About Frank Shafroth

Frank Shafroth is the former Director of Legislative Affairs and Intergovernmental Relations for the Municipal Securities Rulemaking Board (MSRB). Mr. Shafroth worked with the executive leadership to manage the MSRB's strategic relationships with state, local and the federal government and monitor legislative and congressional activities that affect the municipal bond industry and the authority of the MSRB. He currently serves as the the Director for the Center of State and Local Leadership and Assistant Professor at George Mason University. Mr. Shafroth has more than 30 years of experience on Capitol Hill and representing state and municipal issues before Congress. Previously, he was chief of staff to Congressman Jim Moran (D-VA), advising the Congressman on economic, tax, housing and community development legislative issues. He was also director of government relations for Arlington County, Virginia, and has served as director of state and federal relations at the National Association of Governors and the National League of Cities. Mr. Shafroth was also a Peace Corps volunteer in Liberia and Colombia and, early in his career, served as a congressional aide and staffer on various House and Senate offices and committees.

Potholes in the Motor City Road to Recovery & un Federalism in Puerto Rico

eBlog

July 20, 2018

Good Morning! In this morning’s eBlog, we consider some of the post chapter 9 municipal bankruptcy challenges Detroit confronts, before returning to some of the legal, governing, and judicial challenges to Puerto Rico’s fiscal recovery.

The Potholes in Recovering from Municipal Bankruptcy. Five years out from the nation’s largest ever chapter 9 municipal bankruptcy incurred in the wake of accruing some $14 billion in long-term debt, the city’s plan of debt adjustment has unrolled in a sparkling fashion, especially downtown and around Michigan Central Station. Just under 40% of jobs in Detroit are deemed high skill—higher than the surrounding neighborhoods—and especially valuable in a city which, unlike most, boast an income tax. Nevertheless, median income, at about $56,000 is the lowest in the nation among major metropolitan regions. And the sorry state of the Detroit Public School system continues to discourage families with kids to move from the city’s suburbs into the city: in excess of 90% of eighth graders lack proficiency in math and reading.

A key to the recovery has been the auto industry—and major foundations, including the Kresge, Ford, and the Community Foundation of Southeast Michigan—all of which contributed to the so-called “grand bargain” in the city’s chapter 9 plan of debt adjustment approved by Judge Steven Rhodes—an adjustment which brought in hundreds of millions of dollars to safeguard pensions and preserve the city’s jewel in its crown: the Detroit Institute of Art. Moreover, since then, foundations have contributed great sums to workforce training in Detroit, retail revival, human welfare services and more—as well as for-profit corporations, such as JP Morgan Chase, which has been pumping $150 million into the city to support a variety of efforts from retail to job training. Moreover, millennials and empty-nesters have moved downtown: in the past few years, a trickle of newcomers has swelled to a flood, meaning what, on the city’s first day in chapter 9 municipal bankruptcy when it was unsafe to walk downtown, is, today, an area of dozens of new residential developments, which have been built or are underway in the greater downtown, from the revival of classic skyscrapers like the David Whitney Building and Broderick Tower to new construction like the Auburn and DuCharme Place. If anything, an urban challenge confronting city leaders today is the escalation of rents—forcing questions with regard to displacement.

Changing the Premise of PROMESA? In the wake of Judge Laura Swain Taylor’s rulings, there appears to be increasing pressure in Congress to revise or repeal the Puerto Rico Oversight, Management, and Economic Stability Act [PROMESA], after a the Judge suggested the U.S. government could be liable for cuts to bond values mandated by the PROMESA Oversight Board. U.S. Court of Federal Claims Chief Judge Susan Braden issued her opinion [Altair Global Credit Opportunity Fund et al. v. The U.S. Court of Federal Claims, No. 17-970C, July 17, 2018, in the case filed by investment funds against the U.S. government concerning defaulted employment retirement system bonds. Judge Braden’s signal that she was inclined to rule in favor on the claims drew reactions from members of the Puerto Rico Task Force of the Congressional Hispanic Caucus—or as U.S. Rep. Darren Soto )D-Fl.) put it: “This ruling exposes additional problems with the PROMESA act…It may also be a catalyst to support a reform or repeal to provide Puerto Rico full bankruptcy rights.”

Rep. José Serrano (D-N.Y.), who was born in Mayagüez, Puerto Rico, agreed that the opinion may have an impact on Puerto Rico; however, he was uncertain it would be for the better—rather, he seemed apprehensive Judge Braden’s opinion placed the interests of creditors in front of those of the citizens of Puerto Rico—American citizens, noting: “By making the U.S. government liable for Puerto Rico’s debt, the court has essentially determined that bondholders can have priority over the needs of the Puerto Rican people: This would force the federal government to make the hedge funds whole, rather than focusing on the true intent of PROMESA: helping Puerto Rico get on a sustainable economic and fiscal path. We have to make sure the people of Puerto Rico come first.” In stark contrast, Manal Mehta, founder of Sunesis Capital, agreed the ruling would help bondholders, but he saw this as a positive. “The plaintiffs had to get over the hurdle to show this is actually a claim against the federal government to get to federal claims court. This is a solid win for creditors,” noting: “It looks like the court made the correct decision, as the Lebron [legal case] test emphasizes ‘federal control’ to determine whether something is ‘federal’ for takings purposes, and it’s clear Congress controls the [PROMESA] Oversight Board, as it appoints it: So there’s now a takings route for creditors, at least in situations where the PROMESA Oversight Board/government has wiped out prepetition collateral, and it’s unlikely to be overturned.” Put more starkly, he added: “Until final adjudication, this ruling strikes a dagger at the heart of the legitimacy of the Oversight Board: I suspect that this will lead Congress to remove and reappoint members of the Oversight Board in a manner that is consistent with the appointments clause of the U.S. Constitution as well as modify Title III of PROMESA to ensure that the federal government does not become liable for creditor claims.”

In her decision, Judge Swain wrote that the PROMESA Oversight Board was part of Puerto Rico’s government, not the federal government. Reminiscent of the old question ‘Who’s on first and what’s on second, Judge Braden’s ruling reached the opposite conclusion, likely, as New York Congresswoman Nydia Velázquez put it: “There’s a good chance this ruling will be appealed.”

Federalism?  Just when the House Popular Democratic Party (PDP) minority joined the suits against the PROMESA Board, Rafael Cox Alomar, a former Popular Resident Commissioner candidate, said that there appears to be consensus in federal court regarding the fact that the territorial clause grants the U.S. Congress absolute powers over the island: “The environment is completely different, and it is an environment where the theory that Congress has plenary powers, powers that are basically unlimited seems to be growing. In other words, the colonial character of the relationship has been reaffirmed,” he added, asserting that he believe the U.S. Supreme Court has established that the Commonwealth of Puerto Rico does not have its own sovereignty with regard to double jeopardy cases, noting: “I do not think that, in the current environment, arguing that PROMESA is unconstitutional or that the Board does not have the power to do this, or that…or that Congress cannot get involved in legislating in internal affairs without the consent of Puerto Ricans, will be very successful,” suggesting “a new model based on the sovereignty of Puerto Rico is what is needed.”

Adding to the matter, the Popular Democratic Party caucus yesterday filed suit in federal court questioning the constitutionality of the creation of the PROMESA Board, as well as the alleged usurpation of powers, making it the third case filed in the wake of the PROMESA Board’s failure to certify the budget approved by the Legislative Assembly facing the breach of the agreement reached with Governor Ricardo Rosselló Nevares, which included repealing the Law of Unjust Dismissal (Law 80-1976) as a requirement to, among other things, retain the Christmas bonus of public employees.

Indeed, the courtroom is in a traffic jam: last week, Governor Ricardo Rosselló Nevares sued the Board for usurpation of his authority, while, in a separate lawsuit, the Legislative Assembly argued an excess of authority on the part of the PROMESA Board—or, as House Member Rafael “Tatito” Hernández put it: “The Board wants to rule, wants to legislate, and wants to establish public policy in Puerto Rico without being democratically elected. It does not have that power, and it does not result from any clause in PROMESA Law. We are not challenging PROMESA; we are specifically challenging the Board.”

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The Fiscal Challenges of Federalism

July 13, 2018

Good Morning! In this morning’s eBlog, we consider the legal, governing, and judicial challenges to Puerto Rico’s fiscal recovery, before turning to the very different kinds of fiscal recovery challenges confronting Wilkes-Barre, Pennsylvania.

Who Is Preempting Whose Power & Authority? Yesterday, the PROMESA Oversight  Board requested dismissal of Gov. Ricardo Rosselló Nevares’ suit in which he is charging that the Oversight Board has usurped his power and authority, with the Board asking the federal court to issue an injunction to prevent such action, noting in its filing: “Although PROMESA relies in the sole discretion of the Board, two major policy instruments that exist, the fiscal plan and the budget, and the law expressly empowers the Board to formulate and certify them…the Governor questions whether PROMESA preserves to the government the political powers and of government to make policy decisions.”  In response, the Board asserted that the Governor’s claim lacks merit, asserting that the law provides that the Board has the final say with regard to budget and tax issues, writing: “The provisions to which the Governor objects are not recommendations in the sense of §205 of PROMESA,” with that response coming just minutes after the U.S. requested—for a second time—its insistence on the “Constitutionality of the PROMESA statute. In a motion filed Wednesday, U.S. Justice Department Assistant Attorney General Thomas Ward advised Judge Laura Taylor Swain that two recent decisions upon which Puerto Rico had relied were not pertinent to the legal issues at hand. Promise law.

In a motion filed Wednesday, Assistant U.S. Attorney General Thomas G. Ward and Jean Lin of the Justice Department asserted before Judge Taylor Swain that two recent U.S. Supreme Court decisions presented by the Aurelius Management Investment Fund were not relevant to the critical issues at hand, after, earlier this week, the Fund had provided the Judge with two U.S. Supreme Court decisions which, it asserted, affirm its perception of the statute, as it continues to argue before the federal court that the actions of the PROMESA Board are null and void, because the members of the Board without the consent of the Senate as required by the U.S. Constitution, referencing two recent U.S. Supreme Court decisions, Lucia v. SEC and Ortiz v. United States, where, in the former case, the court, last month, determined that a higher ranking SEC official should have been appointed to his position based on the Appointments Clause of the US Constitution, while, in the Ortiz decision, the Supreme Court held that it has jurisdiction to review decisions of the Armed Forces’ appellate courts—claims which the Justice Department described as incorrect, since such decisions only support his argument that the appointment clause of the U.S. Constitution does not apply to members of the PROMESA Oversight Board—or, as the Justice Department brief put it: “A finding that the clause applies to territorial officials would not only face this historic practice, but would also challenge the current governance structures of the territories and the District of Columbia that have been in place for decades,” adding to that Congress has full authority over its territories—authority which is not subject to the “complex” distribution of the powers of the government provided by the U.S. Constitution.

Last week, Gov. Rosselló had charged that the PROMESA Oversight Board has been trying to make policy decisions that the PROMESA law does not grant it authority to make, as he had petitioned Judge Swain to mandate that the Board to answer the complaint or motion to dismiss by yesterday. His attorneys stated: “The court should expedite resolution of this case to address the injury to the Commonwealth and its people occurring every day due to the Board’s attempt to seize day-to-day control of Puerto Rico’s government.” Even though the PROMESA Board asked for more time, Judge Swain ruled in favor of the Governor’s request—so, the complex federalism sessions are scheduled to resume on the 25th, when the quasi bankruptcy court will entertain oral arguments, possibly including participation by Puerto Rico Senate President Thomas Rivera Schatz and House President Carlos Méndez Núñez, who filed a similar suit against the board on July 9th, asserting that the PROMESA Board was preempting the legislature’s rightful powers. Thus, even the Board and the Governor have generally been in agreement this year in their fiscal plans, the Board has insisted its policies must be followed—with its proposed quasi plan of debt adjustment showing a surplus of $6.5 billion from this fiscal year through fiscal year 2023.

In the suit, Gov. Rosselló quotes from Judge Swain’s opinion of last November and order denying the PROMESA Board’s motion to replace the then-chief executive of the Puerto Rico Electric Power Authority with the board’s own appointee, with the opinion noting: “Congress did not grant the [Oversight Board] the power to supplant, bypass, or replace the Commonwealth’s elected leaders and their appointees in the exercise of their managerial duties whenever the Oversight Board might deem such a change expedient.”

Mayor of Wilkes-Barre Asks State for Financial Assistance. Mayor Tony George, whose city is confronting a $3.5 million deficit in the upcoming fiscal year, is seeking financial assistance under Pennsylvania’s program for distressed communities, the Financially Distressed Municipalities Act, approval of which request would mean the municipality would be eligible for loans and grants through the state Department of Community and Economic Development. The move came as Standard & Poor’s placed the city’s “BBB-” rating on CreditWatch with negative implications, in the wake of Mayor George’s petition to the Pennsylvania Department of Community and Economic Development, with the Mayor warning the city faces an estimated $3.5 million deficit next year and in the coming years despite efforts to place Wilkes-Barre on sound financial footing with its participation in Pennsylvania’s Early Intervention Program. The credit rating agency added it will gather more information before making a determination that could make it more expensive for the city to borrow money at higher interest rates, noting: “We expect to resolve the CreditWatch status within 30 days. We could lower the rating if we believe that the city’s credit quality is no longer commensurate with the rating. However, if we believe it does remain commensurate with the current rating, we could affirm the rating and remove it from CreditWatch.” Should the credit rating be downgraded, it would be the second time during Mayor George’s administration, after, a year ago last May, S&P lowered the rating to “BBB-” from “A-” because the city’s cash flow was constrained and was relying on borrowing to make ends meet. City officials are tentatively scheduled to hold a conference call with S&P on August 7th—by which time the state is expected to have made its decision on declaring the city distressed.

Under that state statute, municipalities may also restructure debt. If the Mayor’s request is granted, the state will appoint a financial adviser to design a financial recovery plan for the city—one of the nation’s oldest, having been inhabited first by the Shawanese and Delaware Indian and (Lenape) tribes, so that it was in 1769 that John Durkee led the first recorded Europeans to the area, where they established a frontier settlement named Wilkes-Barre after John Wilkes and Isaac Barre, two British members of Parliament who supported colonial America. At the time, these settlers were aligned with colonial Connecticut, which had a claim on the land that rivaled Pennsylvania’s. Indeed, armed Pennsylvanians twice attempted to evict the residents of Wilkes-Barre in what came to be known as the Pennamite-Yankee Wars, so that it was not until after the American Revolution, in the 1780s, that a settlement was reached granting the disputed land to Pennsylvania. A century later, the city’s population exploded in the wake of the discovery of anthracite coal, an explosion so powerful that the city was nicknamed “The Diamond City:” hundreds of thousands of immigrants flocked to the city. By 1806, it was incorporated as a borough; it became a city in 1871—as it gradually became a major U.S. coal center, and an early home to Woolworth’s, Sterling Hotels, Planter’s Peanuts, Miner’s Bank, Bell Telephone, HBO, Luzerne National Bank, and Stegmaier. But the coal which once contributed so much to the city’s growth, subsequently let it down: not only were there terrible mine disasters, but also the country began to switch to other energy sources. So, the city where Babe Ruth knocked one of his longest ever homes runs is, today, at risk of striking out at the plate.  The city, which a dozen years ago celebrated its 200th anniversary, is now seeking assistance via the state’s Act 47, with the Mayor citing—as additional factors, the lack of cooperation with area unions and his own City Council. He appears to be of the view that there was no other alternative to help stabilize the city’s finances other than filing for status under Pennsylvania’s Act 47 for Distressed Municipalities, noting: “My goal is to bring the city forward, and we’re stifled.”

In Pennsylvania there are four general methods of oversight used to aid local governments: Intergovernmental Cooperation Authorities, which are used with Philadelphia and Pittsburgh; ƒ School district assistance, which can come in the form of technical assistance, or schools which can be deemed in Financial Watch Status or in Financial Recovery Status; Early intervention program for municipalities before Act 475; and Act 47, or Pennsylvania’s Municipalities Financial Recovery Act of 1987.  What Is Pennsylvania’s Act 47? We will go into more depth about Act 47 because that is the program for which Wilkes-Barre recently applied. We also touch on the special consideration taken for Pittsburgh and Philadelphia as it relates to Act 47 as we close this commentary. The Pennsylvania Municipalities Financial Recovery Act of 1987, or Act 47 as it is commonly called, is an assistance program to help Pennsylvania municipalities after they file and are officially designated as “distressed.” Many states, such as the commonwealth of Pennsylvania, generally believe that the status of one of its municipalities can affect others throughout the state. This is even set forth in writing in PA’s Act 47, which states: “Policy—It is hereby declared to be a public policy of the Commonwealth to foster fiscal integrity of municipalities so that they provide for the health, safety and welfare of their citizens; pay principal and interest on their debt obligations when due; meet financial obligations to their employees, vendors and suppliers; and provide for proper financial accounting procedures, budgeting and taxing practices. The failure of a municipality to do so is hereby determined to affect adversely the health, safety and welfare not only of the citizens of the municipality but also of other citizens in this Commonwealth.”

How Does a Pennsylvania Municipality Become Part of Act 47? The Municipalities Financial Recovery Act authorizes Pennsylvania’s Department of Community and Economic Development (DCED) to validate municipalities as financially distressed. According to Act 47’s criteria, a municipality could be deemed financially distressed if it meets at least one of the following criteria: The municipality has maintained a deficit over a three-year period, with a deficit of 1% or more in each of the previous fiscal years. The municipality’s expenditures have exceeded revenues for a period of three years or more. The municipality has defaulted in payment of principal or interest on any of its bonds or notes or in payment of rentals due any authority. The municipality has missed a payroll for 30 days. The municipality has failed to make required payments to judgment creditors for 30 days beyond the date of the recording of the judgment. The municipality, for a period of at least 30 days beyond the due date, has failed to forward taxes withheld on the income of employees or has failed to transfer employer or employee contributions for Social Security; it has accumulated and has operated for each of two successive years a deficit equal to 5% or more of its revenues; and it has failed to make the budgeted payment of its minimum municipal obligation as required by §§302, 303, or 602 of the act of December 18, 1984 (P.L. 1005, No. 205), per the Municipal Pension Plan Funding Standard and Recovery Act, with respect to a pension fund during the fiscal year for which the payment was budgeted and has failed to take action within that time period to make required payments.

Pennsylvania’s Municipalities Financial Recovery Act authorizes Pennsylvania’s Department of Community and Economic Development to validate municipalities as financially distressed. Key criteria include: A municipality has sought to negotiate resolution or adjustment of a claim in excess of 30% against a fund or budget and has failed to reach an agreement with creditors; a municipality has filed for chapter 9 municipal bankruptcy; a municipality has experienced a decrease in a quantified level of municipal service from the preceding fiscal year, which has resulted from the municipality reaching its legal limit in levying real estate taxes for general purposes.  Act 47 offers aid to the commonwealth’s second class cities (defined as those with a population of 250,000 to 999,999) and below which are negatively affected by forces such as short-term swings in the business cycle, or those burdened by more harmful longer-term negative macro-economic shifts: state support or assistance is available in several forms in order to ensure municipalities can provide essential services without interruption.

Over the long-term, Act 47 is focused on balancing ongoing revenues with ongoing expenditures—and investing in the municipality so that growth occurs and, as in a chapter 9 plan of debt adjustment, a municipality can recover. The act provides state-sponsored emergency no-interest loans and grants in order to ensure distressed municipalities can continue meeting debt payments and creditor obligations. The Department appoints a recovery coordinator who creates and then leads in helping to implement a recovery plan. Unlike an emergency manager, the plan provides for a recovery coordinator, who may act as an intermediary between the Mayor and City Council–the recovery plan is similar to a plan of debt adjustment in that it details how the available assistance and other modifications will help the municipality regain its fiscal stability, including via commonwealth economic and community development programs, assistance while negotiating new collective bargaining contracts; and enhanced tax or revenue authority—a key of which is authority to levy a nonresident wage tax.  

Restoring Power–and Recovering Governing Authority

July 10, 2018

Good Morning! In this morning’s eBlog, we consider the challenges of restoration of electric power (as opposed to political power) in Puerto Rico, and then try to explore the risks of powers of appointments of emergency managers by a state—here as the City of Flint, Michigan is still seeking to fiscally and physically recover from the human and fiscal devastation caused by the State of Michigan.

Adios. Walter Higgins, the CEO Puerto Rico’s bankrupt PREPA Electric power authority resigned yesterday, just months after he was chosen to oversee its privatization, an appointment made in an effort to fully restore power some ten months after the human, fiscal, and physical devastation wrought by Hurricane Maria. Now his resignation adds to PREPA’s uphill climb to not only fully restore power, but also to address its $9 billion in debt. Gov. Ricardo Rosselló said in a statement that Mr. Higgins had resigned for personal reasons, while Mr. Higgins, in his resignation letter, wrote that the compensation details outlined in his contract could not be fulfilled—with his written statement coming just one month after the Commonwealth’s Justice Secretary said it would be illegal for him to receive bonuses. According to a PREPA spokesperson, Mr. Higgins will remain as a member of the PREPA Board. Nevertheless, his appointment was stormy itself, after, last month, Puerto Rican officials had questioned how and why he had been awarded a $315,000 contract without authorization from certain government agencies—in response to which PREPA’s Board advised the government as a consultant, rather than filling the vacancy for an executive sub-director of administration and finance. Unsurprisingly, his departure will not be mourned by many Puerto Ricans in view of his generous compensation package of $450,000 annual salary compared to the average income for Puerto Ricans of $19,518.  

Nevertheless, PREPA officials, announced that current Board member Rafael Diaz Granados will become the new CEO—with nearly double the compensation: he will assume the position on Sunday and receive $750,000 a year—a level which Puerto Rico Senate President Thomas Rivera Schatz described as the “kind of insult that to Puerto Ricans is unacceptable,” as the government and PROMESA Oversight Board continue to struggle to address and restructure Puerto Rico’s $70 billion in public debt. Nevertheless, as PREPA crews continue restoring power to the last 1,000 or so customers who have been without power since Maria hit nearly a year ago and destroyed up to 75% of transmission lines across the territory, the federal government is still operating 175 generators across the island.

Indeed, U.S. House Natural Resources Committee Chair Rob Bishop (R-Utah) has scheduled a hearing for July 25th to assess and inquire about the status of the Electric Power Authority and to examine the functioning and plans for the privatization of PREPA assets, an issue which the territory’s non-voting Congressional Representative Jenniffer Gonzalez noted “has been under the Committee’s jurisdiction for the past two years.” Rep. Gonzalez added: “I’m surprised with the salary: I did not expect that amount. I do not know the elements which affected Mr. Higgin’s resignation, and I believe that these changes affect the process of recovery on the island.”

Meanwhile, Chairman Bishop had announced a second potential hearing—this one to assess the operation of the PROMESA statute and how the PROMESA Oversight Board is working, after, last week, postponing an official trip with a dozen Members of Congress to assess the physical and fiscal recovery on the island, after meeting, early last month in San Juan with the now former PREPA Director Higgins, and after, in the spring, Chair Bishop, Chair Doug LaMalfa (R-Ca.), of the Subcommittee on Island Affairs, and Chairman Bruce Westerman (R-Ark.) had announced a probe into “multiple allegations of corruption and serious allegations of maladministration” during the restoration of the electric service after the storm.

Out Like Flint? Meanwhile, in a criminal and fiscal case arising out of Michigan’s Flint water crisis in the wake of fatal decisions by a gubernatorially appointed Emergency Manager, closing arguments in the involuntary manslaughter case against state Health and Human Services Director Nick Lyon began yesterday before Genesee District Court Judge David Goggins, who will determine whether Director Lyon will go on trial in the Flint water crisis prosecution on charges of involuntary manslaughter and misconduct in office connected to the 2014-2015 Legionnaires’ disease outbreak in the Flint region which killed at least 12 people and sickened another 79 people. A misdemeanor charge of “willful neglect” to protect the health of Genesee County residents was added last week. Director Lyon is receiving assistance in his defense from John Bursch, a former Michigan Solicitor General, who was hired for that position by Michigan Attorney General Bill Schuette—who has brought criminal charges related to the Flint water crisis against Director Lyon and 14 other current and former city and state government employees. Flint still faces financial questions after years of emergency management.

The criminal trial comes as questions still remain with regard to Flint’s long-term financial health, despite six years of state oversight that overhauled the city’s finances, after a 2011 state-ordered preliminary review showed problems with Flint’s finances and ultimately recommended an emergency manager for the city. Last April, State Treasurer Nick Khouri repealed all remaining Emergency Manager orders, with state officials claiming the city’s financial emergency has been addressed to a point where receivership was no longer needed, and, as the Treasurer wrote to Mayor Karen Weaver: “Moreover, it appears that financial conditions have been corrected in a sustainable fashion,” and Flint CFO Hughey Newsome said that while emergency managers had helped Flint get its financial house in order; nevertheless, Flint’s fiscal and physical future remains uncertain: “The after-effects of the water crisis, including the dark cloud of the financials, will be here for some time to come: We’re not out of the woods yet, but I don’t think emergency management can help us moving forward.” In the city’s case, the fateful water crisis with its devastating human and fiscal impacts, hit the city as it was still working to recover from massive job and population losses following years of disinvestment by General Motors. CFO Newsome said the crisis affected the city’s economic development efforts and may have left potential businesses wanting to come to Flint wary because of the water.

Flint’s spending became more in line with its revenues, changes were made to its budgeting procedures, and retiree healthcare costs and pension liabilities were reduced while under emergency management. Nevertheless, past financial overseers have warned the city about what would happen if Flint allows its fiscal responsibilities to slip. Three years ago, former Emergency Manager Jerry Ambrose, in a letter to Gov. Snyder, wrote: “If, however, the new policies, practices and organizational changes are ignored in favor of returning to the historic ways of doing business, it is not likely the city will succeed over the long term: The focus of city leaders will then likely once again return to confronting financial insolvency.”

Today, there are still signs of potential fiscal distress, notwithstanding  the city’s recovery; indeed, Mayor Weaver’s FY2019 budget plans for a more than $276,000 general fund surplus—even as the municipal budget is projected to grow to more than $8 million by FY2023, with that growth attributed by CFO Newsome to ongoing legacy costs and a lack of revenue—or, as he put it: “My last two predecessors have really delivered realistic budgets: I definitely don’t see this administration being irresponsible in that regard, and I don’t see this Council rubberstamping such a budget either.”

And, today, questions about criminal and fiscal accountability are issues for the state’s third branch of government: the judiciary, in District Court Judge William Crawford’s courtroom, where the issues with regard to criminal charges relating to the governmental actions of defendants charged for their actions during the Flint Water Crisis include former Emergency Manager Darnell Early and former City of Flint Public Works Director Howard Croft, and former state-appointed Flint Emergency Manager Jerry Ambrose, who, prosecutors  allege, knew the Flint water treatment plant was not ready to produce clean and safe water, but did nothing to stop it. The trial involves multiple charges, including willful neglect of duty and misconduct in office. (Mr.  Ambrose was the state appointed Emergency Manager from January until April of 2015; he also held the title of Finance Director under former state appointed emergency managers Mike Brown and Darnell Early. To date, four others have entered into a plea agreement in their cases.)

Bequeathing a Legacy of healthcare and retirees benefit costs: When Mr. Ambrose left in 2015 and turned things over the to the Receivership Transition Advisory Board, he stated that Flint’s other OPEB costs had been reduced from $850 million to $240 million, adding that a new hybrid pension plan put in place by state appointed emergency managers had reduced Flint’s long-term liability; however, he warned, on-going legacy costs are still one of the most pressing issues for Flint’s fiscal future: “Remember, the reality we’re facing: we have a $561 million liability to (Municipal Employees’ Retirement System), and the fund is only at $220 million; we also have an obligation to our 1,800 retirees to make sure that we’re paying our MERS obligation.” (A three percent raise for Flint police officers approved earlier this year added to those liabilities, with those increases attributable to two different contracts, which were imposed on officers by former state-appointed Emergency Managers Michael Brown and Darnell Earley in 2012 and 2014, respectively.)

The RTAB asked CFO Huey Newsome in January how the city would pay the additional $264,000 annually in wages and benefits along with a projected $3.4 million in additional retirement costs over the life of the contract—a question he was unable to specify an answer to at the time: “To tell you exactly where those‒where those dollars will come from right at this point in time, I can’t say…I think the ‘so what’ of this is that, you know, the incremental impact from this pay raise is not going to be that large when you think about the three and a half million. The city still needs to figure out where that three and a half million is coming from.” Moreover, he added, because police negotiated the raise, it also could be an issue with other unions wanting a similar increase during their future negotiations, adding that the city is making increased payments to MERS to avoid balloon payments in the future. For example, Mr. Newsome said, Flint will pay an additional $21.5 million this year, adding that all the city’s funds currently have a positive balance. However, Flint’s budget projections show the water fund will have a $2.1 million deficit in FY2018-19, a deficit projected to increase to $3.3 million by FY2022-23; Flint’s fiscal projections eventually put the water fund balance in the red by 2022-23; however, CFO Newsome warned: “The water fund is probably the most tepid one, because it is expected to be below the reserve balance by the end of the year,” noting the city can only account for 60% of the water that goes through its system, adding that the city has an 80% collection rate on its water bills, which is about $28 million this fiscal year, telling the Mayor and Council: “One of our top priorities is better metering.”

The city’s most-recent budget for 2018-19 calls for a combined revenue increase of $1.09 million more than previous budget projections because of increased assessed property values, more income taxes coming in, and additional state revenue sharing. Nevertheless, one Board member, notwithstanding projections for increased revenue, is apprehensive that Flint’s “tax base is likely going to continue to shrink, and the city currently has limited resources to reverse this trend,” or, as CFO Newsome put it: “Right now, revenue is not there: The income tax is relatively flat. The property tax is flat. That’s reality.” The city’s current proposed FY2019 budget calls for an increase of $120,000 from property taxes, $339,000 increase in income tax revenue, and an additional $631,000 in revenue from the state of Michigan. 

 

Contrasting Responses to Fiscal and Physical Storms

July 10, 2018

Good Morning! In this morning’s eBlog, we consider the superb update on the fiscal impact of Hurricanes Irma and Maria on the U.S. Virgin Islands by Jason Bram and Lauren Thomas of the New York Federal Reserve.

Much more dependent on tourism than Puerto Rico, the authors noted that there has been far less attention to the fiscal ravages of the two storms despite the fact that St. Thomas, St. Croix, St. John, and a number of smaller islands suffered comparable devastation. No doubt, they point out, this is in part due to their much smaller population: the U.S. Virgin Islands is home to about 105,000 Americans—1/30th Puerto Rico’s population. It is home to Claude O. Markoe Elementary School in Christiansted, where, long, long ago, this author taught school as part of training for the Peace Corps to teach in Bush Gbaepo Grebo Konweaken, in Grand Gedah County, Liberia.

The Fed authors reminded us that the Virgin Islands had already been fiscally weakened prior to the hurricanes in the wake of a shutdown of a major refinery on St. Croix in 2012—a shutdown which dramatically increased the dependence on tourism: employment dropped by about 15 percent between 2011 and 2014; it has changed little since. Then, last September 20th, Hurricane Maria smote St. Croix where, as they described it, the “magnitude of the damage and disruption for the territory as a whole was unprecedented in recent history.” Adding to the physical and fiscal misery, the Virgin Islands could not count on any assistance from Puerto Rico—and, as we have noted based upon the devastating lack of help from the federal government, the U.S. Virgin Islands were mostly left to fend for themselves.

The economic, physical, and fiscal damage, according to the latest available data, meant that total employment in the U.S. Virgin Islands dropped by an estimated 12% between August 2017—right before Hurricanes Irma and Maria—and November of that year; but by May of this year, the authors found that only a fraction of those job losses, about 600, had been reversed. Indeed, it appears that the fiscal and economic effects of Irma and Maria were “substantially more severe in the Virgin Islands than in Puerto Rico, where employment fell by about 6 percent right after Maria.”

Such a disparate outcome would, they wrote, seem unexpected, especially when considering not only the widespread power outages and pathetic FEMA responses which affected so much of Puerto Rico for so very long—and began to drain the U.S. territory of those most fiscally and physically able to leave for the mainland, especially when compared to the Virgin Islands, where “literally everyone lives within a few miles of the coastline,” unlike Puerto Rico where the steep mountains vastly complicated the task of restoring power to hospitals and police and emergency response centers, leading the Fed authors to pose the question: “With this greater disruption of everyday life occurring in Puerto Rico, why would the economic effect appear considerably more severe in the Virgin Islands?”

The authors note that a critical distinction relates to the Virgin Islands’ high dependence on tourism—a reliance which can be especially pernicious in the wake of a major natural disaster. Thus, they wrote, because tourism tends to be particularly sensitive to the aftermath of natural disasters, “the Virgin Islands’ dependence on this industry largely explains the relatively severe economic hit,” contrasting that with Puerto Rico’s much more diversified economy, illustrating the difference by noting that Puerto Rico’s hotel/accommodation industry, which represents just over 2% of private-sector jobs in Puerto Rico, accounts for about 13% of jobs in the U.S. Virgin Islands. Thus, one fiscal outcome of the storm was the hotel/tourist industry in the U.S. Virgin Islands experienced an especially steep slump after the storm: as of last December, employment in that industry had fallen by 1,300 jobs, or 35%; employment in the broader leisure and hospitality sector—which also includes restaurants and bars but largely caters to visitors—fell by just under 30%. Nearby in Puerto Rico, in comparison, tourism and hospitality job losses accounted for only about 25% of the total job loss. 

The Fed writers also examined the contrasting capacities of the two U.S. territories to accommodate tourists, writing that the damage wrought to hotels in the Virgin Islands after the two hurricanes significantly impacted the capacity for fiscal recovery: by the middle of last May, nearly 90% of Puerto Rico’s 149 hotels had reopened. In contrast, only 60% of the Virgin Islands’ had—adding that, in the Virgin Islands, relief workers were being housed in many of the available rooms, reducing the capacity for tourists or business travelers—and noting: “Remarkably, there has been virtually no new hotel construction in the Virgin Islands for more than two decades.” With the latter, they note, adding to the fiscal challenges to the U.S. Virgin Islands, because of the related sharp decline in restaurant business—finding that local economies had contracted far more sharply in the Virgin Islands than in Puerto Rico, where the surge of rescue workers, including from FEMA and army personnel, utility crews, and construction workers, helped offset the loss of tourists.

Now, they note, the key challenge for the U.S. Virgin Islands’ economy is to restart its vital tourism, noting that the critical steps “appear to be twofold: restoring its capacity to accommodate overnight guests, and encouraging visitors to come,” but, critically, also noting that, in the long-term, the Virgin Islands confront a dilemma: “Is it best to focus resources and policy on a key industry like tourism, which brings in money from outside, or should policy place more of an emphasis on diversifying into other industries, which may be less vulnerable to the periodic hurricane?”

Accounting for Municipal Futures

July 9, 2018

Good Morning! In this morning’s eBlog, we consider we consider the ongoing governance challenges in Puerto Rico—and how distinct its form of governmental bankruptcy is, before looking at some innovative efforts by Puerto Rico’s elected local leaders to institute new accounting measures.

Who’s in Charge of Puerto Rico’s Physical and Fiscal Future? U.S. District Judge Laura Swain Taylor has granted a motion by the Commonwealth to accelerate the terms of the motions and the aftershocks associated with the lawsuit filed by Gov. Ricardo Rosselló Nevares against the PROMESA Oversight Board, a judicial action which Christian Sobrino, the Governor’s representative before the Board, could be completed the end of this month, noting: “The Judge has a good appreciation of the right which will apply in the case and understands that (the dispute in the lawsuit) is a matter that is not dependent on facts, but rather on an interpretation of PROMESA statute.In the case, which was filed as an adversarial suit within the government’s quasi bankruptcy cases, Judge Swain is asked to issue an injunction and a declaratory judgment against the Oversight Board for preempting, by means of its fiscal plan and budget aims, to impose public policy decisions, rather than recommend “non-binding” recommendations. Therefore, the motion asserts the Governor does not have to comply, or, as he put it: “I think the judge appreciates how essential it is (the demand) for the government’s operation.”

The motion would appear to set a short time frame: the Oversight Board would have to respond to the demand by Thursday; responses to the motions will continue until July 20th, with the arguments considered as part of an “omnibus” hearing scheduled for July 25th in the District Court of Puerto Rico, in Hato Rey, the most densely populated neighborhood in San Juan. In his complaint, the Governor has argued that the Board is intent upon “micro administering” the government of Puerto Rico—a governing responsibility which belongs to his administration, and not to the body created by the U.S. Congress to control the finances of the government of Puerto Rico—adding that the remedy requested by the government of Puerto Rico does not imply that the fiscal plan approved by the Oversight Board last April is nullified, but rather that the so-called ‘corrective sheets’ issued by the Board, such as the suspension of the Christmas bonus, the reduction of personnel in the public service, or the consolidation of agencies, and the way in which the pension plans will be reformed, are competences of the government—not of the Oversight Board. A key sticking point, as we have noted, has been with regard to Law 80, the Law on Unjustified Dismissal (Law 80). The Board had demanded the preemption or elimination of this law, asserting it would improve the business climate in Puerto Rico—a preemption unsurprisingly opposed by legislative leaders, who had rejected an agreement between Gov. Rosselló Nevares and the PROMESA Board in which, in exchange for the repeal of Law 80, the Board would have granted a series of increases to some budget items for the new fiscal year which commenced this month. Thus, Gov. Rosselló, last Thursday, went to court to challenge the budget imposed by the PROMESA Oversight Board, claiming the Board had overstepped its authority. Moreover,

Puerto Rico Senate President Thomas Rivera Schatz said he supported the Governor’s suit against the both the Board and its proposed preemption budget, while the Board defended its authority, citing the 2016 PROMESA statute enacted, theoretically, to help the Commonwealth manage its economy and restructure its debt. In response, the PROMESA Board issued a statement: “The Financial Oversight and Management Board for Puerto Rico approved and certified a Commonwealth budget for FY2019 in compliance with the certified fiscal plan and in accordance with [the Puerto Rico Oversight, Management, and Economic Stability Act to put Puerto Rico on the road to recovery. The Oversight Board will vigorously defend against any suit attempting to thwart the carrying out of the budget and fiscal plan,”  referring to the fiscal plan it had approved on June 30th by unanimous consent and declaring it to be the valid budget for Puerto Rico—a proposed budget which allocated $8.758 billion for the General Fund and $20.664 billion for Puerto Rico’s consolidated budget—a fiscal budget intended to preempt Puerto Rico’s authority and go into effect on July 1.

Gov. Rosselló said that he would ask a court to establish that the Board’s fiscal plan and budget are recommendations—and recommendations only, adding he would seek a “declaratory judgment and an injunction” on the Board’s attempt to usurp the Commonwealth of Puerto Rico’s right to home rule by including components in the budget which control public policy—no doubt referencing the PROMESA Board’s approved budget’s elimination of funding for the government’s longstanding Christmas bonus, for a municipal aid program, and several other purposes supported by the Governor. The PROMESA Board had agreed with the Governor Rosselló to funding these items in exchange for a promise from the Governor that Puerto Rico would adopt at-will employment by rescinding Law 80; however, as we have noted, under the leadership of Senate President Thomas Rivera Schatz, the Puerto Rico Senate refused to rescind Law 80—an action which, while it led to strained relations between the Governor and Senate leader late last month, appears to have dissipated in the face of the preemptive efforts by the unelected PROMESA Board—or, as Sen. Rivera Schatz at the end of last month put it: “We must put a stop to the Napoleonic pretensions of the fiscal control board. We have and must defend the people of Puerto Rico. That’s the right thing, Governor. I congratulate you…Puerto Rico has a democratically elected government: “We don’t accept an imposed and abusive government.”

The federalism challenge came as, on June 30th, the PROMESA Board also approved budgets for the Government Development Bank, the Puerto Rico Highways and Transportation Authority, the University of Puerto Rico, the Puerto Rico Aqueduct and Sewer Authority, and the Puerto Rico Electric Power Authority—approvals upon which the Governor has not yet indicated whether he planned to challenge these budgets in court as well.

Nevertheless, the Governor has called for an extraordinary session of the Legislature in a bid to pass Law 80, the controversial labor reform bill which would modify worker protections in order to make the U.S. territory more attractive for investment—an effort the PROMESA Oversight Board has long insisted upon—a call which, at least so far, has gone begging . Nevertheless, the legislature has balked, including leaders from Governor Rossello’s own political party. Absent the reform, basic assumptions about Puerto Rico’s fiscal and governance future are unclear. The Governor, in a televised address to the Commonwealth, called for a last-ditch session of lawmakers to approve a version of the reform, noting: “I’m confident that this call for an extraordinary session will serve to avert the damage that the failure to fulfill the agreement with the Board causes to the island’s economy, as well as important sectors of our society.” Previously, both Gov. Rossello and the Board had acknowledged, reluctantly, that critical questions for the island’s future may have to be settled by a court—a settlement which the Governor apparently believes the government would stand little chance of winning, as his reading of PROMESA makes clear the Board’s power in matters of the budget, ergo, he said, compromise was critical to create a sense of predictability around Puerto Rico’s future. Nevertheless, he also said that he had signed the legislature’s budget, as opposed to an alternate version advocated by the PROMESA Board, and that, for the time being, that was the version, which is in effect: the PROMESA Board’s budget was unacceptable, he noted.

The Commonwealth has defaulted on its municipal bonds; it is confronted with $120 billion in debt and pension obligations, which it simply cannot fiscally meet. And now the question of ‘Who’s on First,” in the wake of a decade of recession and then the disparate federal fiscal and physical response to the devastation caused by Hurricane Maria—combine with the fiscal hurricane of federal preemption with the imposition by Congress of a fiscal oversight board—has made the path back to self-governance its own fiscal and governance maze.

Natalie Jaresko, the Executive Director of the PROMESA Board, stated: “The Board continues to believe that comprehensive labor reform, including the repeal of Law 80 to make Puerto Rico an at-will-employment jurisdiction, is an essential component of the reforms needed to improve the island’s economy and make the business environment more competitive.” Last Friday, at a press conference, PROMESA Board members said they viewed labor reform as essential to Puerto Rico’s transformation—demonstrating that, as opposed to governance in chapter 9 municipal bankruptcies, where, under most state laws, there is an emergency manager designated to put together a plan of debt adjustment for approval by a U.S. Bankruptcy Court; in PROMESA, it is almost as if there are too many judicial/fiscal cooks in the kitchen.

Accounting for Municipalities Futures. Even as the path to fiscal solvency is conflicted for the Commonwealth of Puerto Rico, the issue of municipal accounting is drawing constructive attention among the island’s municipalities. Mayor Carlos Delgado Altiera of Isabela, a muncipio spread over 13 wards and also known as the “Garden of the Northwest,” for its many wild flowers, and as the town of “Leaf Cheeses,” for its production of white cheese wrapped in banana leaves—and as the City of Fighting Cocks,” as it has served as a home for the breeding of these birds since the 18th century, has indicated that the issue of creating a standardized municipal accounting system “generates many questions,” so that there is an interest to acquire technology to standardize the accounting systems of the municipalities. Thus, Mayors or Alcaldes of the New Progressive Party have urged Gov. Rosselló Nevares to veto a measure (Senate 550) authored by Senate President Thomas Rivera Schatz, which seeks to impose a unique accounting system in the municipalities. The rejection of the so-called Senate 550 Project has also been joined by the popular municipal executives: the consensus is that such a change would represent a setback and an unnecessary and impossible economic investment for most municipalities—or, as Mayor Javier Jiménez of San Sebastian put it: “The Governor was being asked to veto that project, because, definitely, centralizing again (those functions) would create a tremendous problem for us,” noting that, in recent weeks, he has met with some 20 mayors, both popular and penepés (supporters of statehood): all are opposed to the measure. The Mayor argued that each municipality has already developed an accounting system, which meets their needs.

Indeed, it seems that for several mayors, the measure has come as a surprise, even more so when the Senate President had become their ally on other issues, such as the elevation to the constitutional rank of municipal autonomy and the development of measures aimed at having the State consult them with regard to the approval of exemptions and charges that adversely impact their collections. Mayor Jiménez explained that, in the past, the Office of Municipal Affairs was the body in charge of operating the accounting systems for the island’s municipalities. However, given the inability to maintain an updated system and in line with the progress, the mayors had been permitted to contract and use that technology that would meet their needs—or, as Mayor José A. Santiago of Comerío put it: “I cannot understand how, after so many examples of the problems caused by centralization: let us walk in the opposite direction to what should be the strengthening of local governments.” Under the proposal, which would be implemented through a contract with a private company, a requisite, so that the municipalities could access advanced services and reduce the risk of loss of essential services and municipal revenues, such a service would also give them the flexibility they need to adapt to the advances and challenges. The proposed Municipal Revenue Collection Center (CRIM) would become the entity charged, as the founders are of the perception that manymunicipalities do not have the way to know with certainty how much money they owe in municipal contributions, the debts between the different funds or their cash balances, or how many businesses have started or stopped operating in recent years.” The effort, the founders note, is necessary, because the “state government does not have the economic resources to develop such a large technology, the immersion of the private sector is of crucial importance,” with Isabel Mayor Carlos Delgado noting that among the island’s 78 municipios, a number simply lack the requisite technology and management experience.

In a letter sent to the Governor signed by the executive director of the Federation of Mayors, Mayor Isabelo Molina Hernandez, and signed by Federation President Carlos Molina Rodríguez, they wrote:The Federation of Mayors does not endorse the project…It promotes unnecessary centralization and negatively affects the public policy of greater municipal autonomy.”

According to the measure, a September 2016 report from Puerto Rican Office of the Comptroller, the “vast majority of municipios failed to comply” with the criteria considered in the components of computerized systems, such as physical security and environmental controls, logical access control and control of computers, among others.” Mayor Hernández argued that municipios are subject to oversight by the Office of the Comptroller, Government Ethics, the Federal Inspector General, as well as external audits; thus, he added, if the central government wishes to have additional tools to provide greater access to the public, it can develop an information system in which municipalities publish their financial information.

A Tale of Two Cities

July 3, 2018

Good Morning! In this morning’s eBlog, we consider a tale of two cities connected by geography and history, but divided by a fiscal chasm.

A Fiscal Dividing Line. Mayor Kevin Mumpower was reelected in a unanimous Council vote, Tuesday, to serve a second, consecutive term as Mayor of Bristol, Virginia, an independent, border municipality in southern Virginia of just over 17,000, where, on Thursday, the Council has scheduled a work session to complete its review of applicants for boards and commissions. The Council’s first regularly scheduled meeting is scheduled for next Tuesday. The city is twinned with its neighbor, Bristol, Tennessee, which has a larger population of over 27,000. The twin cities’ heritage dates back more than 250 years to when Evan Shelby came to the area in 1766—an area once inhabited by Cherokee Indians. At first, Mr. Shelby had settled his family at Big Camp Meet—the current day site of the twin border cities, but a site then which Shelby had renamed Sapling Grove, where he built a in 1774 on a hill overlooking what is today downtown Bristol, but which was then a key stop on an expanding nation’s road West for early American explorers such as Daniel Boone and George Rogers Clark—a fort known as Shelby’s Station. Nearly a century later, in 1853, Joseph Anderson, when surveyors projected a junction of two railroad lines at the Virginia-Tennessee state line, Reverend James King conveyed much of his acreage to his son-in-law, Joseph R. Anderson, who then laid out the original town of Bristol, Tennessee/Virginia. About that time, Samuel Goodson, who owned land adjoining the original town of Bristol at the Virginia-Tennessee border, with Beaver Creek serving as the dividing line between the two colonies, began a development known as Goodsonville; however, he was unable to incorporate Bristol across the state lines of Tennessee and Virginia. Three years later, in 1856, Goodsonville and the original Bristol, Virginia were merged to form the composite town of Goodson, Virginia—the very year when the Virginia and Tennessee Railroads reached the cities, with, ergo, two depots, one in Bristol, Tennessee, and the other in Goodson, Virginia; albeit the depot located in Goodson continued to be referred to as Bristol, Virginia. Thirty-four years later, Goodson, Virginia once again took the name Bristol. In 1998, Congress declared Bristol the “Birthplace of Country Music,” in recognition of its contributions to early country music recordings and influence.

Contiguous to the Virginia Bristol is Tennessee, Bristol, with a slightly greater population of around 25,000, has a median income for a household in the city just over $30,039. Nevertheless, despite their abutments, the twin municipalities have starkly different fiscal situations—with the southern twin in Tennessee in fiscal health, but its northern Virginia twin in a near fiscal crisis, seemingly overwhelmed with debt—even after assistance from the Commonwealth of Virginia helped avert deep cuts in funding for the municipality’s public schools. At present, it appears that interest payments by the city are on a course to consume as much as a quarter of the city’s operating budget—or, as City Manager Randall Eads put it: “We’re about as low as you can go and not have cuts to services…We are truly rebuilding this city from the foundation up.”

While the Commonwealth of Virginia does not specifically authorize chapter 9 municipal bankruptcy, the state’s courts, six years ago, ruled that “local governing bodies have only those powers expressly granted, those necessarily or fairly implied from expressly granted powers, and those that are essential and indispensable” (see Sinclair v. New Cingular Wireless PCS, 283 Va. 567,576 (Va. 2012), the state’s Dillon Rule compounds the fiscal quandary, providing that if “[T]here is a reasonable doubt about whether legislative power exists, the doubt must be resolved against the local governing body.”

Nevertheless, as the Commonwealth’s Auditor of Public Accounts, Martha Mavredes notes: “The state takes great pride in fiscal soundness and when localities start to falter, that reflects poorly on the state.” Indeed, as we have previously noted, the Commonwealth, two years ago, as Petersburg teetered on the verge of insolvency, had tasked Ms. Mavredes to develop a municipal fiscal early-warning system—a system which, in its first report, put Bristol, along with Petersburg, at the head.

Manager Eads noted: “One of the biggest things we have to overcome as a city is our demographics,” referring to the fiscal challenge in a municipality where nearly a quarter of its residents are in poverty, with more than 40% on some of government assistance, and more than 80% of its school population eligible. That is, it has become clear to Mr. Eads that a new fiscal approach will be necessary.

A Tale of Two Cities. In one area where distinguishing one Bristol from another is enabled by small brass plaques embedded down the center line of State Street which have “Tennessee” on one side and “Virginia” on the other, the twin, bi-state municipalities share a library and an emergency dispatch system; they have connected water systems, and they share payments for the electric bills to finance the neon signs over State Street, which read: “A good place to live.” The twin cities’ city halls are just blocks apart.

However, as we know, looks can be deceiving. Here, the issue of waste appears to have precipitated the fiscal parting of ways: the Virginia Bristol’s old landfill reached capacity about two decades ago; so the municipality opted to construct a new one in a 20-acre limestone pit—one in which the walls were porous. In order to prevent seepage of dangerous chemicals, the city had to purchase a new lining for the landfill walls nearly every other year‒at a cost of $1.2 million each time. That meant, with fees insufficient to cover operating and maintenance costs, the municipality was adding to its debt: currently, Bristol is trying to finance more than $30 million in debt from the landfill, forcing the city to write off $22 million siphoned from the general fund to cover expenses.

Even as unanticipated expenses have soared, the city’s tax base has eroded, hard hit by the collapse of the coal industry, especially in the wake of one of the nation’s largest coal companies, Alpha Natural Resources, headquartered in the city, filing for bankruptcy twelve years ago—at almost the same time as Ball Corp. moved its metal lid-making plant to Mexico. A commercial area developed just off I-81 in the 1990s began to sour. The combination appeared to contribute to the consequent closure of Bristol Mall.

Looking for a fiscal and commercial recovery, the city’s leaders opted to try to enter the commercial real estate business, creating The Falls, intended to be a $260 million hub of restaurants and shops—albeit without, mayhap, closely examining how such a commercial development would be affected by an even larger such development in adjacent Tennessee—where the Tennessee General Assembly had enacted legislation intended to assist its border cities compete with rivals in other states. Because the Volunteer State has no personal income tax, but it has sales tax of up to 9.75%, or nearly double Virginia’s, the difference appears to have been an important factor in providing incentives for those who reside near the border between the two states to opt to reside in Tennessee, but shop in Virginia. The new law allowed developers who built retail within 15 miles of a border to recoup some of the sales and use tax, making projects more attractive.

That led one entrepreneur, Steve Johnson to purchase a 200-acre piece of property, valued at close to $250 million, called The Pinnacle, a complex made up of a million square feet of shops and restaurants, anchored by a Bass Pro Shop, CarMax, Marshalls, and a Belk department store. Unsurprisingly, local Bristol, Virginia officials asked Mr. Johnson to consider developing The Falls instead, pressing the Virginia Legislature to enact provisions for sales and use tax revenue rebates for project developers. In the meantime, Mr. Johnson decided developing the site would be too expensive to level and grade, the roads were too small, and the location was just wrong. Undeterred, the city found another developer, so that, today, The Pinnacle counts nearly 70 merchants, while The Falls has fewer than 10. Thus, instead of helping the city deal with its landfill debt burden, The Falls has significantly added to the fiscal quandary, adding nearly $48 million to the city’s debt—and its political dissatisfaction.

Indeed, unsurprisingly, voters tossed all five Councilmembers from office, electing a slate which included two write-in candidates—and a Council which, early last year, hired a new City Attorney, Randall Eads, who had been a criminal defense attorney, perhaps a key factor in a region which has experienced a plague of methamphetamines and prescription drug abuse. Within six months, the Council removed the then city manager and asked Mr. Eads to step in—perhaps a step that opened his eyes to how grave the city’s physical and fiscal challenges were. In a city beset by such serious drug abuse, one of his first challenges was where to host the perpetrators: the city’s jail, after all, had a capacity of 67 inmates, but, in March, 240 prisoners: the escalating drug crisis meant overcrowding in the municipal jail, and unanticipated costs for those who could not be squeezed in at a regional holding facility at a cost of $38 per inmate per day.

That forced Mr. Eads to see if he could find a way to reduce the inmate population, leading him to propose an alternative punishment program for nonviolent offenders, one which would help them find work and subject them to regular drug testing. Simultaneously, Mr. Eads has been replacing city department heads and working to build morale; he has even been paying for staff picnics out of his pocket. However, it seems as if he has been trying to climb out of a sand hole: absent fiscal changes, the municipality anticipates it will soon face a $2.4 million annual shortfall in debt service payments.

But just on the other side of the state line, in another Bristol City Hall (Tennessee), Bristol City Manager Bill Sorah, who has previous experience in the Virginia Bristol, notes the legal distinctions, especially the differences in the constitutional status of each city: The Commonwealth of Virginia is the only state in which municipalities are independent entities: they are not incorporated as art of the surrounding county. In contrast, Tennessee’s Bristol is a unit of the surrounding Sullivan County: ergo, it faces no problem with inmate overcrowding, no criminal courts to finance, no jail, and no public school system. It has the legal authority denied its counterpart to annex land—authority unavailable on the other side of the border, where Virginia has had a moratorium on annexation for nearly four decades—one the General Assembly recently extended to 2024.

Searching for fiscal solutions. Earlier this year, Virginia Auditor Mavredes granted Bristol $100,000 to hire a consultant to help determine potential fiscal solutions—help which Manager Eads is sure to appreciate—or, as he put it: “We’re in it…so now we’ve got to fix it.” Thus, the city has jacked up fees at the landfill and is pressing ahead with The Falls, and is focusing on putting together a fiscal blueprint to pay down debt and build cash reserves. Indeed, rather than let his city go to pot, he is even entertaining the potential lease from local investors to purchase the shuttered Bristol Mall: the investors are interested in financing a local start-up, Dharma Pharmaceuticals, which wants to convert the vast facility into an operation producing cannabidiol, the marijuana derivative which the Commonwealth Virginia recently approved for treating certain illnesses—meaning the abandoned Penney and Belk buildings could go to pot.

With city’s fiscal year beginning at the end of this week, city leaders have been looking ahead: Mayor Kevin Mumpower outlined his short-term priorities at the beginning of this week’s City Council meeting, and City Manager Randy Eads reported he had an agenda, but would defer presenting it until after the meeting. Mayor Mumpower said many of his goals focus on the city’s long-term fiscal fortunes: “We don’t want the city to ever get to the place it got two years ago. We want it stable and moving forward, so we’re going to look at the charter, see what we can do to refine it and maybe present a few things to the state legislature to draft for us to solidify the city’s financial footing…We know future Councils can undo what we do, but, the way I look at it, that’s on them. Our responsibility is to try to do the right thing.”

The Mayor noted that this could turn out to be a lengthy, detailed process to determine reasonable thresholds so that, in the future, there would be fiscal strictures on borrowing. He reported that his second priority would be promoting economic development and hiring an economic development coordinator—someone with a focus on attracting new businesses to the city. He described a third priority to develop a program to provide inmates job opportunities in order to reduce recidivism and the city’s expensive jail population, noting: “We want to establish that inmate work release program. That is going to be a home run if Randy [Eads], the Sheriff and the Commonwealth’s Attorney can figure this out: We’ve already had several meetings about how we would train these inmates, get them certified, give them a skill set so they’re employable. That would save the city $500,000 to $750,000 a year—that one goal. If that’s successful, it would be a really big deal for the city.”

A second is completion of a state-funded study of the city’s solid waste landfill operations, with that coming as the Council had just voted to increase residential trash collection by $4 per month in order to help offset operating costs, or, as the Mayor put it: “We need to figure out what we’re going to do with our last big albatross: We’re subsidizing the landfill $500,000 this year—it was $1 million—but we’ve done that at the expense of the community.” Finally, Mayor Mumpower reported his last priority would be to establish restricted funds where funds would be set aside for specific needs, including key capital needs such as a fire truck, a school building fund, and another exclusively to pay down debt service: “We need to have money set aside only for those purchases so we don’t have to worry about where those funds are coming from.”

Ending a State’s Fiscal Emergency Manager Preemption, & Who’s on First in Puerto Rico’s Governance?

July 2, 2018

Good Morning! In this morning’s eBlog, we consider what might be the end of the State of Michigan’s much maligned emergency manager program, before returning to assess the question with regard to whether a governor and legislature or a quasi U.S. bankruptcy court are in charge in Puerto Rico.

Exiting from Municipal Bankruptcy. For the first time in nearly two decades, a state-appointed Emergency Manager governs no municipality or school district in Michigan, after the state released Wayne County’s Highland Park School District in Wayne County from receivership under Michigan’s Local Financial Stability and Choice Act of 2012. Indeed, Michigan Treasurer Nick Khouri reports that Michigan municipalities have worked hard to become financially sound, noting: “Today’s achievement is really about the hard work our communities have accomplished to become financially sound…I commend the efforts of our local units to identify problems and bring together the resources needed to help problem-solve challenging financial conditions.” Under the terms of the release, Highland Park School District’s locally elected school board will oversee the contract for Highland Park Public School Academy and the cooperative agreement with the Detroit Public Schools Community District for the continuing education of students. In addition, the board will manage the repayment of long-term debt obligations. The Highland School District has a quasi-chapter 9 plan of debt adjustment in place to address its $7.5 million general fund deficit, with revenues from property taxes imposed on non-homestead property dedicated to finance outstanding debt, as well as an approved two-year budget. According to financial statements, as of the end of last year’s fiscal year, the District had $2.4 million in general obligation bonds outstanding.

The agreement means the school district, which had been under emergency management since January of 2012, and for which the state-appointed emergency manager had established Highland Park Public School Academy to provide educational services to district students while the school district paid off long-term debt obligations—for which, since 2015, said public school academy has been educating students from pre-kindergarten through eighth grades, and for the scholastic years through high school via a cooperative agreement with the Detroit Public Schools Community District, which has been providing educational services to students from ninth through 12th grades.

Nevertheless, the State of Michigan continues to maintain an oversight role in a limited number of Michigan communities: public school districts in Benton Harbor and Pontiac are operating under a consent agreement with the state, and the Muskegon Heights school district is overseen by a receivership-transition advisory board. The critical fiscal recoveries were marked by April’s exit from state oversight by the City of Flint, after seven years, and then, the following month: Detroit.

Conflicted Fiscal Governance. With the beginning of the new fiscal year, Governor Ricardo Rosselló Nevares still assessing fiscal options, as well as his authority to address the $8.7 billion operating budget imposed yesterday by the PROMESA Oversight Board on the U.S. territory–or, as he put it: “We are evaluating the budget certified by the Fiscal Oversight Board on the U.S. territory. Certainly, the impact on the budget of the three branches of government and municipalities will require additional adjustments that will limit our ability to provide services.” Ramon Rosario, Puerto Rico’s Secretary of Public Affairs, noted:  “The Governor and his cabinet continue to analyze all possible alternatives to the scenario.”

There was no public reaction to the imposed fiscal preemption of elected authority by House President Carlos Johnny Mendez, nor Senate President Thomas Rivera Schatz, respectively, to the budget imposed by the JSF. The Governor indicated, however, that some of the biggest concerns of the Executive are public employees and the payment of the Christmas bonus, as well as the elimination of funds for economic development.

The Board’s proposed budget, interestingly, is greater than that approved by the Legislature; however, it imposes additional cuts of up to $345 million. It does not repeal Law 80-1976, the Law Against Unjustified Dismissal. It does preserve the Christmas bonus for public employees and establish two funds, one of $ 25 million for the University of Puerto Rico, and another of $ 50 million for municipio recovery. PROMESA Board Chair José Carrión, in a written statement, noted: “The course has been drawn, and although it will be a challenge, we cannot afford to deviate. We must all work together.”

Working together would be a challenge—and a question now for Puerto Rico is whether to comply or go to court to preserve, ironically, an approved fiscal budget smaller than that to be imposed by the PROMESA Board: that is, what if the Governor and Legislature were to opt not to implement the unelected PROMESA Board’s proposed budget? One attorney noted: “There would be a confrontation that would generate a controversy in the court, because, then, the Board would have to go to the court and ask it to force the officials to comply with the budget.” Under such a scenario, the unelected fiscal oversight Board would issue a certification of non-compliance, which, were it not to compel the elected government of Puerto Rico to comply, could entail the Board availing itself of the mechanisms in the PROMESA statute preempting Puerto Rico’s governing authority. Independence Party’s Denis Márquez remarked that his “exhortation is not to obey the Fiscal Control Board, but they always tell you that you have to be against the Board, but at the end of the day you look for a reasonable accommodation that always ends up hurting the country.” However, unlike a chapter 9 governance situation, where a federal bankruptcy court assesses a municipality’s plan of debt adjustment, PROMESA allows the Board to establish the budget at its sole discretion. It appears to be virtually a form of colonialism.

As the oversight board had advanced during its approval of the fiscal plan last Friday, the public expenditure scheme contemplates reductions greater than those set in the first version of the document approved by the Legislature: the budgets of some agencies seem to have an increase compared to the current fiscal year, but this is due to the fact that, for the first time, each one was assigned an authorization corresponding to the payment of their employees’ pensions (pay as you go). A spokesperson for the Popular Democratic Party in the House noted: “The vision of the Board is the republican vision, a small government with less participation.” Indeed, the version to be imposed by the Oversight Board contemplates major cuts for the Department of Education, which ended with an allocation for this fiscal year of $2.479 billion, about a 5% cut for what the Legislature had approved, with the deepest cuts coming in payroll and operating expenses, even as the Board added nearly $30 million to “cover services related to the provision of therapies and other services for special education children, and $ 23.8 million for the payment of salary increases to teachers—leading Puerto Rico Senate Education Chair Abel Nazario to note that the PROMESA Board “itself recognizes that these measures must be maintained in the coming years is an achievement that we recognize and appreciate.”

The Board imposed a number of deep cuts, such as the Bureau of the Fire Department, where the Board cut operating expenses of $576,000, as proposed by the Legislature, to $148,000; it slashed just over $1 million for firefighter protection equipment, and cut the police department payroll by $587.1 million, as stipulated in the Legislature’s version, to $ 570.2 million, but the Board retained the proposed $18.8 million for increased police salaries.

Imbalanced Governance? The Board cut funding for the Governor’s office in excess of 10 percent, and funds for the Puerto Rico Legislature by nearly 20 percent; it cut funding for the Puerto Rico Health Department by just under 10 percent.

Can there be Shelter from the Storm? Meanwhile, in a different courtroom, U.S. District Judge Leo T. Sorokin of Massachusetts has ordered that FEMA cannot end its Transitional Sheltering Assistance program until at least midnight tomorrow, granting Puerto Ricans who fled Hurricane Maria’s devastation and have been living in temporary housing on the mainland a very brief reprieve. Christiaan Perez, manager of advocacy and digital strategy for the civil-rights group, LatinoJustice, the national civil-rights group which filed a lawsuit Saturday seeking the restraining order told the court the end of the FEMA assistance would lead to Puerto Rican evacuees being evicted. The temporary restraining order is projected to offer some protection for about 1,744 Puerto Ricans for whom the FEMA transitional assistance was to end Saturday. Judge Sorokin has scheduled a telephone hearing for today.

The outcome will impact many of the families who left Puerto Rico in the wake of the storm for the mainland who have been living in hotels in New York and Florida and those who have been unable to secure affordable housing and are now worried about what happens as FEMA assistance expires—or, as Cynthia Beard, one of the 600 Puerto Rican hurricane survivors living in New York, told NBC News this week: “I don’t know what’s going to happen. The city called me and said there’s a shelter, but there’s no guarantee; they didn’t say everything is going to be OK.” According to Mayor De Blasio’s office, New York City has a program in place to direct transportation from the hotels to the shelters. Once there, families have to find out if they are deemed eligible to register into the city’s shelter system: if accepted, families are assigned to case management and housing assistance services to help them find permanent homes. 

But FEMA has also offered displaced Puerto Ricans the option to return to Puerto Rico, asserting the agency has called more than 1,500 displaced Puerto Ricans to offer to pay for their plane tickets to return to Puerto Rico by yesterday or recommend them ways to look into their respective state’s shelter system. As of June 27, only 145 families had either booked their plane tickets or already returned to Puerto Rico. It appears the majority of displaced Puerto Rican families have opted to remain stateside, even though many do not have a permanent home. The offer came in the wake of four different deadline extensions, during which, under FEMA’s TSA program has housed Puerto Rican hurricane survivors for nearly 9 months. During other disasters, survivors participating in that program were given up to a year and a half—even though officials have said that the program normally lasts 30 days. Nevertheless, FEMA warned it was ending Transitional Sheltering Assistance for survivors of hurricanes Maria, Irma, and Harvey on Saturday, asserting it has spent more than $432 million on survivor lodging as part of the program, and that it has provided rental assistance to more than 25,000 TSA participant families to help them find permanent housing.