DETROIT AND ITS PUBLIC UNIONS HEAD TOWARD BANKRUPTCY
- March 14, 2012, 7:18 p.m. ET
The Message of Motown
Detroit and its public unions head toward bankruptcy.
EXCERPT FROM THIS ARTICLE: That’s because the city, which has twice as many retirees as workers, is spending more on retirement benefits than wages. Pensions make up about two thirds of the public-safety payroll, and many collective-bargaining agreements entitle laid-off workers to pensions. The city has a $600 million unfunded pension liability and a $5 billion—you read that right—liability for retiree health benefits.
The clock’s running out on Detroit. City leaders are up against a $200 million deficit driven by exploding labor costs and may not be able to pay the bills come May. The state of Michigan has just swept in with a deux ex machina. Trouble is, city pols don’t like the strings attached.
Governor Rick Snyder is offering Detroit a “consent agreement,” which includes $100 million of state-backed bonds that would tide the city over until labor agreements can be restructured. The catch: Labor agreements will have to be restructured. The compact between the state and the city would turn over financial decision-making to a nine-member financial advisory board of state and city appointees who would have the authority to amend labor contracts.
Legacy costs are bankrupting Detroit just as they crushed its automakers. Firefighters can retire at 55 and earn 70% of their highest salary plus a 2.25% annual cost-of-living inflator in perpetuity. The result? Employee benefits alone now make up about half of the city’s general fund. Health costs have grown by more than 60% since 2008 while the city’s pension bill has quadrupled to $200 million.
Since state law and collective-bargaining agreements bar the city from modifying worker benefits, Mayor Dave Bing earlier this year announced plans to lay off 1,000 workers, saving $14 million. But according to a report by Ernst & Young, Detroit could lay off 2,200 workers and still run out of money by July. Getting rid of all 11,000 city employees wouldn’t solve Motown’s problems.
That’s because the city, which has twice as many retirees as workers, is spending more on retirement benefits than wages. Pensions make up about two thirds of the public-safety payroll, and many collective-bargaining agreements entitle laid-off workers to pensions. The city has a $600 million unfunded pension liability and a $5 billion—you read that right—liability for retiree health benefits.
The only way to wring out the savings that the city requires is to modify retirement benefits and make workers pick up more of the tab. For instance, public-safety officers pay only an eighth of their pension and retiree health costs, and many workers don’t pay a penny. Splitting costs down the middle could save the city upward of $150 million per year.
Additionally, freezing workers’ pensions and modifying the benefits they accrue going forward as the city did last year with its 2,000-member police union would reduce the city’s unfunded liability and thus how much it must pay into its pension funds each year. Cutting the police pension multiplier to 2.1% from 2.5% and shifting new officers to defined-contribution plans is expected to save the city some $16 million a year.
Unfortunately, the city’s 20 other unions aren’t conceding as much as police, which is why the Governor wants to give a financial board the power to impose such changes. City leaders don’t like Mr. Snyder’s plan because it would do away with collective bargaining and strip them of most of their powers. Turning control over to an unaccountable board isn’t ideal. However, the likely alternatives would be handing the reins to a state-appointed receiver or Chapter 9 municipal bankruptcy, which would damage city and state credit ratings.
The best solution would be for the state to limit collective bargaining as Republican Governor Scott Walker did in Wisconsin. This would allow city leaders to remain in charge and give them the flexibility to modify benefits and ward off future fiscal cardiac arrests. Such a move, if unlikely, would help the 109 other fiscally distressed cities on Michigan’s watch list too.
Even if the state and city work out a deal to avoid default, Detroit must still contend with the problem of growth. Due to manufacturing job losses, a high crime rate and failing public schools, Detroit’s population has shrunk by 25% in the last decade. The city has raised property and income taxes to make up for lower revenues, but that’s merely caused more residents to leave. Detroit’s unemployment rate was 17.3% in December.
The city may not be able to support its growing retiree force even with benefit modifications in another decade without population and economic growth. What that would require is making the city a more attractive place to live and do business—e.g., reducing the city’s 2.5% income tax and 1% business tax. Mayor Bing, on the other hand, has proposed raising the business tax to 1.9% and the city council wants to increase income taxes.
Similar fiscal crises are playing out in cities across the country from Stockton, California, to Providence, Rhode Island. Maybe if a big city like Detroit fails, more politicians would start caring.
