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The Debt Death Spiral: U.S. City Edition

Thursday November 15th, 2012   •   Posted by Craig Eyermann at 4:50am PST   •  

What Happens When Cities Go Bankrupt?

What happens when public employee unions begin calling too many of the shots in government?

Reuters reports on the backstory of the city of San Bernandino, California’s bankruptcy, which features a lot of politicians blaming everyone else for their dilemma:

Yet on close examination, the city’s decades-long journey from prosperous, middle-class community to bankrupt, crime-ridden, foreclosure-blighted basket case is straightforward — and alarmingly similar to the path traveled by many municipalities around America’s largest state. San Bernardino succumbed to a vicious circle of self-interests among city workers, local politicians and state pension overseers.

Little by little, over many years, the salaries and retirement benefits of San Bernardino’s city workers — and especially its police and firemen — grew richer and richer, even as the city lost its major employers and gradually got poorer and poorer.

Unions poured money into city council elections, and the city council poured money into union pay and pensions. The California Public Employees’ Retirement System (Calpers), which manages pension plans for San Bernardino and many other cities, encouraged ever-sweeter benefits. Investment bankers sold clever bond deals to pay for them. Meanwhile, state law made it impossible to raise local property taxes and difficult to boost any other kind.

No single deal or decision involving benefits and wages over the years killed the city. But cumulatively, they built a pension-fueled financial time-bomb that finally exploded.

How out of whack did things become? Reuters describes how the city’s retired public employees became members of the Top 3.6% of individual income earners in the U.S. (and Top 12.9% of American households):

In bankrupt San Bernardino, a third of the city’s 210,000 people live below the poverty line, making it the poorest city of its size in California. But a police lieutenant can retire in his 50s and take home $230,000 in one-time payouts on his last day, before settling in with a guaranteed $128,000-a-year pension. Forty-six retired city employees receive over $100,000 a year in pensions.

Almost 75 percent of the city’s general fund is now spent solely on the police and fire departments, according to a Reuters analysis of city bankruptcy documents – most of that on wages and pension costs.

The article goes on to describe the cause of San Bernandino’s problems as the result of “back-scratching on an epic scale.” The funny thing is that all the parties, who are now anxious to point their fingers at their partners in this kind of civic racketeering, ignored all the red flags that independent observers brought in to assess the city’s situation were waving years in advance of the city’s bankruptcy, back in 2007 – ahead of the Great Recession.

And instead of heeding the warnings, the politicians rubber-stamped their public employee unions’ demands and voted to approve extremely generous pensions that were far beyond the city’s ability to pay and still provide essential services, sealing their city’s fate. The money quote belongs to Tobin Brinker, a former city council member:

“In hindsight I am not proud of this vote,” said Brinker, who was on the city council at the time.

But then, it wasn’t his money, was it? Why would any government official dependent upon this openly corrupt environment for their continued presence in power care about spending taxpayer money wisely when they can just issue bonds and borrow whatever money they like to keep the spending party going just a little longer?

That’s especially true today, because the state of California is set to hike its taxes on top income earners to try to cover its cities ever-increasing shortfalls in meeting their public responsibilities.

The chronic mismanagement in San Bernardino, though, is a common feature of local government in California and around the United States. Much power over municipal finance lies in the hands of those with the most at stake — city employees, elected officials and others who depend directly on government for their livelihood. And California is moving to put even more responsibility and funds, not less, in their hands.

One of Governor Jerry Brown’s marquee initiatives is “realignment,” an effort to move more public-safety, welfare and prison services from state control to the cities and counties. Local governments are more flexible and more responsive to local issues, Brown argues, and thus able to make better decisions.

The recently approved tax hike in California is what will provide additional funding to California’s cities to keep providing services like these on top of their gold-plated public employee compensation and pension plans. It is a bailout – pure and simple.

And because they’re being bailed out, it is unlikely that California’s debt-ridden city politicians will learn the lessons they need to make the reforms they need to reverse their situation. The Reuters article concludes with an observation on what the civic leaders of San Bernandino missed learning when they had the chance to avoid going bankrupt:

Charles McNeely, who served three years as San Bernardino’s city manager after 13 years in the same post in Reno, Nevada, quit last March, citing the “toxic” atmosphere on the council. He had warned repeatedly that without change, the city faced ruin. In a presentation to the city council in August 2010, he said spending was far outpacing revenue and predicted a budget deficit of $40 million for this fiscal year.

“I don’t know how you could come out of that meeting not understanding we had a serious problem,” McNeely said in an interview. “I told them, ‘You’re headed for trouble, it’s a train wreck. You can’t keep doing business this way.'”

If something cannot continue, it will stop, one way or another – it’s only ever a question of how much control you might have over how it does. If only today’s politicians would listen.

Featured Image:
Image Source: United States Bankruptcy Court, Central District of California

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November 2012