The Challenging, but Critical Role of Schools in Municipal Fiscal Sustainability


February 27, 2014
Visit the project blog: The Municipal Sustainability Project

Blueprint for the Motor City’s Future. Detroit’s Coalition for the Future of Detroit Schoolchildren, the Motor City’s 36-member community commission assessing how to better serve the city’s children—and facing a March 31 deadline, has now achieved consensus that a single governing authority should oversee the nurturing of Detroit’s 119,000 school-age children―regardless of where they attend public school―or, as two members confirmed to the Detroit Free Press yesterday: “There is consensus on that because one of the things we have to have are some clearly defined educational objectives for all our children…You can’t have the Detroit Public Schools having one academic achievement design, and the Michigan Education Achievement Association another, and charters having something else. If you have a child that attends school in Detroit, regardless of entity, there are certain academic standards that should apply universally. How you address those may be up to you, but the standard itself should apply unilaterally.” The coalition’s challenge is brutal: In the Motor City today, there are 97 Detroit Public Schools (DPS), about 100 charter schools, and 15 schools in the Education Achievement Authority (the district for Michigan’s lowest-performing schools). According to DPS officials, the city has about 20,000 more seats than students, and about half of Detroit’s school-age children attend charter schools. DPS has been run by a state-appointed emergency manager for six years and has been paying down its $169.5-million deficit, using part of the per-pupil allotment it receives to educate children. At the same time, the school district’s special needs population has more than doubled. And, the system confronts paralyzing debt obligations: “Fifteen percent of our state allocation right off the top goes to debt service,” according to one commission member, who, reminding us of our own arithmetic, helpfully computed: “That’s $53 million a year, so you have an inherent deficit right there, because that $1,200 per child that comes off your per-pupil allocation which doesn’t do anything to address our kids’ needs.” Because, as in most of the nation’s cities and counties, governance of the cities and counties is different than governance of the respective school systems, the challenge in Detroit is not only with regard to determining whether there ought to be just a single school oversight authority, but also how it relates to the city or county—the bodies, after all, which not only are charged with raising the revenues to finance the capital and operating budgets of the school systems, but also have to rely on the perception and performance achieved by the schools to attract families into the city—a matter of signal import for assessed property values, not to mention a city or county’s future fiscal sustainability. Thus, the Detroit coalition’s challenge to try and come up with a plan to transform a district that has been dysfunctional for more than a decade, consistently carries major debt, spends a significant part of its per-pupil funding to pay down that debt, and has graduated generations of students who are not ready for college or work is a matter of great import for Detroit’s future. Thus, unsurprisingly, Mayor Mike Duggan, who has been crystal clear he would not be involved in fixing the schools, said in an interview with the Free Press that he stands ready to “do what the group wants me to do.” Mayor Duggan has made clear, however, that even if he does not have any desire to run the school system, he does, according to a second commission member, want to appoint the governing authority. Mayor Duggan also understands – and has taken pains to explain to Coalition members—the politics, telling the members whatever final recommendations they make, he will have to sell to Governor Snyder and state legislators. As the wonderful Free Press columnist Rochelle Riley wryly wrote: “To say that this is the most important post-bankruptcy work the city will face is an understatement. Duggan’s vision and the fate of Detroit’s neighborhoods will rest with the adults who are now children in the city’s schools.”

Spinning for Municipal Bankruptcy: In the Red or Black? Atlantic City reveled yesterday when it learned that despite Gov. Chris Christie’s budget proposal to keep state municipal aid flat in the coming year, the Gov. has proposed an exception for the fiscally strapped municipality, which is slated to receive $16.2 million in municipal aid, according to figures released yesterday by the Department of Community Affairs―$3 million less than what Atlantic City received last year, when the city also received $13 million in Transitional Aid that was needed to avoid a “worst case scenario” property tax increase last March. Atlantic City will again receive about $6.3 million in total formula aid; it will also receive some $10 million in Consolidated Municipal Property Tax Relief Act aid, which is used for distressed municipalities―assistance the city did not receive last year. In addition, Chris Filiciello, Atlantic City Mayor Don Guardian’s chief of staff said the deadline to apply for more Transition Aid is March 16th: “It’s just one piece of the puzzle the mayor is trying to put together to keep property taxes as low as possible.” The state assistance news came even as continued governance uncertainty remains: yesterday, former Detroit emergency manager Kevyn Orr, previously drafted by Michigan Governor Rick Snyder to take Detroit into and then out of the nation’s largest municipal bankruptcy in history, and now tapped by Gov. Christie to determine whether Atlantic City should file for municipal bankruptcy, told Bloomberg News that it would be inappropriate for him to talk about whether Atlantic City was a “shoo-in” for bankruptcy: “You know, nothing is shoo-in. But first of all I’m not the principal on Atlantic City. Kevin Lavin is the principal. He is the emergency manager. I’m just a counselor, a consultant in Atlantic City.” However, Mr. Orr then explained that while the conditions in Detroit and Atlantic City are very different, “the underlying issue for both of them is the current state of affairs is probably not sustainable. So it does take some intervention on a receivership basis to correct that and hopefully that will happen on a consensual basis.” Mr. Orr did not explain what he might have meant in terms of any distinction between municipal bankruptcies and “receivership,” and Kevin Roberts, a spokesperson for Gov. Christie, called it “misleading” to emphasize Mr. Orr’s use of the word “receivership,” given that Mr. Orr earlier declined to say the Atlantic City was a shoo-in for bankruptcy. Moreover, Mr. Orr’s continued, unclear role vis-à-vis Atlantic City Mayor Don Guardian—and the potentially contagious credit risk to other municipalities in New Jersey due to the signal change in state policy towards distressed municipalities remained a matter of confusion clouding the city’s future sustainability.

Cloudy Forecast for Municipal Bankruptcy. House Judiciary Committee Chairman Bob Goodlatte (R-Va.) yesterday released a statement noting that “Chapter 9 of the Bankruptcy Code could provide predictability, transparency, and stability to a Puerto Rican municipal bankruptcy…It also could serve as a framework within which parties could come to the negotiating table and reach a consensual restructuring. That said, [municipal] bondholders purchased Puerto Rican bonds at a time when chapter 9 was not an option. Proposals to retroactively impact investors’ rights should be reviewed with care and caution.” Puerto Rico and its agencies have $73 billion of debt, most of which has traded at distressed levels for more than a year on concern that the island won’t be able to repay. The main electric utility is negotiating with creditors in what may become the largest municipal debt-restructuring ever. Moody’s Investors Service said in a Feb. 19 report that there’s a high probability that the commonwealth will default on its general obligations within two years. For their part, Puerto Rico officials are in favor of extending to the island the option of bankruptcy, which municipalities on the mainland already have. States do not have the ability to file for bankruptcy, and the bill wouldn’t apply to Puerto Rico’s general-obligation bonds. Melba Acosta, president of Puerto Rico’s Government Development Bank, testified that bankruptcy protection may help the island get out from under its obligations and revive the economy: “Addressing fiscal problems associated with Puerto Rico’s public corporations is not only a necessity from a public welfare and safety perspective…It is a critical piece of any strategy for long-term economic growth, fiscal sustainability and prosperity in Puerto Rico.”

Nevertheless, Chairman Goodlatte’s absence from the hearing appeared to cast doubt on whether the House would act on pending legislation to amend the U.S. Bankruptcy Code to allow government-owned corporations in Puerto Rico to reorganize through Chapter 9 municipal bankruptcy. The legislation under consideration is aimed at ameliorating this situation and providing a last resort remedy for municipalities in Puerto Rico, assuming Puerto Rico authorizes its municipalities to file for bankruptcy—making it consistent with the original purpose of Chapter 9: Chapter 9 was the last resort for municipalities that were suffering severe financial distress and, for the most part, had exhausted other available, less drastic methods of resolution. The proposed bill would amend §101(52) of the Bankruptcy Code so that it provides: “The term ‘State’ includes Puerto Rico and, except for the purpose of defining who may be a debtor under Chapter 9 of this title, includes the “District of Columbia.” Thus, the bill has a narrow, simple and straightforward purpose: to permit Puerto Rico, if it so chooses, to authorize its municipalities to file for Chapter 9. Yesterday’s witnesses testifying before the House Judiciary Committee’s subcommittee on regulatory reform, commercial and antitrust law, which has jurisdiction over bankruptcy law, mostly expressed strong support for the bill, the Puerto Rico Chapter 9 Uniformity Act of 2015, which is sponsored by Democrat Pedro Pierluisi and has bipartisan support on the island―but some major funds invested in Puerto Rico bonds oppose it. If enacted, the bill would allow issuers such as the cash-strapped Puerto Rico Electric Power Authority to formally reorganize under court supervision, something it cannot do under current federal law. Rep. Pierluisi introduced the bill last year, but it went nowhere. John Conyers (D-Mich.), of Detroit, and the full committee’s ranking member, called the current exclusion of Puerto Rico from Chapter 9 access “inexplicable,” whilst John Pottow, an attorney and professor at the University of Michigan, testified the bill is a “long overdue” technical correction which is narrowly-tailored to grant Puerto Rico the authority already given the states to determine whether and under what conditions its political subdivisions can file for federal bankruptcy. Professor Pottow said that the federal court’s decision to strike down the local Recovery Act served as “an invitation” to seek this exact remedy. Robert Donahue, a managing director at Municipal Market Analytics, told the panel that the bill poses no systemic risk and reduces the likelihood Puerto Rico will ask for outside help to meet basic needs for its citizens: “This is the best option among a limited set of unattractive options;” however, Thomas Mayer, a lawyer who represents funds managed by Franklin Municipal Bond Group and OppenheimerFunds, Inc. said the bill should be killed in favor of a receivership, because, he testified municipal bankruptcy hurts bondholders, because it is slow and unpredictable.

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