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Motor City's Next Moves

Thursday, February 27, 2014

Detroit recently submitted its financial restructuring plan to court and approved a privatization deal. Here are several other proposals for turning the city around.

Detroit submitted its long-discussed financial restructuring plan to federal court last week, but conflicting laws — and the magnitude of Detroit's bankruptcy — could bring the plan before the Supreme Court, according to University of Pennsylvania Law professor David Skeel, speaking recently at the American Enterprise Institute.

The restructuring plan determined that employees will receive only one-third of their original claims for pension and health benefits, while secured bondholders will be paid in full. The question of how to pay creditors is complicated by an apparent contradiction in Michigan state law, Skeel said at the AEI panel. A federal statute enacted in 1939 enables cities to violate contracts during bankruptcy, but a 1963 state law, cited repeatedly by union advocates, states that public employees are entitled to their full pensions. Skeel said that the federal court is more likely to acknowledge the former law, because federal law trumps state law under the U.S. Constitution's supremacy clause. He also noted that the 1963 provision is not truly secured even by Michigan's constitution because the provision “was just a statement of intent” and a normal contractual obligation — meaning it is not immune from bankruptcy restructuring.

The other development last week was the city council’s approval of Detroit’s largest-ever privatization deal, for trash pick-up. It will cost the same as the previous public arrangement, but provide far more services. According to the Reason Foundation, further privatization could produce substantial savings for Detroit, including up to $130 million annually on wastewater operations alone.

AEI visiting scholar and Cornell associate professor Richard Geddes, also speaking at the panel, suggested Detroit would profit from public-private partnerships, which are preferable to public service monopolies because they give cities four advantages: exposure to better-skilled workers and companies; expanded access to capital; reduced costs through competitive bidding; and the ability to demand performance standards as conditions for hiring and contract renewal. Because the United States lags behind other advanced nations at privatization, it has missed out on these benefits, a trend especially evident in Detroit. For decades, the city’s services have been dominated by unionized public authorities, which explains Detroit’s trash-strewn sidewalks, perpetually late buses, slow-arriving police, and burned-out streetlights.

For decades, the city’s services have been dominated by unionized public authorities, which explains Detroit’s trash-strewn sidewalks, perpetually late buses, slow-arriving police, and burned-out streetlights.

AEI resident fellow and Detroit native Michael Barone’s proposal for reform was changing the city charter. Detroit's charter was written in 1918 after the state of Michigan granted cities home rule, and was seen by civic leaders as a managerial document that reflected Progressive-era ideals of good governance. The charter established nonpartisan, at-large elections, because leaders “wanted to avoid corrupt partisan politics” and “keep ward politicians out.” A charter with such centralizing effects, said Barone, worked for a while, but ultimately led to “a curiously distant city government.” This became particularly problematic in the 1970s, when Detroit's educated population began leaving, and special interests, void of any real accountability, arose in their place. Today, the boards that determine city employee retirement benefits, established by the charter in 1918, continue to be stacked with union trustees, who have demanded benefits beyond what the city can afford. Union influence also inspired a provision requiring an onerous eight-step process for privatization, helping explain why this service reform has arrived so late. The charter is rife with other provisions that encourage collective bargaining, discourage layoffs, and protect nonessential departments. Even following several revisions, most recently in 2011, many structural problems remain.

Another proposal discussed by the panel — and one central to bankruptcy negotiations — concerns city employee retirement benefits. Currently, these obligations account for half of Detroit's $18.5 billion debt and have necessitated further borrowing to address the underfunding. One proposed solution from AEI Resident Scholar Andrew G. Biggs would be for the General Retirement System's assets to be transferred to unions like the American Federation of State, County, and Municipal Employees, who represent a large percentage of city employees. That way they can invest and distribute the money as they wish, which would alleviate taxpayers of funding responsibilities and possibly let employees keep more of their pensions.

Detroit’s financial plan will move forward through the federal courts, and possibly the Supreme Court. As our nation’s other debt-ridden cities watch developments, the clearest lesson for now is that the bill will be due soon.

Scott Beyer is traveling the country writing a book on revitalizing cities. He writes at BigCitySparkplug.com.

FURTHER READING: Andrew G. Biggs explainsThe Looting of Detroit’s PensionsandCrony Capitalism vs. Public Pensions.” Steven D. Eide presentsA Lesson from the Wreckage in Detroit: Retiree Health Care Is Ripe for Reform."

Image by Dianna Ingram / Bergman Group

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