Municipal Bankruptcy
A federal judge today accepted the bankruptcy application from Stockton, California. The city had filed for Chapter 9 bankruptcy last summer, but had continued to pay in full the pensions of municipal workers and retirees. This was challenged in court by municipal bond holders, targeted for cuts by the city, who cited the principle that in bankruptcy, similar classes of creditors must be treated the same way. In his ruling, Judge Christopher Klein agreed, noting further that bankruptcy was necessary for the city to continue providing essential services: "It's apparent to me the city would not be able to perform its obligations to its citizens on fundamental public safety as well as other basic government services without the ability to have the muscle of the contract-impairing power of federal bankruptcy law".
The ruling is surely being scrutinized by other governments, notably those of the City of Detroit and the State of Michigan. After more than a year of will-he, won't-he, Michigan Governor Snyder sent in a team to review Detroit's finances which, in February, reported that, yes, a financial emergency existed in the City. The Governor then appointed an emergency manager, a move initially contested by City Council members - though not by the Mayor, Dave Bing, who had clearly recognized by this point the inevitability of such a move.
The new emergency manager, Kevyn Orr - a bankruptcy lawyer and graduate of the University of Michigan Law School, who worked on the Chrysler re-organization in 2009 - joins several other such managers of Michigan entities, including the Detroit Public Schools. He started just this past week, and though he has the authority to remove local elected officials from financial decision-making, change labor contracts, and close or privatize departments, his first step was to restore the salaries of the Mayor and Council members. He's ready to proceed quickly, though, noting when introduced by the Governor that solutions can come “as quickly as anybody is ready to make a deal".
Mr. Orr must have sensed that things are urgent, and that he will need the co-operation of Detroit's politicians, and that of many other civic and public-sector union leaders, if he expects over his 18-month term to stop, then reverse, the financial rot in Detroit. This has been decades in the making. Council President pro tem Gary Brown described, simply and bluntly, the final stage of such rot, saying: "This was bad decisions piled on top of each other. It has all been a strategy of hope. You keep borrowing where every piece of collateral is already leveraged. You have no bonding capacity - you're at junk status. You're overestimating revenues and not managing the resources. Now the chickens have come home to roost".
None of the decisions will be simple. Already, even Mr. Orr's appointment is being challenged, in U.S. District Court, where a lawsuit by various civic groups, unions and religious leaders contends that the state’s new emergency manager law is unconstitutional, violates the Voting Rights Act, and disproportionately affects the state’s black population. One wonders if Detroit - where some 700,000 residents live in a 139-square-mile city that held nearly 2 million people just a few decades ago - can be financially restored. It can't borrow (anymore) or print money (as its federal counterpart does), its tax base is eroded, it accumulated cash deficit is projected to be $100 million by June 2013, and its long-term financial obligations alone exceed $14 billion.
Good luck to Mr. Orr. If he succeeds in turning around Detroit, rather than it ending up like Stockton in Chapter 9, it will rank as the financial rescue of at least this decade. Government officials everywhere - especially in Europe - should watch intently.