Bankrupt Cities

Retired City Workers Accept Cuts (As Does Everybody Else) in Detroit's Bankruptcy


Zombie apocolypse averted? Or just delayed?
Credit: JasonParis / photo on flickr

A judge has approved Detroit's plan eliminating $7 billion (out of $18 billion) in debt as part of its bankruptcy reorganization. Some will be getting just a pittance of what they're owed from the city. Bond insurer Syncora Guarantee will be getting just 14 cents for every dollar Detroit owes them.

But unlike what just happened recently in bankrupt Stockton, California, public sector employees and retirees have also agreed to cuts. Retirees voted for to approve a 4.5 percent cut in their pensions, much bigger cuts to health care coverage and an end to cost-of-living increases.

While the competently handled bankruptcy plan is being presented as a sort of a success story (and a well-managed bankruptcy as a success story says a lot about Detroit) there still may be lingering storms on the horizon. As the New York Times notes, city employees accepted pension cuts but didn't want to change the assumptions regarding how much pension funds would earn in returns. As is unfortunately common, public employee pensions offer unrealistically high returns. A fiscal policy expert bankruptcy Judge Steven Rhodes hired to analyze the proposal wanted to bring it down:

To get one group of creditors to accept a settlement, Detroit's negotiators sometimes had to reduce what was available to satisfy others. To make pension cuts acceptable to retirees, for example, the city based its exit strategy on an assumption that pension investments would earn average annual returns of 6.75 percent, something Ms. [Martha] Kopacz said was too aggressive for a fragile city that could not afford investment losses.

"I would make it 5 percent if I ruled the world," she said at one point during the bankruptcy trial, under questioning by Judge Rhodes.

The assumed rate of return gave the retirees something to hope for — the possibility that even better results from the pension investments than the 6.75 percent assumed by the city would show that cuts were not needed after all and that a new deal could be negotiated with the cuts reversed. But if the pension investments do not produce the returns needed, the city will have to make up the missing money.

There are many reasons why public employee pensions have caused crises for state and municipal governments. Overly generous assumptions is one of the big ones.

Detroit's Institute for the Arts has also been preserved and is now owned by a charitable trust rather than the city of Detroit. The museum, with its extremely valuable collection, had been eyed as a way to reduce the city's debt. But a massive fundraising drive, including a $200 million subsidy from the state of Michigan, helped protect it. Reason's Shikha Dalmia criticized the bailout plan back in January, but at least the subsidy ended up being less than the $350 million proposed at the time.