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.”

The Motor City’s Road to Recovery


January 17, 2017

Good Morning! In today’s Blog, we consider the ongoing fiscal recovery in Detroit from the nation’s largest chapter 9 municipal bankruptcy.

The City of Detroit, which filed for municipal bankruptcy protection on July 19, 2013—in what remains the largest municipal bankruptcy in U.S. history, in what then-Emergency Manager Kevyn Orr described as “the Olympics of restructuring,” a step he took to ensure continuity of essential services and critical to rebuilding the Motor City, continues on its resurgent comeback, with last years home sales ending on a high note. After decades of population decline (In 1950, there were 1,849,568 people in Detroit; by 2010, there were 713,777), the city reported the median sales price increased from last year to this year by nearly 50%. Realcomp Ltd. Data, moreover, indicates continued increases in assessed values this year: median sales prices increased from $159,000 in 2016 to $170,000 last year, while average days listed declined from 74 a year ago in December to 44 last month. Realcomp Board of Governor David Elya predicts demand and market listing will increase further this year, noting the Motor City is experiencing a higher inventory crunch due to higher demand—demand driven by a solid employment outlook—a remarkable turnaround from the onset of its chapter 9 filing, when the Motor City 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. Or, as the insightful Billy Hamilton wrote at the time: the city was “either the ghost of a lost time and place in America, or a resource of enormous potential.”

Detroit, which relies on taxes and state-shared revenues higher than those of any other large Michigan municipality on a per capita basis, derives its revenues from a broader base than most municipalities: property taxes, income tax, utility taxes, a casino wagering tax, and state-shared revenues. Notwithstanding, its revenues, prior to its filing, had declined over the previous decade by 22 percent, even as it was accruing more debt based on obligations for post-employment benefits. The city’s decline into chapter 9 predated the housing crisis, or, as the Citizens Research Council reported: the overall loss of 15,648 business establishments from 1972 until 2007 did not capture the effects of the severe 2008 recession, much less the bankruptcies and subsequent recovery of General Motors and Chrysler and the restructuring of the automotive supplier network, on the number of businesses in the city.

Nevertheless, persistence, along with the sharp recovery of the automobile markets, combined with the city’s being home to one of the broadest tax bases of any city in the U.S. [Municipal income taxes constitute the city’s largest single source, contributing about 21 percent of total revenue in 2012, or $323.5 million in 2002, the last year in which the city realized a general fund surplus.] appears to have been instrumental in the remarkable turnaround.

Physical & Fiscal Storms

September 20, 2017

Good Morning! In today’s Blog, we consider the fiscal challenge confronting the small Virginia municipality of Pound; then we turn to the fiscal and physical storms pounding the U.S. Territory of Puerto Rico.

Visit the project blog: The Municipal Sustainability Project 

Pound fiscally pounded. The Council of the small Virginia Town of Pound, the original home of former U-2 pilot Gary Powers, with a population under 1,200, where the median income for a household is under $30,000, confronted by an inability to make payroll and pay other bills due has unanimously agreed in an emergency meeting to borrow enough to pay employees, but not any other outstanding obligations. The Mayor and interim Town Manager George Dean advised the Council that resources in the general fund get low about this time every year; this year, he noted, however, the town has experienced some unanticipated expenditures; thus it needed to tap into its line of credit. As factors, Manager Dean identified unbudgeted overtime, especially in the police department, as the single biggest problem.  He added: “I did not budget to have a chief of police and an assistant police chief in the office side by side,” adding the town could not sustain the current level of overtime. In response, Councilman Terry Short said that with eight officers, there should be no need for overtime, asking how the officers are receiving more overtime than is budgeted. The Manager responded: “You have to ask him,” referring to Chief Tony Baker—which unsurprisingly led Councilman Clifton Cauthorne to note that the town manager is in charge of the finances. But Manager Dean was clear: “I’m not telling the Chief of Police how to run his department: You all need to address that.”  But Councilmember Short noted that when four full-time officers are receiving more than 100 hours of overtime, “we’ve got a problem.”  Town clerk and bookkeeper Jenny Carter, however, said the Police Department was not the only position drawing overtime out of the general fund, telling Council her position also is paid through that account, and she logs considerable overtime, because the office is so understaffed. She had four meetings last month, Ms. Carter noted, and it took 23 and a half hours to type up all those minutes. So, how much was budgeted, Councilman Danny Stanley asked. Eight hours, Ms. Dean responded. While there was some discussion that the seasonal financial crush should ease when the town converts to a twice-annually billing cycle, Ms. Carter said she was confident that will resolve matters in the future; however, she also suggested Council consider increasing the town’s line of credit—a suggestion Councilmember Cauthorne was quick to oppose, noting: “I feel that is like giving a drunk more booze,” adding this was not the first year the town has run into this fiscal problem—or, as one of his colleagues added: “[it] just continues to snowball,” overspending every year, robbing Peter to pay Paul, borrowing money it does not have and without a method to pay it back. Asked how much the town has repaid of its original debt, Ms. Dean said the town still owes the bank about $65,000, adding the town has access to roughly $35,000 available of a $100,000 line of credit, while Ms. Carter said the town is negative $24,500 in the general fund, with open payables of almost another $10,000. If the Council is going to put any more on the line of credit, Councilman Cauthorne made clear he wants to revisit automatic spending cuts—reminding his colleagues that Pound had adopted a plan in 2014 to trigger automatic cuts if the town ever reached $55,000 of its line of credit—an action the Council rescinded a year later.

Councilmember Short said the town’s internal controls require use of time cards, and other kinds of time sheets have not been approved, moving to mandate immediately that all employees use time cards as required by Pound’s internal controls policy: he further noted that the town has a budget and has policies and procedures to control operations, adding: “All we have to do is follow it. It’s that simple.” Council unanimously endorsed requiring time cards as per existing policy. Councilmember Short then moved that all overtime require approval of the town manager, including the police force, but Manager Dean immediately objected, stating: “That’s not going to work,” adding he was not going to comply and Council would have to figure out who was going to tell the police chief, adding: “I am not in control of the chief of police’s overtime hours…He works for you…We’ve got a financial problem here and we’ve got to do something about it: the Council is being asked to borrow money to pay for bills which “we are not controlling.” With regard to employees spending more money than is budgeted, he added: “I don’t know of any business that works like that. If they do, it ain’t long before they are out of business…” He noted they are obligating all taxpayers in the town when they sign contracts borrowing money and citizens are financially obligated to repay that money if the town goes under.

Fiscal & Physical Storms. Promesa Oversight Board Executive Director Natalie Jaresko, in an interview with the Bond Buyer, warned that Puerto Rico is confronted by what this morning could be the strongest hurricane to ever hit the U.S. territory, further decimating public utilizes and forcing the virtually insolvent government to rebuild dozens of communities. But she also said she anticipated Puerto Rico’s fiscal ability to make its requisite municipal bond payments should improve after nine years, expressing optimism with regard to Puerto Rico’s future and the PROMESA board’s relationship with the government of Gov. Ricardo Rosselló—albit, she added, the next few years of reform will inevitably be tough: the PROMESA Board does not expect Puerto Rico to return to nominal gross national product growth until FY2022 and inflation-adjusted growth until FY2024, adding that by the end of the next decade, she anticipates Puerto Rico’s economy to be growing, noting: “In the years 11 to 40 there’s bound to be more cash in all the estimates available for debt service: So creditors shouldn’t only focus on the 10 years.” She added that the Board is working on a “plan of adjustment” for the debt, as provided under PROMESA, albeit she was uncertain when the plan would be publicly released. With regard to timing, she said, in the interview, that Judge Swain has said she plans to rule by mid-December on the dispute between the Puerto Rico Sales Tax Financing Corp. (COFINA) and Puerto Rico over the ownership of sales tax proceeds allotted for the former. Once this is done, she noted, Puerto Rico may pay some of the debt due this fiscal year, adding that work on restructuring all of Puerto Rico’s public sector debt is proceeding simultaneously on three tracks: in negotiations, in the private mediation process overseen by Barbara Houser, and in the Title III litigation process overseen by Judge Swain. She added that the PROMESA Board is working with PREPA and parts of Gov. Rosselló’s administration to adopt a new fiscal plan for PREPA, noting that lowering Puerto Rico’s electric rates would be a vital step for enhancing the economy—albeit Hurricane Maria appears to have very different implications.

With regard to the relationship between the PROMESA Board and the Governor, the Director was generally positive, adding she said she was satisfied with government’s progress in releasing financial information to the board, noting that the Rosselló administration is providing the PROMESA board a report comparing budgeted to actual spending department by department, as well as weekly reports on cash and liquidity, adding that Puerto Rico is moving towards better accounting practices.

Interestingly, the Director said the experience she gained from her service as the Minister of Finance for Ukraine from 2014–2016, taught her “implementation is everything.” Last month, she said, a lack of implementation plans had led the PROMESA Board to order Puerto Rico to institute furloughs, noting: “There are governments aplenty that can adopt plans, adopt laws, have full commitment and desire to change but implementation at an agency level in a bureaucracy is extremely difficult: that is the key to success,” adding that she believes the Rosselló administration has been “committed” to the fiscal plan: “If you take the case of right-sizing the government, I have no doubt there is a desire and intent and it is part of the public campaign of the governor to right-size the government. So I don’t think there’s not an alignment in the goal.” Nevertheless, as she put it—and as we have learned from Pound: “[T]he devil will be in the details of the implementation and enforcement of the fiscal plan, and that is the biggest lesson learned [from the Ukraine.]” to execute cuts in an agency, the agency can run out of money eight or nine months into the fiscal year, she said. “Then the agency usually turns to the central government for an additional allocation to continue operations…“There is a general fatigue among creditors [with Puerto Rico’s continuing problems] and I understand that because they have been dealing with these problems for years. But the problems that grew didn’t evolve overnight and didn’t evolve over one year and resolving them is also going to take time.”

It is unclear what level of fiscal planning will be sufficient today as Hurricane Maria, bringing sustained winds of 160 miles per hour (mph) appears relentlessly approaching—with the government insisting its the priority is to save lives, even as it continues to deal with the after effects of Hurricane Irma, which passed tens of miles above the north coast. The National Weather Service warned: “It is catastrophic in every way, winds, rain and storm surge. We are talking about an extremely dangerous event.” Along with winds of 160 mph and even higher gusts, Maria was predicted to bring 12 to 18 inches of rain, and up to 25 inches for isolated areas in Puerto Rico: the storm surge is estimated from 6 to 9 feet, with large breaking waves that could reach 25 feet. Governor Ricardo Rosselló Nevares urged citizens and families to seek save havens to prevent the loss of human lives: “We have not experienced an event of this magnitude in our modern history…An event like this has never happened before. Maria is predicted to be the worst atmospheric event in a century in Puerto Rico, and, if we do not take precautions, we will have loss of lives that we could have avoided.” The Governor noted that yesterday afternoon residents had already begun to move in five communities which are threatened due to their location in flood-prone areas: Juana Matos, in Cataño; Playita, in Salinas; Amelia, in Guaynabo; Islote, in Arecibo, and Palo Seco, in Toa Baja: by yesterday afternoon, there was clearance and authorization for opening 499 shelters, 49 more than for Hurricane Irma: the Gov. noted: “The main goal is to save lives. If you are in a flood area, your life is in danger. If you live in a wooden home, your life is in danger.” Already, from the previous Hurricane Irma 27 municipalities in Puerto Rico have already been declared disaster areas. Thus, even as Maria roars in, there are still many, many customers without power, homeless citizens, houses without walls, trees lying on power lines, and debris accumulated along the roads.

At the request of the Puerto Rican government, President Trump had already authorized a new emergency declaration before the arrival Maria: Puerto Rico FEMA Director Alejandro de la Campa indicated that he had requested more equipment from the US Department of Defense: “We are asking for more ships, and the aircraft carrier (available for the emergency) has moved to be in a safe area… And ships with helicopters that we will use in case of evacuation or search and rescue are still in the area.” Nevertheless, due to the fragility of the infrastructure of the Puerto Rico Electric Power Authority (PREPA), the Governor anticipates Puerto Rico will be without power after the passage of Maria: “No one in Puerto Rico should expect to have power on the days following María. The time it will take us to fix (the damage caused by the hurricane) remains to be seen.” PREPA Executive Director Ricardo Ramos noted that the total recovery of the system after the passage of Hurricane Hugo in 1989 took about six months. One especially cruel threat will be water: Elí Díaz, the Executive Director of the Puerto Rico Aqueduct and Sewer Authority, noted: “If there is damage to large generators, there will be no power generation, therefore, our facilities will not have power to operate,” adding that there are approximately 1,300 generators which received preventive maintenance since the beginning of the hurricane season, but they are not enough for their 4,000 facilities, including pumping stations. By yesterday afternoon, they managed to prepare 110 tanker trucks, more than double those used during Irma, and are already managing imports from the port of Jacksonville in agreement with private companies. He added that since last Sunday, the levels of the Carraízo and La Plata dams have been gradually dropped to about three meters in order to prevent them from having to open the emergency flood gates.

For his part, last evening, President Trump tweeted his support: “Puerto Rico being hit hard by new monster Hurricane. Be careful, our hearts are with you-will be there to help!” The eye of the hurricane passed near or over St. Croix last night, prompting U.S. Virgin Islands Gov. Kenneth Mapp to insist that people remain alert. St. Croix was largely spared the widespread damage caused by Hurricane Irma on the chain’s St. Thomas and St. John islands just two weeks ago; however, this time, the island would experience five hours of hurricane force winds, Mapp warned: “For folks in their homes, I really recommend that you not be in any kind of sleepwear: Make sure you have your shoes on. Make sure you have a jacket around.”

The Political & Fiscal Challenges of Recovery

September 19, 2017

Good Morning! In today’s Blog, we consider the uncertain fiscal outlook for Hartford – and Connecticut, the ongoing recovery in Detroit from the nation’s largest municipal bankruptcy, municipal fiscal erosion in Pennsylvania, and some of the fiscal and physical impacts of Hurricane Irma on Puerto Rico.

Visit the project blog: The Municipal Sustainability Project 

On the Edge of a Fiscal State/Local Cliff. Connecticut lawmakers passed a $40.7 billion two-year state budget early on Saturday; however, Governor Dannel Malloy could veto the legislation and leave the state racing toward severe spending cuts next month. The budget uncertainty came as the state’s capitol city Hartford is approaching debt repayment deadlines this month and next—and now the state budget uncertainty is becoming a major threat to the city; Moody’s noted: “The city owes $3.8 million in September, followed by $26.9 million in October,” with October the “heaviest debt service month this year,” apparently the result of the city’s borrowing $20 million last April to cover its cash flow problems.  Thus, with the Legislature and Gov. Dannel Malloy unable to agree on a balanced state budget, the credit rating agency notes this could be a potentially huge problem for Hartford, writing: “Approximately half of the city’s general fund revenues are derived from state aid, leaving Hartford heavily exposed to the state’s budget delay: If the delay continues, Hartford is in danger of depleting its already weak reserves between now and the end of this calendar year.” And this could become a municipal fiscal cancer—not just for Hartford, but also Bridgeport and New Haven. Mayor Luke Bronin noted: “The absence of a state budget significantly exacerbates Hartford’s fiscal crisis and accelerates our cash flow challenge.” While Gov. Malloy has issued a temporary plan to cover for the lack of a state budget, that plan would sharply cut state aid to cities and towns. Mayor Bronin said that plan, if continued through the rest of FY2018, would mean Hartford “would face a shortfall of about $100 million out of a municipal budget of $329 million.” Thus, he noted: “While we’re focused on managing our liquidity and maintaining basic services, there’s obviously no way to manage a shortfall of that magnitude indefinitely…We are exploring all of our options to restructure Hartford’s obligations and put our Capital City on a sustainable path.” Moody’s, in its assessment, described Hartford’s “path to fiscal sustainability” as one “likely require debt restructuring along with some combination of labor concessions, other expenditure cuts, and new revenues,” albeit not opining on whether debt restructuring to extend the city’s repayment schedule or bankruptcy would be the likelier outcome, but noting that the city’s debt service costs are expected to “ramp up” from $44 million in the current fiscal year to $57 million in 2018-19, and will then continue to grow almost steadily through 2020-21. Thus, Av Harris, a legislative aide to Bridgeport Mayor Joseph P. Ganim, warned Bridgeport, which had filed for chapter 9 municipal bankruptcy in 1991 (§7-566), worried: “The major impacts haven’t hit yet,” referring to apprehension with regard to the potential fallout if the city does not receive the first big installment in state school aid, noting that state aid represents about 40% of Bridgeport’s current $550 million city budget. Nearby, New Haven Mayor Toni Harp has ordered city agencies to come up with budget cutting contingency plans in case the General Assembly fails to pass a state budget by September. The Mayor said additional spending reductions would be needed to avoid local tax increases, in the event the state budget impasse continues. (New Haven’s Board of Aldermen adopted a $539.9 million city budget on June 6.) Mayor Harp has said New Haven is hoping to receive at least the $30 million in state aid that it got in the fiscal year that ended June 30, and is looking to get an additional $18 million in promised state funding, adding that failure to get that money would put New Haven in a short-term cash crisis.

Observers were surprise that the Republican-backed budget won prevailed in a legislature narrowly controlled by Democrats; yet the fiscal outcome remains uncertain, as Gov. Malloy has said he would veto the bills as they first passed through the Senate before moving to the House of Representatives, noting: “The amended budget that passed in the Senate today is unbalanced, and if it were to reach my desk I would veto it,” last Friday night, stating that the budget “relies on too many unrealistic savings, it contains immense cuts to higher education, and it would violate existing state contracts with our employees, resulting in costly legal battles for years to come.” The passage came with the state budget action two months’ overdue and, currently under emergency control: Under the Governor’s executive order, some schools and cities would see state aid slashed after October 1 unless a budget is enacted before then—burdened by some $73 billion of pension and debt obligations, high taxes, out-migration, and falling revenues—and under a now lame duck governor. Now the legislature has sent him a budget which contains provisions he says he cannot abide, including reductions to the University of Connecticut. Under the proposed budget, general fund appropriations would grow 3.5 percent in FY 2018 to $18.5 billion and 0.6 percent in FY2019 to $18.6 billion; the transportation fund, the next largest, would grow by about 11 percent over the two years, according to the legislature’s Office of Fiscal Analysis (OFA); the bill would also limit general obligation bond allocations to $2 billion a year beginning in fiscal 2018, then apply that same cap to issuances and spending starting in fiscal 2019.  

The budget, if agreed to, It would establish a Municipal Accountability Review Board to allow state oversight of fiscally troubled cities, potentially including its capital city, Hartford, with former U.S. Comptroller General and now gubernatorial candidate David Walker stating: “I think (Malloy) is likely to put the ball back in the court of the state Legislature…I think the last thing we need right now is to increase taxes.” Nevertheless, on Saturday, Gov. Malloy described the GOP budget package as “unbalanced” and “unrealistic: If the responsible solution I negotiated with Democrats isn’t going to pass, then it is incumbent on the legislature to reach a new agreement soon—one that is realistic and, ideally, bipartisan.” Nevertheless, State Rep. Cristin McCarthy Vahey (D-Fairfield) was one of six House Democrats to break ranks, called for a bipartisan fix to the state’s fiscal woes: “We all await the Governor’s next steps and will go forward from there…The challenges confronting us were a long time in the making. We need to figure out a solution working together as leaders. I support every effort that will bring us closer to the kind of compromise we need to successfully adopt a state budget.” However, Senate President Pro Tempore Martin Looney (D-New Haven) said Gov. Malloy has given his assurances that he would immediately veto what is a “short-sighted” budget that undercuts collective bargaining and public education, noting: “So much for allegedly responsible and realistic budgeting,” adding there was a “substantial danger” that no budget gets passed by Oct. 1, defaulting to the Governor’s cuts: “I think we have to look forward rather than backward and keep our focus on getting a budget.”

It seems an irony that both Republican gubernatorial hopefuls who spoke at yesterday’s rally could become casualties of the proposed elimination of the decade-old Connecticut Citizens’ Election Program, which was adopted after the resignation and imprisonment of former Gov. John Rowland for corruption. Under the program, candidates for governor are eligible for $1.4 million in public funds in the primary and $6.5 million in the general election. (They must raise $250,000 in increments of $100 or less to qualify.) One such candidate, State Rep. Prasad Srinivasan (R-Glastonbury), who has already raised the requisite $250,000—and who voted for the budget, noted: “It’s going to be a different ballgame for all of us…Is this a perfect budget? The answer is, no. Is it a good budget? Yes. We have lived in excess all of these years.” Candidate Walker said if publicly-funded elections, which could cost more than $40 million in 2018, were eliminated, he would be able to more than make up for it, adding, however, that to be fair to those gubernatorial candidates who are far along in qualifying, the subsidy should be kept for the state’s highest office. Mr. Walker is running against House Speaker Joe Aresimowicz (D-Berlin).

The Steep Road to Chapter 9 Recovery. Detroit Mayor Mike Duggan likens the gathering regional bid to land Amazon’s second headquarters to delivering Detroit Super Bowl XL more than a decade ago; however, the, as a Detroit News editorial by the ever insightful Daniel Howes noted: “It’s not even close. The hunt for Amazon is far larger, far more competitive and far more likely to tax the ability of just about anyone to corral business, political and civic leaders around a deadline measured in weeks, not years. (The deadline is Oct. 19 to proffer a plan to compete for a $5 billion investment worth 50,000 jobs.) Mayor Mike Duggan noted that with fewer than five weeks to put together its proposal: “We’re up against really tough competition from really good cities.” Or, as the editorial notes: “Yes, we are—as Detroit Regional Chamber CEO Sandy Baruah learned this week when he flew to Toronto for a speech on trade between Canada and the United States. On the minds of the Canadian CEOs: luring Amazon’s massive economic play north of the border, no mean feat in the era of Trump.” Nonetheless, as the editorial added: “That’s not deterring Detroit’s mayor, facing re-election. It’s not deterring Quicken Loans Inc. Chairman Dan Gilbert, who quickly accepted Mayor Duggan’s offer to chair the regional effort to prepare an Amazon bid. And it’s not deterring local and state politicians, or a business community that is far more active in economic development efforts than their predecessors a decade ago…It shouldn’t: In fundamental ways, this region is different than the one industrialist Roger Penske shepherded through the process of bidding for a Super Bowl (at the personal request of Bill Ford Jr., whose family owns the Lions). It’s more competent, more confident and often more regionally cooperative. It has witnessed the deep costs of division and political corruption, of big business that worries more about bragging rights with competitors than being competitive. It’s tasted the ignominy of financial dissolution, and seen how private capital can breed renewal: Weathering the near-collapse of two Detroit automakers, the Great Recession, and the largest municipal bankruptcy in American history can do that. Seeing the crucial importance of individual leaders in a broader mosaic of leadership can, too. So can national embarrassment.”

Southeast Michigan is legendary for parochial infighting pitting city against suburb, for measuring solutions to difficult civic problems in decades, not years, for fixating on why change cannot happen instead of pushing to make it happen. Which raises a critical point that will be answered by the success of Gilbert & Co. to rally disparate leaders quickly around a cohesive bid: Were the speed and decisiveness of the auto restructuring, of the city’s financial workout, of the revitalization of downtown just historical aberrations? 

Or are they harbingers of a can-do future liberated from the confrontational zero-sum game that helped drive Detroit and its hometown auto industry to the edge of complete financial collapse? Look, no one should kid themselves: For a bid that seeks access to regional transit with connections to an international airport, the region that put America on wheels is woefully behind. For a bid that aims to create a second headquarters hub for one of 21st-century America’s iconic corporate brands, southeast Michigan isn’t too far removed from the stain of bankruptcy, municipal and corporate.

How indelible are those stains, if at all?

We’re about to find out.

“This is a no-lose proposition for southeast Michigan,” according to CAO Baruah of the Chamber. “Best case is we prevail under some very heavy competition. Even if we don’t win, but come close. It’s still a win for us. We learn how to do this well.” Whatever happens, business and political leaders arguably are more aligned around the economic way forward than any time in decades. The Democratic mayor of Detroit and the Republican governor coalesce around common problems, and more often than not so do their respective lawmakers.

Business leaders are more predisposed to dig into civic problems, with a dozen or so of their top leaders coming together in a new, still-unnamed group to champion reform. For the first time in a decade or more, Detroit’s automakers are led by longtime Michiganders — Mary Barra at General Motors Co. and Bill Ford and Jim Hackett at Ford.

Poverty declined and incomes rose last year in the Motor City, marking the first significant income increase recorded by the U.S. Census Bureau since the 2000 census, with Detroiters’ median household income up last year by 7.5% to $28,099 in 2016, according to U.S. Census’ American Community Survey estimates; ergo poverty dropped 4 percentage points to 35.7%‒the lowest level in nearly a decade—perhaps offering

Keystone Municipal Fiscal Erosion. Hazleton a small city of just over 25,000 in Luzerne County, is the county’s second largest city and the seventeenth largest city in the Keystone State—it was incorporated as a  borough 160 years ago, and then as a city on December 4, 1891. Now, Department of Community and Economic Development Secretary Dennis Davin has signed documents declaring Hazleton a “financially distressed” municipality under the state’s Act 47, effectively providing the Department the ability to solicit proposals on behalf of the city for professional management services. Mayor Jeff Cusat and City Council President Jack Mundie have been notified: the development puts the city in a position to apply for a $850,000 no-interest emergency loan that the state would make available via a revolving fund; Pennsylvania officials anticipate receiving a loan request from the city, since a consultative report that the Department prepared last month projects that Hazleton will face a $895,267 cash-flow shortage by the end of the year: a cash flow analysis projects $9,782,659 in expenses outpacing $8,887,392 in revenue for the year, according to the report—a report which unsurprisingly concludes: “This clearly is not fiscally sustainable, and it is projected that an extraordinary cash flow deficit will continue to exist.” Secretary Davin will have the final say whether to grant a loan to Hazleton; prior to that, she noted the City Council must adopt a resolution in support of the funding.

Council President Jack Mundie said that although he believes the city would have avoided Act 47 if the Mayor had followed the Council’s budget, the declaration leaves the city with little choice but to participate in the program. The city would have realized about $500,000 had the Mayor followed through with a plan to sell delinquent taxes to a collection agency and accepted another $220,000 payment from Hazleton City Authority in advance of land it expects to sell as the state looks to extend Route 424 into Humboldt Industrial Park. Mayor Cusat, however, has opposed paying fees related to the tax sale and has said he has seen no evidence that the land sale would take place this year to justify accepting the upfront payment—and, he has warned on several occasions that cash-flow issues put the city at risk of missing payroll; ergo, he believes it vital for the city to secure an emergency loan so that it may continue meeting payroll. He believes the city can make payroll on October 6th, provided the municipality takes advantage of a 30-day grace period for paying health insurance, explaining that is the date “when our quarterly health insurance payment is due, which is approximately $300,000. The only chance we have of making the Oct. 6 payroll is if I do not pay health insurance and I take advance of the 30-day grace period.” Council President Mundie added that he also does not want to see city workers go unpaid.

The $850,000 loan resolution was, thus, placed on yesterday’s meeting agenda: an offer Council President Mundie believed to be hard to refuse: “It’s payable over 10 years; there’s no interest; and payments are once a year: How can you refuse that money?” And, as Mayor Cusat noted: The city would confront severe repercussions if Council did not approve the loan resolution: “If they don’t pass it, the state has notified me that it’s almost guaranteed the city will be sent into immediate receivership—which has only happened once in the history of Pennsylvania: “I’m hoping that Council finally realizes how serious this problem is and agrees to the resolution,” adding there is a time element: the process for securing emergency funds could take up to 30 days, leaving no room for delays.  He also cited a recently released Communities in Crisis report prepared by Pennsylvania Economy League, “Communities in Crisis: The Truth and Consequences of Municipal Fiscal Distress in Pennsylvania, 1970-2014,” which he views as “critical” of Act 47: the report found that tax burdens have grown for all types of municipalities since 1990, even as municipal tax bases have been steadily shrinking since 1970: the report states that:

  • only one of the 14 municipalities which have participated in Act 47 had a tax base in 2014 that was at least on par with the tax base for communities that never participated;
  • that the tax burden for most Act 47 municipalities increased at a rate higher than non-Act 47 municipal averages; and
  • that six boroughs that exited Act 47 between 1990 and 2007 had tax bases that were significantly below the non-Act 47 borough average for 2014.

Or, as the report concludes: “This indicates that Act 47 was not successful in restoring tax base value to the boroughs that exited the program.” Thus, unsurprisingly, Council President Mundie fears the program would result in tax increases and the sale or lease of municipal authority assets—which the Council does not support, or, as he put it: “The state is going to force us into doing things we don’t want to do…I think [it] wants to sell the water and sewer (authorities).”  For his part, Mayor Cusat said the declaration of distress should not come as a surprise: when, previously, he tried to get the city to participate in the Early Intervention Program, he said that he learned the city had met two criteria to meet distressed status, ergo: “I’ve been warning council of this for the past year and a half, that we were headed in this direction: It shouldn’t come as a shock that Secretary Davin signed the documents.”

Shutting the Spigot? But tempus fugit: Pennsylvania state officials who confirmed Hazleton’s participation in Act 47 are expressing apprehensions with regard to how the House Republican’s fund transfers could impact the business community, specifically pointing to the removal of money from the Act 47 Revolving Aid Fund, a step which, if enacted, could pull the fiscal safety net out from under the state’s distressed communities: “Without this funding, cities would have a much more difficult time exiting Act 47,” according to Secretary Davin.

The Pennsylvania Economy League reports that fiscal decay has accelerated in all sizes of municipalities throughout the in its new report: “Communities in Crisis: The Truth and Consequences of Municipal Fiscal Distress in Pennsylvania, 1970-2014,” a report which examines 2,388 of the state’s 2,561 municipalities where consistent data existed from 1970, 1990, and 2014, considering, as variables, the available tax base per household, as well as the tax burden, a percentage of the tax base taken in the form of taxes to support local government services‒after which the municipalities were then divided into five quintiles, from  the wealthiest and most fiscally healthy to the most distressed—with Philadelphia and Pittsburgh excluded due to their size and tax structure. The League found that the tax burden has grown on average for all municipalities since 1990, but that the tax base has fallen, on average, in the state’s municipalities since 1970. In addition, the study determined that municipalities in Pennsylvania’s Act 47 distressed municipality program generally performed worse than average despite state assistance.

The study also found that communities which finance their own local police force, as opposed to those which rely solely on Pennsylvania State Police coverage, had double the municipal tax burden and ranked lower. (Readers can find the report in its entirety on the Pennsylvania Economy League’s website.) The League’s President, Chairman Greg Nowak, noted: “The first part of understanding and doing something about a crisis is understanding what it is,” adding that clearly the League believes the state’s local governments are in a fiscal crisis, comparing the new report to one the League released in 2006, which had warned of oncoming fiscal distress—a report, he noted, which had not galvanized either the state or its municipalities to take action. Gerald Cross, the Executive Director for Pennsylvania Economy League Central, said the study also found that tax bases in cities largely remained stagnant even as the local tax burden increased from 1990 to 2014, noting that all the state’s cities were in bottom-quintile rankings in 2014—and that while tax base generally grew in boroughs and first-class townships, the tax burden there also grew from 1990 to 2014; he added that the trend for second-class townships was mixed: while the tax base increased and more second-class townships moved into healthier quintiles, the tax burden also climbed from 1990 to 2014. Or, as Kevin Murphy, the President of the Berks County Community Foundation put it: “Pennsylvania’s system of local governments is broken and is harming the people living in our communities: It’s a system that was created here in Harrisburg [the state capitol], and it is Harrisburg which needs to fix it.” Pennsylvania has 4,897 local governments, including 1,756 special districts, cities, towns, and first, second, and third class townships.

Physical & Fiscal Destruction. Municipal fiscal analysts are apprehensive that Hurricane Irma’s physical and fiscal impact on Puerto Rico’s economy may be worse, because of the U.S. territory’s physical, fiscal, and capital debt—or, as Howard Cure of Evercore Wealth Management described it: “Entities that suffer a natural disaster need a strong balance sheet to take care of immediate clean-up and assessment needs until funding from the federal government and insurance companies becomes available.” The island lacks the requisite resources to recover on its own in the wake of a decade of fiscal deterioration—and now it is seemingly transfixed in the middle of a decade of fiscal decline, even as it is attempting to restructure its roughly $69 billion of public sector debt—and restore electricity to some 70% of the Puerto Ricans in the wake of Irma. Mr. Cure described Puerto Rico’s need to repair its power and water systems to be made more vital in the wake of many years of neglect, warning: Irma’s damage “could expedite the downward spiral of the economy and could cause even more of the workforce to leave.” Moody’s Investors Service senior credit officer Rick Donner added in his own fiscal apprehensions, writing: “Reports of widespread power outages that may persist for weeks in Puerto Rico following Hurricane Irma highlight longstanding liquidity pressures and an aging infrastructure that have beleaguered [the Puerto Rico Electric Power Authority] for many years: Long-term power outages will have negative impacts on PREPA’s revenues and will pose added challenges in Puerto Rico’s overall recovery from this natural disaster; Any damage from the storm will also add to the stress related to PREPA’s recent default and could impact ultimate recovery for bondholders.” Some fiscal and physical help could come from the PROMESA Oversight Board, where Executive Director Natalie Jaresko said, “We are working closely with Gov. Rosselló to coordinate support for Puerto Rico in the aftermath of the storm. We have also reached out to the federal government to activate Title V, which allows the board to work with agencies to accelerate the deployment of grants and loans following a disaster.”

Human Needs & Fiscal Imbalances

Good Morning! In this a.m.’s eBlog, we consider the ongoing fiscal challenges to the City of Detroit—especially in ensuring equitable tax collections; then we look north to assess the ongoing, serious physical and fiscal challenges to Flint’s long-term recovery, before considering the fiscal plight in Puerto Rico.

Motor City Revenue Uncollections. Unlike most cities, Detroit has a broad tax base in which municipal income taxes constitute the city’s largest single source, and that notwithstanding that the city has the highest rate of concentrated poverty among the top 25 metro areas in the U.S. by population. (Detroit’s revenues, from taxes and state-shared revenues are higher than those of any other large Michigan municipality on a per capita basis: these revenues consist of property taxes, income taxes, utility taxes, casino wagering taxes, and state-shared revenues.) Therefore, it is unsurprising that the city is cracking down on those who owe back income taxes: Detroit has launched an aggressive litigation effort, an effort targeted at thousands of tax evaders living or working at thirty-three properties in the downtown and Midtown areas. The city’s Corporation Counsel, Melvin Butch Hollowell, notes the city has identified at least 7,000 such taxpayers at these properties as potential tax evaders. Collecting those owed taxes is an especially sensitive issue in the wake of the city’s chapter 9 experiences when the decline in revenues of 22 percent over the decade of its most important source of revenues was a key trigger of the nation’s largest municipal bankruptcy.

Out Like Flint? Just as in Detroit’s chapter 9 bankruptcy, where now-retired U.S. Bankruptcy Judge Steven Rhodes had to address water cut-offs to families who had not paid their utility bills, so too the issue is confronting Flint—where the current penalty for non-payment under the city’s ordinance is tax foreclosure: something which has put at risk some 8,000 homeowners in the municipality, until, last week, the City Council approved a one-year moratorium on such tax liens: the moratorium covers residents with two years of unpaid water and sewer bills dating back to June of 2014. After the moratorium vote, City Council President Kerry Nelson said: “The people are suffering enough” for being forced to pay for water they cannot drink and are reluctant to use…The calls that I received were numerous. Everywhere I go, people were saying: Do something,” he said: “I did what the charter authorized me to do” with a temporary moratorium “until we look at the ordinance and get it corrected. It needs work. It’s 53 years old. We must start doing something for our community.” The council president insisted the Snyder administration needs to step up “and help us: They created this…the government doesn’t get a free pass.”

Indeed, the question of risk to life and health had been one which now retired U.S. Bankruptcy Judge Rhodes had to deal with in Detroit’s chapter 9 bankruptcy: how does one balance a city’s fiscal solvency versus human lives; and how does one balance or assess a family’s needs versus the civic duty to pay for vital municipal serves and ensure respect for the law? Now the situation has been further conflicted by the Michigan state-appointed Receivership Transition Advisory Board, which oversees and monitors Flint’s finances in the wake of its emergence from state oversight two years ago. That board has scheduled a vote for next month on the moratorium—as this Friday’s deadline for the thousands of homeowners to pay up under a 1964 ordinance nears—albeit a deadline which has been modified to provide a one-year partial reprieve, in part to give time to amend the ordinance. Perhaps unsurprisingly, the apprehension has had municipal political impacts: a recall effort against Mayor Karen Weaver, who a year ago was in Washington, D.C., for meetings at the White House with President Barack Obama to lobby for more federal aid and to obtain other attention for the city. The Mayor, understandably, notes Flint is now between a rock and a hard place: there is understandable residential anger over access to water critical to everyday life; however, unpaid bills could cause irreparable fiscal harm to the city—leading the Mayor to affirm that she will honor the moratorium and “follow the law: It’s not like something new has been put in place…We’re doing what has always been done. This was something that Council did. This is the legislative body. My role is to execute the law. So I’m carrying out the law that’s put in place.” Nevertheless, after a year in which the city did not enforce its ordinance, due in no small part to credits its was able to offer to its citizens courtesy of state financing, those credits expired at the end of February, a time when lead levels finally recovered to 12 parts per billion, which is under the federal action standard—and after Gov. Rick Snyder last February rejected Mayor Weaver’s request for an extension.  

The fiscal challenge is complicated too as illustrated by the case of former City Councilmember Edward Taylor, who noted that he had received a $1,053 bill from a home he had rented out to a woman whom he recently evicted. The problem? Mr. Taylor said the woman illegally turned on the water, so the city is holding him responsible for paying up. Now he is threatening to sue the City of Flint if he is unable to gain fiscal relief: i.e., he wants the city to erase his debt—but have the city’s grow.  “The calls that I received were numerous. Everywhere I go, people were saying: Do something,” Coincilman Nelson said. “I did what the charter authorized me to do” with a temporary moratorium “until we look at the ordinance and get it corrected. It needs work. It’s 53 years old. We must start doing something for our community.” The council president insisted the Snyder administration needs to step up “and help us: They created this…the government doesn’t get a free pass.”

Tropical Fiscal Typhoon. The administration of Governor Ricardo Rosselló Nevares declined yesterday to publish the recommended budget for the next fiscal year despite the fact that two days ago the deadline for completing the version of the document to be assessed by the PROMESA Board expired; initially, the Governor’s administration was supposed to turn over the budget to the Board on May 8th; however, the Board had granted a two-week extension—one which expired at the beginning of this week—time in which the Governor’s office could improve and correct some of the issues contained in its draft document—a document which has yet to have been made public, but one which the Governor is expected to make public as part of his budget message to the Legislative Assembly: according to Press Secretary Yennifer Álvarez Jaimes, the budget is currently in the draft phase, so it cannot be published, including the version which is to be provided to the PROMESA Board—even as, today, the Governor is due in the nation’s capital on an official trip, meaning the formal presentation of his budget before the legislature will almost surely be deferred until next week. The delay comes as PROMESA Chair José B. Carrión has indicated the Board will await the document prior to beginning its assessment and evaluation.

The Governor’s representative to the PROMESA Board, Elías Sánchez Sifonte, said the budget process is well advanced and that it is only necessary to complete the legal analysis and align some aspects with the provisions contained in the Fiscal Plan—even as a spokesperson for the Puerto Rico Peoples Democratic Party (PPD) minority in the Senate, Eduardo Bhatia, insisted on his claim to know the content of the document: he stated: “I think the people should know what was proposed in the budget…Yesterday (Monday) was the date to deliver the budget and we know nothing.” Sen. Bhatia, who sued at the beginning of this month to force publication of the budget, had his suit rejected by the San Juan Court of First Instance, because it was preempted under Title III of PROMESA—meaning the case was then brought before U.S. District Judge Laura Taylor Swain, who issued an order giving Puerto Rico until this Friday to present its position in this controversy. 

State Agency BankruptciesPuerto Rico has filed cases in the U.S. District Court in San Juan, according to Puerto Rico’s Fiscal Agency and Financial Advisory Authority, to place its Highways and Transportation Authority and Employees Retirement System into Title III bankruptcy—a move affecting some $9.5 billion in debt, with Governor Rosselló asserting he was seeking to protect pensioners and the transportation system by putting both agencies into municipal bankruptcy; he added he had asked the PROMESA Oversight Board to put the two entities into Title III’s chapter 9-like process, because, according to his statement, the island’s creditors had “categorically rejected” the Puerto Rico fiscal plan as a basis for negotiations and have recently started legal actions to undermine the public corporation’s stability. In the board-approved HTA fiscal plan, there would be no debt service paid through at least fiscal year 2026. Gov. Rosselló added that he had filed for Title III, because Puerto Rico faces insolvency in the coming months, and because his government has been unable to reach a consensual deal with its creditors, adding that pensioners will continue to receive their pensions from the General Fund after the territory’s pension fund, ERS, runs out of money. (As of February the ERS had $3.2 billion in debt, of which $2.7 billion was bond principal and $500 million was capital appreciation bonds.)

As Puerto Rico attempts to sort out its tangled financial web, retirees may face bigger cuts than those in past U.S. municipal insolvencies, due in part to an unconventional debt structure which pits pensioners against the very lenders whose money was supposed to sustain them—but also because this is an unbalancing teeter-totter, where the young and upwardly mobile are moving from Puerto Rico to New York City and Florida—leaving behind the impoverished and elderly, so that contributions into the Puerto Rico’s pension system are ebbing, even as demands upon it are increasing, and as the benefit structures are widely perceived as unsustainable. There is recognition that radical cuts to pensioners could deepen the population’s reliance on government subsidies and compound rampant emigration, for, as Gov. Rosselló has noted, most retirees “are already under the poverty line,” so that any pension cuts “would cast them out and challenge their livelihood.” Indeed, Puerto Rico’s Public pensions, which as of June last year had total pension liabilities of $49.6 billion, and which are projected to be insolvent sometime in the second half of this calendar year, today have almost no cash; rather pension benefits are coming out of the territory’s general fund, on a pay-as-you-go basis—imposing a cost to Puerto Rico of as much as $1.5 billion a year: $1.5 billion the territory does not have.

Governance in the Face of Fiscal Insolvency

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eBlog, 1/05/17

Good Morning! In this a.m.’s eBlog, we consider the political challenges encumbering the virtually insolvent, historic municipality of Petersburg, Virginia, before turning to the growing judicial disputes with regard to the respective rights and authority of municipal bondholders in Puerto Rico, even as the new administration of Governor Ricardo Rosselló has taken office and the PROMESA oversight board is attempting to get its arms around a long-term fiscal path to resolution.

The Right Fiscal & Governance Direction. Petersburg, Virginia’s City Council Tuesday voted 4-3 to elevate current Vice Mayor Samuel Parham to the position of Mayor—with the action coming amidst critics who have called for the criminal prosecution of the ousted incumbent W. Howard Myers, who had said last week he planned to run for another term—a declaration which appeared to accelerate maneuvering among his colleagues who are seeking to avoid more unrest from citizens unhappy with the city’s decline into near municipal bankruptcy last year. Nevertheless, when the clerk called the question, Mayor Myers nominated Vice Mayor Parham, later describing his action as a step towards much-needed continuity for the city at a critical time, adding that the dissent from his fellow Council members Treska Wilson-Smith, John Hart, and Annette Smith Lee was “horrific” at a time when the city needs to come together to address critical fiscal challenges. He noted: “This reflects poorly on all of us and hurts future opportunities.” The Council selected John Hart to be vice mayor. Both roles are largely ceremonial, but symbolic at a time when Petersburg has been battered by financial challenges. Indeed, good government advocates with the group Clean Sweep Petersburg have been targeting incumbents for removal from office, actively petitioning for their ouster. Nevertheless, new Mayor Parham pledged more transparency during his two-year tenure as mayor and fewer of the type of last-minute special meetings that had evoked such condemnation last November from the American Civil Liberties Union of Virginia. In addition, an organization spokesman has also criticized the city for holding the meeting at noon on a workday at a time when its governance has come under increased scrutiny. In response, council members voted to change the timing of organizational meetings to the half-hour preceding the first city council meeting in odd-numbered years.

Former Mayor Myers told his colleagues that the new designee, Mayor Parham, who is in his first four-year term on the council, has all the experience he needs to take the city to the next level: “He was my right-hand man for the last two years…I have every confidence in his ability to lead the city forward.” Nevertheless, the governance challenge looms: the city began its current fiscal year some $19 million in arrears and $12 million over budget, voting to slash employees’ pay, strip millions from the budget of the struggling public schools, and eliminate a youth summer program in order to try to balance the budget; meanwhile, the city’s credit rating tanked, and municipal workers fled to find other work, or, as new Mayor Parham put it: “Our locality was the first in the state to go through financial issues like we have.” In addition, late last year, the council voted to hire a turnaround team for $350,000 to take a short-term contract to try to bring the budget back above water and stabilize municipal operations. The contract expires in some eight weeks, but appears to have been instrumental in disentangling the layers of structural financial and fiscal problems that forced the city into insolvency—as well as helping to secure much-needed short-term financing for the city last month, or, as Mayor Parham described it: “In 2016, the government of Petersburg was supposed to be shut down, but we avoided that…We are moving in the right direction.”

Trying to Unpromise PROMESA? Meanwhile, in a letter to the PROMESA board, on behalf of Governor Ricardo Rosselló, the U.S. territory of Puerto Rico requested an extension of the January 15th deadline to prepare and submit its revised fiscal plan to the PROMESA board, seeking a 45 day extension—in order to ensure a credible plan which could return Puerto Rico to “fiscal responsibility within a decade.”  

Puerto Rico creditors presented arguments in federal court in Boston in an effort to lift a stay related to litigation over the U.S. territory’s debt. The courtroom request, in effect, seeks to challenge the provisions in the newly enacted federal legislation which imposed a stay on such suits in order to provide both Puerto Rico and the PROMESA oversight board with more time to put together a broad debt restructuring plan. The current stay is scheduled to expire next month on the Ides of February, with the possibility of an extension of 60 or 75 days or until the Oversight Board opts to file a petition to commence debt-adjustment proceedings, if that date is earlier. But complicating the promise of PROMESA has been this parallel process by some municipal bondholders and bond insurers in suing Puerto Rico—where a new Governor is just getting his administration underway. The new effort comes after last year’s U.S. District court ruling in two decisions concerning several cases that the stay should continue. That decision is now subject of an appeal in the U.S. First Circuit Court of Appeals, with the challenge asserting the burden of proof should be imposed upon Puerto Rico that any stay would not cause harm to bondholders, and arguing that the lower court’s decision should be overturned, because it had failed to hold an evidentiary hearing. For its part, the PROMESA Oversight Board has filed an amicus brief arguing in favor of continuing the stay, writing: “There can be no dispute that the amounts due will be paid during the pendency of the PROMESA stay, and the appellants will, therefore, suffer no material harm during the pendency of the stay.” Meanwhile, in its brief, the Commonwealth of Puerto Rico wrote: “It is not even clear how the stay is causing appellants any concrete injury, let alone the kind of substantial injury that would justify lifting a stay designed to help abate an unprecedented fiscal crisis affecting the health, safety, and welfare of millions of individuals.”

The Critical Role of State Leaders if Distressed Cities and Public Schools Are to Get Back on their Feet

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eBlog, 6/02/16

In this morning’s eBlog, we consider, again, the challenges the City of Detroit confronts in addressing the future of its public schools—an issue debated at some length yesterday at an annual retreat on Mackinaw Island of state legislative leaders—who have less than two weeks to act, and we consider the significant fiscal challenges that Atlantic City confronts in the wake of Gov. Chris Christie’s signing into state law legislation to provide the city a bridge loan to its fiscal future—a law which leaves in place not only significant constitutional challenges, but also shortcoming in the state law which could severely limit Atlantic City’s ability to recover. We would also like to note that feedback from the likes of retired U.S. Bankruptcy Judge Thomas Bennett; Marc Pfeifer of the Bloustein Local Government Research Center; Bob Deis, a former Stockton City Manager, the ever invaluable Jim Spiotto, Richard Ravitch, and others are invaluable to our efforts to try to provide not only emerging municipal fiscal distress information, but, more critically, analysis which might be valuable to other state and local leaders.

Atlantic City Surfs. Marc Pfeifer, ‎the remarkable Assistant Director at the Bloustein Local Government Research Center, and perhaps the most insightful expert about the precipitous fiscal future of Atlantic City, notes “It’s not over yet,” warning that notwithstanding the compromise between Gov. Chris Christie and the legislature to grant a time extension for Atlantic City to get back on its fiscal feet, the city, nevertheless, confronts significant challenges to address in order to come up with a balanced budget (under the terms of the law) for FY2017, not to mention assumptions it will make for its five-year plan. He adds, moreover, that because there are no standards for the New Jersey Department of Community Affairs (DCA)—the State agency created to provide administrative guidance, financial support and technical assistance to local governments, and community development organizations—the DCA Commissioner will have a great challenge in assessing and determining whether to approve or deny any budget and recovery plan put together by Atlantic City Mayor Don Guardian and his City Council, noting: to apply, “The only additional tool the law gave the city is authority for early retirement incentives (ERI) for employees. Lacking any of the tools the state gave itself under the takeover part of the law, this makes the city’s problem more challenging. The law did not give the city any new authority to negotiate or impose changes to labor contracts – which are some of the most expensive in the state. Unless the unions feel the need to cooperate (a potential state takeover did not faze them prior to this), the ERI will allow individuals with already lucrative retirement benefits to experience them early, with future city taxpayers paying the bill. This is further complicated by the ‘brain drain’ of losing experienced individuals and bringing in new, inexperienced ones.” He recognizes that other solutions (and tools) to address these issues should have been explored.

Mr. Pfeifer also points out that the new statute leaves in place substantial constitutional challenges were the State of New Jersey to seek to take over Atlantic City, noting such a takeover could be challenged on “constitutional principles of home rule, due process, and sanctity of contracts.” He added that even if the Garden State were to prevail on some of these issues, if the state wound up imposing this form of takeover, the court challenges would consume additional time.

Finally, he notes that the fact that this state last-minute action was needed pointed to the state’s failure to act sooner: “In the fall of 2010, the state gave itself, but did not use the full authority under pre-existing law, to oversee and manage the city’s finances. While Atlantic City now has problems which exceed ones faced by other cities in the past, we lost a good deal of time that could have been used to prevent the high-profile, politically bombastic process that we wound up with. We should have learned from our history and not try to invent solutions until the existing solutions fail.”

What makes this all so remarkable is New Jersey’s long and successful record at constructive intercession before a fiscal crisis arises. The state, under the Local Government Supervision Act, has authority, if the Local Finance Board determines that a triggering event has occurred, to not just monitor such a municipality’s financial affairs, but also to act to limit its debts and other financial obligations. It is clear the state’s past leaders recognized the constructive role the state could play to avert a municipal fiscal crisis. The state failure to act in a constructive way here appears to have imposed significant long-term costs not just on Atlantic City, but also on municipalities across the state. The question will be whether there are lessons learned.

R-O-L-A-I-D-S. Detroit will receive an additional $88 million in Troubled Asset Relief Program funding from funds provides to Michigan to raze blighted homes, allowing the city to clear thousands more houses in the next few years. Those funds could be essential to Mayor Mike Duggan commitment made last week to assist the city to meet its goal of demolishing 5,000 houses this year and 6,000 next year.

Focusing on Not Leaving a City’s Children Behind. The fate of Detroit’s children’s futures might hinge on the ability of Mayor Mike Duggan to convince Michigan’s business and civic leaders to oppose a proposed, compromise $617 million bailout of the Detroit Public Schools bailout which does not include a citywide commission to oversee where schools can open in the city. At the Mackinac Policy Conference, Mayor Duggan yesterday said Michigan’s largest school district would be set up for failure without such a Detroit Education Commission to oversee what would otherwise be a “chaos” of rapid school turnover in parts of the city where his administration is focused on rebuilding blight-ravaged neighborhoods. His comments came at a key moment as House Republican legislative leaders had been seeking support for a vote yesterday in Lansing on a package to address the $467 million school district, giving a new debt-free school district $150 million in transition money, but to exclude the proposed commission plan. However, the House adjourned last evening without voting on any Detroit school legislation, although House Speaker Kevin Cotter (R-Mount Pleasant) told reporters after the session: “We’re working on something, but it’s still not there yet.” Rep. Tim Kelly, Chair of the House Appropriations Subcommittee on School Aid, said he supports the tentative deal and is encouraging support from colleagues who voted last month for the original House package—a package which included $33 million in transition aid, but no commission—explaining the potential tradeoffs: “[W]without the commission” more dollars would go to DPS…That’s the exchange.” To which Mayor Duggan warned such a state aid package would be wasted unless there were a commission to help stabilize enrollment and finances at DPS, noting: “They know DPS is going to fail and that $600 (million) or $700 million is going to be blown…They know it. The Governor knows it. And they’re trying to pass it anyway.” Getting to the heart of the issue, Mayor Duggan was succinct: “Bringing back the riverfront and all of the houses isn’t going to mean a damn thing if we leave the children behind.”

The Mayor’s hopes seem to be earning a higher grade in the state Senate, where GOP leaders have been trying to preserve an education commission that could regulate where public and charter schools locate in the city. There the emerging compromise would include allowing a school board election for a new, debt-free Detroit school district to happen in November, according to an outline obtained by The Detroit News. Sen. Goeff Hansen (R-Hart), the lead sponsor of the state legislation overhauling Detroit’s public schools, and Gov. Rick Snyder both said yesterday they are still pushing for the House to include an education commission in the Detroit Public School District legislation.

For his part, Gov. Ric Snyder, who has been working with state Senate leaders in support of creating the proposed Detroit Education Commission, yesterday said: “I’m not willing to give up on the concept at this point in time,” in an interview with The Detroit News Editorial Board, although he signaled his main priorities for a DPS overhaul are mostly focused on paying off DPS’ $467 million in outstanding debt, so that a new Detroit Public School district would not only be debt-free, but also have access to $200 million in transition funding as well an elected school board, telling the News: “We need a financial solution, and I want the school board back, in particular.”

The final exam deadline for DPS and state leaders lapses in two weeks when the Legislature adjourns for its summer recess. Failure, warned John Rakolta Jr., Chairman and CEO of the Detroit-based Walbridge construction company, would trigger a mass exodus from Detroit Public Schools this fall if lawmakers fail to agree on a plan without the commission: “If we don’t pass the Senate bill, we’re going to have enormous student loss this October, and you better be prepared to go through this whole thing again next year at this conference, because we’re going to be another $150 million in the hole after we’ve paid off all of this debt.”

What Is an End Game for Municipal Fiscal Distress?

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eBlog, 5/12/16

In this morning’s eBlog, we wonder if the end game is nearing in Atlantic City. We observe the corrosive, criminal behavior by public school officials in Detroit’s public school system—and the potential consequences to efforts in the Michigan Legislature by Governor Rick Snyder—asking again—whether lessons were really learned from Detroit’s epic municipal bankruptcy. Finally, in the wake of U.S. Treasury Secretary Jacob Lew’s visit to Puerto Rico early this week—and Puerto Rico Governor Alejandro Garcia Podilla’s visit with House Speaker Paul Ryan, whether Congress is ready to act on legislation to avert a critical insolvency by July 1st.

The End Game for Atlantic City? Assemblyman Vincent Mazzeo of Atlantic County Tuesday said Democrats in the N.J. State Assembly have negotiated the basic framework for a compromise bill to address Atlantic City’s nearing insolvency—considering legislation that would give the municipality at least 150 days to “get its house in order” under a quasi-control board composed of five state and local officials—in effect a compromise version comparable to that offered by State Sen. President Steve Sweeney, who has been clear that a municipal bankruptcy by the city would be the “worst thing that could happen to the State of New Jersey.” The emerging proposal would allow Atlantic City some period of time to get its finances under control before a state takeover would trigger and add an element from the alternative bill introduced by Assembly Speaker Vince Prieto—one supported by Atlantic City Mayor Don Guardian, which would provide for a five member oversight panel to steer the city through a series of financial benchmarks. Assemblyman Mazzeo said the compromise under discussion would include some form of immediate aid to the city in the form of a loan or possibly the redirection of casino funds which have been long promised by the state to plug a $33.5 million hole in the city’s budget, noting: “We made a lot of progress as far as the details of the compromise.” The Assemblyman’s announcement could mark a significant breakthrough—especially because he had previously garnered significant apprehension by Atlantic City leaders due to his alignment with other South Jersey Democrats who have advocated for a full state takeover of Atlantic City.

Nevertheless, the Assemblyman has made clear that structural cuts in the city’s labor contracts will have to be made, but added that his new approach was considerably more realistic than previous state initiatives—noting, for instance, the original Senate “compromise proposal” giving Atlantic City 45 days to cut its budget nearly in half was unrealistic—albeit it is unclear whether any 50 percent cut is; but his new proposal would extend the 45 days to 130, even as he reports he is trying to understand “what is the number for the budget that Atlantic City can provide services to the residents.” His position seems at significant odds with Gov. Chris Christie, who, under his proposed state takeover plan, would have the state usurp power to end union contracts for municipal employees, excluding the teachers union, and preempt all municipal authority with regard to the sale of municipal assets. Finally, Assemblyman Mazzeo said his proposal to create a Payment in Lieu of Taxes system for casinos would likely be included in a future bill, not the compromise plan under discussion.

Detroit’s Unlearning Curve. Even as retired U.S. Bankruptcy Judge Steven Rhodes, the Emergency Manager for the Detroit Public Schools (DPS) has been working around the clock to secure state aid, the criminal behavior of some of the system’s former and current employees is consuming precious fiscal resources in the form of pensions and political support critical to DPS’s future. Now thirteen former and current Detroit Public School principals who have been charged with a felony involving a $2.7 million kickback and bribery scheme at DPS remain, nevertheless, eligible for their state pensions. More names are likely to be posted: U.S. District Judge Victoria Roberts yesterday asked Norman Shy, the alleged mastermind in the DPS bribery and kickback scheme at Detroit Public Schools, if the conspiracy extended to 13 former and current DPS principals, all of whom have been charged in the case, to which Mr. Shy responded: “I paid school officials monies and other things of value for their assistance…” adding there “may have been others. I don’t recall,” as he plead guilty to two felony charges: conspiracy to commit federal program bribery, a five-year felony, and income tax invasion, also a five-year felony. Mr. Shy, a graduate of the DPS system, was ordered to pay $2,768,846.23 in restitution; he will be sentenced in September. In addition, former DPS principals Ronnie Sims and Gerlma Johnson appeared yesterday to plead guilty to their roles in the scheme: Ms. Sims, a former principal at Fleming Elementary and Brenda Scott Middle schools from 2005-12, is accused of accepting 24 payments from Mr. Shy totaling $58,519.23—most in the form of bribes and kickbacks to a shell company he created called Educational Consultants USA, according to prosecutors: the 23-year career DPS employee appears poised to move from the classroom to prison. The dishonor roll continues to unroll: a grim unrolling even as the system is looking to the Michigan House and Senate for aid critical to opening the schools in the fall and offering a brighter future to the cities families.

But the harm is even greater—and, mayhap, irreparable: The U.S. Attorney’s Office does not have standing to request a federal court order to revoke the pensions of these individuals—or, as that office yesterday noted: “They will all be ordered to pay restitution, and, maybe they can use their pensions to pay that, but we don’t have any legal standing to take [their] pensions,” referring to the Michigan Public School Employees Retirement System fund pensions for both school administrators and teachers. Caleb Buhs, a spokesman with the Michigan Department of Technology, Management and Budget, which is in charge of the Office of Retirement Services and Michigan Public Employees Retirement System, said state statutory language provides that if an employee is found in violation of the public trust, a court can order a revocation of his or her public pension. But the determination with regard to whether the charge faced by the DPS administrators is considered a violation of the public trust is up to a judge. According to Mr. Buhs, in Michigan, “There is not a listing of crimes that fall into the category. It’s at the discretion of the judge.” One outcome does appear clear, a different judge, retired Judge Rhodes in his acting capacity as Emergency Manager at DPS, is committed to leaving no stone unturned in his Don Quixote quest to “investigate legal options for recovering the stolen funds.”

The disquieting DPS news, however, can hardly be expected to be good news for DPS even as Michigan Treasurer Nick Khouri warned the package of bills passed by the state Senate in an effort to avert a DPS municipal bankruptcy would provide insufficient revenues “to transition to the (new district).” Treasurer Khouri added that the “House passed package leads to a projected cash flow deficit of $22 million in August, rising to $80 million in September,” warning that, absent significant change, the proposed new, debt-free Detroit school district under the pending bill could become insolvent by its second month in existence under the House-passed $500 million debt-elimination plan—a warning to which Michigan House Speaker Kevin Cotter took exception. The Treasury Department analysis of the House plan concludes the new Detroit Community School District would have a $22 million deficit by the end of August and would continue to run deficits each month next school year with $33 million in startup cash. In contrast, the Senate version to eliminate DPS’s operating debts and provide the new school district with $200 million in transitional funding would leave the new district with a low balance of $86.9 million in September, according the Treasury analysis. The Speaker, additionally, noted he was “discouraged” to see the analysis come out five days after the House had voted—questioning the timing so long after he had requested the information—information based upon revisions of DPS Emergency Manager Steven Rhodes’ earlier request for about $200 million for transitional costs—some $125 million the new school system would need “at inception” to pay vendors and employees, and open school buildings in September, the one month Michigan school districts do not receive a payment from the state, according to the Treasury document. In addition, the Governor’s office has noted that the new DPS will need $65 million for deferred maintenance, school security equipment, and building-closing costs—with the Treasurer’s office adding a final $10 million in transition costs would finance “investment in key academic programs that have been deferred due to financial constraints and austerity measures.”

Speaker Cotter, last week, said House Republicans could not support the Senate’s proposal for $200 million in startup costs, because members were not given enough details about how the funding would be used, a position he reiterated Tuesday—that is before the startling revelations that emerged yesterday. The Speaker noted: “The taxpayers of the state are being asked to make an investment, and I don’t think it’s unreasonable to ask for at least something that resembles a business plan, to say how this money is going to be used,” with his spokesperson disputing the Treasury’s conclusion that the proposed House plan would lead to a quick insolvency. Perhaps trying to better inform all sides—and in compliance with Michigan’s emergency manager law, Judge Rhodes Tuesday convened a public informational meeting on his Fiscal and Operating Plan in Detroit at which he said his goal was “to set DPS on a path to long-term success” and added some of the $200 million would be used “to substantially upgrade our buildings and facilities to make them more efficient,” noting: “We also need transitional and working capital…We have certain minimum cash requirements in order to pay our bills until the first state-aid payment arrives in late October. We want to enhance our academic programs and to retain the ones we have…We absolutely need that minimum amount from our Legislature in order to set DPS on a course for success.” Nevertheless, Senate Majority Leader Arlan Meekhof (R-West Olive) warned that the that startup funding remains one of the main sticking points between the two houses—deeming the $200 million “critical,” even though he did not rule out negotiation.

State Treasurer Nick Khouri detailed the $200.2 million in transition costs Detroit Public Schools needs to create a new debt-free school district as part of a larger $670 million rescue plan:

Operation cash: $125 million
■ $58 million for cash flow based on timing of bills and lack of September state aid payment.
■ $55 million for accrued payroll costs, other pending contingencies and claims.
■ $10 million for professional transition costs in the information technology, human resources, financial and legal departments.
■ $2 million for academic and instructional support.
Building improvements: $65.2 million
■ $19 million for heating, ventilation and air conditioning.
■ $16 million for roof repairs.
■ $15 million for windows.
■ $10 million for upgrading school security equipment.
■ $3 million for lighting.
■ $2 million for school building closing and reorganizing.
■ $250,000 for fencing and paving.
Academic improvements: $10 million
■ $5 million for “educational enhancements” in art, music and gym
■ $3 million for literacy programs and libraries
■ $2 million “investment in innovation” for science, technology, engineering, arts and mathematics programs
Source: Michigan Treasury Department

Puerto Rico. Even as Major League Baseball and its players union have cancelled scheduled games in Puerto Rico due to fears about the Zika virus, House Speaker Paul Ryan’s efforts to pass and send legislation to address the U.S. territory’s looming insolvency—especially to meet a July 1 deadline payment of $800 million to holders of Puerto Rico general obligation bonds backed by the commonwealth’s constitution—in addition to some $1.2 billion in other municipal bond payments—are continuing to struggle after the House Natural Resources Committee yesterday postponed its scheduled release of revised legislation, albeit there is some hope Chairman Rob Bishop (R-Utah) will release it today—and the Committee still seems set to vote next Wednesday. The setback came as Ranking member Rep. Raul Grijalva (D-Ariz.) said: “We are making progress, but we are not there yet…The situation in Puerto Rico is dire, but a bill that doesn’t solve the problem, or doesn’t pass, won’t help anyone.” A Committee spokesperson noted that despite the many delays in moving the bill to date: “I would say that in the interest of protecting U.S. taxpayers, mitigating a humanitarian crisis, and avoiding any potential spillover and borrowing costs from a massive default that results in decades lost for American citizens on the island, yeah we want to get something before that deadline.”

Revisions to the bill, coming in the wake of visits by U.S. Treasury Secretary Jacob Lew and Puerto Rico Governor Padilla’s visit with House Speaker Paul Ryan (R-Wis.), are likely to be similar to the current version, but incorporate changes based on feedback Treasury and Puerto Rican officials, as well as creditors: there has been considerable discussion with regard to the proposed oversight board—with concerns about sovereignty and the potential authority to affect public pension obligations. Thus, refinements are expected to focus on those issues as well as clarifications with regard to maintaining the protection of the existing debt hierarchy.

Can Municipal Bankruptcy Not Work?

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eBlog, 5/09/16

In this morning’s eBlog, we consider, again, the likely municipal bankruptcy of East Cleveland—a potential – and likely—municipal bankruptcy that would demonstrate the limitations of chapter 9 municipal bankruptcy, because the city has so little outstanding debt; so it is unclear whether chapter 9 can even be a serious remedy. Then we turn the roulette table to Atlantic City—site of a visit today by former Mayor Bernie Sanders, where the clock is running out amid questions with regard to quasi-state owned property exempt from critically important property tax revenues. Finally, we try to untangle the arithmetic so critical to the fiscal soundness of the Detroit Public School System—an invaluable foundation for any long term certainty for Detroit’s recovery from the largest municipal bankruptcy in U.S. history.

Teetering on the Edge of Municipal Bankruptcy. The City of East Cleveland has asked the State of Ohio—a step which, under Ohio’s municipal bankruptcy law (§133.36), requires approval of its municipal tax commission—to approve a petition for municipal bankruptcy. East Cleveland Finance Director Jack Johnson said that Chapter 9 bankruptcy would protect the cash East Cleveland has in the bank and allow the city to continue providing services. According to Mr. Johnson, creditors owed legal judgments could choose to drain the city’s bank account at any moment through attachments or garnishments—noting that the city would lose an entire month of operating funds if a $638,000 judgment owed to a provider of photo traffic enforcement services, Nestor Traffic Solutions, were removed from its bank account. A $73,000 judgment related to unpaid overtime is another matter of concern, as is a separate ongoing dispute in which East Cleveland has been racking up $750 per day in fees related to unpaid overtime since April 15. Even if creditors continue to refrain from claiming their funds, financial Armageddon is close at hand. Johnson said that by the end of 2017, East Cleveland’s finances will be so dire that it will have to choose between having a police department and having a fire department, and in 2018, it won’t have enough money for either one.

East Cleveland has struggled financially for decades. Ohio’s state auditor, Dave Yost, declared a state of fiscal emergency there in 2012; the city previously operated under a fiscal emergency declaration between 1988 and 2006. Sharon Hanrahan, the Financial Planning Commission Administrator at Ohio’s Office of Budget and Management, painted a stark picture of East Cleveland’s finances in an April 18 presentation: As of Dec. 31, the city had a deficit totaling $3.4 million, past-due accounts payable of more than $3.4 million and a bank balance just under $639,000. Unpaid vendors include its employee healthcare provider, Kaiser Permanente, which is owed $741,000.

Nevertheless, Mayor Gary Norton has said the move is necessary in order to maintain the city’s payroll and essential services, calling it a temporary fix for the cost side of the city’s economic distress. He reports, however, that the real problem is that there is insufficient revenue coming in to support the city. The request came as an 11-year-old child was among several wounded in separate shootings late last night on the city’s East Side, and as municipal police officers also took fire. Mayor Gary Norton says it would be a temporary fix for the cost side of the city’s economic distress. The move, in some ways, is not a surprise: last year Ohio State Auditor David Yost’s office reported that chapter 9 municipal bankruptcy or merging with Cleveland were probably the most viable options for the city. Should its petition be approved, East Cleveland would be the first municipality in the state ever to file for bankruptcy protection.

East Cleveland, which is a charter city of about 18,000 granted its authority under the home rule provisions of the Ohio constitution, has seen its population fall dramatically over the years, from 39,600 in 1970 to the most recent census figure of 17,843 for 2010—even as its minority population has grown to 94.5 percent. The city’s median household income of $20,660 is less than half the statewide $48,849—indeed, based on median taxable income, the East Cleveland school district, which includes a small portion of Cleveland Heights, has the highest poverty rate in Ohio: 42.1 percent versus 15.9 percent statewide. Worse, the rate for the city’s children in poverty is higher at 60.2 percent, nearly thrice the statewide rate of 22.7 percent. The median home value (county appraisals) is $36,900—and the city currently has a vacancy rate of 37.1 percent—more than thrice the statewide 11 percent. In short, East Cleveland is a municipality not just with a past history of fiscal challenges, but now a point of perhaps no return. In its request to the state of its petition for chapter 9, the city notes that “Despite the city’s best efforts, East Cleveland is insolvent. Based upon financial appropriations projections for the years 2016, 2017, 2018 and 2019, the city will be unable to sustain basic fire, police, EMS [emergency services] or rubbish collection services…The city has tried to negotiate with its creditors in good faith…It has been a somewhat impracticable effort.”

East Cleveland, which currently has no outstanding municipal debt, but does have $3.4 million in outstanding accounts payable, including several judgments from lawsuits that have been settled, sees little light ahead on its revenue front, and fears that its state-approved recovery plan—a plan intended “to restore the city to fiscal solvency,” instead runs the risk of its critical public safety capacity. Indeed, in the wake of last night’s horrific killings, the city is apprehensive the plan “intended to restore the city to fiscal solvency,” would likely, instead, “have the effect of decimating our safety forces. Hence, our goal to effect a plan that will adjust our debts.” The problem is that with no municipal debt outstanding, it is unclear how municipal bankruptcy could really help the city: its fiscal challenge is not debt; rather it is a lack of revenue. Currently, the city realizes revenues from municipal income taxes, Ohio general revenue sharing (the Local Government Fund), property taxes, and trash collection fees, as well as a street lighting assessment. The state aid, however, has been disproportionately reduced in recent years, even as the city’s tax base has eroded. The state revenue sharing has been on a five-year downward slope—contributing to projections that East Cleveland’s revenues will decline by more than 10 percent this year from more than $11 million in 2015, according to a report from the state auditor that examined city finances and the impact of various fiscal options. East Cleveland has considered a merger with neighboring communities, such as Cleveland; however, according to the Ohio Tax Commission, the courts have not accepted such a proposal.

Formerly under a Commission and City Manager form of government, city residents and taxpayers, frustrated with that form of government in the wake of having two of its two commissioners charged with theft in office, and after a revolving door of city managers resulted in little stability and a reduction in services; Citizens for Sound Government, a group of East Cleveland residents, led a petition drive to elect a strong mayor and to create a five-member city council. Attorney Darryl E. Pittman, thus, became the first mayor to lead the city since 1908. Yet, during his second term, the Ohio State Auditor in the autumn of 1988 declared the municipality to be in a state of fiscal emergency in the wake of finding that the city’s water and sewer fund were found to have deficits in excess of $2 million. Subsequently, under the next Mayoral administration, the city increased its borrowing in an effort to recover from its fiscal emergency—a state in which it remained over the next eight years—culminating in the conviction on charges of racketeering and corruption of former Mayor Emmanuel Onunwor. Ergo, in his letter to Ohio Tax Commissioner Joseph Testa, current Mayor Gary Norton wrote, the city is in a trying effort to keep payroll going and to maintain services. Council President Thomas Wheeler said even if approved, filing for chapter 9 municipal bankruptcy would be a “Band-Aid” to keep the city going, not a solution. The Mayor, in his epistle, wrote that, based on the city’s fiscal projections, “the City will be unable to sustain basic fire, EMS, or rubbish collection services,” adding that the municipality’s Financial Recovery Plan, approved by the City Council, would have the effect of “decimating our safety forces.”

In Ohio, where no entity had previously filed for municipal bankruptcy protection, such a petition requires the approval of a municipality’s tax commission. While the Ohio Tax Commissioner’s office said it was preparing a response, it has yet to offer any public comment. For his part, Mayor Norton said that the municipal bankruptcy filing would be a temporary fix for the cost side of the city’s economic distress, but the real problem was with income—there simply, he warned—was insufficient revenue coming in to support the city—and that raising tax rates or imposing new fees would not provide an immediate solution. The request from the city can hardly come as a surprise to the state: State Auditor David Yost’s office last year had issued a statement that municipal bankruptcy or merging with the City of Cleveland were probably the most viable options for the city.

Running the Chapter 9 Tables in New Jersey. New Jersey Gov. Chris Christie late last week said he would rather Atlantic City file for chapter 9 municipal bankruptcy than to provide any state fiscal support. The Governor’s remarks, which came in the wake of both a failure by the Assembly to consider a Christie-opposed rescue package by House Speaker Vincent Prieto (D-Secaucus), which would have provided for a state takeover of Atlantic City, but only if the municipality failed to meet annual benchmarks, and the guesstimate of state officials that Atlantic City will run out of cash at the end of this week. Instead, Gov. Christie urged the legislature to back the Senate-passed package, which would empower New Jersey’s Local Finance Board to renegotiate outstanding debt and municipal contracts for as long as five years if the city failed to close its estimated $102 million budget deficit in 130 days: “If they come up with something: great. If they do not, then you know bankruptcy will be the only option, and, while I would regret having to go down that road, it is a road that I will have no choice but to go down: I am not sending any more money to Atlantic City without the authority to fix the underlying problem.” For his part, Speaker Prieto noted: “I’m looking for a bill that protects Atlantic City’s civil liberty, protects the workers that are there, protects their self-governance…We’re going to work, Monday, Tuesday, [to] hopefully get something that all the Assembly came come together on.”

Indeed, today promises to be an interesting day in Atlantic City, as it will gain attention with the visit of Sen. and Presidential contender Bernie Sanders (I-Vt.) and a renewed effort by the City Council for an alternative avenue to fiscal relief: it is seeking the payment by the State of New Jersey of property taxes by the Casino Reinvestment Development Authority (CRDA) on unimproved land it owns in the city—up to 100 percent of the assessed value of such parcels after seven years of ownership, with resolution author Councilmember Jesse Kurtz noting: “This is the first time, to best of my knowledge, that a formula has been developed and proposed to treat this situation.” Councilman Kurtz claims the resolution’s goal is to prod CRDA to sell or auction off their vacant parcels—a policy for which, unsurprisingly, the CRDA has registered little enthusiasm. The agency which, by state law, is exempt from property taxation, responded, noting it has spent more than $1 billion in improvements in the city: “The role, as a policy matter, of redevelopment authorities is to collect and remediate and clear property and remove hazards and assemble parcels…I think it’s a bad precedent to begin to pay taxes.” The tax dispute—in a municipality which has seen its property tax revenues careen from $20.5 billion six years ago to $6.6 billion today—is aggravated by the land-banking practices of the Authority: purchasing properties in the city, with no plans to sell or develop them—ergo eliciting Councilmember Kurtz’s resolution to note: “The City of Atlantic City recognizes the value of CRDA assembling real estate parcels in particular instances, but opposes the general practice of holding vacant lots off of the [city’s] tax rolls indefinitely.” Of the 111.5 acres or 5 percent of the city’s total land area, the CRDA owns, 75 are developed and would not be subject to the council’s proposed policy. CRDA claims 26 of its acres have a potential for development. CRDA’s vacant lots have a total assessed value of $51.6 million before tax appeals—e.g., at today’s market or assessed appraisals, Atlantic City could collect some $1.8 million in taxes. While that would be a small chip in the city’s $550 million in debt and $100 million budget deficit, it is CRDA’s developed lots that would make the much greater difference: if taxed at current assessed values, the Convention Center alone would generate $13.5 million per year in total taxes; Boardwalk Hall would generate $4.5 million before tax appeals. In fact, Gov. Christie’s own appointed Emergency Manager Kevin Lavin recommended that CRDA privatize those properties, something CRDA Chairman Robert Mulcahy has said the authority would consider. Under the Council proposal, CRDA would pay taxes on 20 percent of the assessed value of a vacant parcel starting in the third-year it owned the property; taxes would increase 20 percent each year until the seventh year, when the authority would pay on 100 percent of the assessed value.

Detroit’s Learning Curve. Against the backdrop of teacher sickouts and the admission by a former Detroit Public School (DPS) board president and union activist—one recently released from federal prison in Alabama for stealing $200,000—that a lack of oversight by DPS makes it far too easy to siphon money from public coffers, one can surely imagine the seemingly impossible challenge which retired U.S. Bankruptcy Judge and now DPS Emergency Manager Steven Rhodes confronts in trying to support prompt action by the Michigan legislature of Gov. Rick Snyder’s request for $200 million to create a new debt-free Detroit school district—a package the Michigan Senate has approved for startup and transitional costs to help DPS operate after shedding $515 million in debt that would be paid off over the next decade—but a package which has not gained passing grades in the House, which has instead approved $467 million for debt relief and $33 million for transitional costs. Judge Rhodes had proposed five areas where state funds for DPS are critical to keep the state’s largest public school district solvent in the new fiscal year that begins July 1 as well as to improve school buildings and educational programs in a bid to reverse decades of declining enrollment. The request includes $75 million for capital improvements to school buildings; $50 million for academic and instructional support and transitional costs for legal services, human resources, accounting and information technology; $25 million for “other pending contingencies and claims that may need to be funded” by the new school district, according to the plan; $25 million for improving academic programs; and $25 million for cash on hand at the inception of the new school district, because Michigan public schools do not receive a state aid payment in September, when the new school year begins and districts incur more monthly expenses. However, House Speaker Kevin Cotter (R-Mount Pleasant) claimed House Republicans had received insufficient information about how the proposed $200 million would be spent prior to its 4 a.m. vote last Thursday—so that, they instead only agreed upon $33 million for transitional costs—claiming their plan would erase $52 million in debt payments DPS owes in July and August and would appropriate $33 million to cover an expected deficit through the end of September.

Republican businessman John Rakolta Jr., who has studied DPS’ finances in depth as a co-chair of the Coalition for the Future of Detroit Schoolchildren, noted that the startup costs for academic needs include filling 180 teaching positions in DPS that were left vacant this year because of budgetary constraints, causing class sizes to swell to 40 and even 50 students in some classes—and that there are schools in Detroit which do not have math and science teachers. All of which has kept Judge Rhodes studiously at work with the Governor’s Office and the Michigan Treasury Department to refine the estimated transitional costs: the scholastically challenging process of paying off accumulated debts and providing competent educational opportunities.

How States Can Threaten a Municipality’s Fiscal Future

March 17, 2016. Share on Twitter

Because the federal government–and, increasingly, states no longer address fiscal disparities within states, that has provoked or invoked greater challenges for states–and increased fiscal despair for municipalities. Congressional elimination of general revenue sharing and countercyclical fiscal assistance has meant that states, such as New jersey and Michigan, for instance, now bear a burden and challenge. Will they opt for a constructive, passive, or destructive state fiscal policy?

Shutting Down a Municipality. Atlantic City Mayor Don Guardian yesterday reported that because of his city’s near insolvency (city officials have warned the city will run out of cash on April Fools’ Day), the city would be forced to halt all nonessential government services beginning in early April absent urgent state assistance: Mayor Guardian said the shutdown would start on April 8th and was likely to last until at least May 2nd, the date when quarterly tax revenues are due. During the shutdown, police, fire, and sanitation workers would perform their jobs—but without pay, which would be deferred pending receipt of taxes due; health care benefits would continue uninterrupted. Moreover, Mayor Guardian warned this was unlikely to be a one-time event, especially if the State of New Jersey does not step up with some kind of fiscal assistance, noting: “The city is in discussions with the state to avoid and forestall what may be an imminent financial predicament…Unfortunately, due to financial circumstances beyond our control, we will be forced to close City Hall.” The increasingly dire fiscal standoff comes as New Jersey Governor Chris Christie has warned he will not sign legislation to provide fiscal assistance to Atlantic City unless the New Jersey Legislature approves a state takeover of the city government. Atlantic City police union President Thomas Moynihan yesterday reported that Atlantic City’s police officers would report to work even if they “miss a paycheck or two in the meantime.”

Even though Gov. Christie claimed he had reached an agreement with New Jersey Senate President Steve Sweeney (D-West Deptford) to give the state control over the finances of Atlantic City for five years, that agreement has not secured House support, and has drawn criticism from New Jersey Assembly Speaker Vincent Prieto (D-N.J), who has made clear he would not ask the House to consider state legislation to alter or terminate union contracts unless and until local and state officials reach a compromise, noting: “The governor already has authority to help Atlantic City avoid financial disaster…It’s time for Gov. Christie to do his job and use his existing authority to resolve this once and for all.” In addition, Speaker Prieto’s spokesman notes that the New Jersey Local Government Supervision Act of 1947 already allows the state to control Atlantic City’s finances and government. For his part, Gov. Christie has made clear he will not sign any bill into state law that changes even a word of the Senate version.

Atlantic City, which has seen its tax base contract 64% since 2010, is deep in debt and not only unable to issue debt through the municipal bond market because of its low credit rating, but also faces a severe contraction of its tax base in the wake of the closure of four of its twelve casinos. It now faces worse odds of avoiding a state takeover. Even though Mayor Guardian yesterday said “We are making every effort to find solutions” prior to April 1st, his plan would mean that no employees would be paid until at least May 2nd, the date the city will receive its next installment of taxes. While essential services such as public safety and revenue collections will continue, other functions will cease and City Hall will close 4:30 pm local time on April 8. Moody’s Investors Service has warned that the city could default on debt as early as next month without state action, meaning its cost of borrowing is increasing—as are the possibilities the city could file for chapter 9 municipal bankruptcy.

Unbalancing. The Michigan Municipal League yesterday reported Michigan is the only state in the country in which there was an overall revenue decline for cities, townships, and counties over the decade from 2002 to 2012, due in large measure to state cuts in revenue sharing with cities, townships, villages, and counties by $7.5 billion over the decade—assistance vital to finance essential public services and to address fiscal disparities. The League, in its report, noted that U.S. Census Bureau data finds that Michigan’s municipalities experienced an 8 percent drop in revenues from what it has experienced from failed state fiscal policies toward cities and towns, noting that, according to the U.S. Census Bureau, Michigan is the only state in the country providing fewer economic resources to its cities in 2012 than it did a decade ago in 2002, adding that the tragic outcome in Flint reflects in many ways what should have been anticipated in a state which has adopted a state fiscal policy which incentivizes new building at the expense of what currently exists: “Our system attempts to balance budgets by only addressing the cost side of the equation. We have no mechanism to invest in our cities as a way of improving the financial well-being of a community.” The League’s report further points to the extraordinary state powers under Michigan law for Emergency Managers—powers the League warns which “virtually all relate in one way or another to cutting costs,” rather than taking into consideration the provision of essential services, such as drinking water, public safety, etc.: “Cost-cutting measures, with few very exceptions, result in a reduction in the services that the community will receive. Usually those reductions do not have tragic consequences, but make no mistake: the decision to switch from the Detroit Water and Sewer Department to the Flint River was an economic one driven by state laws and policies that significantly impact and restrain local government…This decision was not about improved service, water quality, infrastructure investment, or any other altruistic goal. This was an opportunity to save money and nothing more.”

A System Designed for Failing a Municipality: The special report notes that the state law and practice of appointing Emergency Managers has proven contrary to the long-term fiscal and human sustainability of the state’s communities, noting: “By design, emergency managers are outsiders with a single mission to reduce costs. I am in no way suggesting that this decision was made with malice or without forethought, but the emergency manager and, by extension, the state has only one objective during a financial emergency. That goal is to reduce costs until the budget is balanced. It is this approach that has brought us to where we are today. Emergency managers do not have to live, long-term, with service reductions and the diminishment to the community that they bring. When they have completed the mission, they move on. They have one focus: to balance the budget by cutting expenses until they equal revenues. But this approach fails to recognize, and in fact is in direct conflict with one of the fundamental tenants of Michigan’s municipal finance model, which is that the value of a community directly impacts the revenue that a community can generate to sustain services. It’s a system designed for failure.”

Think for a moment about how cities (& counties) generate revenue. Property taxes are a function of two variables: millage rates and taxable value. What makes taxable value higher in one community versus another, is, in essence, what makes one city or village more desirable than another. Great places can command higher prices, which translate into greater taxable value. This in turn generates more revenue. It is simple math. When an emergency manager balances the books by closing parks, eliminating programs and services and forgoing investments in infrastructure, he or she) makes it a less desirable place. This, of course, diminishes the value of the city and its revenue generating power. Consequently, the city offers even fewer services, which further diminishes it as a place where people want to live, which diminishes value, and so on. It’s a death spiral — a fundamentally flawed process that will never work given Michigan’s current municipal finance model. The system is broken.

Now think of that approach in the context of Flint. What have we bought with our cost-reduction approach to balancing budgets? A significantly damaged community in both a social and economic sense. If taxes are a function of value and millage, how have property values been impacted in Flint as a result of this cost-cutting decision? I think it is fair to suggest that the property values in Flint have been severely impacted as a result of the current crisis. Which will mean deep reductions in local tax revenue, which of course will mean reductions in service, which means a diminishment of value. The death spiral continues. Sadly, our only existing mechanism to address this will be through more cuts. We need a new way forward.

Our first priority must be to address the social and health impacts Flint is experiencing. Beyond that, we must address the policy that brought us here. We must invest in our local communities. Cuts beget more cuts. It is a race to the bottom, and in this case a tragic illustration of flawed public policy. Creating vibrant, desirable communities is proven to have positive economic impact as well as social value that we have lost sight of with our current approach. We must recognize that by investing to create great places we can improve both the quality of life and the economy of a city at the same time. A cut-only approach can only diminish the strength of a community and in extreme instances like this have a devastating human impact. We must learn from this disaster and redefine how we invest in Michigan cities.