The Fiscal Challenges of Federalism

July 13, 2018

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

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

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

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

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

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

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

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

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

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

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

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The Challenges of Investing in the Future, or, Can God Work a Miracle?

eBlog, 04/18/17

Good Morning! In this a.m.’s eBlog, we consider the vestige of a most challenging issue during Detroit’s historic bankruptcy: water and sewer fees: how does a municipality balance between its needs and the ability of its lowest income citizens to pay? Then, we look at the same issue—especially because of its regional implications, in the nearly insolvent municipality of Petersburg, Virginia—where, as in many regions, water and sewer services—and costs—have regional dimensions. Finally, we inquire about lingering colonialism in Puerto Rico, where the government is planning a plebiscite so that its citizens can have a voice with regard to the U.S. territory’s future.

Fiscal & Physical Municipal Balancing. The City of Detroit’s Board of Water Commissioners is set to vote on a proposal to scale back a controversial storm water drainage fee in the wake of a backlash from churches and businesses, which have been most unhappy about the newly set $750-per-acre monthly charge—with the Board set to consider an option to reduce the drainage fee to $125 per acre until July, after which it would phase in increases over the next five fiscal years to $677 by July of 2022, according to Gary Brown, the Detroit Water and Sewerage Department [DWSD] Director. The Motor City began imposing the fee in July 2015 on the owners of 22,000 parcels with impervious surfaces such as roofs and parking lots which “were not,” as Director Brown noted, “paying anything at all…This essentially is giving them an opportunity to have five years to build green infrastructure projects and get a credit to permanently reduce their costs.”

The issue comes at a politically critical time, as Mayor Mike Duggan, running this year for re-election, has been confronted by opposition to the fee by Detroit’s politically-influential pastors—or, as Pastor Everett Jennings, of New Providence Baptist Church, put it: “They say it’s not taxation, but to me it’s a way to tax the church.” The Pastor notes the proposed monthly water bill for his northwest side church skyrocketed from $650 per month to $7,500 per month after the city began assessing the storm water drainage fee. Similarly, Phil Cifuentes, owner and CEO of Omaha Automation Inc., a small automotive and military manufacturing supplier near the Detroit-Hamtramck border, reports: “I came into a system that wasn’t charging anyone…And then I came into a system that, two years later, was charging the largest water sewerage rates in the country,” referring to the $15,630 bill he received in 2015—with the assessment dated back several years, leading him to note: “If they come down through this new rate, how does that affect everyone who owes them outstanding charges like the $10,000 I owe?”

Property owners will still owe the water department past-due charges at the higher rate; however, according to Mr. Brown, they will be eligible for relief for the next few years. The new phased-in rate structure going before the city water board will commence at $125 effective April Fool’s Day, double on July 1st, increase to $375 in July of 2018, $500 in July of 2019, and $626 in July of 2020. In July 2021, the per-acre fee will increase to $651, followed by a final hike of $26 in July of 2022. Mr. Brown notes: “By having a longer five-year opportunity to phase in, it gives them an opportunity to better budget for the new cost and also to go out and have a green infrastructure project designed.” He added that DWSD customers who were originally being charged $852 per impervious acre will see their rate gradually reduced to $677 by July of 2022 to match the rate charged to the 22,000 parcels in the new five-year phased-in plan: “This all goes away and everybody goes to one flat rate at the end of five years.”

To address an issue which had been raised before now retired U.S. Bankruptcy Judge Steven Rhodes during Detroit’s chapter 9 bankruptcy, Mr. Brown noted that the water department is going to offer grants of up to $50,000 for half of the cost of water retention projects on the sites of large churches and businesses to reduce the amount of storm water and impervious surfaces, according to Mr. Brown, who noted the city agency has budgeted $5 million for the grants, even as he described the drainage fee as having been “a real deterrent” to his plans to buy an adjoining 2.5-acre parcel and build another 40,000-square-foot manufacturing facility. The drainage fee itself was partly a response to a 2015 class action lawsuit Michigan Warehousing Group LLC brought against both the City of Detroit and DWSD for charging some property owners the $852 per acre monthly fee, while charging others nothing or as little as $20 based on the size of their water meter pipe. Thus, as Mr. Brown this week noted: “We’re trying to settle that lawsuit by getting everyone on to a fairer and equitable rate system by putting them on the same rate.” CEO Cifuentes notes that Omaha Automation is part of the class action lawsuit.

The non-paying customers included industrial parcels, commercial buildings, churches, and residential parcels where Detroiters have purchased vacant side lots and built additional parking spaces, according to Mr. Brown: “Parking lots were a big part of it—and they weren’t getting a bill, because they didn’t have an account.” Churches in Detroit received large bills because of their large parking lots: for instance, Shield of Faith Church has racked up a $65,000 bill with the city water department, because the storm water drainage fee costs the 300-member congregation nearly $5,000 per month, according to Pastor James Jennings, or as Pastor Jennings had warned prior to the rollback: “It’s actually causing us not to be able to meet our expenses, and we’re about to go under unless God works a miracle.”

The drainage fee also was imposed to pay for needed sewer infrastructure upgrades and try to reduce the city’s overall storm water runoff that causes combined sewage water outflows to discharge into the Detroit River and River Rouge in violation of state and federal environmental laws. The U.S. Environmental Protection Agency has mandated Detroit to eliminate all sewage discharges by 2022, according to Mr. Brown. The sewage releases vary depending on heavy rainstorms. Last year, the city released 800 million gallons of combined sewage and storm water, according to DWSD. In 2014, a torrential August rain storm contributed to 6.8 billion gallons of untreated sewage and storm water being released—and widespread basement flooding in the city and northern suburbs.

The Fiscal & Physical Costs of Delay. Unlike the federal government, states, cities, and counties have capital budgets. As we have noted previously, however, failure to properly administer one’s capital budgets can have, as we have noted in the case of Flint, Michigan, signal human physical and fiscal costs—or, as Prince George, Virginia Chairman William A. Robertson Jr. put it, with a case study just across the county line in Petersburg of what can happen if a locality goes too long without upgrading its water systems: “Sorry, but this is something we had to do…We don’t want to end up as a Petersburg or a Flint, Michigan.” Thus, with the vote, the county’s rate for drinking water will increase by 10% and the rate for wastewater will rise by 20% effective July 1st. Prince William Utilities Director Chip England noted that the county had performed a water rate study several years ago which “did call for annual rate increases;” however, he said, this rate increase will be the first in three years and just the second in the past 13 years, noting that, as is the case for most localities, Prince George’s utility system is an “enterprise fund” which is intended to be self-funded through customers’ payments for service. Ergo, he advised: “No general fund tax revenues are used to cover the expenses of the department.” But, as in Detroit, the fee increase did not come without opposition: Joe Galloni, president of the 55-plus neighborhood’s homeowner association, noted that many of the residents there are retired and living on fixed incomes: “A lot of folks over there can’t absorb any more increases.” In response, however, board members cited Petersburg’s financial woes and near insolvency as an object lesson in the need to keep current on infrastructure investments. Indeed, Petersburg officials have acknowledged that the city’s aging water and wastewater system is “on the brink of collapse” and estimate that it will take $97 million to repair the system. Like Prince George, Petersburg had gone many years without a rate increase, causing issues not only for the city, but also the region. Now, the Petersburg City Council has recently approved a 13.4% increase—and slated another increase of 14.3% in the city’s budget for next year—and even set plans providing for additional 15 percent increases in each of the following four years. Thus, Supervisor T.J. Webb noted that Petersburg’s financial crisis last year led the city to fall behind on its payments to the South Central Wastewater Authority, a regional entity which provides wastewater treatment to Prince George, Chesterfield County, Colonial Heights, and Dinwiddie County in addition to Petersburg. Had Petersburg not resumed making its $327,000-a-month payments to the authority, the other member jurisdictions would have been required to make up the shortfall, which would have meant an additional $38,000 that Prince George wastewater customers would have had to pay each month. Indeed, Chairman Robertson noted that Petersburg is considering two offers by for-profit companies, Aqua Virginia and Virginia American Water, to purchase the city’s water system.

Vestiges of American Colonialism. Before dawn this morning, the Puerto Rican House of Representatives passed Senate Bill 427, which amends the U.S. territory’s proposed plebiscite and responds to the demands made by the U.S. Justice Department. The actions came in the wake of the threat by U.S. Acting Deputy Attorney General Dana Boente, who had written to Gov. Ricardo Rosselló that the Justice Department would not notify Congress that it approved the ballot or suggest that Congress release funds to hold the plebiscite and educate voters on it. According to Mr. Boente, the current ballot “is not drafted in a way that ensures that its result will accurately reflect the current popular will of the people of Puerto Rico.” Moreover, the Justice Department has objected to the ballot only offering statehood and “free association/independence” as options; the Justice Department apparently believes that the ballot fails to offer Puerto Ricans the option of continuing in the current territorial status, and has alleged that the ballot statement that only statehood status “guarantees” U.S. citizenship by birth for Puerto Ricans is false, as the current territorial status already does this; the Department is also alleging that the ballot language fails to make clear that a vote for Puerto Rico to have a “free association” with the United States would make Puerto Rico an independent nation and strip Puerto Ricans of their U.S. citizenship.

The Justice Department intervention could also jeopardize the Congressional authorization of some $2.5 million to hold a plebiscite on its status in the United States and to educate its voters. While the authorization imposed no limit on when the funds could be used, it did require that prior to the release of the funds, the Justice Department was to notify Congress that the plebiscite ballot and educational materials were consistent with the laws, Constitution, and policies of the United States. Thus, the amended version (Senate 427) was modified in coordination with the Governor’s office and passed by the Puerto Rico Senate, notwithstanding aggravation with federal interference—a kind of interference virtually unimaginable with any U.S. state. Or, as New Progressive Party Senator Luis Daniel Muñiz Cortés put it: “It’s disgusting what the United States is doing with Puerto Rico. I, totally dissatisfied with the measure, will vote in favor if my Party votes in favor of Party discipline, but totally dissatisfied because it is unworthy for the people.” Nonetheless, Senate President Thomas Rivera Schatz said that this status consultation was a necessary step toward a definitive definition of Puerto Rico’s status, although he made it clear that his preference would be not to include “the colony” in the plebiscite: “We cannot fall into the game of those who do not want to do anything in Puerto Rico and do not want to do anything there, in the United States,” noting it was not an option to maintain the current status that “overwhelms the Puerto Rican people.” Thus, the approved version includes the territorial situation of Puerto Rico, but does not make specific mention of the Commonwealth; nor does the document refer to U.S. citizenship. 

Gov. Ricardo Rosselló and legislators from his pro-statehood New Progressive Party, had agreed to a measure authorizing a status plebiscite with the first vote to take place on June 11th—with that scheduled vote apparently triggering the demands from the Trump administration—demands, in response to which, Gov. Rosselló promised that his government would add remaining as a U.S. territory as an option to the ballot—and adding that the Congressional authorization of the $2.5 million requires that the Department of Justice notify the U.S. Congress at least 45 days prior to the plebiscite—that is, with sufficient time to provide Puerto Rico until this Saturday to authorize funds for the June 11th plebiscite. The Governor said Puerto Rico’s legislature would act swiftly—as, indeed, it has done. Now, the question will be how the changes might impact the tax-status of Puerto Rico’s future bonds, its economy, and whether it might mean Congress would treat Puerto Rico more like a state, which would have significant implications for programs such as Medicaid.  

The Exceptional Challenges of Municipal Recovery: Can a State–or the Federal Government–Make It Even More Challenging?

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eBlog, 9/02/16

In this morning’s eBlog, we consider the ongoing challenges to Detroit’s long-term recovery from the nation’s largest municipal bankruptcy: can it restore—via a unique Emergency Manager—its public schools to a level sufficient to attract families with children back into the city? Then we look southeast to the fiscal challenges and rising crime challenges of Ferguson, Missouri; and we ask to what extent has the federal government aggravated each of those challenges, potentially putting the municipality on a course to insolvency.   

New Math? According to a list released yesterday by the Michigan School Reform Office, more than a third of the lowest performing schools in the State of Michigan are in the Detroit Public Schools Community District (DPS): the list of 124 schools in the bottom 5 percent for academic achievement includes 47 in DPS. The School Reform Office also announced seven schools in which it found sufficiently improved student achievement to be removed from the list of failing schools, only one of which was in Detroit: a charter school, Frontier International Academy. The release of the highly anticipated priority schools list comes less than two weeks after the School Reform Office said low-performing schools across the state could be in jeopardy of closing; nevertheless, notwithstanding the large number of DPS schools on the list, a top aide to Gov. Rick Snyder said the Snyder administration believes the state’s $617 million DPS package would prevent any DPS school from being closed in the next three years. (Michigan law allows the School Reform Office to close schools which fall into the lowest 5 percent academically for three straight years.) John Walsh, Governor Snyder’s director of strategic policy, cited an August 2nd memo from the Miller Canfield law firm to DPS Emergency Manager Steven Rhodes which suggested the three-year countdown to close struggling schools was reset when those buildings were moved to a new, debt-free Detroit district last July. A spokeswoman for the Governor, Anna Heaton, yesterday said that no schools have been closed by the state since the priority schools list was established in 2010, noting: “We are following the law as written…Because Detroit is a new district, schools that were failing under the old district can’t be closed by the School Reform Office. Please note that they could still be closed by the district.” Interim DPS superintendent Alycia Meriweather said putting school closures on hold would provide the new Detroit district time to improve student performance: “The students of Detroit have a fresh start for a new educational opportunity as a result of this decision…I’d like to thank the Governor’s Office, State Legislators, and the SSRO for recognizing DPSCD as a new district as it relates to data, in the same way we are recognized as a new district legally and financially.”

Unsurprisingly, however, the Governor’s position attracted mathematical opposition from state Republican legislative leaders and charter school advocates, who argued that a three-year reset would give the Detroit public district an unfair advantage. In a statement, House Speaker Kevin Cotter said: “As a simple matter of common sense, it cannot be said with a straight face that the Legislature intended for the worst-of-the-worst schools in Detroit to remain open…This mistaken interpretation would also require failing charter public schools to be closed while failing traditional public schools are allowed to persist and drag down class after class of Detroit students, which is an absurd conclusion.” Senate Majority Leader Arlan Meekhof (R-West Olive) said he was disappointed by the Governor’s decision “to use the opinion of one law firm as a reason to eliminate a tool intended to help students in the Detroit Public School Community District,” noting the schools in question are persistently failing schools that are not educating Detroit children: “The Senate passed multiple bills that included mechanisms to close failing schools…Part of delivering a better education to the students of Detroit includes the ability to right-size the district to meet the needs of the community.”

The Trend Gap & Federal Intervention: What Are the Implication’s for Municipal Solvency? A year ago last March, the U.S. Justice Department released a report finding racial bias and discrimination pervading police and court practices in Ferguson, Missouri, the small city of just over 20,000, majority black, with nearly one-third female householders with no husband present. Mayhap ironically, the report came just over a year after the Boston Federal Reserve tag team of Bo Zhao and David Coyne released their working paper, “Walking a Tightrope: Are U.S. State and Local Governments on a Fiscally Sustainable Path?” In its report, the Department of Justice argued that the Ferguson Police Department and the City of Ferguson relied on unconstitutional practices in order to balance the city’s budget through racially-motivated excessive fines and punishments. U.S. Attorney General Eric Holder said the federal government would use all the power it had, including dismantling the Ferguson Police Department—a threat which the city’s then-Mayor warned could mark the first time in U.S. history that the federal government might force a city into chapter 9 municipal bankruptcy. Indeed, Moody’s has placed the city’s already junk-level rating on review for downgrade because of threats to the city’s solvency—with the downgrade of the city’s general obligation rating reflecting what the credit rating agency described as “the continued pressure on the city’s finances from a persistent structural imbalance and incorporating the recently approved U.S. Department of Justice (DOJ) consent decree, projected to increase annual General Fund expenses over the next several years.”

The downgrade also took into consideration the outcome of last April’s ballot election, in which voters rejected a proposed property tax hike (but approved a sales tax for economic development). Both ballot measures were integral to city management’s proposed solution to close a large General Fund budget gap that existed before accounting for the additional federal consent decree costs. (Moody’s had updated its assessment after the U.S. Justice Department filed a lawsuit last February, marking the latest setback in Ferguson’s struggle to recover from a controversial police shooting in 2014.) The Justice Department also accused the City of Ferguson of policing and municipal court practices that violated constitutional and federal civil rights. The credit rating company had noted that its rating concerns had been driven by the uncertainty of the potential financial impact of litigation costs from the lawsuit and the price tag for implementing the proposed DOJ consent decree: “We believe fiscal ramifications from these items will be significant and could result in insolvency.”

Today, two years after the shooting of Michael Brown put a national spotlight on Ferguson police and provoked the Justice Department fiscal intervention, Ferguson is fiscally pressed to maintain the number of police officers it needs: its department is facing 13 vacancies; the staff is more than 30% reduced from just two years ago. The combination of federal unfunded mandates and fines combined with officer fatigue and stress from months of Ferguson protests may be emboldening criminals and contributing to an uptick in crime. Ferguson Police Chief Sam Dotson and St. Louis County Chief Jon Belmar suggest that their forces may not be large enough to handle the “new normal:” Aggravated assaults and robberies are up in both jurisdictions since Michael Brown was shot to death, but arrests are down. Or, as Chief Dotson calls it: “It’s the Ferguson effect: I see it not only on the law enforcement side, but the criminal element is feeling empowered by the environment.”

Financial constraints, including federally imposed financial penalties, related to the fallout since Mr. Brown’s death, including legal fees, reduced municipal court revenue, and costs for Justice Department-mandated changes have given the city little choice but to reduce the authorized number of officers to 49 compared to 55 two years earlier.

Ferguson voters last month approved a utility tax hike which is projected to generate $700,000 annually, the municipality’s second voter-approved tax increase this year—and, in this instance, a critical step: had the measure failed, the police force’s authorized number would have been reduced to 44, and firefighter jobs would also have been cut. Mayor Knowles said last month’s action by the Council to increase the tax was intended to make clear the city is fiscally stable; he added that the city has received 20 new applicants for the police force since it was approved, noting: “I think we’re seeing more confidence in Ferguson now, and hopefully we’ll get more qualified candidates.”  

Might there Be a Federal Role in Causing Severe Municipal Fiscal Distress?

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eBlog, 8/23/16

In this morning’s eBlog, we revisit Ferguson, Missouri—a small municipality in St. Louis County struggling to recover from racial violence and an expensive U.S. Justice Department imposition of subsequent unfunded fiscal mandates. Yesterday, a federal judge found the city’s school board election system biased against black voters. The judge’s findings and a Moody’s downgrade combine to raise questions with regard to the municipality’s solvency: has the U.S. Justice Department unintentionally made the small city a candidate for municipal bankruptcy? It brings back to mind, in addition, an old question: are there too many municipalities in St. Louis County? Can we afford so many? Could a municipality dissolve itself? Then we turn to archipelago of the U.S. Virgin Islands—seemingly a hop, skip, and a jump from Puerto Rico, where the U.S. territory’s unbalanced budget, rising debt burden, and unfunded pension liabilities put still another U.S. territory at risk of insolvency.

Public Schools & Arithmetic. U.S. District Judge Rodney Sippel yesterday, writing that “The ongoing effects of racial discrimination that have long plagued the region, and the District in particular, have affected the ability of African-Americans to participate equally in the political process,” ruled that Ferguson, Missouri’s school board elections are biased against black voters. The suit, filed by the American Civil Liberties Union, claimed that the Ferguson-Florissant School District makes it unlawfully difficult for black candidates to win positions on the school board. Voters in the district elect school board members at large, rather than on a ward or sub-district basis, a process, Judge Sippel wrote, which has reduced black representation. Currently, three out of seven board members are black, a ratio that reflects the demographics of the city, the school district has argued. Black students make up four-fifths of the 13,200-student population. During the trial, a demographer demonstrated that Ferguson’s black population is concentrated and politically unified enough to affect results if the FFSD were divided into voting districts: black voters would constitute a majority in four out of seven of those theoretical districts. U.S. District Judge Rodney W. Sippel said that while he does not see evidence of intentional discrimination, there is a more subtle “complex interaction” of political processes that deter black voters from electing the candidates of their choice, writing: “Rather, it is my finding that the cumulative effects of historical discrimination, current political practices, and the socioeconomic conditions present in the District impact the ability of African-Americans in (the school system) to participate equally in Board elections.” The Ferguson-Florissant district serves about 11,200 students in parts of 11 municipalities. About 80 percent of those students are black, and 12 percent are white. District residents are nearly evenly split between black and white. (The ACLU filed the lawsuit on behalf of the Missouri National Association of the Advancement of Colored People in the wake of protests over the shooting.) The court decision comes in the wake of Moody’s placing the city’s already junk-level rating on review for downgrade because of threats to the city’s solvency—with the downgrade of the city’s general obligation rating reflecting “the continued pressure on the city’s finances from a persistent structural imbalance and incorporating the recently approved U.S. Department of Justice (DOJ) consent decree, projected to increase annual General Fund expenses over the next several years. The downgrade also took into consideration the outcome of an April 5 ballot election, in which voters rejected a proposed property tax hike (but approved a sales tax for economic development). Both ballot measures were integral to city management’s proposed solution to close a large General Fund budget gap that existed before accounting for the additional consent decree costs. Moody’s had acted after the U.S. Justice Department filed a lawsuit in February, marking the latest setback in Ferguson’s struggle to recover from a controversial police shooting in 2014. The Justice Department accused Ferguson of policing and municipal court practices that violate constitutional and federal civil rights. The credit rating company had noted that its rating concerns had been driven by the uncertainty of the potential financial impact of litigation costs from the lawsuit and the price tag for implementing the proposed DOJ consent decree: “We believe fiscal ramifications from these items will be significant and could result in insolvency.”

Is there Promise from PROMESA? Fitch ratings has reduced the U.S. Virgin Islands’ bond ratings to junk level, citing the U.S. territory’s unbalanced budget, rising debt burden, and unfunded pension liabilities. Fitch noted that the enactment of the PROMESA legislation for neighboring Puerto Rico could open the door for a comparable restructuring of the Virgin Island’s debt. The territory, where the author trained for his Peace Corps service in Liberia, West Africa, is comprised of a number of islands in the Caribbean not far from Puerto Rico. The islands cover just under 134 square miles and boast a population of just over 100,000. Tourism is the primary economic activity, with the manufacture of rum a significant sector. The islands are classified as a non-self-governing territory—one which since 1954 has held five constitutional conventions—with its most recent, its fifth, adopting in 2009 a proposed Constitution—one rejected by Congress the following year, with Congress urging the convention to reconvene to address the concerns Congress and the Obama Administration had with the proposed document. The convention subsequently reconvened in October of 2012, but was not able to produce a revised Constitution before its October 31 deadline. In its ratings, Fitch downgraded the Virgin Island’s gross receipts tax bonds, affecting $722 million in debt; Fitch also downgraded the territory’s senior lien matching fund revenue bonds to BB from BBB and subordinate lien matching fund revenue bonds to BB from BBB-minus. In amounts of debt, the former affected $773 million and the latter affected $428 million. Fitch also downgraded the Virgin Islands’ issuer default rating to B-plus from BB-minus. In its release, Fitch noted that the Virgin Islands plans to sell $217 million in gross receipts taxes bonds, $126 million in senior lien matching fund bonds, and $69 million in subordinate lien matching fund bonds near the end of next month—noting that the U.S. territory has a “severely unbalanced operating budget” and multiple years of borrowing to fund operating needs—and is expected to feature ongoing budget imbalances: its debt burden has increased, and its unfunded public pension liability has increased at a faster pace.

The Governing Challenge in Averting Insolvency

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eBlog, 6/10/16
In this morning’s eBlog, we consider the bipartisan legislation overwhelming passed by the U.S. House of Representatives last night to address Puerto Rico’s looming insolvency—and a related U.S. Supreme Court decision; then we look at the almost Detroit Public Schools filing for chapter 9 municipal bankruptcy. It almost seems as if these events and actions were staged just for my fine graduate class on public policy process.

 

Oye! The House last evening passed and forwarded to the Senate legislation to address Puerto Rico’s looming insolvency on a bipartisan 297-127 vote: Speaker Paul Ryan (R-Wi.) and Minority Leader Nancy Pelosi (D-Ca.) took to the House floor to urge support for the legislation, with Speaker Ryan noting: “The Puerto Rican people are our fellow Americans. They pay our taxes. They fight in our wars…We cannot allow this to happen.” The bill now heads to the Senate, where there is little evidence Senators are eager to remake the bill wholesale, particularly as conditions on the island continue to worsen. The only amendment to fail was one offered by Democrats that would have struck a provision of the bill permitting Puerto Rican employers to pay workers under 25 years old less than the minimum wage. The legislation is critical as Puerto Rico—being neither a municipality, nor a state, falls into a Twilight Zone in terms of authority to address an insolvency. Puerto Rico has defaulted on three classes of municipal bonds, including last month when it missed most of a $422 million payment, and faces $2 billion in payments on July 1 that the island’s governor said cannot be paid. That final vote on the amendment was 196 in favor to 225 against. Puerto Rico’s government has begun defaulting on $70 billion in debts, and has warned it could run out of cash this summer.

In pressing for the vote, the Speaker warned that pressure would mount on Congress to spend money rescuing the territory if it could not arrest its economic decline, telling his colleagues: “This bill prevents a bailout. That’s the entire point…if we do not pass this bill…there will be no other choice.” Anne Krueger, a former IMF economist who led a detailed review of Puerto Rico’s economy, has warned: “Come July 1, if nothing is done, Puerto Rico will technically be bankrupt…Assets will be tied up in courts. It is very likely that essential services will have to be suspended.”

As drafted, the House-passed legislation does not commit a single federal dollar to Puerto Rico. The legislation creates a federal oversight board—whose members will be appointed by Congress and President Obama, and not the governor—to determine whether and when to initiate court-supervised debt restructuring: it charges the board with the responsibility to determine the hierarchy of municipal debt obligations and encourages it to respect the existing legal framework, which places constitutionally backed general obligation debt above pension liabilities. The board terminates after Puerto Rico regains the ability to borrow at reasonable interest rates and balances its budget for four consecutive years. Congressional leaders and the Treasury hope the bill will avert a long, expensive courtroom battle between hedge funds and the federal government—a battle that could harm investment in the U.S. territory’s economic future and undercut its ability to provide essential public services (servicing Puerto Rico’s current debt burden today absorbs approximately 30 percent of the Commonwealth’s revenues)—especially as Puerto Rico is now at the forefront of the Zika virus. While critics have falsely warned the bill could set a precedent for distressed states to seek similar relief, the dual sovereignty created by the founding fathers—or statesmen—in the U.S. Constitution clearly undercuts such claims: Congress granted U.S. citizenship in 1917 under the Jones-Shafroth Act to residents of Puerto Rico, which was seized in the Spanish-American War of 1898. The U.S. gave the territory the right to elect its own governor in 1947.

 Republicans have been concerned that the language would allow the to-be appointed oversight board to elevate pensions above the island’s full faith and credit general obligation municipal bond debt: Rep. John Fleming (R-La.) submitted an unsuccessful amendment to require compliance with the legal hierarchy, calling the statutory use of the word “respect” a “weasel word.”

Hear Ye! By coincidence, the U.S. Supreme Court chimed in almost simultaneously in a 6-2 decision (Commonwealth of Puerto Rico v. Sanchez Valle et al., (2016), No. 15-108, involving a simple criminal prosecution for firearms sales, but also the related governance issue of the Commonwealth’s autonomy—a case in which attorneys for Puerto Rico argued that it should be able to try two men who already had pleaded guilty in federal court. Justice Elena Kagan, writing for the majority, said that would amount to double jeopardy, writing: “There is no getting away from the past…Because the ultimate source of Puerto Rico’s prosecutorial power is the federal government…the Commonwealth and the United States are not separate sovereigns.” Reasoning that even though Congress, in 1950, gave Puerto Rico the authority to establish its own government under its own constitution, that did not, in and of itself, break the chain of command that originates with Congress. As a result, the majority determined, the Commonwealth should be treated the same as other U.S. territories. While the 50 states and even Indian tribes enjoy sovereign powers that preceded the union or were enshrined in the U.S. Constitution, Justice Kagan wrote, Puerto Rico in 1952 “became a new kind of political entity, still closely associated with the United States, but governed in accordance with, and exercising self-rule through, a popularly ratified constitution,” adding that Puerto Rico’s Constitution, significant though it is, does not break the chain.” Justice Ruth Bader Ginsburg went further in her concurrence, suggesting that the high court should hear a case that tests whether states and the federal government should remain able to try defendants for the same crime.

During oral argument last January, a majority of Justices appeared to side with the Obama administration, which argued that, as a territory of the United States, Puerto Rico cannot try the gun dealers after federal courts have acted, with Asst. Solicitor General Nicole Saharsky arguing: “Congress is the one who makes the rules.” The majority appeared to agree: Justice Kagan, writing for the majority, noted: “If you go back, the ultimate source of authority is Congress.” Nevertheless, in their dissent, Justices Stephen Breyer and Sonia Sotomayor stood by Puerto Rico — with Justice Breyer writing that if the court ruled against it, “that has enormous implications” for setting back the U.S. territory’s legal status: “Longstanding customs, actions and attitudes, both in Puerto Rico and on the mainland, uniformly favor Puerto Rico’s position — that it is sovereign, and has been since 1952, for purposes of the double jeopardy clause.” Justice Sotomayor, whose parents were born in Puerto Rico, said during oral argument that the island is an “estado libre asociado” Ironically the case was the first of two involving Puerto Rico to come before the high court this term. The Court is also re weighing the Commonwealth’s effort to restructure part of its $70 billion public debt, an issue addressed last evening by the House: a federal appeals court blocked the restructuring because of conflicts with U.S. bankruptcy laws.

Schooling for What If & Municipal Bankruptcy. With uncertainty whether the Michigan legislature would be able to pass and send legislation to him before the Detroit Public Schools exhausted all its cash—and before the legislature completed its session, Gov. Rick Snyder’s administration had commenced discussion with regard to drafting a chapter 9 municipal bankruptcy filing for DPS—in some apprehension of a wave of vendors’ and employees’ suits against DPS—the city’s public school system foundering in more than $515 million in outstanding operating debt: key staff worked with attorneys on a possible DPS chapter 9 bankruptcy, and Gov. Snyder had exchanged text messages with his former law school colleague and appointee as Detroit’s Emergency Manager, Kevyn Orr, who had, as we have catalogued, served as Emergency Manager in charge of both taking Detroit into municipal bankruptcy, and then piloting it through its successful emergence and approval of its plan of debt adjustment. Michigan State Treasurer Nick Khouri recently estimated the DPS would need $65 million for capital costs, including deferred maintenance and upgraded security equipment; $125 million for cash flow needs due to the timing of school aid payments and other startup expenses; and $10 million for academic programming. Now, in the wake of partisan action on which we reported yesterday, DPS will be able to make payroll, pay vendors, and purchase supplies this summer to prepare for school this fall. Logistically, the new school district will be created by July 1: retired U.S. Judge Steven Rhodes, DPS’s emergency manager appointed by Gov. Snyder and now serving as DPS’ transition manager, is working with state administrators to implement the new agreement.

The Import of Integrity to Municipal Solvency

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eBlog, 5/25/16

In this morning’s eBlog, we consider the ongoing struggle of the small municipality of Ferguson, Missouri to find the revenues to comply with onerous federal mandates—penalties that risk the municipality’s fiscal future. We watch and await the outcome of House Speaker Paul Ryan’s and House Natural Resources Committee Chair Rob Bishop’s (R-Utah) markup of legislation to address Puerto Rico’s looming insolvency; and, finally, we observe the desperate fiscal collapse of the small municipality of Opa-Locka, Florida—where a combination of seeming malfeasance and fiscal distress seems certain to force a choice between municipal bankruptcy or a state takeover.

Will the Federal Mandate Help or Hurt Municipal Solvency? Voters in Ferguson, Missouri will be forced back to the polls this summer by still another unfunded federal mandate: they will vote on whether or not pay a higher utility tax in order to raise still more revenues to address U.S. Justice Department unfunded mandates to revamp the city’s police department and municipal court system—with Mayor James Knowles III and the City Council meeting Sunday to consider whether to place a 2-percent increase in the city utility tax on the August ballot—a consideration to which they unanimously agreed, even as they voted to table a proposed property tax hike also intended to help meet the city’s financial obligation under the city’s imposed agreement with the Justice Department. The unique Sunday session was forced by yesterday’s St. Louis County election deadline for items to appear on the August 2nd. But their decision was not unanimous—as some councilmembers supported submitting both tax hikes to voters, even though city voters had, earlier this year, rejected a proposed property tax increase. Nevertheless, there was consensus that gaining approval of two tax increases in one election to satisfy not the city’s residents, but rather the federal government, would be an uphill battle. In addition, while the utility tax increase needs only simple-majority approval for passage, any property tax increase would require approval by two-thirds of voters.

Mayor Knowles noted that he believes voters would support a higher utility tax even if it would not end all the city’s budget problems, or, as he put it: “I think we can stop some of the bleeding and keep up services with the utility tax.” The city estimated a 33% utility tax hike from 6 to 8 percent would generate $700,000 in annual revenue; whereas the potential property tax hike increase would have raised $500,000 annually. The utility tax hike would, if approved, come on top of the half-cent municipal sales and use tax increase adopted last April for economic development. The exceptional challenge for the small municipality as it works to adopt its FY2017 budget by the end of next month is how to balance federal mandates versus maintaining current services and not laying off three firefighters. While the federal government does not worry itself about balancing the federal budget, such imbalance is not an option for states, counties, or cities. City leaders are crossing their fingers in hopes there might be some federal grant funds that would help to address some of the costs of meeting Justice Department requirements that mandate police staffing levels, including—as we have observed on the opposite end of the country in San Bernardino, transferring some emergency response dispatching to St. Louis County.

The Promise of PROMESA. House Natural Resources Committee Chair Rob Bishop (R-Utah) opened yesterday’s markup of (HR 5278), the Puerto Rico Oversight, Management, and Economic Stability Act (PROMESA) by stating: “Puerto Rico is in the midst of a financial and economic crisis of historic proportions…Article IV of the U.S. Constitution states: ‘The Congress shall have Power to dispose of and make all needful Rules and Regulations respecting the Territory and other Property belonging to the United States.’ Stating the obvious, Puerto Rico is an American territory. Therefore, Congress has the power to enact laws affecting Puerto Rico. However, with power comes responsibility. Power without responsibility leads to tyranny on one hand, or abject neglect on the other. For too long, Congress has neglected its duties under Article IV. Congress has sown the wind, and Puerto Rico has reaped the whirlwind. We have a constitutional, political, and moral imperative to act, and this Committee has done so. Given the crisis, the question before us today is whether we fulfill this constitutional responsibility. H.R. 5278, the Puerto Rico Oversight, Management and Economic Stability Act, or ‘PROMESA’ establishes an Oversight Board to work with the government of Puerto Rico. The Board will audit their finances, figure out the true asset picture, and develop fiscally responsible budgets to repay creditors and meet basic human needs. It will restore the island’s access to credit markets, and review laws, regulations, and expenditures to assure compliance with fiscal plans and fair treatment of investors…This bill is Puerto Rico’s last and best chance to get on sound financial footing and put its economy on the path to recovery and prosperity…”
The markup which the Chair expects to complete today, has gained bipartisan support: it would create a mechanism for Puerto Rico to restructure $72 billion in debt and establish a financial control board. With the Memorial Day recess, however, the Committee’s reported bill is unlikely to go to the full House until next month, after the Memorial Day recess.

The markup commenced even as Puerto Rico Gov. Alejandro García Padilla late Monday proposed a budget for the upcoming fiscal year with 86% less allocated to pay debt service than the approved current-year budget: he stated his budget includes $209 million for interest payments on Puerto Rico’s debt; however, his proposal does not provide for funding for principal payments in the coming fiscal year. His comments left uncertain the fiscal treatment of the U.S. territory’s public authorities, municipalities, or the Puerto Rico Sales Tax Finance Corp. (COFINA); their debt is not paid from the General Fund. Gov. Padilla said that his proposed spending level was $9.1 billion for the new fiscal year—a level which, he said, would not require any new borrowing or any tax increases; nor would it, he said, force reductions or eliminations of several programs, even as he proposed increases in the budget’s contributions to certain items such as the teachers’ and employees’ pension systems and the Puerto Rico Medical Center. The Governor’s remarks came even as the Puerto Rico House of Representatives voted overwhelmingly to override the Governor’s veto of the legislature’s rejection of an increase in business-to-business taxes from 4% to 11.5%–a vote the Puerto Rico Senate is expected to take up anon.

Nopealocka? In a city government close to insolvency, Opa-locka, Florida, City Finance Director Charmaine Parchment broke ranks and warned her supervisors the city will run out of money after its payroll next week and that its recovery plans will not be enough to save Opa-locka from insolvency. Ms. Parchment on Sunday emailed acting city manager Yvette Harrell to report that the small municipality’s budget deficit is three times larger than what the city has revealed to its taxpayers; she demanded that her name be removed from a city recovery plan submitted to the state, adding: “After the next payroll, the city will not be able to pay its bills.” Opa-locka, a small municipality inside Dade County of about 6,000 households, but with a vacancy rate nearing 15 percent, and where more than one-third of households are headed by a female householder with no husband present, and nearly 30 percent are non-families—and where nearly one-third of families fall below the poverty level, is a potpourri of Cuban, Dominican, and Haitian residents with very low per capita annual incomes. The foundering municipality operates under a commission/city manager form of government: incorporated in 1926, its city commission consists of the mayor and four commissioners, who are responsible for enacting ordinances, resolutions and regulations governing the city. In 2004 Opa-locka had the highest rate of violent crime for any city in the United States; in an editorial nearly a decade later, a Miami Herald editorial described the municipality as “crime-plagued” with a “steadily deteriorating” police department—a department which had decreased from 50 to 16. Nevertheless, Ms. Parchment’s email appears to present an even more depressing and urgent fiscal distress picture than what has been made publicly available by either the city’s elected or senior appointed officials—including City Manager David Chiverton, who pledged at a public meeting earlier this month that Opa-locka would have a balanced budget by the end of the fiscal year—a far cry from what Ms. Parchment instead estimated would will soon be a $4.5 million deficit. Now, with City Manager Chiverton an apparent target of an FBI investigation of bribery and kickback, the issue seems to be whether the municipality will be forced to seek chapter 9 municipal bankruptcy under Florida’s §218.01, or whether Gov. Rick Scott might, somewhat as in New Jersey, declare an emergency and impose a state takeover of the city (while utility and transportation districts in the state have filed for chapter 9, no municipality has). For months, Opa-locka’s elected officials have been alerted about the looming fiscal collapse, but the city fired former City Manager Steve Shiver last November in the wake of his alerting state officials about the mounting municipal debts that had reached $8 million. Similarly, a financial task force warned that the city would have to make drastic cuts. Nevertheless, as City Commissioner Terence Pinder stated: “They kept kicking the can down the road.”

Driving a Municipality into Municipal Bankruptcy?

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eBlog, 4/28/16

In this morning’s eBlog, we consider the critical fiscal situation confronting Ferguson, Missouri—where the small municipality—confronted with seemingly prohibitive federal sanctions in the wake of the killing of Michael Brown, an unarmed man, by a police officer, in the wake of which there were riots and subsequent U.S. Justice Department sanctions imposed on the municipality—fiscal sanctions that risk the municipality’s viability.

Federally Driven Municipal Bankruptcy? Moody’s has further downgraded Ferguson, Missouri’s bond ratings into junk territory as the small city, amid tries to address the fiscal strains of dealing with fallout from the controversial 2014 fatal police shooting—the rating agency assigned the municipality a negative outlook in the wake of the city’s voters approving a sales tax for economic development, but voting down a property tax hike—meaning the city is likely to fall short of the revenues it projects it will need in the wake of the police shooting of Michael Brown in 2014. It seems the federally imposed fiscal penalties are further imbalancing the municipality’s chances of survival. The small city already faced imposing odds: Brookings analyst Elizabeth Kneebone last year had noted that at “the start of the 2000s, the five census tracts that fall within Ferguson’s border registered poverty rates ranging between 4 and 16 percent…However, by 2008-2012 almost all of Ferguson’s neighborhoods had poverty rates at or above the 20 percent threshold at which the negative effects of concentrated poverty begin to emerge.” But now, in the wake of voters’ approval of a 0.5% sales tax hike for economic development, but rejection of a proposed $0.40 per $100 of assessed value property tax hike that would have generated $640,000 annually, or 22.6% of the city’s projected budget deficit, the fiscal dilemma appears certain to deteriorate. The property tax increase would have cost about $76 annually for a home worth $100,000.

Ferguson, which has been experiencing a declining population, has average per family income of $36,645 annually. Thus, it can hardly seem surprising that its voters shot down a proposed $0.40 per $100 of assessed value property tax hike that would have generated $640,000 annually, or 22.6% of the city’s projected budget deficit. In contrast, voters approved the sales and use tax hike–expected to raise about $1 million per year, or 28.2% of the deficit. Ferguson operates on a $14.5 million budget. Thus the city’s leaders had warned both tax increases were needed to address the city’s deficit and the costs of compliance with the unfunded federally mandated police and municipal court reforms under a consent agreement the city recently reached with federal authorities.

As Moody’s moodily noted: “The downgrade reflects the continued pressure on the city’s finances from a persistent structural imbalance and incorporates the recently approved US Department of Justice consent decree, projected to increase annual general fund expenses over the next several years.” That pressure comes from the city’s projections that compliance with the federally-imposed implementation mandates could run as high as $1.5 million in the first year with costs falling under $1 million in subsequent years. Moody’s analysts further noted that, in the wake of the election: “both ballot measures were integral to city management’s proposed solution to close a large general fund budget gap that existed before accounting for the additional consent decree costs.” To make matters more fiscally grim, the credit rating agency expressed apprehension with regard to further credit erosion in the wake of the vote—as it will likely be forced to cut spending even further to meet the federally imposed penalties—with the agency apprehensive that the combination of unfunded federal mandates, reduced revenue, and substantial liabilities could lead not just to still further downgrades, but also potential default. City leaders say measures associated with the agreement will cost Ferguson $2.3 million over three years, including $1 million in year one—a seemingly overwhelming level for a municipality already facing a $2.9 million deficit due largely to fallout from the shooting, such as sales tax declines, skyrocketing legal costs, and the imposition of hundreds of thousands of dollars in court fines and fees from reforms already in place.

The pending FY’2017 budget calls for across-the-board pay cuts of 3 percent—but, in the wake of the voters’ actions, the city will likely be forced to lay off members of the police force, firefighters, and consider closure of a fire station—potentially imperiling the city’s implementation of the type of community policing mandated under the Justice Department settlement. Revenues to pay for requirements such as software and hiring of police record analysts would also be hard to come by. Indeed, the federal requirements could force the city into receivership or to file a chapter 9 petition, as provided for under Mo.Ann.Statute§91.730.