As Detroit Goes…

So the Motor City, through its emergency manager, has submitted to its numerous creditors a plan—still under wraps for now—to deal with its $18 billion debt. It’ll be interesting to learn what they propose to do about investors (screw ‘em, but how badly?); about pension costs; and about the city’s huge unfunded health costs. (Fearless prediction: a transfer of those costs to the feds, either through Medicaid or an ACA Exchange, will have to be part of any deal.) It will also be interesting to see just how the city proposes to pay its obligations going forward. That’s not just a numbers game; it’s about confidence. Not to be rude or anything but the city has proven to a certainty that it cannot govern itself. Who’s to say that once it emerges from Chapter 9, it won’t go back to fun and games?

In closely related news, State Budget Solutions has just issued its fourth annual report on state debts. Total debts clock in at an estimated $5.1 trillion, of which $3.9 trillion consists of unfunded pension obligations. (That number is based on market-value accounting; for reasons explained by Andrew G. Biggs here, that’s the right way to go about this.) Some states are in much worse shape than others; the report has the breakdown and the gory details.

The upside, in a manner of speaking, is that the eye-glazing numbers are becoming real and comprehensible. Here is AEI’s Mark J. Warshawsky in RealClearMarkets:

Two problems have become increasingly apparent and immediate: the legacy obligations promised to retirees and workers just about to retire, and the funding and nature of retirement benefits being accrued now and in the future by younger and future state and local government workers. The first problem is larger in size and concern because those retirees and long-service workers are legitimately worried that their retirement benefits promised by fiscally challenged sponsors and backed by severely underfunded plans are now highly uncertain and unsustainable and subject to arbitrary and chaotic cuts in the bankruptcy and political processes operating today. Moreover, many of these retirees, again owing to poor past choices by their representatives and employers, are not even covered by Social Security, and therefore extremely exposed to risks in retirement.

Loose translation: the wolf is at the door. You can fiddle with long-term plans and benefits for future employees all you want—the liquidity and solvency problems are here, now. What’s the answer?

One solution would be to offer these retirees and older workers a lump-sum payment representing a significant, but not necessarily full, share of the actuarial value of their promised benefits.

Yank this stuff off the states’ books and let the annuities be managed by outfits that know what they’re doing.

I’m not at all sure that this idea will fly, politically speaking. But then, what’s the alternative? What is being discussed, Warshawsky darkly notes, is a federal bailout either through Social Security or the Pension Benefit Guaranty Corporation—both of which, for what little it may be worth, also have solvency issues.

A year or so ago I would have said, “that can’t possibly happen.” I’d still bet against it, but I am no longer so confident.

Reader Discussion

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on January 31, 2014 at 13:39:59 pm


so how much of this pension liability is actually "touchable" by a Bankruptcy court?

Are not many of these pension / benefit promises contractual guarantees that are at least, in theory, beyond any court restructuring? I recall reading that in some cases these benefits are afforded (state) constitutional protection.

Also, what, if any, claim can be made by the taxpayers of such states? do they (I) have any legal recourse to assure that I am not stuck paying off these excessive "guarantees."
Boy, won't that be fun when the "fan" starts being hit by something?

take care
and go seahawks!!!!!!!

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Image of gabe
on February 01, 2014 at 09:45:06 am

As the court is acting under federal bankruptcy law, the supremacy clause invalidates anything in the state constitution’s that would prevent it from doing whatever it needs to. And the constitutional contracts clause (“no state shall… impairing the Obligation of Contracts”) only applies to states, so while the states cannot pass any law to change these contracts, the federal government can.

Taxpayers have no standing to fight these “guarantees" as far as I know, unless the guarantees are made in violation of the state constitution which usually they are not. These are state government actors acting under the valid state legal authority to enter into contracts for labor, so I don't know what kind of argument a citizen of a state would have to fight that.

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Devin Watkins
on February 02, 2014 at 11:48:33 am

It is easy to envision a death spiral -- a court protects the pensions, so a city must tax heavily to pay, which reduces property values and increases abandonment while forcing business to flee, which reduces revenues, which raises demands on the remaining residents, and so on.
The Dems will have two responses: Federal bailouts, of course, but the second is regionalization, an effort to make suburbs responsible for the finances of core cities. It could get interesting.
It is impossible to predict future political upheavals, but one possibility is secession/expulsion movements. For example, Illinoisans may realize that without Chicago and East St Louis, they could have viable and responsible republic.

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