/ 26 July 2013

Detroit’s wheels come off

Haunted economy: Business in the debt-ridden city of Detroit
Haunted economy: Business in the debt-ridden city of Detroit

Sinking under huge debts and decades of mismanagement, Detroit formally filed for bankruptcy on July 18, becoming the biggest United States city ever to take such a drastic measure.

Kevyn Orr, Detroit’s emergency manager, took the decision after failing to broker a deal between the city’s bondholders and its pension funds.

The filing sets a new record for municipal bankruptcies and dwarfs the previous record filings by Jefferson County in Alabama and Stockton in California. No other city of Detroit’s size has ever gone bust.

It began a fraught legal battle to establish whether the city is eligible for chapter 9 bankruptcy protection for its $18.5-billion debts and liabilities.

In a letter posted with the filing, Michigan governor Richard Snyder said it was “clear that the financial emergency in Detroit cannot be successfully addressed outside of such a filing, and it is the only reasonable alternative that is available”.

The governor painted a picture of a city in collapse. Citizens wait 58 minutes for the police to respond to calls, compared with a national average of 11 minutes.

Unemployment rate nearly tripled
Only a third of ambulances were in service in the first quarter of 2013. There are about 78 000 abandoned buildings in the city. The unemployment rate had nearly tripled since 2000 and the homicide rate was at its highest level in 40 years.

Detroit is unable to meet its most basic obligations to its residents, let alone its creditors.

Orr had set out a restructuring plan in June for the city, which has been plagued by corruption and plummeting revenues for years. But pension groups and bondholders balked at the terms.

This week, pension funds objecting to Orr’s plan sued to stop him from making the move.

At a press conference in Detroit, Orr said the city’s debts were claiming 38 cents on every $1 it received in revenue. That figure would rise to 65c by 2017.

Matt Fabian, the managing director of bond expert Municipal Market Advisors, said the filing had been widely anticipated.

“Detroit’s story has been terrible for 50 years. This is just the latest terrible thing to happen.”

Bankruptcy not an easy path
He said bankruptcy would allow Orr to renegotiate government contracts and other broad powers to impose draconian cost cuts. But he warned bankruptcy was not an easy path.

“This will make it hard for the city to conduct day-to-day business. It will drain a lot of time, it could put people off moving businesses to Detroit and it could last for years,” he said.

Other major cities have teetered on the edge of bankruptcy, including New York in 1975, Cleveland in 1978 and Philadelphia in 1991. But all brokered deals rather than face the dire consequences of going bust.

“Detroit has severe difficulties, but this would be an extraordinary event,” said James Spiotto, a chapter 9 expert and head of the bankruptcy unit at Chicago’s Chapman & Cutler.

If the filing was approved, Detroit’s cost of borrowing would soar and the city would struggle to raise cash, Spiotto warned. Meanwhile, officials would spend years battling in court over who was owed what.

“Chapter 9 is time-consuming, expensive and uncertain,” Spiotto said.

Narrowing options
Orr has said bankruptcy was not his preferred option. But as talks foundered, his options narrowed.

His original plan was to slash benefits to retirees, including pensions and healthcare, and cut already minimal services to the bone.

Police and firefighters who retire before the age of 55, for example, would get no healthcare under one proposal. Bondholders would have received cents for every dollar in debt they hold.

Even after years of decline, Detroit remains the US’s 18th most populous city. The city’s finances may have hit an all-time low but its business is bouncing back.

The car firms that made the city are back in rude health and downtown Detroit is being revitalised by new businesses.

But for Detroit’s poor, bankruptcy is likely to make life even harder in the short term. About 60% of Detroit’s children live in poverty.

Orr had planned to bus creditors to some of the city’s poorest areas so they could see what was at stake.

“If they can see what it’s like for Detroiters, what they endure every day in this city, I think they’ll begin to understand what’s at stake,” Orr told the Detroit Free Press.

The tour was cancelled as bankers became worried about the PR impact of the captains of finance touring the city’s poorest neighbourhoods. — © Guardian News & Media 2013