to the type of gradual adjustments that would involve a little pain spread over time. There are a lot of component’s to the city’s restructuring plan that involve conforming union jobs to private employee expectations in terms of compensation, benefits and work rules.
” It solves a problem that’s easier to solve with low costs ”
Low costs is easy? No one has managed to address costs in a fragmented system like we have.
OT- What does this do to PE firms? Will it really make a difference if they are taxed like everyone else?
http://taxvox.taxpolicycenter.org/2013/07/25/court-of-appeals-finds-a-trade-or-business-could-this-mean-higher-taxes-for-private-equity/
Steve
No but solving our healthcare problems without lowering costs is impossible.
Off-topic Dave, but I was curious as to your thoughts on Holder’s letter to the Russians promising we wouldn’t torture and kill Snowden?
I think it’s a fairly feeble attempt to get on the good side of Russian public opinion. The reason it’s feeble is that what Putin gains by not being seen as knuckling under to the United States far outweighs whatever he’d gain by not being seen as surrendering Snowden over to the U. S. to be executed (capital punishment has been suspended in Russia for the last 15 years.
From a practical standpoint Snowden is very unlikely to face the death penalty here anyway. It’s been 60 years since the last U. S. execution that didn’t involve homicide—the Rosenbergs back in 1953 for treason. IMO the political cost to President Obama and the Democrats more generally from executing Snowden would be gargantuan.
steve
The topic is much broader and complex than the little excerpt you linked.
Many tax exempt LP’s will now have to rethink their allocations to PE (at precisely the (wrong) time when their portfolio return assumptions are wildly overestimated. That’s just dumb public policy and a win for the ideologues.
Second, the very debate on tax treatment of management fees and carried interest revolves around active vs passive management, with those desiring OI treatment declaring the activity passive, the very opposite of the court ruling, based upon different considerations.
As I say, its a long topic, but just remember, all management fee income IS taxed at OI rates………”just like everybody else.” Its the capital gain based portion that some want to characterize as resultant of passive investment. As I say, a stance at odds with the court ruling and at odds with all capital gains tax treatment in any enterprise.
If I was a cynic I’d wonder if growth, tax optimization, employment optimization or any other good public policy result was the desire of the critics, or just jealousy based “tax the bastards” for the same reason people rob banks.
PS –
D-F is the more important culprit in taking down PE activity.