Protecting the Ability to Provide Essential Public Services

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July 1, 2015

Is Puerto Rico at the Tipping Point? As Puerto Rico nears insolvency, the White House and key members of Congress, perhaps observing events in Greece, appear to recognize that any reorganization of the U.S. territory’s debt outside of the U.S. judicial system would be chaotic and prohibitively expensive. Nevertheless, with Congress in recess, some of the island’s creditors are threatening they will continue to oppose any effort by Puerto Rico to have access to federal bankruptcy courts. Oppenheimer Funds, the largest holder of Puerto Rico debt among U.S. municipal bond funds, yesterday warned Puerto Rico it stands ready to defend the terms of the municipal bonds it holds, challenging Gov. Alejandro Padilla’s proposal to begin restructuring Puerto Rico’s debt and to postpone interest payments on outstanding Puerto Rican municipal bonds. Oppenheimer’s fierce denunciation came in the wake of Gov. Padilla’s proposal Monday to create a Working Group for the Economic Recovery of Puerto Rico, led by Chief of Staff Victor Suárez, Government Development Bank President Melba Acosta, Secretary of Justice César Miranda, and the Presidents of the Senate and House, Eduardo Bhatia and Jaime Perelló: with the group charged to develop a consensus on the restructuring of Puerto Rico’s public debt—or, as Gov. Padilla put it: “The ultimate goal is a negotiated moratorium with bondholders to postpone debt payments a number of years, so that the money can be invested here in Puerto Rico.” .That is, absent the kind of neutral referee created under the U.S. bankruptcy laws and courts, chaos could reign as Gov. Padilla seeks to restructure the island’s $73 billion debt to relieve its fiscal problems. Retired U.S. Bankruptcy Judge Steven Rhodes, who presided over Detroit’s 18 month municipal bankruptcy trial before approving its unprecedented plan of debt adjustment—a plan under which Detroit’s municipal bondholders took significant reductions—and who has been retained to assist Puerto Rico as it seeks to restructure its debts in a way that preserves the island’s abilities to provide essential public services, such as 9-1-1, water, street lights, etc. yesterday told Reuters it would be impractical to expect Puerto Rico to restructure its $72 billion of obligations outside the court system: “I just don’t think that an out-of-court negotiation process is feasible here…There are too many creditors, too many different kinds of creditors. They’re all over the place,” adding Puerto Rico will need access to federal bankruptcy courts for more than just its public agencies, which would be allowed under H.R. 870, a bill introduced by Rep. Pedro Pierluisi, Puerto Rico’s non-voting member of Congress: “The commonwealth itself needs access to Chapter 9 relief as well…Puerto Rico is not a state. It’s not a sovereign in the same sense that Michigan or Pennsylvania or Illinois is. Congress has complete and plenary authority over it. Without violating any of our constitutional principles, it could grant the commonwealth that relief, if it chose.”

The U.S. House Judiciary Committee has, to date, refused to take the bill up for consideration—especially in the face of a well-financed campaign by hedge funds lobbying against any Congressional action. Support from Congressional leaders for providing Puerto Rico access to U.S. bankruptcy began to build this week, however. Sen. Charles Schumer (D-NY), the third-highest ranking Democrat will sponsor a companion of H.R. 870. In addition, Josh Earnest, a spokesman for the White House, said that Congress should “take a look” at the bill. In addition, a spokeswoman for House Minority Leader Nancy Pelosi (D-Ca.) said the legislation should be voted on when the House of Representatives returns to work later this month.

The inaction in Congress follows rejection last year by a U.S. District Court of proposed Puerto Rican legislation which would have enabled Puerto Rico’s public corporations to file for federal bankruptcy protection: U.S. District Judge Francisco A. Besosa last February held that the proposed legislation, the Public Corporation Debt Enforcement and Recovery Act, violated the U.S. Constitution in a suit brought in federal court by municipal bond funds affiliated with Franklin Resources Inc., Oppenheimer Rochester Funds, and Blue Mountain Capital Management—firms which had sued Puerto Rico, arguing the law was unconstitutional and that, if enacted, would have depressed the value of the $2 billion in Puerto Rico power utility municipal bonds they held. Puerto Rico has appealed.

Oppenheimer Funds, which has an estimated $4.5 billion exposure on municipal bonds on behalf of its clients according to Morningstar, claims it believes Puerto Rico could repay municipal bondholders even while providing essential services to its citizens and taking steps to revitalize the island’s economy, adding that it stands ready “to defend the previously agreed to terms in each and every bond indenture,”—and that it is “disheartened that Governor Padilla, in a public forum, has called for negotiations with other creditors, representing and including the millions of individual Americans that hold Puerto Rico municipal bonds.” Oppenheimer’s statement came in the wake of Gov. Padilla’s statement Monday that his goal was to come up with a negotiated moratorium with the territory’s municipal bondholders to postpone debt payments for a number of years. No doubt, the fierceness of Oppenheimer and other of the island’s municipal bondholder servicers is related to recognition that in the resolutions of plan of adjustment approvals granted by the U.S. Bankruptcy courts in the Stockton and Detroit cases, the respective cities’ municipal bondholders took very steep haircuts—an outcome that clearly affected Puerto Rican bonds yesterday, which fell sharply for the second consecutive day, with general obligation 8 percent bonds maturing in 2035 as low as $64.50 versus a low of $68.75 on Monday. A Moody’s chart reflects the significant cuts bondholders took in the Vallejo, Detroit, and Stockton chapter 9 municipal bankruptcies—as well as the reductions proposed in San Bernardino’s proposed plan of debt adjustment pending before U.S. Bankruptcy Judge Meredith Jury. Almost 10 percent of municipal bonds that traded Monday were Puerto Rico-related, according to Janney Capital Markets. A key part of the drop, no doubt, came from downgrades by S&P and Fitch, with S&P warning that a default, distressed exchange, or redemption of Puerto Rico’s debt within the next six months seemed inevitable. Nevertheless, S&P reported it expects Puerto Rico to make its scheduled payment today of $655 million on general obligation debt; while Puerto Rico’s public utility corporation, PREPA, which has a current estimated debt in the range of $9 billion, is in discussions with creditors with regard to its own $400 million payment due today. One gets an appreciation of how fiercely municipal bond funds have been opposing giving access to the federal courts by Puerto Rico or any of its 147 municipalities: U.S. open-ended municipal bond funds have $11 billion of Puerto Rico bonds and nearly 53 percent of such funds have exposure to the commonwealth—with the biggest exposure including Franklin Templeton, which already was thoroughly bloodied in the Stockton federally approved resolution to its emergence from municipal bankruptcy.

Gov. Padilla, earlier this week, in the wake of the release of the Puerto Rico “Way Forward” report, made clear the U.S. territory could not pay all of its debt, even if it took strong measures to cut spending and increase revenues: “All the measures we have taken in the last two years reflect our willingness to pay and, had we not taken them, we would not be in a position today to request restructuring…We have done all that was within our power, but, as the report makes clear, the next step must be to ensure more favorable terms for the repayment of our debt.” That same day, the redoubtable Natalie Cohen of Wells Fargo Securities noted: “I agree that Puerto Rico’s current trajectory is unsustainable and lack of immediate action will only make its situation more painful to resolve. I thought the report was balanced and shows that without action, there is a financing gap of $3.7 billion in 2016, growing substantially in future years as Affordable Care Act reductions and loss of Act 154 benefits disappear (about 20% of General Fund revenues).”

  • According to Gov. Padilla, the Working Group formed this week will create a long-term fiscal agenda by Aug. 30 aimed at:
    • Establishing the parameters for a five-year fiscal plan; proposing additional cuts in spending — including cuts in some services — to avoid an increase in taxes; * *Restructuring the Department of Treasury to increase the efficiency of income gathering;
  • promoting alliances with the private sector to provide some of the services that are today provided by the public sector, such as the successful projects like the Moscoso Bridge, the airport, and the highway to Arecibo;
  • radically changing the way in which we work with government finances and economic statistics, to establish greater transparency and credibility;
  • guaranteeing our citizens’ essential services and our pensioners a just income; [and] creating a fiscal board which, outside political considerations, will guarantee the continuity and honor of the commitments agreed upon by us during the restructuring process.
  • Seeking passage in Washington of Chapter 9 eligibility for Puerto Rico’s public corporations, a more equitable distribution of Medicare payments, and the end of the Jones Act, which increases costs of shipping to and from the island.

Retirees v. Municipal Bondholders. The incredible Boston Federal Reserve report, “Walking a Tightrope: Are U.S. State & Local Governments on a Fiscally Sustainable Path?” by Bo Shao and David Coyne came as increasing data makes clear that municipalities have never recovered in terms of employees from pre-recession levels—so there are fewer employees paying into municipal pensions—even as retirees appear to have the gall to live much longer than any previous generations: the teeter-totter is fiscally teetering. Thus, when Chicago Public School system, last week, announced it intended to issue some $1 billion in new debt to finance its $600 million-plus pension payment due yesterday; it created still another battlefront between firms like Oppenheimer and states and municipalities. It also appears to have been a key factor in Moody’s sharp downgrade of the Windy City’s credit rating—a downgrade Moody’s attributed almost entirely to Chicago’s pension issues—adding to apprehensions that should the Illinois legislature grant Chicago and other Illinois municipalities access to municipal bankruptcy, the municipalities’ constitutional and political inabilities to reign in pension liabilities could trigger future U.S. Bankruptcy court decisions that, as in Puerto Rico, would have signal repercussions for municipal bondholders. . In the bankruptcies of Detroit, Vallejo, Stockton and San Bernardino, bondholders have faced losses of up to 99% of their holdings, according to a Moody’s report dated May 18. Meanwhile all three California cities chose to preserve full pensions for their employees, while Detroit only cut pensions by approximately 18%.

June 30, 2015

Is Puerto Rico at the Tipping Point? Puerto Rico Gov. Alejandro García Padilla yesterday praised a report, “Puerto Rico—a Way Forward,” by Anne Krueger, Ranjit Teja, and Andrew Wolfe—which calls for a comprehensive solution to Puerto Rico’s problems, including debt restructuring. The report, which Puerto Rico commissioned, calls for fiscal adjustment, structural reforms, and debt restructuring. As for the latter, the authors say that even after Puerto Rico took major revenue and expenditure measures, there would be large financial gaps. These would peak at about $2.5 billion in fiscal 2016 and generally decline to about $0 in fiscal 2024. By comparison, the total commonwealth government debt service in fiscal 2016 is slated to be about $3.6 billion. The report notes: “Debt relief could be obtained through a voluntary exchange of old bonds for new ones with a later/lower debt service profile. Negotiations with creditors will doubtlessly be challenging.” They make clear the general obligation as well as other commonwealth government debt should be restructured. The authors also call for negotiations on the public corporations debt and for the federal government to make the corporations eligible for Chapter 9 bankruptcy.

The report warns that Puerto Rico will need to seek relief from principal and interest payments falling due from 2016 to 2023; however, it also warns that any restructuring of general obligation, or central government debt, would set a precedent as “no U.S. state has restructured (such debt) in living memory,” and any such attempt would face legal challenges—even as it made clear there are limits with regard to how much more expenditures can be cut or taxes raised. Or, as Adam Weigold, senior portfolio manager at Eaton Vance, put it last Friday: This coming week “is the tipping point:” Puerto Rico’s debt problems could lead to a reduction in government services. Nevertheless, Reuters noted that the island is not contemplating a partial or full shutdown of government services. With some of Puerto Rico’s creditors, restructuring negotiations are already underway: late last week, Puerto Rico officials and creditors of the island’s electric power authority were apparently close to a deal which would avoid a default on a $416 million payment due the day after tomorrow, and, with other payment deadlines looming, Gov. Padilla and his staff said they would begin looking for possible concessions on all forms of government debt.

The key takeaways from the report:

  • This is a problem years in the making;
  • The problems are structural–not cyclical;
  • This is a “vicious cycle” where unsustainable public finances are feeding uncertainty and low growth;
  • “failed partial solutions argue for a comprehensive approach;
  • “[the]single most telling factor is that 40% of the adult population — versus 63% on the mainland — is employed.” Why? Because the minimum wage; local overtime, paid vacation, benefits are too costly to the governments—and to the 147 municipalities; local welfare benefits are more generous than the minimum wage.
  • Public sector debt has risen each year–reaching 100% of GNP by the end of FY’14;
  • “If federal obstacles could be overcome, there is no reason why Puerto Rico could not grow in new directions…”

June 29, 2015

More Trouble in River City. A critical issue for any municipality is an audit; that is even more the case when a city or county files for bankruptcy: it provides that outside review important to the city’s taxpayers, the federal bankruptcy court, and the municipality’s creditors. While an audit, technically, is not necessarily required by San Bernardino’s charter committee, City Attorney Gary Saenz had warned that failure to have those audits by the deadline would be “devastating for the city.” City Manager Allen Parker had agreed, last spring, with council members who said its absence in the city’s plan of debt adjustment would allow San Bernardino’s creditors to attack the plan before the federal court as unprepared and undeserving of bankruptcy protection. Notwithstanding that apprehension, Deputy City Manager Nita McKay has now confirmed the audit has not been completed, and, obviously, not been included in the city’s plan of debt adjustment. Worse, the city’s accounting firm, Macias, Gini and O’Connell LLP, not only has missed repeated deadlines, but had also requested nearly half a million dollars—more than double its original cost estimate given to the city—to complete it. Unsurprisingly, the attorney representing San Bernardino’s municipal bondholders had charged in U.S. Bankruptcy Judge Meredith Jury’s first hearing earlier this month that San Bernardino had failed in its duty to the court and the city’s creditors by not even disclosing that its plan of debt adjustment did not mention the missing audits—either in its submitted plan or in its testimony before the court. Nor, the attorney charged, had the city proposed a hearing date at which Judge Jury could consider the adequacy of San Bernardino’s financial disclosure statement. For her part, Judge Jury has noted that a bankrupt entity normally would have proposed such a date to keep momentum in the case. Instead, Judge Jury set the hearing date for October 8th. The problem appears to lie not just with the city’s auditor, Macias, Gini and O’Connell LLP accounting firm, but also with the city’s own transparency and at least perceived competency. While there is every indication San Bernardino staff have been responsive to every request from the auditor—according to the auditor; as late as last Thursday, the firm’s audit managers gave the city staff a new list of outstanding items—a list city staff described as one which “contains 29 items, 24 of which have not been requested before the time of the meeting…For eight of these items, they could not articulate what it is that they are requesting, i.e. ‘changes to General Fund accounts receivable resulted in additional testing being needed for $3.7 million. Sample to follow.’” San Bernardino Councilmember Fred Shorett at the end of last week stated the seemingly obvious: the city might need to consider starting over with a new firm, even though that would present difficulties: “This sounds as though this auditing firm is incompetent or (not) working…Giving no responses to you and coming at us with requests at the eleventh hour is not acceptable. This whole situation needs review. I’m very concerned that this firm has some kind of agenda that is not helpful to us.” Councilman Rikke Van Johnson also questioned the firm’s motives. “Sounds as if they are playing us and trying to get more money!” he wrote. The auditing firm is surely on notice that, despite its 13th hour demands for a significant increase in payments for a job not done, it is requesting said increases as, now, one of many creditors in bankruptcy—it will not be paid one hundred cents on the dollar—but its integrity and competence, as well as the failure of the city to oversee—or disclose—the absence seem hardly likely to curry respect from Judge Jury.

Is Puerto Rico at the Tipping Point? With the increasing likelihood that Congress will continue to ignore the U.S. territory of Puerto Rico’s looming insolvency—or even give Puerto Rico the ability and authority to offer its 147 municipalities access to chapter 9 municipal bankruptcy, Puerto Rico Governor Alejandro García Padilla stated:  “My administration is doing everything not to default…But we have to make the economy grow…If not, we will be in a death spiral.” Gov. Padilla has now conceded the commonwealth cannot likely pay its nearly $72 billion in outstanding debts, warning the island is in a “death spiral,” but, unlike any other U.S. corporation, denied access to the federal bankruptcy courts.

Puerto Rico needs to restructure its debts and should make reforms, including cutting the number of teachers and raising property taxes, a report by former International Monetary Fund economists on the Caribbean island’s financial woes said. Gov. Padilla, and senior members of his staff said last week that they would probably seek significant concessions from as many as all of the island’s creditors, which could include deferring some debt payments for as long as five years or extending the timetable for repayment: “The debt is not payable…There is no other option. I would love to have an easier option. This is not politics, this is math.” Gov. Padilla is also likely to release a new report today by former IMF economists, who were hired earlier this year by the Puerto Rico Government Development Bank to analyze Puerto Rico’s economic and financial stability and growth prospects—a report concluding that Puerto Rico’s debt load is unsustainable. The report suggests a municipal bond exchange, with the new bonds carrying “a longer/lower debt service profile,” noting that: “There is no U.S. precedent for anything of this scale or scope.” The report is not solely focused on Puerto Rico, however, but also seems aimed at the White House and Congress—neither of which appear to be willing to devote time or resources on these events affecting hundreds of thousands of Americans, although both New York Federal Reserve leaders and United States Treasury officials have been advising the island’s government in recent months amid the worsening fiscal situation.

Said report, according to Reuters, recommends structural reform and debt restructuring, writing: “Puerto Rico faces hard times…Structural problems, economic shocks, and weak public finances have yielded a decade of stagnation, out-migration, and debt… A crisis looms.” The report recommends restructuring of Puerto Rico’s general obligation debt, as well as suspending the minimum wage and reducing electricity and transport costs, noting the U.S. territory must overcome a legacy of weak budget execution and opaque data.

Seemingly overwhelmed by its staggering $73 billion debt load and faltering economy—and with its Government Development Bank running out of cash, Puerto Rico this week has a number of municipal bond payments coming due—even as its public power utility, PREPA, is in talks to avoid a possible default. The report warns that Puerto Rico will need to seek relief from principal and interest payments falling due from 2016 to 2023; however, warning that any restructuring of general obligation, or central government debt, would set a precedent as “no U.S. state has restructured (such debt) in living memory,” and any such attempt would face legal challenges—even as it made clear there are limits with regard to how much more expenditures can be cut or taxes raised. Or, as Adam Weigold, senior portfolio manager at Eaton Vance, put it last Friday: This coming week “is the tipping point:” Puerto Rico’s debt problems could lead to a reduction in government services. Nevertheless, Reuters noted that the island is not contemplating a partial or full shutdown of government services. With some of Puerto Rico’s creditors, restructuring negotiations are already underway: late last week, Puerto Rico officials and creditors of the island’s electric power authority were apparently close to a deal that would avoid a default on a $416 million payment due the day after tomorrow, and, with other payment deadlines looming, Gov. Padilla and his staff said they would begin looking for possible concessions on all forms of government debt.

The ever perceptive Mary Walsh Williams of the New York Times this morning notes “Puerto Rico’s municipal bonds have a face value roughly eight times that of Detroit’s bonds.” That is, as she wrote, Puerto Rico’s fiscal meltdown and inability to access U.S. bankruptcy courts could have fiscal implications for cities and counties throughout America, writing: “Its call for debt relief on such a vast scale could raise borrowing costs for other local governments as investors become more wary of lending. Perhaps more important, much of Puerto Rico’s debt is widely held by individual investors on the United States mainland, in mutual funds or other investment accounts, and they may not be aware of it. Puerto Rico, as a commonwealth, does not have the option of bankruptcy. A default on its debts would most likely leave the island, its creditors, and its residents in a legal and financial limbo that, like the debt crisis in Greece, could take years to sort out.” She writes that Puerto Rico must set aside as much as $93 million each month to pay the holders of its general obligation bonds — a critical action, because Puerto Rico’s constitution requires that interest on its municipal bonds—payments which go to citizens in every state in the U.S.—be paid before any other expense, adding that “No American state has restructured its general obligation debt in living memory.” The government’s Public Finance Corporation, which has issued bonds to finance budget deficits in the past, owes $94 million on July 15. The Government Development Bank — the commonwealth’s fiscal agent — must repay $140 million of bond principal by Aug. 1.

Here Come da Judge. It turns out that even though Congress appears determined to bar Puerto Rico from access to the U.S. Bankruptcy Court, Puerto Rico is creating its own wise investment, this month hiring retired U.S. Bankruptcy Judge Steven W. Rhodes, who presided over the largest municipal bankruptcy in U.S. history in Detroit’s 18 month municipal bankruptcy. In addition, Puerto Rico is also consulting with a group of bankers from Citigroup who advised Detroit on a $1.5 billion debt exchange with certain creditors. The ever electronically and musically perceptive Judge Rhodes told Ms. Williams that Congress needs to go further and permit Puerto Rico’s central government to file for bankruptcy — or risk chaos, telling her in an interview: “There are way too many creditors and way too many kinds of debt…They need Chapter 9 for the whole commonwealth.”

June 25, 2015

Not My Problem. A unique characteristic of the United States and federalism is dual sovereignty, making the U.S. and its kind of federalism unique among all nations. In the field of bankruptcy, it means Congress lacks Constitutional authority to even grant authority to states to file for bankruptcy; similarly, the federal government cannot grant municipalities such authority—except by means of authorizing states to, as is done under chapter 9. Unsurprisingly, then, not only do not all states authorize municipalities to file for municipal bankruptcy, but among those that do, virtually no two provide such authority the same way. Moreover, as we have noted, not only the differing statutes, but also the state role in those states where municipalities have filed for chapter 9 municipal bankruptcy, has been profoundly different. Key issues have related not only to whether, under such state authorizing legislation, the state asserts authority to preempt local authority by means of the appointment of a receiver or emergency manager—appointments which have meant suspension of any authority for the elected leaders of a city or county, but also the role of the state in contributing in some way to the development and implementation of an ensuing plan of debt adjustment—the plan which must be approved by a U.S. bankruptcy court for a city or county to successfully exit bankruptcy. U.S. Bankruptcy Judge Thomas Bennett keenly noted the precipitate role of the State Alabama in leading to Jefferson County’s bankruptcy, while in Michigan, Gov. Rick Snyder gradually began coordinating with key bipartisan leaders of Michigan’s House and Senate in making critical contributions to Detroit’s plan of debt adjustment—granted with some exceptionally innovative and creative contributions by U.S. Chief Judge Gerald Rosen. So it is that, unlike municipal bankruptcy in any other country around the world, states not only have a role under the U.S. Constitution, the federal municipal bankruptcy law, but also the unique politics and leadership within each state.

Ergo, mayhap ironically, California appears to be set on the Alabama model—spurning the more constructive roles taken by Rhode Island, Michigan, New Jersey, and Pennsylvania. If anything, that message appeared to be reinforced yesterday when Gov. Jerry Brown offered no positive reinforcement to San Bernardino’s Mayor Carey Davis in his quest to the state capitol in Sacramento. Mayor Davis, notwithstanding the absence of any affirmative state role in the municipal bankruptcies of Vallejo or Stockton, nevertheless had made the long trip just in case.

It was time and resources, scarce commodities for a city in bankruptcy, apparently for naught. Gov. Brown’s response, according to the city, was no. The key issue – ironically in the midst of the surge of the so-called sharing economy – was sharing vital public services. Or, as Mayor Davis’ chief of staff, Christopher Lopez, put it: the “cornerstone” of San Bernardino’s plan of debt adjustment pending before U.S. Bankruptcy Judge Meredith Jury is contracting out for some services, including fire protection. Specifically, the city has pressed for the 110-year old California state agency Cal Fire to submit a bid for providing fire services to San Bernardino—part of the city’s plan to contract out such services, and something the city has repeatedly sought to pressure Cal Fire to provide. Given the lack of any response, the delegation yesterday sought a prod from Gov. Brown—a prod which produced, apparently, not even a spark, or, as Mr. Lopez put it: “Governor Brown’s office has recently made San Bernardino aware that Cal Fire will not provide a proposal and that our additional requests will not be considered.” In contrast, the San Bernardino County Fire Department and a private firm, Centerra, have each submitted proposals to provide San Bernadino’s fire services—bids which the city guesstimates could save it as much as $7 million annually. Having struck out on the fire front, the Mayor and delegation then sought assistance on other key items on their list, including some relief from a potential California Public Employees’ Retirement System penalty, the threatened decertification of the San Bernardino Employment and Training Agency, a loan, help with the dissolution of the city’s redevelopment agency, and clarification on its tax agreement with Amazon. They went home empty-handed.

Send for Batman! In most instances, in the case of a potential drowning, a lifeguard at least throws a buoy, but in the wake of Wayne Count Executive Warren Evans’ request for Michigan state intervention, Standard & Poor’s put the county’s speculative grade rating on CreditWatch with negative implications yesterday. The downgrade will increase costs for the fiscally struggling county; the harder question is what S&P’s actions might mean to the many municipalities, including Detroit, within its boards. Jane Ridley, S&P’s analyst, wrote: “The CreditWatch placement reflects our expectation that with the onset of actions under Michigan Act 436, the county could lose some of the autonomy currently held by the CEO and his staff.” Ironically, Mr. Evans’ June 17th request was intended to enable the county to enter into a consent agreement with the state (please not the stark contrast with the seeming lack of any intergovernmental commitment in California, above) to enhance Wayne County’s authority to deal with labor contracts and other pending issues critical to the county’s fiscal sustainability—and, as state officials have made clear, municipal bankruptcy or even the appointment of an emergency manager is not only not in the picture, but also Michigan state officials almost immediately made most clear that municipal bankruptcy is not only not in the picture, but also that they perceive Mr. Warren’s request as a positive, constructive step towards resolution of Wayne County’s fiscal challenges. Nonetheless, in its warning, S&P noted that under Michigan law, if the county’s request were approved by the state for a financial review, the Wayne County board would be faced by four options: a consent agreement; appointment of an emergency manager; a neutral evaluation; or it could pursue a Chapter 9 bankruptcy filing, with Ms. Ridley writing: “In our view, the county’s request for financial review does not signal the start of filing for bankruptcy, but rather a step in its stated goal of using all possible tools to regain structural balance…However, given the uncertainty associated with these four options—as well as the potential for a prolonged time frame to make additional meaningful structural changes while this process is underway—we have placed the rating on CreditWatch,” adding that its actions reflect apprehensions Wayne County’s autonomy in its restructuring could be diminished if an emergency manager is ultimately named: “In our view, this could mean that making the significant, meaningful adjustments necessary could be delayed or adjusted, which would have an impact on the county’s long-term financial health.” If, instead, Wayne County retains control over its restructuring, as seems to be not only its intent, but also the state’s impression, S&P noted it could remove the rating from CreditWatch and assign a negative outlook, reflecting the long-term budget pressures the county is facing. Interestingly, in light of the discussion re: federalism above, Ms. Ridley notes that S&P views the appointment of an emergency manager as more risky due to the loss of autonomy—a loss the credit rating agency notes which could lead to a credit rating downgrade: “Notwithstanding the uncertainty of the county’s near-term management control, without the county’s clear, demonstrable progress in the next year to regain structural balance and reduce its sizable pension burden, we could lower the rating…In addition, should Wayne County’s liquidity position deteriorate significantly, we could lower the rating.”

Trying to Balance its Budget. The Puerto Rican Senate is currently considering the U.S. territory’s FY2016 budget—a balanced budget, like every state in the U.S., albeit unlike any Congressional budget in modern times, which the House adopted and sent to the Senate early this week, and which includes austerity measures to improve Puerto Rico’s fiscal health. As passed, the House budget estimates $9.8 billion in revenues, and proposes $9.55 billion in spending. The House proposed $674 million in spending cuts, with much of the savings to anticipate the territory’s increasing debt service costs and public pension obligations; the House cut nearly 60 percent off the Puerto Rico Development Bank’s budget request of $700 million—with the bank facing potential insolvency later this summer when some $4 billion in debt it issued begins to become due. The House Chairman of Committee on Treasury and the Budget, Rep. Rafael Hernández Montañez, noted the development bank could be forced to restructure its debt, but that the House-passed budget would be sufficient to ensure Puerto Rico would not default on any of its general obligation or G.O. bonds, albeit, he warned that if the U.S. territory’s development bank encounters difficulties in meeting its obligations and is forced to restructure its debt, there might have to be some delay in setting aside the proposed funding in the House-adopted budget to meet pending general obligation bond payments—warning that the alternative would be a government shutdown—an alternative he made clear would be devastating to the island’s economy.

In the Fiscal Twilight Zone. Even as Puerto Rico’s elected leaders have been pressing to address the U.S. territory’s overwhelming debts—and hedge funds have mounted an expensive lobbying and advertising campaign with full page adds—“No Bailout for Puerto Rico”—in the Wall Street Journal as part of a heavily financed lobbying blitz in the U.S. Congress to bar granting Puerto Rico the same authority provided to every state in the U.S., or even broader authority so that the U.S. Bankruptcy courts could act to ensure the continuity of essential public services while overseeing the development of a plan of debt adjustment; Congress so far has been seemingly paralyzed—and it is focusing its attention in a diverting way, so that Puerto Rico’s Governor, Alejandro García Padilla, is urging Congress to act on pending legislation to give the U.S. territory access to municipal bankruptcy authority—and not divert its focus to the issue of potential statehood. The urgency came this week in the face of continued inaction by the House Judiciary Committee, but, instead, a hearing yesterday by the House Committee on Natural Resources Subcommittee on Indian, Insular and Alaska Native Affairs on proposed legislation to authorize a means for Puerto Ricans to determine what legal options might be available for its citizens to opt for statehood. Even with the U.S. territory nearing a potential default and insolvency, Chairman Don Young (R-Alaska) had scheduled the hearing earlier this month to consider legislation proposed by Rep. Pedro Pierluisi (D-P.R.) to authorize a U.S. sponsored vote to be held in Puerto Rico within one year of its enactment: the vote suggested in the bill would be solely on the question with regard to whether Puerto Rico should become a state—a status which, were it to be adopted, would render Puerto Rico not only able to authorize its 147 municipality’s the option to file for chapter 9 municipal bankruptcy, but also make the state-to-be eligible for billions of dollars in additional annual federal funding. Rep. Pierluisi stated: “I don’t seek special, different or unique treatment…I don’t ask (for Puerto Rico) to be treated any better than the states, but I won’t accept being treated any worse either. I want only for Puerto Rico to be treated equally. Give us the same rights and opportunities as our fellow American citizens, and let us rise or fall based on our own merits. Because I know that we will rise.” He testified of his apprehensions that, absent statehood, he worried there would be a continuing exodus of intelligent workers to the U.S. mainland in search of full rights available in the 50 states. Puerto Rico Attorney General César Miranda, testifying on behalf of Gov. Padilla, urged Congress to focus on the immediate, “truly dire” situation: Puerto Rico’s “state of fiscal emergency,” telling the Committee that diverting attention to the issue of authorizing a mechanism for considering statehood should await resolution of the island’s most crucial issue: granting bankruptcy authorization rights to the island: “We have the capabilities to come across and bring the island to a brighter condition…We need to have an instrument to deal with the debt that we are carrying now. That is why we support extending Chapter 9 to Puerto Rico.”

The Extreme Challenges of Governance in Bankruptcy

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June 19, 2015
Visit the project blog: The Municipal Sustainability Project

Wait a Minute, Mr. Postman. In the wake of Wayne County Executive Warren Evans’ request for Michigan to declare the county in a financial emergency, Wayne County yesterday announced it would defer a $186 million note sale originally scheduled for today—a step taken so that potential investors have time to settle—and the county, which surrounds Detroit, might be able to enter into a consent agreement with the state. The sale is intended to tide over the county in order to make up for late property tax collections for its local governments. (Wayne County has 34 cities, including Detroit, and 9 townships—making it the 19th largest county in the nation.) Nevertheless, Wayne County cannot wait long: Deputy Treasurer Christa McLellan reports Wayne wants the money by the end of its fiscal year—June 30th, advising the Bond Buyer: “The request for state review will necessitate a delay in the sale of the notes which was to have taken place today, June 18,” Ms. McLellan said. “It is now expected to be rescheduled to Wednesday or Thursday of next week, in order to give investors time to digest and react to the executive’s announcement as well as understand the strengths and vitality of the delinquent tax program…Although the executive’s announcement has delayed our timing slightly, we are moving forward with a goal of closing on the notes before the end of this month.”

Getting Ready to Rumble. At the first hearing in U.S. Bankruptcy Judge Meredith Jury’s courtroom this week, the bulk of San Bernardino’s creditors were generally positive about the city’s proposed plan of debt adjustment—and how the city had finally come together to complete it. Unsurprisingly, the attorney representing San Bernardino’s municipal bondholders—creditors with some $50 million at risk—was less than enthusiastic about a plan under which, if approved by the federal court, those bondholders would receive about one penny on the dollar. The issue, very much as in Stockton’s bankruptcy case before U.S. Bankruptcy Judge Christopher Klein, will pit the city’s bondholders against almost all its other creditors—creditors in this case who generally told the federal court they respected the progress in a case that began with San Bernardino’s initial filing for chapter 9 municipal bankruptcy in August of 2013. The bondholder’s attorney charged that San Bernardino’s foot-dragging on the case had already been demonstrated by the city’s failure to propose a date for the hearing, which the attorney said would be standard practice, and he criticized the municipality for proposing a plan of debt adjustment which he noted might not work, because, he told Judge Jury, it depends on changes to the city charter that cannot be voted upon until 2016, and, it could then be rejected, testifying: “(The city’s filing) fails in our view in what was intended to be its central purpose, which was to finally move this case along…And raises once again the question of what the city has been doing for the almost three years that it has been under the protection of Chapter 9 (bankruptcy).” Democracy, of course, is quite different than a quasi-dictatorship: as we have noted, a key distinction between state laws which provide for municipal authority to seek federal bankruptcy protection, is whether such laws provide for an emergency manager or receiver, as opposed to leaving the elected leadership in place. Democracy can be messy—especially with regard to such agonizing public decisions. Indeed, interestingly, Ron Olinor, who represents the San Bernardino Police Officers Association, testified in praise of the city’s progress: “Obviously bondholders — Wall Street — don’t like the plan, and they’ll take their shots…You forced the city to move forward. They made hard decisions…I would say today is a very good day for the city and a very good day for this case.” The attorney representing a committee of retirees, Steven Katzman, also took issue with the bondholders’ attorney: “What Mr. Marriot ignores — even though I don’t think it’s the right place (to discuss it), but he brought it up…my committee has agreed to forsake $40 (million) to $50 million in health care benefits…It’s about the same amount of money that they’re owed. To say that they’re in the same place as us is sort of like saying Bill Gates and I are in the same place. They’re Bill Gates — they’re well off, they’re well-heeled — and my clients are giving up the same amount of money as his clients are.” For his part, San Bernardino City Attorney Paul Glassman testified the city’s proposed plan of debt adjustment does not depend on voters approving changes to the charter: “We’re simply talking about a reorganization that would assist the city and be viewed as helpful…We worked very hard to put together a plan that is not dependent upon an election happening.” Counselor Glassman told Judge Jury San Bernardino was operating under an interim charter agreement—a challenge to governance, and another hurdle drawing further criticism from the bondholders’ counsel, who told the court: “I don’t know how long the city can operate on a basis that’s inconsistent with its own charter.” The pension obligation bondholders are already appealing Judge Jury’s earlier decision that bondholders do not have to be paid the same as the California Public Employees’ Retirement System (CalPERS)—a replay of a similar challenge from the Stockton bankruptcy case. It appears now the next step will come next month, when Judge Jury will hear arguments about the fire union’s temporary restraining order against the city’s attempt to outsource the Fire Department—a key provision in the city’s plan of debt adjustment that could reduce its debts by as much as $7-10 million, but which the city’s fire union contends is prohibited by the city charter. Judge Jury has scheduled a hearing for October 8th to determine whether the financial disclosure statement San Bernardino filed along with its plan of debt adjustment is adequate, noting the city’s fiscal situation could change significantly by then.

The Fate of a U.S. Territory. In preparation for a possible debt crisis, Puerto Rico Gov. Alejandro García Padilla is seeking legislation to grant immunity from some lawsuits to the leadership and staff of Puerto Rico’s Government Development Bank (GDB), because, unlike the directors of most corporations and banks, the GDB’s leadership lacks immunity from lawsuits over their decisions. The proposed legislation would provide immunity to the banks’ leaders should they opt to default on particular GDB debt obligations; nevertheless, the leaders could still be sued for embezzlement or other illegal actions. There has been some apprehension that absent such legal protections, the bank’s leadership would opt to resign rather than risk liability over their decisions. With uncertainty with regard  to unlikely action by Congress to offer the U.S. territory legal options available to U.S. states, Gov. García Padilla warns that the Commonwealth is in the greatest financial crisis in its history: the timeline is shrinking, as the commonwealth, last March, issued a report saying that it might not be able to pay all obligations coming due in July and August. There is about $72 billion in public sector debt in the commonwealth. Historically, the GDB has financially supported many of the debt issuers. There are now two immunity bills in the legislature, with some hopes for progress, as one is currently in conference between the Puerto Rico House and Senate right now, and Representative Jesús Santa Rodríguez’s spokesperson reports the conference committee is on the verge of approving the measure. The action comes as the Puerto Rico House hopes to complete and send to the Senate the territory’s FY2016 budget as early as today. The last minute budget and debt negotiations come as creditors of Puerto Rico’s nearly insolvent public power utility PREPA have agreed to extend a creditor agreement to the end of the fiscal year—a key step to ensure more time for restructuring negotiations, and to protect the PREPA from default: the agreement had been scheduled to expire last night. PREPA, with about $9 billion of debt, also has a June 30 deadline by which to reach a restructuring deal with creditors—with the issue being the reaction to its proposed quasi plan of debt adjustment, which needs some $2.3 billion in investments to make its business more sustainable: its long-term prospects depend on converting a largely oil-fired generation fleet to natural gas—a key to lowering operating costs, and improving collections and increasing efficiencies, while also keeping electricity rates at the lowest possible levels to help spur economic growth. With PREPA confronting a July 1 deadline for a $400 million payment to its bondholders, creditors are questioning the proposal—with one going so far as to describe the utility’s proposal as “unworkable.”

The Intergovernmental & Governance Challenges to Municipal Sustainability

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June 18, 2015

Visit the project blog: The Municipal Sustainability Project 

S-O-S. Wayne County Executive Warren Evans yesterday, writing that “Wayne County’s fiscal situation will continue to deteriorate without further remedial measures,” requested the State of Michigan to issue, on an expedited basis, a declaration of financial emergency. Mr. Evans wrote to Michigan State Treasurer Nick Khouri to request a preliminary review and declaration of financial emergency, citing several key issues which, he wrote, “threaten the county’s ability to provide necessary governmental services essential to public health, safety, and welfare,” referring to a projection that Wayne County’s accumulated unassigned deficit would grow from $9.9 million in the current fiscal year to $171.4 million by 2019, the county’s junk bond rating, and the judgement levy this month in a pension case that will cost taxpayers an estimated $50 in a one-time property tax assessment this summer on a $100,000 house. The epistle comes in the wake of a stream of warnings Mr. Evans has provided with regard to the County’s structural deficit and its unfunded pension liability—a liability now estimated to be approaching $1 billion—and comes in the first year of neighboring Detroit’s implementation of its municipal bankruptcy plan of debt adjustment in a city where the school system is under a state-appointed emergency manager—and where there are, as we noted yesterday, questions about the state’s legal authority to impose an emergency manager. Mr. Evans, in a release subsequent to the request, reported Wayne County would continue to negotiate with stakeholders under a consent agreement: “Our recovery plan provides a clear path to financial stability for the county, but we are keenly aware that our time frame to get the job done is quickly fading…Throughout this process we are constantly evaluating where we stand and proactively seeking solutions to work ourselves out of this massive deficit. I am requesting this consent agreement because the additional authority it can provide the county may be necessary to get the job of fixing the county’s finances done.” Under Michigan’s law, the state will first determine if a preliminary review is warranted, and, if so, the Treasurer will have up to 30 days to complete a preliminary review and final report—after which the local emergency financial assistance loan board would have 20 days to determine if probable financial stress exists—a finding seemingly likely here, and one which, if made, would trigger Governor Rick Snyder’s appointment of a financial review team, which would have up to 60 days to perform a more in-depth study—a study which could result in the appointment of an emergency manager or a consent agreement or emergency manager.

Under a consent agreement, the county would retain authority to implement pieces of County leader Evans’ plans, although complicated by the existence of constitutionally mandated positions, such as the sheriff and prosecutor complicate the prospects for a workable consent agreement. A consent agreement would be designed to allow the county to maintain a level of local control while providing a plan for managing the financial crisis with state assistance. Mr. Evans said a consent agreement would allow the county to continue negotiations with stakeholders while giving the county the ability, if necessary, to find other ways to achieve cost-savings and address the county’s $52 million structural deficit — a recurring shortfall that stems from an underfunded pension system and a $100 million yearly drop in property tax revenue since 2008: “Our recovery plan provides a clear path to financial stability for the county, but we are keenly aware that our time frame to get the job done is quickly fading.”

Because Wayne County surrounds Detroit, the two municipalities are not just linked geographically, but also fiscally. It is hard to imagine what the impact of insolvency for Wayne County would mean for Detroit’s ongoing recovery and implementation of its federally approved plan of debt adjustment.

It Ain’t Over Until It’s Over. While going through municipal bankruptcy can be fiscally and governmentally draining, it turns out that emerging from municipal bankruptcy—even once a U.S. Bankruptcy Court has approved a municipality’s plan of adjustment, might not suffice. So it is that in the wake of U.S. District Judge Sharon Blackburn’s rejection last September of Jefferson County’s contention that the appeal of U.S. Bankruptcy Judge Thomas Bennett’s decision approving the county’s—at the time—exit from the largest municipal bankruptcy in U.S. history just might not prove to be the last word. In rejecting Jefferson County’s argument that the appeal was moot, Judge Blackburn also said that she would consider the constitutionality of the county’s approved adjustment plan that cedes the county’s future authority to oversee sewer rates to the federal bankruptcy court. So it was that this week. Jefferson County’s attorneys argued in the 11th U.S. Circuit Court of Appeals that investors in the financing that enabled the county to exit bankruptcy nearly two and a half years ago should not have the “rug pulled out from under them” by losing a prime security feature they relied upon in deciding to loan the county money—referring to the security feature of the federal bankruptcy court’s oversight of Jefferson County’s plan of adjustment for the 40 years that the sewer refunding warrants remain outstanding—a key provision of the county’s plan of debt adjustment. As the godfather of municipal bankruptcy, Jim Spiotto, notes, what transpires in this appeal will have broader implications for all municipal bond market investors who rely on security enhancements, such as promised rate covenants or court oversight as part of their investment decisions: “To the market, hopefully the result [of Jefferson County’s case] will be a reaffirmation that rate covenants will be and should be enforced, and if you make a promise, especially in a Chapter 9 plan, it should be enforced as any contractual promise is.” In its 93-page brief, Jefferson County attorneys requested oral arguments to examine the constitutional, statutory, and equitable principles of the case which “are particularly important to governmental entities that may consider Chapter 9 relief now or in the future, as well as to the municipal debt market.” The issue underlying the appeal centers on whether proper legal steps were taken when Jefferson County’s bankruptcy plan was appealed to the U.S. District Court in Alabama by 13 residents and elected officials on the county’s sewer system, described as the “ratepayers” in court documents, who, Jefferson County attorneys argued, had failed to obtain the required legal “stay” suspending the plan while the appeal proceeded. Without any barriers to re-enter the bond market, Jefferson County proceeded to issue $1.8 billion in sewer refunding warrants in December 2013 that allowed the county to write down $1.4 billion in related sewer debt and exit bankruptcy. With the sewer refunding warrants long since sold to new investors, the complex plan of adjustment cannot be unwound, the attorneys wrote. Mr. Spiotto notes that the issue here comes down to an interpretation with regard to what chapter 9 permits and whether the bankruptcy court’s supervision is actually the act of setting rates or insuring that the county complies with the covenants that it promised. In its petition for an appeal before the 11th Circuit, Jefferson County wrote that neither its court-approved plan of adjustment or Judge Bennett’s confirmation order “changes the substantive law of the state of Alabama with regard to the enforcement of rates established pursuant to contract or legislation…Rather, the plan merely retains the bankruptcy court as an available forum in which such substantive law may be enforced, using the same remedies available in Alabama state court…In no event will the bankruptcy court ever set sewer rates; it is simply a forum to enforce the plan and related contracts – just as an Alabama state court could.” As Mr. Spiotto notes: here, no person—or court—is attempting to usurp the right of the state or a municipality under state law: “At the same time, no state or municipality should believe that it can make a promise and not live up to it: Whether you give it as Detroit did as a statutory lien or you have the court involved there are different roads to the same summit.”

Who has standing in a municipal bankruptcy case–and whether taxpayers, citizens, citizen groups, and major businesses in a municipality should have a role e in connection with the plan of debt adjustment, was a question I posed to U.S. Bankruptcy Judge Steven Rhodes for an interview with State Tax Notes. Judge Rhodes, in his response, wrote:

  1. This is perhaps among the most difficult questions in chapter 9. One practical reality is that every resident and business in a municipality that is going through a bankruptcy case has a direct and personal stake in the outcome of the case, although that stake may or may not be a financial stake in the strictest sense. But another practical reality is that the case has to be manageable. Most cases therefore deny standing to residents, concluding that the municipality’s democratically elected leadership adequately represents the residents’ interest in the case. That was my conclusion in a previous chapter 9 case called Addison Community Hospital District.

But the question is more complex where, as in the Detroit case, the management of the case is in the hands of an un-elected agent of the state and not the municipality’s elected leadership. In the Detroit case, I decided that a looser application of the traditional standing requirements was needed and so I invited the public to participate in the eligibility and confirmation phases of the case.  I maintained the manageability of the proceeding in other, more creative ways.

I followed up: Should a debtor propose a plan of debt adjustment which requires the debtor to take action that is contrary to state law including disregarding the pledge or dedication of revenues to the debt payment required under state law? In reply to which, Judge Rhodes said: “Yes, if it is necessary to restore or maintain adequate services. Although the Fifth and Fourteen Amendments generally prohibit bankruptcy from impairing property rights, nothing in those amendments or the bankruptcy code prohibits a plan from impairing creditors’ statutory or contract rights under state law.”

The Fate of a U.S. Territory. As Congress readies a hearing next week to consider whether Puerto Rico should be eligible for statehood, pressure continues in a separate committee in the House with regard to whether Puerto Rico should have the same authority as all other states with regard to municipal bankruptcy—that is, the authority to enact legislation which would permit any of its 157 municipalities to file for federal bankruptcy protection. In the latter issue, the struggle is with regard to H.R. 870, legislation proposed by  Rep. Pedro Pierluisi (D-P.R.), which is pending before the House Judiciary Committee—and which has the strong support of Puerto Rico Gov. Alejandro García Padilla. As pending, the bill would allow nearly insolvent governmental authorities, including the islands cities to formally reorganize under U.S. Bankruptcy court supervision—if authorized by Puerto Rico. The legislation, unsurprisingly, is opposed by funds which invest in Puerto Rico bonds, including Franklin Municipal Bond Group and OppenheimerFunds, Inc.: the funds recognize that municipal bondholders—in the event of a municipal bankruptcy—are more likely than not to take a haircut. Thus, they oppose any efforts to grant Puerto Rico the same powers granted to every state, claiming the municipal bankruptcy process is filled with uncertainty. The issues are even more complex from a governance perspective, however: should the bill be amended so that Puerto Rico, itself, could seek access to chapter 9, or should the bill be adopted as proposed, authorizing Puerto Rico to consider whether its municipalities should have access to municipal bankruptcy. Gov. Padilla supports the legislation as drafted; however, municipal distress veteran and long-time specialist Dick Ravitch, who has experience not just from his leadership in averting bankruptcy for New York City in the 1970’s, but more recently during his volunteer service in Detroit’s bankruptcy, has been pressing Congress to modify the bill so that Puerto Rico would itself have access to the U.S. bankruptcy court to reorganize its own debts. Mr. Ravitch fears that the territory, because it has issued so much debt, cannot conceivably repay it all, noting: “I do not believe the economy in Puerto Rico can prosper without a significant restructuring of all the debt.” That position contrasts the veteran municipal distress expert with Rep. Pierluisi, who yesterday released a statement cautioning that Congress would not support the bill to allow the restructuring of the island’s general obligation bonds, stating: “To lobby to amend H.R. 870 to enable Puerto Rico to restructure its general obligation debt is unwise and unnecessary as a matter of public policy.” The questions and issues with regard to equitable treatment for cities in Puerto Rico comes as the House Natural Resources Subcommittee on Indian, Insular, and Alaska Native Affairs has scheduled a hearing for next Wednesday on H.R. 727, proposed legislation to provide a path to statehood for Puerto Rico: the bill would authorize a U.S. sponsored vote to be held in Puerto Rico within one year of its enactment—the gist of which would be whether or not Puerto Rico should become a state. Should that vote be authorized—and the voters in Puerto Rico approve it, then the new state would automatically gain the authority to determine whether its municipalities ought to have access to chapter 9 municipal bankruptcy. Such a decision would also eliminate any authority by Congress to determine the new state’s access to federal bankruptcy, as Puerto Rico would become a sovereign. Former Puerto Rico Gov. Luis Fortuño said the statehood bill is getting a hearing because Rep. Don Young, the Alaska Republican who chairs the panel, is a friend to Puerto Rico and remembers when Alaska was a territory prior to 1959.

The Exceptional Governing Challenges in Municipal Bankruptcy

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June 17, 2015
Visit the project blog: The Municipal Sustainability Project

Getting Down & Dirty near L.A. The San Bernardino City Council yesterday, in the wake of a session which some of its members described as “dysfunctional,” voted 4-3 not to act on a proposed short term contract for street sweeping. Unlike Michigan or Rhode Island—states where an emergency manager usurps elected authority (albeit with a new Michigan Appeals court decision—please see below—the extent of such state usurped control is in some question)—San Bernardino’s elected officials have had to be not just responsible for voting to approve the city’s plan of debt adjustment to submit to U.S. Bankruptcy Judge Meredith Jury, but also to continue to govern whilst the city’s future is being determined in her court. Nevertheless, in the interim, the Mayor and Council bear the responsibility to keep the city operating—including making determinations with regard to what public services are essential. Thus the nearly transfixing issue with regard to street sweeping swept the council into confusion: it appears that the city’s Public Works Director, Tony Frossard, had reassigned street sweepers several weeks ago to pick up trash, determining that refuse collection was a priority and that the ongoing departures of city employees left too few people to do both—a decision which, apparently, was not conveyed to either the city manager or Councilmembers—who were apparently only informed of the decision last week—leading to this week’s public session and divided vote, after City Manager Alan Parker had hurriedly sought street sweeping proposals from three companies, with the services to be provided for the next four months—at which time San Bernardino would expect to select a firm to assume annual responsibility for refuse collection, street sweeping, and other duties, consistent with the city’s outsourcing proposals in its plan of adjustment awaiting consideration by the U.S. Bankruptcy Court. In the wake of such confusion, the Council voted to defer any action until July 6th, with councilmembers expressing frustration with regard to both the timeliness and breadth of information they had received—as well as the short notice on which to act—or, as Councilmember Henry Nickel put it: “I don’t know whether these crises are being engineered or people are dropping the ball…Either way, it’s unacceptable.” It turns out that managing a municipal bankruptcy and governing a municipality is challenging, and, in San Bernardino, it appears to be adding stress between staff and elected officials: As Councilmember Virginia Marquez put it: “If we have not been told about the street sweeping, are there other issues we have not been told about?…I don’t like being in the dark.”

The city is, in a sense, caught between state law (municipalities are responsible for having trash picked up every seven days, while streets must be swept at least once per year) and its already submitted plan of debt adjustment, wherein, as City Attorney Gary Saenz wrote: “As the Recovery Plan makes clear, our first priority has to be the delivery of adequate municipal services…the pain will be shared among all stakeholders; employees, retirees, citizens (in the form of impaired service levels until the City can retain its footing) and capital market creditors. Only by undertaking the difficult process of refashioning the City into a modern municipal corporation can we be successful in creating a solvent future.” In fact, the plan is specific with regard to the issue at hand: it proposes to continue—or increase—the city’s pace of outsourcing some essential public services, to rewrite the city’s charter, as well as to continue to reduce the size of the city’s workforce, noting: “Contracting out of various services currently being provided ‘in house’ by the City is a keystone of this Plan…These include, but are not limited to, fire suppression, EMT services, and solid waste management collection/disposal,” with much of the outsourcing proposed to begin this year—including business license administration, fleet maintenance, and other services. With regard to the charter, the plan refers to the “interim charter agreement” under which city officials have already agreed to work, adding that the city expects the Council-appointed charter review committee to draft a proposed new charter and “place such proposed new Charter before the voters on the November 2016 ballot (or earlier if possible).” (In California, state law restricts proposed charter amendments to the November ballot in even-numbered years.) The forecast portion of the document forecasts that police and firefighters will continue to receive salary increases of 3 percent annually—an issue on which the city is mandated by its charter, in order to comply with the requirement to continue paying the average of what 10 like-sized cities pay for those positions. Salary compensation for non-safety employees is forecast to grow by 2 percent annually. Under the proposed plan, holders of $50 million in pension obligation bonds would receive an unsecured note and be paid based on a reduced principal of $500,000. Payments on that principal would begin in the sixth year after the Plan of Adjustment became effective. No payments would be made on bonds and certificates of participation issued in 1996 and 1999, respectively, for five years. Then, based on a new maturity date of 2035, only the interest would be paid for years six through 10, then interest and principal would be repaid through the term of the lease.

Going to School on Municipal Bankruptcy. Detroit Public Schools Emergency Manager Darnell Early yesterday testified before the Detroit City Council that the Motor City’s recovery from municipal bankruptcy will fail absent a turnaround of its education system—a system with falling enrollment and a deficit of more than $160 million: “We all have a vested interested in seeing Detroit Public Schools emerge from its financial difficulties, just as the city was able to emerge from the largest municipal bankruptcy in United States history…Without it, the city will be incomplete.” Mr. Early said his goal, not unlike his former counterpart Kevyn Orr, was to return the city’s school district from state back to local control, but testified: “we’re not there yet.” His appearance before the Council comes in the wake of his proposed restructuring plan for the 47,000-student district–a plan Mr. Early said would both save $10 million a year and give principals more autonomy when its fully implemented by July 2016, adding: “This is very important work because it involves the future of not only our city, but the future of our children…Failure is not an option, because we’re talking about failing our children. We’re talking about failing our community.” He vowed there would, despite falling attendance, be no school closures in the upcoming academic year, but that he had proposed reducing its current 60 departments to 16 offices overseen by five divisions, as well as recruit four deputy superintendents to lead its other divisions: academics and school support, strategy, talent management, and finance and operations. There is much work to be done: the Detroit Public School System spends $1,963 per student on administration, one of the highest figures in the state among districts with more than 1,000 students.

There are many players at the table, because the stakes for Detroit’s future loom so high—and the challenges are intergovernmental. Even though Mr. Early is a state-appointed emergency manager, just as Kevyn Orr was for the city, Gov. Rick Snyder has proposed his own plans for reconstructing Detroit’s public education system, including restructuring the guidelines for appointments to the school board, so that Gov. Snyder and Mayor Mike Duggan would be responsible for appointing the city’s school board to run a new debt-free public school district, with a six-year timetable back to electing a more traditional school board. Some of that governance stress became evident yesterday when Councilman Gabe Leland urged Mr. Early to not leave the school district’s elected board members out: “As you go about your work, I hope that you can build relationships…particularly with the Board of Education here in the city of Detroit, who were elected by the residents of this city…The residents that this city elected have no voice on that board, and to the extent you can build those relationships and make them part of the decision-making process, I think we all win.”

Reining in Colas? The Wayne County Commission, as early as tomorrow, could take up a proposal to eliminate the fund the nearly insolvent county administers to provide what the county terms the 13th check to its retirees—in this case given as a bonus in lieu of cost-of-living increases. The decision came on a 9-3 vote, with two abstentions, to move the measure forward to full commission—and came at a public hearing, but one at which no members of the public spoke. Deputy Chief Executive Officer Richard Kaufman told the Commissioners that the elimination of the fund, the Inflation Equity Reserve Fund, would not achieve annual savings to Wayne County, but that it would enhance the county’s fiscal health. The issue arose in the wake of a court decision fining Wayne County $49 million, because the court determined the County did not make its required annual pension contribution in 2010—a judicial order which led to the imposition of a one-time property tax assessment for this summer of about $50 for a house assessed at $100,000. Nevertheless, the possibility of taking away inflation adjustments raised apprehensions about the potential consequences for public retirees on low or modest incomes, with some on the Commission suggesting the consideration of a sliding scale that would eliminate the bonus for those with higher pensions. However, Deputy COO Kaufman was adamant: “The administration doesn’t believe we have any money to fund a 13th check.” County officials expect eliminating the so-called 13th check would help enhance the sustainability of the county’s public pension fund—currently estimated at an estimated 44-45% level, advising the elected leaders that if it were eliminated, the assets would be transferred to the general pension fund, telling the members they would prefer to ensure the health of the entire pension system rather than worry about the bonus check—and reminding the elected leaders that Wayne County currently faces an unfunded pension liability of $850 million to $940 million.

Is There an Emergency with Michigan’s Emergency Manager Law? The State of Michigan Court of Appeals—in the first case addressing the extent of the power or authority granted to state-appointed emergency managers—state-appointed managers in place of elected municipal leaders, to date, in five school districts and 12 municipalities in Michigan—has now, in the first judicial examination of the state’s power to, in effect, suspend democracy in a city, county, or school system, ruled that emergency managers cannot simply ratify actions imposed by local officials; rather they must closely follow local ordinances when imposing their own orders, with the court noting: “Our decision today only highlights that authority for a closer look at the statutory boundaries of the EM’s power.” Indeed, in overturning the lower court, the panel wrote that its decision had been “premised on its understanding of the EM’s authority as broad, substantial, and complete,” noting the need for a “closer look at the statutory boundaries of the EM’s power.” The decision (Kincaid et al v. City of Flint) arose from a challenge to a former Flint emergency manager’s order imposing steep water and sewer rate increases, with the appeals court here reversing the trial court’s dismissal of that case, the three judges writing: “The EM is a creature of the Legislature with only the power and authority to do what is granted by statute…That authority was not as broad as defendant argues.” One firm, Miller Canfield, noting it was the first case to analyze the extent of an Emergency Manager’s authority, wrote: “[P]previously [there was an] undefined limit on an EM’s powers and by implication narrowed the EM’s authority to ‘act for and in the place and stead’ of local officials.” In the specific instance of the City of Flint, the ruling means the loss of revenue generated by the water and sewer rate increases a former emergency manager imposed—creating a fiscal sustainability issue for the city and an ironic question with regard to whether or not Flint will appeal the ruling to the Michigan Supreme Court. In Flint’s instance, prior to the state’s imposition of an Emergency Manager, the City finance director had recommended increasing the municipality’s water and sewer rates, a recommendation subsequently approved by the city council and the mayor. In the nonce, the state appointed Michael Brown to take over the city as emergency manager—whereupon Mr. Brown ratified the finance director’s rate increase, imposing water and sewer rate increases of 12.5% and 45%, respectively. The actions led Flint City Councilmember Scott Kincaid and other residents to file suit, alleging the city did not follow local ordinances in imposing said increases, including adhering to a 30-day waiting period, among other things, and that an EM could not ratify an action imposed prior to his or her appointment. In a press conference Monday, Councilmember Kincaid and other plaintiffs said they hope to reach a settlement with the city to end the lawsuit.

State & Local Fiscal Budgeting for Sustainability

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June 9, 2015
The Municipal Sustainability Project

When a Government Begins to Run out of Money. Approaching insolvency—especially absent a mechanism available to every corporation—public and private—except municipal corporations, which, may only seek such protection to ensure there is no disruption to vital public services if authorized by their respective state, forces hard choices. In the case of Puerto Rico, where Congressional dithering is threatening essential services by the U.S. territory’s nearly 160 municipalities, the ebbing treasury has now forced the government to slow the issuance of income tax refunds. Governor Alejandro García Padilla’s Puerto Rico chief of staff Victor Suárez Meléndez yesterday said some refunds may be delayed beyond July 31st. The aide’s announcement came in the wake of yesterday’s payments from the rapidly depleting treasury of some $200 million tax and revenue anticipation notes and the island government’s payroll—but the on-time payments leave the government with fewer resources for other purposes. Last month, Puerto Rico’s most recent financial report indicated that the commonwealth could pay off its debts for the rest of this fiscal year, at the end of this month; however, the report cited concerns over its ability to pay off all its debts in July and August. The screws are tightening as the Governor is seeking to get a balanced budget through the legislature—a critical step if Puerto Rico is to have access to the municipal market so that it can sell a $2.9 billion bond to rebuild liquidity, which could be used to make those payments. The complex minuet of actions—including the nearly 40 percent increase in the U.S. territory’s sales and use tax Gov. Padilla signed into law a week ago Friday—appear to at least be stemming the tide—or, as Mr. Meléndez put it yesterday: “With this consensus measure, the difficult fiscal situation facing the Government of Puerto Rico has been mitigated…Now we will turn to adopting a balanced budget and implementing austerity measures to ensure essential services and projects for our development as a people.” The key now is in the Puerto Rico Senate, which is holding hearings on the budget—tasked with the challenge of trying to cut discretionary spending by $674 million to balance the budget.

State Budget Reform. The Volcker Alliance yesterday released a report examining in detail the budgeting practices of California, New Jersey, and Virginia, and assessing the effectiveness of each state’s practices. The report follows in the wake of the State Budget Crisis Task Force reports issued in December of 2012—to which our Center contributed—but this time focusing on the need for effective and transparent budgeting practices by, as Mr. Volcker yesterday noted, “shining a spotlight on opaque and confusing practices and by identifying more appropriate approaches” when creating state budgets and fiscal policy. With tax revenue barely recovering since the last recession and discretionary Congressional funding limited by the sequester and continued Congressional disinvestment in the nation’s physical infrastructure; the report warns that states have been tempted to resort to gimmickry to produce balanced budgets that may be balanced in name only. Consequently, in releasing the report, the Center is hoping to create a foundation for a common approach toward responsible budget practices in all 50 states, including developing a framework for a scorecard with respect to budgeting and financing practices, and providing incentives for officials to clarify financial issues and encourage debate on basic policy choices. Mr. Volcker has become increasingly concerned about what he fears is a growing state practice of state budgeting that attempts to push costs into the future for other generations of taxpayers to pay—or, as he put it yesterday: when the states live beyond their means in this way, their budgets may seem balanced every year, but they are in fact piling up hidden mountains of unpaid bills. The invisible mountains grow bigger every year and eventually become crushing — something that seems to be happening in states from Kansas to Louisiana this summer as lawmakers find themselves caught between a rock and a fiscal and taxing hard place. In the report, the study noted California has improved its budget practices, and Virginia has enacted pension reforms, but cited New Jersey as unable to get past chronic pension and budget problems. The study, Truth and Integrity in State Budgeting, which builds on the work done from 2001 to 2014 by the State Budget Crisis Task Force, chaired by Chairman Volcker and Richard Ravitch, the former Lt. Gov. of New York—as well as special, unpaid assistant to U.S. Bankruptcy Judge Steven Rhodes in Detroit’s municipal bankruptcy, looks at the three states to assess how their budgetary practices have been doing in a period of revenue growth as the economy continues to recover from the Great Recession—warning that “many states continue to balance their budgets using accounting and other practices which could obscure rather than clarify spending choices,” noting: “These practices make budget trade-offs indecipherable, lead to poorly informed policymaking, and limit future spending options. Beyond that, they weaken the fiscal capacity of states to support the cities and counties that desperately need their aid.”

* California. The report found that the Golden State has improved its fiscal health through changes in budgeting practices: Voters approved three key economic reforms that resulted in a $254 million surplus in 2013, the passage of five consecutive on-time budgets, four general obligation credit rating upgrades from three major rating agencies and the reduction of state accumulated debt obligations to $26.9 billion in 2015 from $34.7 billion in 2011. The reforms included Proposition 25, which reduced the requirement for budget approval from 2/3 votes to a simple majority vote and Propositions 30 and 39, which temporarily raised sales and income taxes and changed the formula for calculating corporations’ income taxes, respectively. However, challenges remain, such as $131 billion in unfunded pension liabilities, $64 billion in unfunded retiree healthcare benefits, an estimated $64 billion needed to infrastructure maintenance and improvements, as well a tendency to spend too much during economic booms.

* Virginia: The report credits Virginia’s budget practices with employing strategic planning for both revenues and capital spending, repeated re-estimates of revenues, strict statutory constraints on borrowing, and an actively employed rainy day fund. These policies encouraged Virginia to adopt three major pension reforms with a goal of 100% funding by 2019 and to raise revenues for infrastructure improvements through targeted tax increases.

* New Jersey: The report noted New Jersey “continues to rely on short-term maneuvers to balance [its] budget such as debt restructuring, diversion of funds, and inconsistent management of revenue collection…New Jersey’s reliance on these measures correlates with the chronic inability of the state’s revenue streams to match its expenses,” noting the state’s public schools are underfunded despite the fact that it has the fifth-highest cost per student in the country. The report adds New Jersey also has few funds to address its growing infrastructure issues, and it has a combined $90 billion pension and other post-employment benefits gap.

Disinvesting in the Future? Mr. Volcker yesterday warned that it is the annual debate over state budgets and the focus on only one year’s proposed cash outlays, rather than the accumulated costs from the past or the bills being deferred for the future that are, in effect, masking the true fiscal picture, making it nearly impossible to have a coherent public debate about priorities and fairness: “These practices make budget trade-offs indecipherable.” As a result, he warned, bridges and roads are being left to crumble, public schools and state universities are being starved, “rainy day” funds are being drained, and public workers are counting on pension plans that may melt down at some point. He added: municipal and county services, such as courthouses and jails, are being battered, too, because they get much of their money from the states….“It’s like termites eating at a structure…The building hasn’t fallen down yet. But if you get enough termites, the building’s going to get pretty rickety.”

The June 5 eNews

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eNews
June 5, 2015

Running on Empty. According the Congressional Budget Office, the federal Highway Trust Fund would need an estimated $3 billion in additional revenue to keep the flow of funding to transportation projects going through Sept. 30th—and that would be the minimum amount of additional revenue the fund would need for future extensions of its spending authority; should Congress opt to extend the HTF’s spending authority through the end of the calendar year, the CBO projects that the fund would need $8 billion in additional revenue — $6 billion for the highway account and $2 billion for the transit account. Were Congress serious and cognizant of the way in which state and local leaders finance capital construction financing for the infrastructure critical to the nation’s economy, CBO estimates that Congress would have to come up with between $85-$90 billion to extend the program through May 2021—still far, far short of the usual term for state and local capital financing for public infrastructure. And the Congressional agency had caveats: projections could vary based on weather-related construction delays, changes in the price of gas and the price and demand for certain construction materials and labor, as well as the responses of state and local governments to federal policies. Its calculations, the CBO advised Congress, are based on the assumption that the fund needs a minimum total cash balance of $5 billion. The CBO report comes with Congress only scheduled to be in session twenty-eight days before its August recess, adding to the increasing inability of states and local governments to sign long-term contracts—and sharply increasing the cost of issuing long-term municipal bonds for critical public infrastructure financing.

Double Standards. The Economist this week notes: “Admitting to criminal behavior in America was once a guarantee of bankruptcy. That, at any rate, was the fate of big names such as Drexel Burnham Lambert, an investment bank, and Arthur Andersen, an accountancy firm, which had to shut up shop after losing both operating licenses and clients that were restricted from doing business with felons. Yet the Department of Justice and other regulators seem to have magicked this consequence away.”

“I will be stunned if the Republicans deal with the Highway Trust Fund responsibly…It’s not going to happen,” U.S. Sen. Bob Corker (R-Tenn.), the former Mayor of Chattanooga, who last year proposed a 12 cent per gallon increase in the federal gasoline tax, told reporters at a breakfast session sponsored by the Christian Science Monitor this week, adding that the short-term HTF extension favored by some in Congress is “incredibly irresponsible.”

  • 2015 Schedule
    March 13th. State & Local Governments Securities (SLGS). Congress’s failure to act to increase the nation’s debt ceiling triggered a federal unfunded mandate: the cost of refinancing state and local bonds and securities to increase.
    July 31st. The current federal surface transportation law expires; the federal highway trust fund is projected to be out of money by mid-summer; state and local governments have already begun to cut back on projects. To date, there has been no progress in Congress.
    June. The Export-Import Bank, which helps finance overseas purchases of American exports, might shut in the face of opposition to its mission.
    Sept. 30. The Children’s Health Insurance Program faces expiration.
    October 1. Sequester set to trigger.
    September-October. Default? The government’s borrowing limit was reinstated on March 16, although Congressional Budget Office projects the government will likely come up against the ceiling in September or early October.

State & Local Finance
Mapping Challenges to Fiscal Sustainability. As we noted last week, from looking at the map here, the growing disinvestment by the federal government in domestic discretionary programs and significant increase in federal tax subsidies which disproportionately subsidize the highest earning individual and corporate taxpayers is contributing to increasing disparity in wealth—an increase with significant implications for state and local leaders: the persistent federal disinvestment is creating, it appears, significant and growing geographic and governance implications. One only need, as we noted, look at the graphic here of the sea of vacant homes and buildings in Baltimore to appreciate how it is undercutting critical property tax revenues to the city—even as it is imposing ever greater public safety costs on the city’s depleting fisc. According to Scott Calvert of the Wall Street Journal, nearly 17,000 homes, or about 8% of the city’s housing stock, are deemed unfit for habitation. But, as in Detroit, the fiscal challenge confronting Baltimore is not just those residences that have become uninhabitable, but rather those that are abandoned: because the city’s population has declined more than a third over the last six decades. Whether it be Baltimore, Detroit, San Bernardino, or a growing list of cities throughout the nation, it appears a growing list of urban areas are confronting the twin fiscal risks of widespread vacancies: a risk not just to property tax revenues, but also as these neighborhoods become at risk to become magnets for criminal activity. There were 43 victims of homicide last month: the most since 1972—a time when the city was 50% larger than it is today. In a way, one could deem the Great Recession, triggered in large part by the mortgage crisis, itself a product of exceptionally lax federal oversight, as the most significant recession disproportionately impacting cities and counties in U.S. history—but especially for minority communities, where homeowners who qualified for safe, traditional mortgages were often steered into ruinously priced loans—loans which provided lucrative profits for brokers and lenders, but contributed to what became the foreclosure crisis—a federally-related crisis which left many middle-class minority communities with vastly disproportionate numbers of abandoned housing. Indeed, a study by sociologists, Race,

Space, and Cumulative Disadvantage: A Case Study of the Subprime Lending Collapse, by Jacob Rugh, Len Albright, and Douglas Massey, which focuses on 3,027 loans made in Baltimore from 2000 to 2008 by Wells Fargo (the company which in 2012 agreed to pay $175 million to settle allegations of predatory lending in Baltimore and elsewhere), in the journal Social Problems, and which considers credit scores, income, down payments (information all of which was available to brokers and lenders when these loans were made) finds evidence of greater widening of the already huge wealth gap between African-Americans and whites. Unsurprisingly, the study has been completed even as some lobbyists for the banking industry are lobbying Congress to block proposed federal rules intended to help facilitate investigations of mortgage discrimination and enforce fair-lending laws. The report determined that black borrowers in Baltimore, especially those who lived in black neighborhoods, were charged higher mortgage rates and were disadvantaged―at every step in the borrowing process―compared with similarly situated whites: had black borrowers been treated the same as white borrowers, according to the authors, their loan default rate would have been considerably lower; instead, however, the report notes that discrimination harmed individuals and entire neighborhoods. Their report notes that over the life of a 30-year loan, these racial disparities would cost the average black borrower an extra $14,904—and $15,948 for the average black borrower living in a black neighborhood—as compared with white borrowers—a difference which might otherwise have been invested in their children’s education, or used to improve health or living standards. The report finds that the racial penalty was highest for black borrowers earning over $50,000—a finding consistent with other studies, which determine that brokers who earned more fees for larger, higher-cost loans deliberately targeted black families of means, or, as the study notes: these facts show that whiteness still confers “concrete advantages in the accumulation of wealth through homeownership” and that pervasive racial disadvantage continues to “undermine black socioeconomic status in the United States today.” One difficulty in this evolving policy issue has been the absence of key information with which the federal government could better document and react to the widespread discrimination: the data that lenders were required to report to the federal government did not include crucial information, such as the property value, the term of the loan, the total points and fees, the duration of any teaser or introductory interest rates, or the applicant’s or borrower’s age and credit score. The Dodd-Frank financial reform law of 2010 sought to remedy that problem by directing the Consumer Financial Protection Bureau to require lenders to report this information. Now the question is whether the Bureau can promulgate final rules which would make it easier to determine if lenders are operating in accordance with fair-housing law—and whether the Bureau will conduct regular audits of lenders to make sure that racial disparities are publicly cited and addressed before they become entrenched. Using Baltimore, Maryland as a case study setting, the dynamic trio combined data from reports filed under the Home Mortgage Disclosure Act with additional loan-level data from mortgage-backed securities, thereby determining that race and neighborhood racial segregation are critical factors explaining black disadvantage across successive stages in the process of lending and foreclosure, controlling for differences in borrower credit scores, income, occupancy status, and loan-to-value ratios: analyzing the cumulative cost of predatory lending to black borrowers in terms of reduced disposable income and lost wealth, they found the cost to be “substantial: Black borrowers paid an estimated additional 5 to 11 percent in monthly payments and those that completed foreclosure in the sample lost an excess of $2 million in home equity. These costs were magnified in mostly black neighborhoods and in turn heavily concentrated in communities of color. By elucidating the mechanisms that link black segregation to discrimination, we demonstrate how processes of cumulative disadvantage continue to undermine black socioeconomic status in the United States today.”

  • Thomas Friedman, this week, after visiting Baltimore, convinced by his spouse to attend the graduation ceremony at a new public college-prep boarding school in Baltimore, the Seed School of Maryland, a school which admits girls and boys from the meanest neighborhoods and most dysfunctional schools in the state, wrote—as he always does—some very wise words:

“As the saying goes: ‘If you want to go fast, go alone. If you want to go far, go together.’ Unfortunately, not everyone made it to the finish line: Of the 80 who won the lottery that day in 2008, only 29 stuck it out or made it from sixth grade to graduation. The good news is that the graduates are going to the University of Virginia, the University of Wisconsin, University of Michigan, U.S.C., Villanova and others; one is joining the Coast Guard.
Several things struck me. One was the kindness with which the young men and women who had been living together in dorms since sixth grade treated one another. The class valedictorian, Stephanie Keyaka, who is going to Penn State, spoke touchingly about her classmates in her speech and seemed to speak for all when she said, ‘Today we say goodbye to the world of lockers without locks, to the world of having the confidence to leave a laptop in a hallway certain that it will be there when we return.’ The next phase will not be so nurturing, she added, but that didn’t matter — SEED left them all with a lot of ‘grit.’

Then she concluded: ‘SEED’s greatness, however, doesn’t lie in what SEED did do, but what SEED did not do for us. SEED never made us feel inadequate; SEED never discouraged us from daring to dream. … And, most importantly, there was never a time when we felt unwanted or unloved.’

When I asked Devin Tingle, who’s going to the Illinois Institute of Technology, what he took most from SEED, he cited the summer science internships and the fact that ‘this school teaches eight core values,’ which he then ticked off: ‘respect, responsibility, self-determination, self-discipline, empathy, compassion, perseverance and integrity. This school teaches these core values from sixth grade until we graduate.’

Take me for a State Tax Ride. Oregon is testing a new system, MyOreGo, under which drivers would be taxed by the mile to pay for transportation projects—experimenting with what is termed the first so-called VMT or “vehicle miles traveled” program in the nation.

The Oregon Department of Transportation says the program will be voluntary and has promised drivers’ personal information will be protected: “OReGO is the Oregon Department of Transportation’s new road usage charge program. OReGOvolunteers will pay for the miles they drive, creating a fair and sustainable way to fund road maintenance, preservation and improvements for all Oregonians.” Under the program, Duck drivers who join the program will be charged 1.5 cents per mile for trips that take place on Oregon roads; participants will be given the option of using a GPS to record their miles or using a non-GPS option which will track usage based on the mileage counters of cars; in return for participating, the drivers will be offered a tax credit reimbursing them for the 31-cent-per-gallon Oregon gas tax—with participation in the program initially limited to 5,000 cars.

Tempus Fugit. Illinois Gov. Bruce Rauner this week warned his cabinet the state must prepare for operating and cash flow challenges if a stalemate with the legislature over the FY2016 budget cannot be resolved, as the Gov. continued to press the General Assembly on the need to address at least a $3 billion shortfall, telling his cabinet: “We have very difficult jobs, challenges ahead…This puts us all in a bind, because the reality is we don’t have a budget today, a constitutionally balanced budget and we have a team in the General Assembly who so far is unwilling to compromise…We are going to be facing very serious operating and cash flow challenges…[we need to] get ready for the very possibility that we are facing a cash crisis.” Gov. Rauner had requested some $6 billion in cuts to eliminate a the state’s deficit for the onrushing fiscal year—making clear any support for his support for any tax hikes would be contingent upon Democratic support for a scaled-down version of his turnaround agenda. Gov. Rauner is proposing a local property tax freeze, caps on civil judgments, worker’s compensation reforms, and constitutional amendments on term limits and redistricting—most of which were rejected by the legislature during committee hearings; the legislature instead passed its own general fund plan before adjourning, acknowledging the $36 billion plan is at least $3 billion short on revenue, but assailing Gov. Rauner’s $32 billion spending plan as imbalanced, because it relies on $2.2 billion from pension reforms that the governor now acknowledges may not be able to withstand a legal challenge. House Speaker Michael Madigan (D-Chicago) called the House back into session yesterday to consider workers’ compensation reforms. The Governor said he met Wednesday Chicago Mayor Rahm Emanuel, terming it a constructive meeting even as he expressed disappointment over legislation approved by the Democratic majority at the Mayor’s behest which would grant the Windy City more time before it begins contributing to its public safety pension funds on an actuarial basis.

State Initiatives. In 2012, President Obama signed the JOBS Act, or Jump-Start Our Business Start-Up a law, a bipartisan bill to assist entrepreneurs seeking financing to start or expand a business—the new law offered an avenue for small businesses seeking financial backers an avenue for average citizens-investors to take stakes in businesses they found promising; however, in the absence of enabling federal regulations; 22 states and D.C. have enacted crowdfunding laws and regulations to let local businesses raise money from local residents. Eleven other states are considering enacting similar laws; three states, Florida, Illinois, and New Mexico, have rules or legislation awaiting their respective governors’ signatures. Unlike the federal legislation, the emerging state enabling laws restrict such fund-raising to in-state investors only; in addition, the amount of funds corporations may raise is relatively small: most limit the total to $1 million or $2 million, with the amount any individual investor may typically capped at $10,000 or less. Nevertheless, these state initiatives appear to be yeastful: Mobcraft, for instance, a not unlikely brewery in the beer-loving capitol of Madison recently raised more than a mug: it also raised $67,000 in growth capital from 52 Wisconsin residents. Unlike crowd gambling, equity crowdfunders receive actual shares in the companies they back. Understandably, the fast emerging model raises not just opportunities, but also risks for state leaders: brand new or small companies can present significant risks—most, after all—fail within their first half decade—and lack much in the way of disclosure requirements: that is, there is a certain level of unsharing that can create public risk. According to the Grey Lady, “In many states, business are encouraged — and in some cases, required — to advertise their offerings through online portals. Dozens have opened in the last year. In Texas, potential investors will be able buy their own piece of an oil well through Crudefunders and browse real estate deals onMassVenture. People interested in investing in restaurants can shop the listings on EquityEats (District of Columbia) and CraftFund (Wisconsin), while those looking to explore ventures in a variety of fields can peruse truCrowd (Texas), HoosierCrowd (Indiana), Michigan Funders and Hatch Oregon, among others.
Demography & Urban Downsizing. Boston Mayor Martin Walsh last year wrote that according to a 2010 census, 88,000 older adults resided in the City of Boston, but noted that “Projections show that by 2030, the number of older adults in Boston will grow considerably, comprising about one fifth of the City’s population.” This type of increase, he wrote, will place “demands on our resources and services.” That is to write that there seem to be two powerful trends underway with critical governing challenges for local and state leaders: more and more cities can expect to realize a persistent decline in population—and a disproportionate increase in the percentage of their population that is aging. How do elected leaders anticipate and react? This is not an issue of the future, either: think: Detroit, which has experienced a decline of nearly half its population since 1950, was unable to raise enough taxes from its diminished workforce to pay its debts, even as it experienced an increasing population of retirees—so that there were fewer contributions going into its retirement pool, even as the demands on its pension and post-retirement benefits were growing. Baltimore’s population dropped from 949,708 in 1960 to 620,000 in 2010; Detroit from 1,849,568 in 1950 to 713,777 by 2010; and Pittsburgh’s population dropped by more than 50 percent over those three decades. Yet, the challenge is not just the decline, but also the demographic change. Outside of Florida almost all the retirement capitals are in the Northeast and Midwest. The second most senior region, for example, is Pittsburgh, where 18.0% of the population is over 65; it is followed by Cleveland, Rochester, Providence, Hartford, St. Louis, and Detroit―all of which have a senior set that comprises 14% or more of the overall population―but will live longer than any previous generation in U.S. history, imposing its own unique sets of challenges in terms of essential public services and reduced workforces. Pittsburgh and Dessau-Rosslau, in Germany, appear to be in the vanguard of cities which have moved to knock down and clear vacant houses and buildings—in effect affirmatively constructing their own future: indeed, as we pointed out in our report, Pittsburgh today has a daytime population 40 percent higher than its residential population.

Rain, Rain, Go Away…Former Texas Governor Rick Perry officially kicked off his second bid for the White House yesterday with a blistering critique of the Obama years and a campaign pitch that touted his record in Texas. Part of his record was the policy devised whilst he was Governor to help tackle a severe drought: “Under the authority vested in me by the Constitution and Statutes of the State of Texas,” he formally did “hereby proclaim the three-day period from Friday, April 22, 2011, to Sunday, April 24, 2011, as Days of Prayer for Rain in the State of Texas.” It seems unlikely, however, that his successor, Gov. Greg Abbott, will now call on Texans to pray for the end of rain, notwithstanding the extraordinary economic and human costs of the deludes and flooding last week in large chunks of Houston and Austin, and dozens of smaller cities, flooding in which at least 19 people were killed, thousands of homes were flooded, and hundreds of cars left abandoned―the worst flooding in central Texas in over a decade—possibly the worst since 1981, when a flood, also on the Memorial Day holiday weekend, killed 11 people in Austin. Since then, however, Texas’s population has nearly doubled from less than 15 million to almost 27 million—so the human and property risk has shot up accordingly. The state, however, has no centralized flood control program; unlike its predilection to preempting municipal authority; this is an issue on which it imposes responsibility and risk on the leaders of its cities and counties—but risks and responsibilities without the fiscal tools or authority to act. And, with Congress Hell-bent on defunding public infrastructure, the Army Corps of Engineers has only funded 12 of 27 Army Corps of Engineers flood-reduction projects in the state—in no small part because of a lack of local matches from local sponsors. Unlike many cities, Texas’ population is projected to double—mayhap abetted by all that rain–over the next three decades—and then double again. Absent statewide planning, prayer might be the only option available.

Oh, Auntie Em! Kansas is in trouble. Again. Fiscal trouble. After sharply cutting income taxes in 2012, on the premise taxpayers would race like lemmings from other states to a state with rapidly diminishing state taxes, instead the result appears to be rapidly diminishing state revenues and academics—with the school year shortened because funding has expired prior to the end of the scheduled academic year: Not exactly a draw for families with children to follow the yellow brick road to the other Manhattan. Now the prairie state faces a revenue gap of more than $400 million—putting Governor Sam Brownback and state legislators in a quandary with regard to how to make up the shortfall—with one agreement so far: Commencing next month, Kansans on public assistance will be limited to a single ATM withdrawal of no more than $25 per day; no such assistance will be permitted for attendance at movie theaters, swimming pools, video arcades, nail salons, or tattoo parlors, with Gov. Sam Brownback noting: “The primary focus is to get people back to work, because that’s where the real benefit is—getting people off public assistance and back into the marketplace with the dignity and far more income there than the pittance that government gives them.” However, Duane Goossen, a former Republican state lawmaker who served 12 years as Kansas’s budget director under governors of both parties before departing his position in 2010, warns the new restrictions will likely do little to help fix the budget crisis, remarking it will have “zero” effect. Others say the political calculus for lawmakers facing reelection next year is clear. “Now they can go home and say they made it really tough on” the poor, says Burdett Loomis, a professor of political science at the University of Kansas. “No more free ride, blah-blah-blah.”

State Revenue Volatility. As we have on many an occasion strongly recommended to our readers that you pay heed to the wisdom of Federal Funds Information for the States, especially its exceptional State Policy Reports; FFIS this week, with an uncertain global and U.S. economy, and the end of state fiscal years rapidly approaching; the organization’s soul of wisdom, Marcia Howard, treated us to observations about state revenue volatility, writing with regard to a new Pew report and its recommendations for policy changes:
 Maintain adequate rainy day funds. The Pew report urges states to hold robust budget reserves to cushion against fiscal uncertainty and revenue shortfalls, noting that a magnificent seven—Georgia, Nevada, Oklahoma, South Carolina, Tennessee, Vermont, and Virginia—have raised the caps on the size of their rainy day funds, allowing for more reserves, contrasting that with other states with large forecasting errors, such as Kentucky, Maine, Mississippi, North Carolina, and Oregon, states which maintain insufficient reserves to protect against revenue volatility.
 Adopt rules that tie rainy day fund deposits to fluctuations in specific or overall revenues. She writes: “For example, Virginia adopted a formula that compares revenue growth in the most recent year to growth over the preceding six years. It deposits half the excess revenue growth into its rainy day fund.” The report cites a dozen other states that have such rules: Alaska, Arizona, California, Hawaii, Idaho, Indiana, Louisiana, Massachusetts, Michigan, Tennessee, Texas and Washington.
 Develop and adopt the official revenue estimate as close to the beginning of the fiscal year as possible.
 Analyze forecasting errors and make adjustments. The Pew report cites states such as Kentucky, which uses more than one analytical model to develop the revenue estimate, but adds: States also must balance historical knowledge with that provided by technical models.
 The report repeats Pew’s call for consensus revenue forecasting, although it explicitly states, “No revenue study, including this one, has proved that consensus forecasting increases accuracy or improves the forecast itself.” This echoes an observation FFIS State Policy Reports made when Pew first issued this recommendation. Instead, the report concludes that, “arriving at agreement among the governor, lawmakers, and other parties on a single estimate is beneficial for obtaining acceptance of the forecast;” or, as she notes: “Put another way, a consensus estimate is a political tool as much as a technical one,” citing the example of New Jersey, where the Governor’s office has sole responsibility for developing the revenue estimate, and where the chief economist resigned this year after three years of forecasting errors; the Pew report cites disputes arising from non-consensus arrangements in Montana and New Hampshire. Ms. Howard recaps her insightful analysis as follows: “State personal income tax collections in April 2015, and their apparent ability to upend a narrative of weak state revenues up until that point, lend credence to the contention that state tax collections have become more volatile. As it turns out, Pew, one of the country’s largest policy organizations, has been peddling an array of policy responses to reduce the disruption caused by such volatility. That said, it may be difficult to get states to pay close attention to a problem that—at least this year—is likely to lead to budget surpluses rather than shortfalls.

As we observe the changing economy—what with the sharing economy, the impact of the internet on work hours and locations, we can anticipate it will lead to profound changes in transportation and housing. Because the internet is permitting more people to work from anywhere, anytime, the old model of cities and suburbs is becoming increasingly obsolete.

The Disruptive, but Sharing Economy: What’sApp? Do States & Local Governments Need New Rules for the Sharing/Disruptive Economy?
We Can’t Hear! San Diego’s City Council’s Smart Growth and Land Use Committee has unanimously requested the mayor’s office to increase funding in the upcoming fiscal year to enforce noise, overcrowding, and refuse regulations that often are violated by occupants of short-term rental or sharing units in the city, with committee members, in the wake of a long hearing, also requesting staff to develop a land-use ordinance that would create specific regulations for vacation rental properties, which have proliferated in the beach areas and other sections of town. Committee Chairwoman Lorie Zapf, who represents areas such as Mission Beach and Pacific Beach, said she repeatedly has heard from constituents worried about how the rental properties impact their neighborhoods: “They were specifically concerned about the vacation rental units changing the fabric of the single-family residential zones, where the impacts of noise, parking, and frequency of guests are most noticeable.” And Councilmember David Alvarez apologized to the large crowd that attended the hearing: “We have really been failing our neighborhoods, because we have not enforced laws that are on the books today.” Even though the City has added additional funding for extra code enforcement, set to be available in the new fiscal year, the Councilmember noted it could take up to two years for a more comprehensive law to take effect, with an ordinance drafted by staff still awaiting feedback from community groups and the Planning Commission before it returns to the committee and, eventually, the full City Council. Moreover, if and when approved, the municipal regulations would still have to be approved by the California Coastal Commission before they could take effect in beach areas. Further, in developing said regulations for this kind of the sharing/disruptive economy, staff will have to distinguish between residences which are occupied by owners and those which are not, take into account residents who are simply renting out a room, determine whether to establish a minimum number of days that renters can stay, and whether to set a cap on how many people can occupy a dwelling used as a vacation rental. The Councilmembers stressed that the rules would target what they called “bad actors,” while trying to avoid hurting rental property owners who are not causing problems. Amanda Lee, of the San Diego’s Development Services Department, said the city code does not include a specific land use category for vacation rental properties. Many residents, especially in the beach areas, contend their quality of life is suffering because of increased noise from heavy partying and overcrowding. Owners, i.e., sharing owners, in contrast, claim aid they have experienced few problems with their guests, and need extra income to keep up with high housing costs. In San Diego, property owners are required to obtain a registration certificate to pay a monthly room tax, and pay a rental unit business fee annually. About 2,700 vacation rentals are registered with the city. Thus, unsurprisingly, San Diego’s City Council Smart Growth and Land Use Committee last Friday unanimously requested the mayor’s office to increase funding in the upcoming fiscal year to enforce noise, overcrowding, and refuse regulations—regulations often violated by occupants of short-term rental units in San Diego—a vote that came in the wake of a two-day hearing. Committee members also asked staff to develop a land-use ordinance which would create specific regulations for vacation rental properties, which have proliferated in the beach areas and other sections of town. Chairwoman Zapf, who represents areas such as Mission Beach and Pacific Beach, said she repeatedly has heard from constituents worried about how the rental properties impact their neighborhoods: “They were specifically concerned about the vacation rental units changing the fabric of the single-family residential zones, where the impacts of noise, parking, and frequency of guests are most noticeable,” leading Councilman David Alvarez to apologize to the large crowd that attended the hearing in a meeting room above Golden Hall: “We have really been failing our neighborhoods, because we have not enforced laws that are on the books today.” While funding for extra code enforcement could go on the books for the fiscal year beginning July 1, it could take up to two years for a more comprehensive law to take effect. An ordinance drafted by staff would need vetting by community groups and the Planning Commission before it returns to the committee and, eventually, the full City Council. If eventually approved, the regulations would still have to pass muster at the California Coastal Commission before they take effect in beach areas. Moreover, in developing the regulations, staff will have to distinguish between residences which are occupied by owners and those which are not, take into account residents who are simply renting out a room, determine whether to establish a minimum number of days that renters can stay, and whether to set a cap on how many people can occupy a dwelling used as a vacation rental. In acting, the committee members stressed that the rules would target what they called “bad actors,” even as they stressed they would try to avoid hurting rental property owners who are not causing problems. Amanda Lee, of the city’s Development Services Department, said the city code does not include a specific land use category for vacation rental properties. Many residents, especially in the beach areas, contend their quality of life is suffering because of increased noise from heavy partying and overcrowding. Sharing owners, unsurprisingly, said they have encountered few problems with their guests, and that they need extra income to keep up with high housing costs.

Municipal Sharing Economy? The nonprofit Watchdog RI reports that new data shows Rhode Island spends too much money on fire protection services, and, think about this, that sharing services and operations should be considered to help reduce costs—without even adding that, at least from the experiences between No. Virginia jurisdictions, such shared essential public services, more importantly, save lives in a business where mere seconds can make the difference between life and death. The nonpartisan group, led by former Republican gubernatorial candidate Ken Block, said it had spent about 500 hours and $2,500 researching fire protection costs in Rhode Island and other states. Metropolitan Rhode Island spends more than $300 million annually on fire protection, more than other places with larger populations, including Dallas, Phoenix and Fairfax County, Virginia, according to Mr. Block. Rhode Island’s 158 fire stations (please not map above) outnumber Los Angeles’s 106 stations and the Windy City’s 92.

According to Mr. Block, Watchdog RI has not identified any other similarly sized region in the U.S. that spends as much as Rhode Island, adding that the nation’s smallest state features some 31 fire stations within five miles of Pawtucket, whilst Lincoln, a municipality of 21,000, has six fire districts, districts whose six fire chiefs combined earn more than $350,000 a year. The report notes that regionalizing or sharing fire services could not only reduce costs to municipal budgets, but also help to reduce significant unfunded public pension liabilities—urging that Rhode Island regionalize its fire protection services and that its fire departments formalize agreements beyond mutual aid to cut costs. In response, Richard Susi, executive director of the Rhode Island Association of Fire Chiefs, cautioned that before any changes are made, a study of the response times should be conducted. But Jim Higgins, Cumberland Town Council president, has noted that in 2010, the voters of Cumberland, by an overwhelming nearly 5-1 margin of 10,033 in favor and 2,544 opposed, authorized the Cumberland Town Council to take steps to consolidate our four independent fire districts into one district, adding: “As council president, I appointed an ad hoc committee of the council to recommend a governance model for the new fire district.” Similarly, Town Administrator T. Joseph Almond had made clear he was ready to move forward on consolidating Lincoln’s six fire districts, after observing the path Cumberland town officials took to combine theirs, noting that his town had opted to wait and see “what would come of” the Cumberland consolidation, and figure out “what the General Assembly was willing to do,” adding that Lincoln now has the opportunity to mirror the legislation used by Cumberland, albeit he notes town officials might want a “little more control” of the situation than given to their neighbors: “If we pursue the Cumberland model, we’ll seek control over tax rates, collective bargaining and borrowing.” Mr. Almond reports he would like board members to manage the district’s operations, while the town oversees the finances: “I think we could have a very good town of Lincoln fire district, run by an independent board, but overseen by the town to make sure taxpayers are protected,” proposing that the process begin immediately: he said he will be meeting with the district’s fire chiefs to discuss the merger going forward. Cumberland’s restructured department was set to begin serving the town starting this month.

It’s a bird; it’s a plane, no it’s a drone! The Indonesian government wants to find out the true size of plantations and the extent of mineral extraction in hard-to-reach places across its 17,000 islands—especially because of its inability to verify taxes owed: it has been easy for tax cheats to underreport their acreage and activities—but now Bloomberg reports government operated drones can find the truth. A tax office official says mine and plantation owners in his jurisdiction pay only about 30 percent of the taxes they owe. Indonesia has a population of 250 million, but only 900,000 Indonesians submitted a tax return last year.

Guess Who Else Is Beginning to Share Concerns about Public Policy & the Sharing Economy? In a speech yesterday at the New America Foundation, Sen. and former Virginia Governor Mark Warner (D-Va.) said that because many workers in the sharing economy are considered independent contractors rather than employees, many are ineligible for those benefits that other workers would be able to receive: “Many of those programs which were administered and funded by both contributions from the employer and the employee—this is changing that whole relationship in extraordinarily fundamental ways,” Sen. Warner said, adding that often workers operate without a safety net when something goes wrong, adding: “It’s fairly stunning to me that this much transformation has already taken place but virtually nobody in Washington is starting to ask the policy questions,” and then suggesting a series of proposals which he believes could assist workers in the sharing economy, such as creating exchanges for unemployment benefits or workers’ compensation in the model of Obamacare. Sen. Warner also suggested creating what he termed an “hour bank,” which could serve as a third-party trusted entity to track workers’ hours to administer benefits, not unlike ones used by trades. Sen. Warner’s apprehensions have been raised previously by Sen. Elizabeth Warren (D-Mass.) who last month noted: “I think there is evidence that increasingly employers use independent contractors not in ways that were originally intended,” an issue already pending in two court cases in which Uber and former Lyft drivers have filed suit to be compensated as employees rather than independent contractors, which would make them eligible for benefits, suits where the respective judges ruled they will go before a jury trial, or, as Judge Vince Chabria, in the Lyft case, noted: the jury will be “handed a square peg and asked to choose between two round holes.” Sen. Warner suggests “we could recognize that the 20th century definitions that we are using do not work in the 21st economy.” Indeed, instead of waiting for federal courts to resolve the question, a Warner aide responds: “We need to be thinking about what kind of safety net functions” can be developed to help the workers.” The Federal Trade Commission will host its own workshop on the sharing economy next month to “consider if, and the extent to which, existing regulatory frameworks can be responsive to sharing economy business models while maintaining appropriate consumer protections.” Sen. Warner notes: “This next generation, where they are in the ‘sharing economy,’ the Millennials, 80 million strong, will have no safety net at all: no unemployment, no workman’s comp, no disability…Somebody may be doing very, very well as an Etsy seller and Airbnb user and Uber driver and part-time consultant…but if they hit a rough patch, they have nothing to stop them until they fall, frankly, back upon government assistance programs.” Sen. Warner said he hopes to spark a debate in Washington and among the 2016 presidential contenders about how to respond to the complications of the new American workforce—and he suggested two potential policy approaches: an “hour bank,” modeled on a program used by some building trades, which tracks a worker’s hours for a variety of employers and collects and administers training and retirement programs, or an “opt-in” that gives consumers the option of adding a nominal amount to their payment that would go to a benefits fund for workers. Similar, he opines that health care exchanges established through the Affordable Care Act could provide a model for workers who are not covered by disability, retirement and other benefits through their jobs to get them through a public-private initiative.

No, grazie! An Italian court in Milan has banned Uber: the court in Italy’s business capital Milan said the Uber POP service, which links private drivers with passengers through an easy-to-use smartphone app, created “unfair competition.”

State & Local Leader of the Week
Little Stevie Wonder, aka Steve Jeffrey, began work at the Vermont League of Cities and Towns (VLCT) in 1978 – one of three staff. He retires this July after 37 years of service, 33 of them as executive director. He leaves a much larger organization – 50 staff and membership by all 246 cities and towns as well as a tremendous growth in the stature and visibility of VLCT around the state. He came to Vermont from the now defunct New England Municipal Center, and a brief stint at the Connecticut Conference of Municipalities, to interview for a town manager position, and the then director offered him instead to work for all, not just one municipality. The rest is history, at least in Vermont. The Wonder is well known throughout the state and has had among his board members many who went on to serve in the Vermont legislature and statewide offices. Among the many illustrious and independent-minded local officials who sat on VLCT boards and helped to grow the association, was one mayor, now a junior U.S. Senator from Vermont, who launched his bid for the U.S. Presidency from a municipal waterfront park in Vermont last week. Mr. Jeffrey, not only talks the talk, he walks the walk and has served in local government in his own towns of residence as volunteer fire fighter, town moderator, merger study participant, recreation board member, parliamentarian, and planning commission member. Despite the many thrills of the Vermont Executive Director position, Steve mentioned he may not miss daily tromping through blizzards and 30 below zero diamond dust fogs to the State House, wishing for at least a warming to gropple and knowing there was no respite until “spring” – sometime in late May. He just might hightail it somewhere warm in winter.  He is also uniquely distinguished for putting up a keynote speaker at one VLCT annual conference in New Hampshire, and then arranging a U.S. Open pre-dawn tennis match in a howling New England wind storm, lending the erstwhile NLC guest a pair of tennis shoes several sizes too small—mayhap a gentle reminder of the New England warmth for visitors from the nation’s capital.

The Silver Tsunami. Anne Tergesen of Dow Jones this week noted that a growing number of state legislatures are trying to proactively address the country’s retirement savings crisis, with Washington State becoming the second state—after Illinois, where former Gov. Pat Quinn last January signed into law new legislation which requires all businesses which have been in operation for at least two years and that have at least 25 employees to offer, by no later than June 1, 2017, its workers an individual retirement savings option. Such companies without a work-based savings plan such as a pension or 401(k) can decide to work with private entities, but they can also join the newly created Illinois Secure Choice Savings Program, which comes with a default 3 percent payroll deduction. In Illinois, according to state officials, some 2.5 million private-sector employees do not have access to a work-sponsored retirement savings plan. Officials expect the vast majority of those offered plans under the new law will stick with it, though it allows them to opt out or lower their contribution amounts. Under the state law, no match or employer contribution is required, and no public dollars will be invested. Now Washington State has authorized its own state-run retirement savings program in an effort to spur small businesses to offer comparable plans, under which the participating businesses would deduct contributions from employees’ paychecks and direct them into individual retirement accounts. This puts the two states at the head of a potential vanguard of nearly half the states which are either studying similar state-run retirement savings plans or are actively considering legislation that would establish one. The Minuteman State, Mass., for instance, is in the early stages of implementing a 2012 law which creates a state-run 401(k) program for employees of nonprofits with 20 or fewer workers; other states, including California, Minnesota, Connecticut, and Oregon, are conducting feasibility studies which could open the door for similar programs aimed at all small businesses.

According to AARP, states are motivated to take action because “a lot of the burden is going to fall on state and local governments to provide public assistance” for retirees with insufficient savings: currently, more than half of working-age Americans have no retirement-plan coverage at work: according to the Center for Retirement Research at Boston College, some 53% of working-age households are at risk of being unable to maintain their pre-retirement standard of living after they stop working. That would, of course, have serious fiscal implications—not just for states, but also for local governments. According to the Center, the existing state plans follow different models: For example, Washington State’s plan leaves it up to employers with 100 or fewer employees to decide whether or not to offer retirement savings accounts to their employees. Under the Washington plan, which is likely to be up and running by 2016 or 2017, the state’s Commerce Department will appoint a private company to oversee a state marketplace, where financial-services companies can offer retirement plans, featuring all-in-one target-date mutual funds, which shift more from stocks to bonds as participants age. Some plans may also offer balanced funds, which typically consist of 60% stocks and 40% bonds, says the bill’s co-sponsor, state Senator Mark Mullet (D-Issaquah): who notes that such plans may not impose administrative fees and must cap the fees participants pay—including investment-management fees—at 1% of assets a year. Aside from promoting the retirement plans to small businesses, the state will monitor the offerings and may even offer financial incentives to small employers to sign up, according to Sen. Mullet: Employers will have a choice of three plans: a Simple IRA, which can accept both employee and employer contributions; an IRA which will only accept employee contributions; and the federal myRA, which is a Roth IRA with just one investment option—a Treasury bond with relatively modest returns. Individuals can contribute up to $5,500 a year to an IRA, although the limit rises to $6,500 for those aged 50 or older. Washington’s program will need about $250,000 to $500,000 in state or private funding and will be open to state-based employers with 100 or fewer employees—almost 80% of which do not currently offer retirement plans. South of Washington, in the Golden State, Gov. Jerry Brown in 2012 signed into law legislation to authorize a feasibility study of a program to require private-sector companies with five or more employees which currently do not offer a retirement plan to automatically deduct contributions from employees’ paychecks and funnel them into IRAs. The study is scheduled to be published by year-end, according to Ms. Gill, who expects the state to authorize a plan in 2016.
RIP. Cook County’s proposed public pension reform legislation failed, for the second consecutive year, to pass muster in the Illinois General Assembly, which adjourned on Sunday without taking action on the bill after it had been reported, 5-4, by the House Pension and Personnel Committee on May 20 by a 5-4 vote along party lines. It was sent to the House floor but was never picked up there due to a lack of support. County President Toni Preckwinkle, in expressing disappointment with regard to the outcome, noted: “We are approaching the point of no return for the Cook County retirement system. We have reached an untenable situation, and doing nothing is no longer an option. I will continue to work with the General Assembly and the Governor to get our bill passed and review all options to protect the interests of Cook County taxpayers, retirees and employees.” Even though the General Assembly is expected to return this summer, action to overturn the result appears unlikely. Both Moody’s and Fitch have given the county a negative outlook, in large part because of its underfunded pension plans—the downgrades, according to County CFO Ivan Samstein could cost taxpayers an additional $25 million a year in interest as Cook County now is likely to restructure $625 million of variable-rate bonds into fixed-rate debt to avoid any termination events. Like Chicago, which faces its own pension crisis, Cook County must obtain authority from the state to make any changes to its retirement systems; even should it succeed, of course, it would still face another hurdle in the Illinois Supreme Court. Cook County’s main pension fund has a funded status of 54% with a $6.8 billion liability. That includes health care obligations.

Here Come da Mayor. A bipartisan group of current and former local elected officials, led by former San Jose Mayor Chuck Reed (D) and former San Diego City Councilmember Carl DeMaio (R), have filed a statewide ballot initiative in California to reform how compensation and pension benefits of state and local government employees are determined. The initiative is offered in an effort to impose a “check” on state and local politicians by explicitly affirming the ability of voters to ensure that government employee compensation and retirement benefits are affordable for their communities. In particular, the initiative would:

1) Require voter approval of any defined benefit pensions for new government employees;
2) Require voter approval of any increase in pensions for existing government employees;
3) Prohibit any taxpayer subsidy of government retirement benefits in excess of 50 percent of the cost – unless voters expressly approve a higher contribution; and
4) Prohibit politicians and government agencies from delaying, impeding, or challenging any voter-approved state and local ballot measures regarding compensation and retirement benefits.

Joining the former municipal elected leaders as proponents of the initiative are: former San Bernardino Mayor Pat Morris (D), Anaheim Mayor Tom Tait (R), former Vallejo Vice Mayor Stephanie Gomes (D), and Pacific Grove Mayor Bill Kampe (D). The Ventura County Taxpayers Association also participated in the effort. Despite the state’s improving economy, public employee pension debt in California continues to explode, according to the sponsors, growing from $6.3 billion in 2003 to $198 billion in 2013. In addition, state and local governments have approximately $150 billion in unfunded liabilities for retiree health care benefits.

GASP:GASB, the Governmental Accounting Standards Board this week approved two statements which provide new accounting and financial reporting standards for OPEBs, or other post-employment benefits than pensions—standards which reflect GASB’s standards for pensions that were issued in 2012. Under one of the new statements, state and local governments would be required to report an OPEB liability on the face of their financial statements. In its release, GASB’s Chair, David Vaudt, wrote: “These OPEB standards usher in the same fundamental improvements in accounting and financial reporting that were previously introduced for pensions…Because OPEB promises represent a very significant liability for many state and local governments, it is critical that taxpayers, policymakers, bond analysts, and others are equipped with enhanced information, which will enable them to better assess the related financial obligations and annual costs of providing OPEB.” GASB Statement No. 74 addresses reporting by OPEB plans which administer the benefits on behalf of the governments, and will be effective for financial statements for periods beginning after June 15, 2016. GASB Statement No. 75 addresses reporting by governments that provide OPEB to their employees and those that finance benefits for employees of other governments; it will be effective for fiscal years beginning after June 15, 2017. Both of GASB’s OPEB statements for governments and for plans require more extensive note disclosures and supplementary information about their liabilities. GASB also approved Statement 73, which is about accounting and financial reporting for pensions that are not administered through trusts meeting certain criteria, and thus are not covered by board statements issued in 2012. The pension-reporting requirements in this statement are similar to those in the statement issued in 2012 for governments, GASB said. Some of the new pension statement’s provisions will be effective for fiscal years beginning after June 15, 2015, and other provisions will be effective for financial statements for periods starting after June 15, 2016, according to GASB.

Running out of Time? The U.S. Government Accountability Office, or GAO, warns, in a new report that many retirees and workers approaching retirement have limited financial resources: “About half of households age 55 and older have no retirement savings (such as in a 401(k) plan or an IRA),” a warning with dire implications for local leaders. According to GAO’s analysis of the 2013 Survey of Consumer Finances, many older households without retirement savings have few other resources, such as a defined benefit plan or nonretirement savings, to draw on in retirement (please see figure below). According to its report, among households age 55 and older, about 29 percent have neither retirement savings nor a defined benefit (DB) plan, which typically provides a monthly payment for life. Households which have retirement savings generally have other resources to draw on, such as non-retirement savings and DB plans. Among those with some retirement savings, the median amount of those savings is about $104,000 for households age 55-64 and $148,000 for households age 65-74, equivalent to an inflation-protected annuity of $310 and $649 per month, respectively. Social Security provides most of the income for about half of households age 65 and older. Studies and surveys GAO reviewed provide mixed evidence about the adequacy of retirement savings. Studies range widely in their conclusions about the degree to which Americans are likely to maintain their pre-retirement standard of living in retirement, largely because of different assumptions about how much income this goal requires. The studies generally found about one-third to two-thirds of workers are at risk of falling short of this target. In surveys, compared to current retirees, workers age 55 and older expect to retire later and a higher percentage plan to work during retirement. However, one survey found that about half of retirees said they retired earlier than planned due to health problems, changes at their workplace, or other factors, suggesting that many workers may be overestimating their future retirement income and savings. Surveys have also found that people age 55-64 are less confident about their finances in retirement than those who are age 65 or older. As baby boomers move into retirement each year, the Census Bureau projects that the age 65-and-older population will grow over 50 percent between 2015 and 2030. Several issues call attention to the retirement security of this sizeable population, including a shift in private-sector pension coverage from defined benefit plans to defined contribution plans, longer life expectancies, and uncertainty about Social Security’s long-term financial condition. In light of these developments, GAO was asked to review the financial status of workers approaching retirement and of current retirees. GAO examined 1) the financial resources of workers approaching retirement and retirees and 2) the evidence that studies and surveys provide about retirement security for workers and retirees. To conduct this work, GAO analyzed household financial data, including retirement savings and income, from the Federal Reserve’s 2013 Survey of Consumer Finances, reviewed academic studies of retirement savings adequacy, analyzed retirement-related questions from surveys, and interviewed retirement experts about retirement readiness. GAO found the data to be reliable for the purposes used in this report.

Ethics & Public Trust
From the Richmond Times Dispatch: “Successful government relies on trust. The breakdown of comity at all levels reflects the citizenry’s lack of confidence in institutions and individuals. Washington’s woes are well documented. Local jurisdictions suffer self-inflicted damage as well.”

Vermont Secretary of State Jim Condos this week said it was time for the establishment of a state ethics commission to review complaints about conflicts of interest, the ethics of public officials, and financial disclosures, proposing the creation of an independent state ethics commission to address complaints about the legislative, executive, and municipal sections of government: “The time has come for Vermont to enact a clear law regarding ethics, conflicts of interest, and financial disclosure for our elected officials…Vermont is one of only three states nationwide without an ethics commission.” Secretary Condos is a former long-time city councilor from South Burlington and state senator from Chittenden County who is concerned about the state’s low ranking by the Center for Public Integrity, which last graded the green Mountain State (in 2012) an overall grade of D+. Noting he wanted his state to earn an A, Secretary Condos said: “Vermonters deserve good government and that includes an open and transparent government,” adding he would focus on a clear definition of conflicts of interest, required financial disclosures by all candidates and elected officers, and establishing an independent ethics commission. Such a commission, he said, would be empowered to adopt a code of ethics and to fairly and impartially field complaints from the public to determine if a violation happened in the arenas of conflict of interest, campaign finance, or financial disclosure. Such a commission would have authority to enforce the laws. The Secretary added that in recent years Vermonters have heard allegations of ethical issues about the Governor, attorney general, legislators, candidates, and municipal officials, with such complaints coming from all political parties. He noted that, currently, his office has no authority to investigate or enforce such complaints, adding that the Vermont Constitution specifically provides that “all officers of government, whether legislative or executive, are their trustees and servants; and at all times, in a legal way, accountable to them.” The Secretary also recommended that along with an ethics commission, the Legislature should pass a clear law describing what constitutes unethical behavior in areas of ethics and conflicts of interest.

Smoking Gun? Agents representing Pennsylvania’s Attorney General Kathleen Kane’s office raided the Harrisburg home of its former mayor, Stephen Reed (1982-2010), a raid which appears to be part of the AG’s lengthy investigation into aspects of Mayor Reed’s time in office, as part of a review of the finances which nearly forced the capitol city into municipal bankruptcy—a review under investigation by a grand jury. The grand jury has been investigating the financial dealings, including municipal bond financing related to an incinerator retrofit project, which saddled 49,000-population Harrisburg with more than $600 million in debt and on the brink of municipal bankruptcy. Mr. Reed has testified before that grand jury as have other city officials. Harrisburg narrowly avoided a Chapter 9 filing by crafting a financial plan late in 2013 that included a sale of its incinerator and a long-term lease of parking assets.

Should Foxes Guard the State Henhouse? Should Current Elected Leaders Serve on Ethics Panels? Former Va. Lieutenant Governor Bill Bolling, whose second term coincided with former and now convicted Gov. Bob McDonnell, and who currently heads up the Governor’s Commission on Integrity and Public Confidence in State Government, is deeply concerned that the state’s new ethics initiative and creation of an ethics advisory council devised to guide Virginia state elected leaders, because it is designed to include lawmakers. The new council, which could begin meeting in July, is supposed to provide guidance to lawmakers and approve trips from lobbyists costing more than $100. Mr. Bolling this week commented: “I don’t believe any sitting member of the General Assembly should be sitting on the ethics panel…I think it’s a conflict of interest…It puts them in a really tough spot when they’re being asked potentially to sit in judgment on their colleagues.” Under Virginia’s new conflict of interest law, the state’s ethics advisory council will have nine members; however, unlike either the Congressional ethics oversight panels, or those of many states, there is antagonism in the Virginia legislature to either any independent panel—or the provision of any enforcement authority; rather the council’s members are appointed by House Speaker Bill Howell (R-Stafford County), the Senate Rules Committee, and the Governor, with each permitted to select three members: the speaker and Senate committee must both appoint a retired judge and two lawmakers; the Governor must appoint a current or former member of the executive branch, a recommendee of the Virginia Municipal League, and someone recommended by the Virginia Association of Counties. The ethics advisory council could begin meeting as early as July 1, when the law creating it goes into effect; no meeting, however, has been scheduled. The key provision of the new law is a $100 cap on gifts lawmakers may accept from lobbyists, which becomes law Jan. 1; however, the advisory council has authority to approve gifts or travel above that threshold. The former Lt. Governor said the study group should recommend ways to close loopholes next year, including that no sitting member of the General Assembly should serve on the council, adding: “Nobody should think we’re done talking about this…Our ethics laws are better today than they were two years ago or a year ago…everybody talked about, well, we’ve imposed this ban on gifts above $100. Nothing could be further from the truth. What they have done – let’s be very clear about this – they have imposed a limit of $100 on gifts from registered lobbyists or lobbyist principals, and it doesn’t apply to anybody else.” Referring to the federal corruption conviction of former Gov. Bob McDonnell, who had accepted more than $170,000 in gifts from Jonnie Williams, a business owner who wanted the state to study his nutritional supplement, Mr. Bolling noted: “At the time Jonnie Williams was giving gifts to the former governor, I don’t think he was a registered lobbyist…He could give those gifts tomorrow, and there’s nothing in this law that would prohibit that, as I read it.”

                                               TIME TO STEP UP
Daily Press Editorial: Running for public office takes courage, confidence and the committed support of family and friends. The endeavor is not easy — walking through neighborhoods and knocking on doors takes plenty of time and effort — nor is it cheap, since campaign signs do not grow on trees. So as we head down the stretch toward Election Day, we extend our gratitude to those who volunteered for the experience and seek a place in local government. And we encourage other civic-minded citizens to lend their time and talent to the calling of public service, since our communities will surely benefit as a result. ~ Bill Bolling, former—and now convicted—Governor Bob McDonnell’s lieutenant governor, and current Co-Chair of the Governor’s ethics commission, writes on his Facebook page: “The public’s trust is hard to gain and easy to lose.”

                                                             Little Legalities

                                         Federalism, Preemption, State & Local Authority
One Person One Vote? The U.S. Supreme Court has agreed to hear a case which could answer a long-contested question about a bedrock principle of our U.S. political system: what do we really mean by “one person one vote?” The court’s decision could result in significant shifts in governance powers. The court has never resolved whether that means that voting districts should have the same number of people, or the same number of eligible voters. The difference matters in places with large numbers of people who cannot vote legally, including immigrants who are here legally but are not citizens; unauthorized immigrants; children; and prisoners. The new case, Evenwel v. Abbott, No. 14-940, is a challenge to voting districts for the Texas Senate brought by two voters, Sue Evenwel and Edward Pfenninger, who are represented by the Project on Fair Representation, the small conservative advocacy group which has mounted earlier challenges to affirmative action and to a central part of the Voting Rights Act, and, in their brief, argue: “There are voters or potential voters in Texas whose Senate votes are worth approximately one and one-half times that of appellants.” the challengers’ brief said. The decision could further define voting districts in the wake of the Court’s 1964 decision, Reynolds v. Sims, in which the court held that voting districts must contain very close to the same number of people; the decision did not, however, define which people count. Because almost all state and local governments draw districts based on total population, but persons who are ineligible to vote are unevenly distributed, the difference between counting all people or counting only eligible voters matters: demographic patterns vary widely—or, as Joseph R. Fishkin, a law professor at the University of Texas at Austin, wrote in 2012 in The Yale Law Journal, the outcome of this case could “shift power markedly at every level, away from cities and neighborhoods with many immigrants and many children and toward the older, whiter, more exclusively native-born areas in which a higher proportion of the total population consists of eligible voters.” Evenwel v. Abbott, U.S. Supreme Court. No. 14-940.

Chilling on Quill? Colorado has filed a supplemental brief in the Tenth Circuit Court of Appeals, arguing that its remote retailer sales tax notice and reporting requirement does not violate the commerce clause or Quill, because it does not constitute economic protectionism. The state also argued that the case is not barred by comity because the state waived it as a jurisdictional bar. ___ On May 20, 2015, nine state and local government interest groups filed an amicus brief in the Tenth Circuit Court of Appeals supporting Colorado’s sales and use tax information reporting regime. The brief argues that the inability of states to assess and collect sales and use tax on electronic commerce has had real consequences for states and local governments that are not able to provide dollars necessary to adequately fund education, infrastructure, public safety, and other government services. On May 19, 2015, group of interested law professors filed amicus curiae brief in the Tenth Circuit Court of Appeals supporting Colorado’s sales and use tax reporting regime, arguing Quill does not preclude the regime. They argue that the statute serves important purposes for which there is no alternative, other than the one foreclosed by Quill. Direct Marketing Association v. Brohl, U.S. Supreme Court, No. 13–1032, March 3, 2015 (remanded).

School Segregation. In 1970, the district court determined that the City and the Board in Pitt County, North Carolina, were operating racially segregated schools and directed them to submit desegregation plans that would establish a nonracial, unitary school district. This appeal stemmed from the district court’s two desegregation orders. Plaintiffs moved to enjoin the implementation of the Board’s 2011-2012 student assignment plan because it failed to move the school district toward unitary status. The district court denied relief. The court vacated the district court’s ruling, holding that the district court erred when it failed to place the burden on the Board to show that the 2011-12 student assignment plan moved the school district toward unitary status. Subsequently, the district court granted the Board’s motion requesting that the district court declare the school district unitary and the district court dismissed plaintiffs’ request for an injunction as moot. The court affirmed, noting that “The district court’s decision to assess unitary status first comports with its obligation to ‘restore state and local authorities to the control of a school system that is operating in compliance with the Constitution,’” concluding that the district court acted within its discretion in choosing to address the Board’s motion for declaration of unitary status before ruling on plaintiffs’ motion for injunctive relief. Further, the district court did not clearly err in determining that the school district is unitary. Everett v. Pitt County Board of Education, 5th U.S. Circuit Court of Appeals, # 13-2312, June 3, 2015.

Special Use. World Outreach, a religious organization, purchased a YMCA building in a low income area of Chicago, where it proposed to rent rooms to needy persons. The YMCA had a license for that use, even after the area was rezoned as a community shopping district. Chicago, however, refused to grant World Outreach a license, claiming it did not have a Special Use Permit (SUP). After the area was reclassified as a Limited Manufacturing/Business Park District, the city sued in state court, contending that the use was illegal. The city later abandoned the suit; however, World Outreach sued under the Religious Land Use and Institutionalized Persons Act (RLUIPA), 42 U.S.C. 2000cc. The city relented and granted the licenses. According to World Outreach, however, the Windy City continued harassing it. On remand, the district court entered summary judgment in favor of Chicago on all but one claim. The Seventh U.S. Circuit, however, affirmed partial summary judgment in favor of World Outreach, regarding the attorneys’ fees for having to defend itself against a frivolous suit, reversed partial summary judgment to the city, and remanded. The federal court determined the frivolous suit cannot be thought to have imposed a merely insubstantial burden on the organization, but the organization presented weak evidence concerning damages for the two years during which it was denied a license. World Outreach Conference Ctr. v. City of Chicago, U.S. 7th Circuit Court of Appeals, #13-3728, June 1, 2015.