The Bankruptcy of Detroit

Detroit, the largest city in the state of Michigan, is also popularly known as “Motown”, the “Motor City”, and “The D”.   Starting out as a settlement along the river in 1701, it is one of the midwest’s oldest cities.  There is some very bitter irony to be seen in the fact that the city was initially founded as a fort by French explorer Antoine de la Mothe Cadillac, who, nine years later, was removed from his position as outpost commander due to “ill conduct” (which meant the lining of his own pockets). But it is said that history often repeats itself, and in the case of the city of Detroit, this is certainly true.  Once a prosperous and growing automobile manufacturing center that also became famous for its own “Motown” music, Detroit became the largest city in the U.S. ever to file for Chapter 9 bankruptcy on July 18, 2013.  After decades of neglect, mismanagement and corrupt leadership, the city had accumulated over eighteen billion dollars worth of debt. 

The failure of the auto companies

Detroit is not known for its diversified economy.  Most of the good jobs in the city have involved the manufacture of automobiles, and the good wages and benefits that came with those were won by unions during the 1930’s and 40’s.  But as the value of the dollar went down and the price of petroleum went up, there was competition on the market from the Japanese and the Europeans, who produced smaller, more fuel-efficient and more affordable cars. 

But this is not the only reason for the failure of Detroit’s auto companies and the loss of its manufacturing jobs.  In 1994, the North American Free Trade Agreement (NAFTA) was signed, with the goal of creating more jobs for the US economy.  However, it didn’t work out that way, either for the U.S., or for Detroit.  A report by Economic Policy Institute economist Robert Scott, entitled, “Heading South:  U.S.-Mexico trade and job displacement after NAFTA”, states that an estimated 682,900 U.S. jobs have been “lost or displaced” as a result of the agreement. The 2010 U.S. Census data noted that Michigan lost 48% of all of its manufacturing jobs from 2000 to 2010.  The majority of those jobs were undoubtedly in or very near Detroit.

Decreased population and loss of tax base

Looking at the Detroit of today, it is difficult to believe that in 1950, its population was 1.8 million. Now, about 700,000 people inhabit the city, which in many areas resembles a ghost town.  In fact, Detroit has so much vacant land and so many abandoned buildings that it has been compared to post-Katrina New Orleans. According to the U.S. Postal service, in 2009, about 17% of Detroit addresses appeared to be vacant.  But it only makes sense that if Detroit lost so many of its manufacturing jobs, many people would move out of the city.  Of course, this means less citizens paying city taxes and providing revenue for the city’s operation.

But the decrease in population was not the only factor that affected Detroit’s ability to collect its taxes.  Unfortunately, the economy of the city was affected by the teetering economy of the entire state of Michigan, and when a deal made in 1998 by Mayor Dennis Archer and Governor Engler went sour, Detroit lost even more of its tax base. 

The deal stipulated that the state of Michigan would give Detroit $333.9 million annually for nine years in revenue sharing funds if the city would decrease its income tax rates, which were the highest in the state.  It was all working out until the state economy itself went down.  Detroit ended up getting far less of the money than planned.  Kenneth Cole, lobbyist for the city, says Detroit lost $220 million worth of revenue sharing, plus $433 to $508 million in city income tax that it did not collect because of the deal.

Corruption and Crime

Although few large U.S. cities are spotless and innocent when it comes to city government corruption, Detroit is certainly up there with the rest of them in culpability.  Kevyn Orr, a bankruptcy expert who was hired in March of 2013 by the state to address Detroit’s financial problems, ordered an investigation in June into fraud and abuse in the city’s pension and benefit systems. A federal grand jury had, in March, indicted former general counsel for the police and fire pension fund, Ronald Zajac.  It was alleged that Zajac forced people who had business with the pension funds to pay thousands in cash to benefit pension trustees.

George Stanton, the former chief-of-staff to ex-Detroit City Councilwoman Alberta Tinsley-Talabi, may also face up to ten years in prison for accepting bribes. The $15,000 in bribes was intended to be a reward for supporting a proposed investment by Atlanta businessman Roy Dixon, who also faces charges. 

Then of course, there is the infamous reign of former Mayor Kwame Kilpatrick.  A member of the Michigan House of Representatives from 1997 to 2001, Kilpatrick became the Mayor of Detroit on January 1, 2002.  At the time of his election, Kilpatrick is quoted to have said, “This position is personal to me.  It’s much more than just politics.” One cannot help but wonder if, when he said this, he was referring to “the Kilpatrick Enterprise”, a criminal enterprise that he was eventually found guilty of running through Detroit City Hall while he was the city’s mayor.  With a little help from his friends, one of whom was Bobby Ferguson, owner of Ferguson Enterprises, and his own father, Bernard Kilpatrick, much money was kicked back to Mayor Kilpatrick after he steered millions of dollars worth of contract work in a direction that was mutually profitable for all concerned. 

So, while Detroit schools were closing, more citizens were moving out of the city, unemployment was rising, and crime was running rampant, Kilpatrick and his friends partied down with strippers, wine and song at the Manoogian Mansion until they all got busted and it came to a screeching halt. 

Bankrupty Timeline and what the future holds

Gerald Rosen, chief judge of the U.S. District Court for the Eastern District of Michigan, has been appointed mediator in the Detroit bankruptcy case. It will be his job to help resolve the conflicts between the city and its many creditors.  That list of creditors is quite a long one, and, of course, it includes the two large Detroit pensions,  the Police Fire Retirement System and the General Retirement System.  It is the dispute with these pension funds that will probably be the most bitter of all.  Wayne State University law professor Laura Beth Bartell expressed it well, when she said, “You’re talking about people who gave their lives to the city, and they’re living on this thing.  What’s going to happen to them?  This is a very serious emotional, political, moral issue.” 

Indeed, there are aspects of Chapter 9 bankruptcy that are quite unsettling for Detroit city employees who were depending upon their pension funds for retirement.  Because the U.S. Constitution dictates that federal law trumps state law, agreements such as union contracts can be severed in bankruptcy.  Also, cities that file for Chapter 9 can reject “retiree benefit plans without going through the usual procedures required in Chapter 11 cases”, according to the U.S. court system website.  

In order to exit bankruptcy, a reorganization plan must be proposed by the city and then approved by more than half of the creditors in each creditor class, and by creditors representing at least two-thirds of the total claims.  How long the whole process will take depends largely on how many legal challenges are presented by the creditors involved.

Orr said that his goal is to finish the bankruptcy case by the fall of 2014. Rosen, the mediating judge, cannot force the city to sell its assets, but Orr can recommend their sale to help resolve differences with creditors.  For this reason, some of the artwork at the Detroit Institute of Art may end up being sold.

But Detroit is not the only U.S. city with overwhelming financial problems.  In Washington, the Pew Center for the States estimated in 2010 that states’ public pension plans across the U.S. were underfunded by $1.4 trillion.  Yes, that’s trillion.  So it is likely that Detroit’s bankruptcy will influence financial decisions and will set precedents all over the nation. Theodore Orson, an attorney who served as receiver for the City of Central Falls, Rhode Island, when it filed for bankruptcy, said, “This changes the ballgame in this country on how Chapter 9’s will be viewed.  Detroit is a city we all know about and we all care about.  It’s where our cars came from.  The country’s eyes will be looking at Detroit.”