When Detroit filed for Chapter 9 protection in July, it was the largest municipal bankruptcy in U.S. history. Several recent cases have hit closer to home in places such as Stockton, San Bernardino and Mammoth Lakes. A panel of experts tackled this critical issue during the Dean’s Speaker Series event presented on Oct. 24 by the Athenian Society, the USC Price School of Public Policy’s premier philanthropic organization.
“There may be no more precarious and complex topic facing cities than those standing on the brink of bankruptcy or insolvency,” said Dean Jack H. Knott, who moderated the discussion. “It’s a very serious situation. And of course, when a municipality files for bankruptcy, there are significant consequences for residents and businesses, bond markets and government employees, so it’s a difficult process and a very important one.”
The event featured four expert panelists: Steve Berliner, a law partner at Liebert Cassidy Whitmore in Los Angeles with expertise in public employee retirement benefits; Michael Busch, president of Urban Futures Inc. and financial adviser to the city of San Bernardino; Bob Deis, city manager of Stockton; and Harriet Welch, a bond attorney and partner at Squire Sanders in Los Angeles.
According to Knott, municipal bankruptcy is relatively rare with 13 filings over the past five years, 40 since the year 2000 and 600 over the entire course of U.S. history. This is largely because most states don’t permit it. When it happens, however, it has serious consequences.
The panel began with a discussion of how municipal bankruptcy differs from the more common individual or commercial varieties. All forms of bankruptcy involve entities that can’t pay their bills and, as a result, seek protection to avoid losing assets. Deis underlined some key differences: Only the city can propose an exit out of bankruptcy, the city can’t dissolve, and the judge can’t tell the city how to spend its money due to the separation of the power of the judicial and legislative branches established by the U.S. Constitution.
The panelists offered a variety of perspectives about how cities get themselves into this difficult situation.
“If someone died of heart disease, and they were heavy drinkers, ate hamburgers every day and didn’t exercise, did they die because they inherited a bad heart or did they make some choices?” Deis asked. “And my feeling is Detroit, Stockton and San Bernardino made choices. All three cities inherited certain handicaps, some challenges to overcome. But there’s a point in time where the cities should have known that they were in trouble. And that was the time to make decisions on behalf of their citizenry — and they didn’t handle that.”
He suggested that cities in bankruptcy should take a few pages from the Alcoholics Anonymous 12-step program: Admit they have a problem, conduct a fearless inventory of themselves, admit they’ve made mistakes, then make amends and fix their situations.
Of course, not all municipal bankruptcies result from decades of mismanagement and denial. Welch pointed to the case of Mammoth Lakes, which filed for bankruptcy because it couldn’t afford to pay a $43 million breach-of-contract judgment brought by a developer. She also highlighted several other factors that a city cannot necessarily dictate, such as labor contracts, pensions and other post-employment benefits.
According to Berliner, cash-strapped municipalities are ushering in a new era of austerity. The overall trend, he said, is “cutting benefits, cutting wages, but mostly, increasing the contribution to PERS [Public Employees’ Retirement System] and then changing the system going forward so anyone hired in the future will not get the same level of benefits when they ultimately retire as current employees.”
Busch explained that a city must be cash, budget and service solvent to emerge from bankruptcy. This can be a tough trifecta to strike since more than 80 percent of many municipal budgets are dedicated to providing police and fire services.
Therefore, bankruptcy ultimately forces a city to define its values and priorities — whether that’s paying a living wage to retired pensioners, maintaining a reasonable police force to ensure public safety or keeping the libraries open.
“Detroit is talking about selling its art out of the art institute,” Knott noted. “They’re talking about pension cuts and so on. These are very significant allocations of costs and benefits to different groups. So there are moral value questions around bankruptcy as well.”