Lessons from Motown

In law school in Ann Arbor in the early ’70′s, I traveled frequently from the then center of my universe, Chicago, into an outer orbit of the city of Detroit. I learned that Ann Arbor was not just the home of the University of Michigan; parts of it also served as a very swank distant suburb of the motor city metropolis 40 miles away.  The newspaper, radio, broadcast television (no cable then) all emanated from Detroit.  Visiting friends or just getting away from the college town into the “big city” brought  me to Detroit many times.  But, even more than forty years ago, Detroit seemed to me(in part by comparison to Chicago) smallish, grimy, not very sophisticated, racially and economically segregated, still reeling, more than other cities, from the riot era of the ’60′s, without much architectural interest, and, despite Lake Huron (out of sight) to the north and Lake Erie (out of sight) to the south, without much natural beauty.

At that time, of course, I had no inkling of the impacts that gigantic changes in the auto industry, enormous white flight, and bad municipal government policy choices would have in the coming decades, but somehow, even then, I sensed that Detroit was well past its prime, with little basis for resurgence.  The recent bankruptcy filing seems almost an inevitable ignominy. One can hope that the beginning of pioneering regentrification  amid the wasteland of abandoned infrastructure truly takes hold.  The outcomes of the bankruptcy will probably help.

I have only a little to add to the many comments that this bankruptcy has spawned.  There will be important lessons for municipal bond issuers and investors.  The compromises that will likely make their way to the Supreme Court for resolution will, I suspect, be a healthy recalibration of municipal securities pricing and risk assessment and more alert differentiation between bonds serviced by specific revenues and those relying on general tax revenues.   Students of constitutional law will have much new material to fit into the constructs of federalism and notions of  “full faith and credit”.  And governments, elsewhere, may now have some greater cover for taking serious action to better manage their own finances…and, one hopes, greater incentive.

Detroit reflects an almost complete failure of the political solution.  Politicians were too much beholden to municipal worker unions, promising current and deferred compensation and benefits that were not ultimately affordable, but with no incentive to discipline the process.  Tax payers and rate payers had no effective voice in the transaction…and besides, the bill would come due far into the future; the votes are today.  So, a resolution by the bankruptcy court, setting the current accounts right and re-organizing pensions and retiree healthcare contracts, becomes the default choice, forcing some degree of pain on everyone involved.  Maybe, other cities and states, running huge current deficits and facing mountains of underfunded future obligations will take note, so the pain is perhaps less and the allocation of the pain is subject to some greater political  maneuvering while there’s still time.  One hopes that, in the aggregate, we’ve elected officials who, however painful it may be for them, would rather be in control of the result than be its victims.

While I’m skeptical, maybe there’s even a lesson here for the federalgovernment about taking control of deficits and unfunded or underfunded obligations.  Unlike cities and states, the federal government has the unique outlet of virtually limitless debt.  Why be disciplined?…we can always borrow more and then just print the money to pay back the lenders.  There are some respectable economic commentators who would leave the discussion at that.  So long as the US Dollar is the world’s reserve currency and so long as there is no significant inflation, there really is no limit to how much money the US can create.  Why worry?  Well, I ‘m concerned that, in time, both of those conditions, no inflation and being the reserve currency, could deteriorate, with “no inflation” being the first to go.  There is no bankruptcy court to take the US government to the woodshed.  The solution must either be political, with compromises and painful discipline applied internally, or someday, market forces (unwilling bond buyers and competing, more reliable currencies) may have to apply the discipline externally.

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