“Detroit – Money for Nothing”

by Sydney Williams P.G. Wodehouse writes deliciously humorous novels (and […]

General Motors Bankruptcy

by Sydney Williams

P.G. Wodehouse writes deliciously humorous novels (and Money for Nothing is among the better ones) that have nothing to do with the dire situation in Detroit. Yet the title of his 1928 novel seems to sum up Detroit’s predicament: the bankruptcy filing lists $18 billion in unsecured liabilities, including $5.7 billion in retiree healthcare and $3.4 billion to pensions for city employees. Hundreds of thousands of Detroit citizens have paid hundreds of millions of dollars in taxes over the past five decades.

Property and income taxes are the highest in the state, with 40% of revenues going toward retirement benefits and debt. What do the taxpayers have to show for the money shelled out? Forty percent of the street lamps don’t work, illiteracy runs at 47%, unemployment is 17.5%, two thirds of the city’s parks have been closed permanently, and it takes an hour for the police to respond to a 911 call. A third of the city has been abandoned. For taxpayers, it has been money paid out for little or nothing in return.

 How did we come to this pass? It has been a combination of factors, some self-inflicted, others beyond their control. Detroit was a car city. For decades, the American automobile industry sat fat, dumb and happy, while foreign competitors built and sold better cars – cars people wanted. For the sake of economy, plants moved to the suburbs. City residents followed the jobs, and taxes were raised on those left behind. The UAW didn’t help, but the near death of the American auto industry was more of an attempted suicide than murder. The city was in similar straights. Corruption, greed and ineptness characterized government officials. The city of Detroit hired more workers than comparable cities. Tax dollars were used to satisfy the demands of municipal workers’ unions for unrealistic pension and healthcare benefits, with little concern as to the consequences for the infrastructure of the city that went unattended. A focus on “now” meant ignoring the future.

 In Monday’s New York Times, Paul Krugman was essentially dismissive, in terms of a cause. He allowed that while governance was not up to par, “for the most part the city was just an innocent victim of market forces.” Cut from a similar political coat, but with considerably less intellectual acuity, MSNBC’s Melissa Harris offered, “This is what it looks like when government is small enough to drown in.”  While I had trouble understanding her analogy, I believe she was referring to the recent rounds of city employee layoffs. She neglected to mention that even with layoffs Detroit employs one city worker for every 55 residents. That compares to one for every 109 residents in Charlotte and one for every 101 residents in El Paso. The first city is slightly larger than Detroit, the latter a tad smaller.

 It was not capitalism that failed, as some have claimed. It was the city government. Lawrence Kudlow wrote last Friday in Investors Business Daily, “[The collapse was] proof positive that the public-union collective-bargaining model has utterly failed.” Charging people more to live in a city with fewer amenities and increasingly bad service is not a formula for success, but that is exactly what happened. When things began to go bad decades ago, taxes were raised and services cut, but not benefits or compensation. Last year, with 40% of revenues going toward retirement benefits and debt, the city father’s doubled the city’s business tax. Like an addict, they increased the dose rather than opting for rehab.

In my opinion, there is nothing complex about the cause. The city promised, borrowed and spent more than it could collect. As it raised taxes, people and businesses moved out, leaving behind those that could not afford to do so. Corruption also played a significant role, as it does in most cities. Even after cutting $250 million from its 2012-2013 budget, Detroit city managers still had $1.12 billion to spend. Public employees everywhere are subject to constant bribery proposals. Developers whisper into eager ears about land they have acquired through options. They badger them into enacting tax waivers. Banks push city managers to issue bonds, regardless of a need. Does it surprise anyone when brown paper bags change hands in parking lots? Union leaders agreed to support reelection bids in return for support of the next contract. And money is misspent. Detroit spends more on schools per pupil than the national average, yet has one of the lowest student-performance rates in the country.

What is clear is that Detroit’s revenues cannot support all expenses, including operating expenses, interest payments and benefits to retired workers, let alone investments in infrastructure. What is unclear is whether Detroit will be allowed to file. (The City of Harrisburg, Pennsylvania attempted to file Chapter 9 two years ago, but was ruled ineligible.) And if Detroit does file, it is unclear as to whether federal law or state law will prevail. Federal law prohibits insolvent debtors from discriminating unfairly among classes of creditors, while Michigan’s constitution forbids local governments from diminishing or impairing promised pension benefits. That is a question that could be decided by the Supreme Court. ($9 billion is owed to bond holders, $5.7 billion in health benefits and $3.4 billion in pension assets.) It is unclear how long Detroit would operate under Chapter 9. Orange County, California spent 18 months in bankruptcy, but Jefferson   County, Alabama, which filed in November 2011, is still in bankruptcy. It is also unclear as to whether the city could (or would) sell assets like the Coleman A. Young International Airport, Belle Isle Park, or the collections in the Detroit Institute of Arts. Will Washington intercede? So far, they have claimed they will not.

The first thing the city must do is defend its right to declare bankruptcy. Kevyn Orr, Detroit’s emergency manager, was hired by Governor Rick Snyder last March. As such, he represents Detroit’s 700,000 citizens, but he is a bankruptcy lawyer by background, not a public servant. (He represented Chrysler in 2009.) He must prove that Detroit is insolvent and that he has negotiated extensively to reach a resolution with creditors, including the pension and healthcare boards and with bond holders. When the city’s pension boards threatened a lawsuit to prevent a bankruptcy filing, the consequence was a mad dash to the courthouse.

Bankruptcy is not pleasant, but it can be necessary. It must be seen as an opportunity, a chance to start over, to eliminate waste and to set a forward-looking agenda. It lets one be forgiven of one’s debt. Most important, it is an acknowledgement that the rights of taxpayers, who have been skewered by city managers, supercede those of city employees and bond holders. The bankruptcy of Detroit, the largest U.S. city to declare bankruptcy also sends the message that size does not immunize bad behavior – a mistake that was made with Dodd-Frank, which has allowed banks-too-big-to-fail to get even bigger.

But, by itself, bankruptcy does nothing to reform government, nor will it revitalize the city. It cannot reduce unemployment, bring down the crime rate or reverse depopulation. But in giving the city the chance to reset, it allows taxpayers to elect officials who will focus on growing the economy – lowering taxes, instituting a tax-free enterprise zone, adhering to the rule of law, endorsing proposals like James Q. Wilson’s “broken window” to help clean up neighborhoods, and aggressively prosecuting miscreants, including those in public office. Mayors’ like Rudolph Giuliani in New York, Stephen Goldsmith in Indianapolis and, more recently, Cory Booker in Newark have shown that cities can be changed for the better, when they concentrate on ridding their city of organized crime, improving schools, sending welfare recipients back to work and improving public services.

A positive aspect of bankruptcy is that it should force markets to price bonds more realistically. It should cause unions to understand what is sacrosanct and what is not, and what is affordable and what is not. It should send a message to city managers that there are not infinite buckets of money available to squander on meaningless projects. It should send a message to public employees that they serve at the whim of the electorate. And it should cause taxpayers to take elections more seriously, in terms of whom they elect and what projects they are willing to fund, and to toss out of office those who persistently violate their trust. (It should not be lost on voters that during his twenty years in office, Mayor Coleman Alexander Young, for whom the airport is named, saw the population decline by 50%, unemployment double and poverty rate increase by 75%, yet was reelected Detroit’s mayor in four landslides. We get what we deserve when we vote!) Detroit’s plight should send a message to other cities like St. Louis, Cleveland and Philadelphia. It is a message that should not be lost in State Capitals, like Sacramento, Albany and Hartford, which have abused their roles as fiduciaries. Most importantly, the message of Detroit is a lesson for Washington, where money is treated as a renewable resource. What happened in Detroit can happen anywhere.

Wodehouse’s novels always end happily. It is possible that Detroit, like the Phoenix, could rise from the ashes that are a consequence of five decades of mismanagement and corruption. It is possible, but it will take a cultural, as well as an economic, renaissance. It may not be probable, but it is possible. The future will tell.

“The thought of the day” by Sydney Williams 


The views expressed on austriancenter.com are not necessarily those of the Austrian Economics Center.

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