November 24, 2015. Share on Twitter
Rebuilding Detroit. After decades of population decline (In 1950, there were 1,849,568 people in Detroit. In 2010, there were 713,777), by the time the Motor City filed for chapter 9 municipal bankruptcy, Detroit was home to an estimated 40,000 abandoned lots and structures: between 1978 and 2007, Detroit lost 67 percent of its business establishments and 80 percent of its manufacturing base. Detroit had lost more than 1 million people since 1950, and the city now has an estimated 80,000 abandoned buildings. Worse, it was those who could afford to leave who did: according to the census, 36 percent of its citizens by the time of its filing with the U.S. bankruptcy court were below the poverty level. Detroit was what the ever so fine writer Billy Hamilton called “either the ghost of a lost time and place in America, or a resource of enormous potential.” Ergo, unsurprisingly, a key goal of the city’s plan of debt adjustment approved by Judge Rhodes is regrow—to bring in talent. Mayor Mike Duggan has made clear the city is welcoming Syrian refugees, noting Detroit can support 50 Syrian families annually for the next three years and is “moving down that road.” Moreover, at least until the attacks in Paris this month, Michigan Governor Rick Snyder was as strongly committed to scouring the globe for talent to help in the city’s recovery, even asking the Obama Administration early last year to use its executive powers to designate 50,000 extra visas to the Detroit metro area for high-skilled immigrants. Citing Detroit’s devastating population loss and the need to jump-start the Motor City economically, Governor Snyder—a former CEO for Gateway Computer and head of a venture capitalist firm—called on his state to “embrace immigration.”
It is noteworthy that in our nation of immigrants, it is Europe which is currently dealing with 4 million Syrian refugees: the continent’s economic juggernaut, Germany, has been most frank about one of the reasons it is accepting a large portion of the Syrians: it has an aging population and needs younger workers to help pay into the pension system that will support their rapidly growing baby boomers in retirement. Detroit, facing far greater economic challenges and severe depopulation, clearly recognizes an economic opportunity. Indeed, Republican attorney Richard McLellan, who served in the Ford and both Bush administrations, and worked for Michigan Republican Governors William Milliken and John Engler this week noted: “We have a city like Detroit that needs human capital, we have agricultural interests that need people to harvest their crops and we have the largest Arab community in the country.” Mayor Duggan, who discussed refugee issues with Obama administration officials last month during a two-day Washington, D.C., trip, said he remains comfortable with the refugee-vetting process, adding Detroit has vacant housing that could accommodate refugees, as well as support agencies and a large Syrian and Middle Eastern community in the surrounding area, adding that all mayors are “conscious of this terrorist threat,” which is “very real.” Nevertheless, he called accepting refugees a “very human issue,” adding providing “refuge” to victims of terror “is what this country is all about: We stand in Detroit prepared to do our share.”
Rethinking Detroit’s Future. An aging America means a growing country of retirees outliving their savings—or outliving projections from their state or local pensions. The pensionary challenges are even harder in cities such as Detroit, which not only found their public pensions devastated by criminal behavior by former city elected leaders, but also, with one third, a poorer third, of a population, that translates into fewer contributions coming in to support a growing sea of retirees. To date, since the city’s emergence from the nation’s largest municipal bankruptcy, and especially due to the path-breaking genius of U.S. Judge Gerald Rosen, the cash flow relief Detroit has achieved, largely due to debt haircuts and suspension of pension contributions, appears to have generated better than expected fiscal outcomes for FY15: preliminary information indicates, sakes alive, a larger than estimated surplus. Nevertheless, potential apprehensions are emerging with regard to its pension situation less than a year after exiting municipal bankruptcy, leading to speculation that the adopted plan of debt adjustment approved by U.S. Bankruptcy Judge Rhodes may prove inadequate, especially with regard to what at least one analysts has described as the city’s “effectively insolvent pension system.” Some guesstimate a pension gap of as much as $80 million in the wake of turning to the use of more current mortality tables and underperforming investment returns, among other issues—with the gap projected to grow to $195 million from its current $114 million by 2024, depending, of course, on how the actual performance varies from projections and expectations. From 2024-2034 the city’s pension contribution is estimated at $1 billion.
Tempus Fugit. In ancient Rome, the Latin expression “time flies,” has come to mean in state and local finance terms, time is running out for fiscal sustainability—and nowhere sooner right now than for Puerto Rico, where the U.S. Commonwealth’s sand will run out next Tuesday, when the Government Development Bank must make its $354 million debt payment—or must decide to default on the debt because of Puerto Rico’s because worsening liquidity situation. It even appears that some of Gov. Padilla’s advisers have been encouraging the Governor to default, sensing that such a fiscal action might force creditors, including hedge funds, to the negotiating table, or might trigger greater urgency from a somnolent U.S. Congress. There appears to be growing understanding that, absent the process created through chapter 9 municipal bankruptcy, there could be scores of lawsuits by creditors—suits which would not only consume years and years of costly litigation and appeals—a process for an island already Boa constrictor squeezed by $72 billion in debt and a stagnant local economy, but leave a defaulted husk which would not be able to make any court ordered payment. Thus, perhaps unsurprisingly, some of the Commonwealth’s key creditors are beginning to indicate interest in a government proposal to overhaul Puerto Rico’s—almost as if we are at the beginning of an outside the court plan of debt adjustment process—all occurring not before a federal bankruptcy court, but rather a unique effort to avoid a default.
By last week, in meetings with advisers to creditor groups, a chief governmental adviser, Jim Millstein, had offered a proposal to exchange Puerto Rico’s current outstanding municipal bonds for new debt—some term it a “superbond”—debt which clearly would alleviate the threat of imminent default for Puerto Rico on its outstanding full faith and credit general obligation bonds—bonds which carry a guarantee in the Puerto Rico constitution stipulating that debt must be repaid before just about any other expense. That offer appears to have opened the door to discussions with as many as six hedge funds and other investment firms which own general obligation bonds in support of some kind of a debt exchange. The exceptionally insightful MMA analysts carefully note that “Such a plan is legally, politically, and operationally problematic; however, hurdles like these have been cleared in previous municipal restructurings, implying that this may be the PR team’s best idea yet,” adding that “Non-adversarial, non-litigious proceedings with bondholders would likely become impossible should [those] defaults occur.”
Hear Ye! The acceleration of the negotiations in Puerto Rico and the U.S. Senate come in the wake of the Supreme Court’s agreement to consider Puerto Rico’s appeal [15-108 Puerto Rico v. Valle, Luis M., et al] of lower court rulings that the U.S. bankruptcy code preempted the territory’s attempt to pass its own restructuring law last summer. The involvement now of the third branch of the federal government raises the issue with regard to what the legal “status” of Puerto Rico is, and what the territory’s legal and constitutional relationship to the United States is, with the certiorari petition to the court noting: “This is the most important case on the constitutional relationship between Puerto Rico and the United States since the establishment of the Commonwealth in 1952.” The specific issue is how the Double Jeopardy clause and the “dual sovereignty” doctrine apply to criminal prosecutions brought against the same defendant in federal court and the Puerto Rico courts: the Double Jeopardy Clause protects against successive prosecutions only by the same sovereign. In our unique constitutional form of dual sovereignty, where States are, ergo, defined as separate sovereigns, the question is whether the Commonwealth of Puerto Rico should be treated similarly to a State for purposes of double jeopardy.
In effect, a key issue is whether Puerto Rico is a distinct sovereign from the national government or still a “territory” of the United States for constitutional purposes, so that when Puerto Rico enacts laws, is it exercising the powers of autonomous self-government, or only the powers that have been delegated to it by Congress. Thus, the courts of Puerto Rico are in essence courts of the United States, Puerto Rico and the United States are “the same” sovereign, and once there has been a federal criminal conviction, a defendant cannot be tried for the same crime in the Puerto Rico courts. On the other side, the argument of the government of Puerto Rico is that the relationship of the United States to Puerto Rico, which the United States took possession of from Spain after the Spanish-American War of 1898, was fundamentally transformed in 1952, when Congress and Puerto Rico entered into a “compact” that created the Commonwealth of Puerto Rico. As a result, Puerto Rico held a Constitutional Convention and adopted its own popularly-ratified Constitution, which the United States Congress and the President approved. Since then, Puerto Rico has been a self-governing entity in much the same way as the States and should be considered a separate “sovereign,” entitled to prosecute criminal defendants under its own laws, for purposes of the Double Jeopardy Clause.
The court’s decision will be a defining moment to determine what Puerto Rico is and what its current and future relationship to the United States is and will be, especially given divided decisions below: the 1st Circuit, which appears to have with the greatest expertise with regard to Puerto Rico issues, has long held that Puerto Rico is a separate sovereign for double jeopardy purposes. The Puerto Rico Supreme Court, in contrast, in the pending case, overruled its prior decisions and held that Puerto Rico is not a distinct sovereign. Stay tuned.
Unpassing Grades & Bad Math Scores. S&P has put the already junk-rated Chicago Public School system under a BB rating, with S&P analyst Jennifer Boyd writing: “The CreditWatch action is based on our view of the board’s lack of progress in meeting the assumptions in its fiscal 2016 budget for Chicago Public Schools.” The CPS budget assumes $480 million of pension help from the seemingly dysfunctional state government, already in a budget lock-down for five months, jeopardizing CPS’s solvency—and now promising further fiscal distress when CPS goes to market to borrow some $1 billion, reportedly as early as January, in the wake the December release of the district’s fiscal 2015 comprehensive annual financial report, which has been delayed in many previous years. In addition to $500 million for ongoing capital projects, CPS hopes to use the new debt in an effort to defer $250 million of principal payments for budget relief, and cover fees to cancel swaps now in default due to its credit deterioration: CPS faces more than $200 million in termination payments to cancel its swap contracts based on recent valuations. While Illinois Gov. Bruce Rauner has offered the idea of the legislature to amend Illinois law so that CPS could file for Chapter 9 municipal bankruptcy, Chicago Mayor Rahm Emanuel and CPS chief Forrest Claypool have dismissed the notion. CPS Chief is pressing for state help, saying such help simply bring Chicago level with other districts throughout the state, noting: “Chicago’s children are 20% of the state’s enrollment, and their families and neighbors provide 20% of the income tax money that funds public education in our state,” but, according to Mr. Claypool, the Chicago district only receives 15%. The district’s $6.4 billion budget relies on $200 million of previously announced cuts, $480 million of state help to make the district’s $688 million teachers’ pension fund payment, $250 million of debt restructuring, $75 million from reserves, $62 million from tax-increment financing surplus revenues, and $80 million in higher property tax revenue to close a billion dollar deficit. There appears to be, after years of one-shot practices and accounting gimmicks, partial pension payment holidays, and shifts in the timing of tax collections, a fiscal recognition: Mr. Claypool notes, referring to CPS: “Frankly, they borrowed money we didn’t have, year after year, because it was better than the alternative — laying off teachers, increasing class sizes and taking resources from the classrooms…With the district at junk-bond status, we’ve run out of one-time tricks. We’re nearing a breaking point. And without a solution, our schools will look very different next semester and next year.”