FedUpUSA

Archive for April 6th, 2010

Detroit Bankruptcy Looms with Deficit of $446 Million in Budget of $1.6 Billion

Detroit has hit the end of the line. It’s budget deficit is between $446 million and $466 million (28% to 29%) of $1.6 billion with few ways other than drastic cuts in wages and benefits to address the problem.

If unions will not give in (and they won’t), Detroit Faces Bankruptcy.

Mayor Dave Bing and the City Council must reduce the size of government and slash the city’s budget deficit to stave off bankruptcy or state receivership, according to a report released Monday.

Without draconian cuts and changes aimed at downsizing government, the city could end up with a “possible” general fund deficit between $446 million and $466 million to its $1.6 billion budget.

“Detroit city government must be restructured,” according to the report from the Citizens Research Council of Michigan, a nonprofit that has studied Detroit finances for decades. “The new structure must reflect both the reduced tax base and the limited ability of state government to provide shared revenues.”

The report, titled “The Fiscal Condition of the City of Detroit,” was prepared at the request of Business Leaders for Michigan, a statewide coalition.

The 60-plus page report outlines much of what officials know: The city’s dramatic population loss, high unemployment and other ills have had adverse effects on the city. And now government must respond in a dramatic way to downsize and make sound budget choices, the report argues.

The Fiscal Condition of the City of Detroit

With that introduction, inquiring minds are diving into the Citizens Research Council report on The Fiscal Condition of the City of Detroit

The Economic Base

The deterioration of the economic base of the city has accelerated. There were an estimated 81,754 vacant housing units (22.2 percent of the total) in Detroit before the recession; that number increased to an estimated 101,737 (27.8 percent of the total) in 2008.

The average price of a residential unit sold in the January through November, 2009 period was $12,439, down from $97,847 in 2003. Remaining businesses and individuals are challenging property tax assessments on parcels that have lost value and, in some cases, cannot be sold at any price.

More than half of employed city residents work outside the city limits; the metro area has the highest unemployment rate of the 100 major metro areas in the U.S.

Revenues

All major tax revenues will be below budgeted levels, significantly so in some cases. State revenue sharing was budgeted at an amount equal to the prior year budget, but state budget problems will result in reductions that could add $40 million or more to the projected deficit.

The city budgeted $275 million as revenue from the monetization of assets. Although there is precedent for the sale of future revenue streams in other cities and states (Chicago leased the Chicago Skyway Toll Road and parking meters, and tried but failed to lease Midway Airport), it is highly unlikely that Detroit can sell future revenues from the parking and lighting departments.

Expenses

The Potential Deficit

The city could well end the year with an accumulated deficit that is over a quarter of the total $1.6 billion general fund:

• $280 million – Budgeted prior years accumulated deficit
• $46 million – Estimated increase in prior years accumulated deficit
• $80-$100 million – Estimated current year general fund operating deficit
• $40 million – Potential state revenue sharing shortfall

The possible general fund deficit is $446-$466 million.

Personnel costs are 50.1 percent of all general fund appropriations. The plan for reducing expenditures includes a ten percent wage cut and layoffs. If laid off employees earn salaries in the $30,000 to $50,000 range and if civilian pension and fringe benefit costs are 65 percent of salaries, about $66,000, less unemployment benefits, could be saved per laid off employee in the first full year. One thousand layoffs would therefore produce a savings of $66 million, less unemployment benefits, in the first full year of the layoff.

Potential Solutions

Clearly, the city government cannot afford to remain at its present size. There are four ways the government can downsize:

• The elected mayor and city council can develop and implement required changes.
• The mayor and city council can implement changes specified in a consent greement
reached with a review team appointed by state officials under the Local Government Fiscal Responsibility Act
• An emergency financial manager appointed under the Local Government Fiscal Responsibility Act can negate the authority of the mayor and city council, can implement changes, and can renegotiate (but not abrogate) contracts.
• If an emergency financial manager recommends, and the state approves, reorganization and restructuring can occur under protection of bankruptcy, which does allow contracts to be abrogated. No Michigan municipality has ever filed under federal bankruptcy laws.

In order to address what could be an accumulated general fund deficit exceeding $400 million, Detroit city government must be restructured. The new structure must reflect both the reduced tax base and the limited ability of state government to provide shared revenues. Restructuring will necessitate process improvements, load shifting, load shedding, privatizing, concentrating service delivery on an area
smaller than 138 square miles, and other strategies.

The most recent Crisis Turnaround Team has recommended closing facilities, privatizing services, improving and centralizing processes, renegotiating contracts, improving debt collection, restructuring debt, and other actions. It remains to be seen whether the city’s elected officials will be able to implement these recommendations.

Pensions

While the most recent published actuarial valuations for the city’s pension systems indicate that there were no unfunded accrued liabilities, all public and private
pension systems have suffered the effects of stock market and real estate market volatility over the past two years.

The Auditor General’s analysis notes that the budget includes a third excess funding
credit of $25 million used to reduce the required contribution to the Police and Fire Retirement System, and that no provision has been made for the cost of implementing the defined contribution plan, estimated to exceed $20 million.

Detroit has an unconditional contractual obligation to make debt service payments on the pension obligation certificates. Failure to make payments when due allows the contract administrator to file a lawsuit to force payment. A court judgment could require the city to raise the payment through an unlimited tax levy, for which voter approval is not required by Michigan law.

Privatization

The 1997 Detroit City Charter created new provisions ostensibly authorizing the city to privatize city services. The process created in Section 6.307 of the Detroit City Charter, for the most part, laid out best practices for a meaningful examination of the costs and benefits of privatizing services.

However, interwoven in that section is language that does more to hinder privatization than to facilitate it. The most glaring hindrance is created in subsection 7 requiring a super-majority (2/3) vote by city council to approve the privatization of any city services.

Summary

Detroit city government must be restructured; the organization chart must be more compact. This will require strong leadership and clear lines of authority. The new structure must reflect both the reduced tax base and the limited ability of state government to provide shared revenues. Restructuring will necessitate process improvements, load shifting, load shedding, privatizing, concentrating service delivery on an area smaller than 138 square miles, and other strategies. The most recent “crisis turnaround team” has recommended closing facilities, privatizing services, improving and centralizing processes, renegotiating contracts, improving debt collection, restructuring debt, and other actions. It remains to be seen whether the city’s elected officials will be able to implement these recommendations.

Detroit Should Embrace Bankruptcy

The only legitimate solution for Detroit is shed pension obligations, privatize everything it can including the fire department, and dump unions contracts en masse. Since those items can only happen in restructuring, Detroit should openly embrace bankruptcy.

Mike “Mish” Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Food Stamp Usage Hits Record 39 Million, 14th Consecutive Monthly Increase

Food stamp usage is up again except the program is now called SNAP Supplemental Nutrition Assistance Program.

Inquiring minds are looking at a SNAP Participation Table that shows a record 39,430,724 receive SNAP benefits, a 22.4% increase from a year ago.

Biggest State Increases

Arizona – 32.9%
Colorado – 32.9%
Florida – 38.6%
Idaho – 45.7%
Nevada – 46.9%
Rhode Island – 42.4%
South Dakota – 32.6%
Utah – 37.3%
Wisconsin – 38.9%
Wyoming – 40.0%

Those numbers are as of January 2010

Households

Household SNAP participants increased from 12,728,981 in Fiscal Year 2008 to 15,232,105 in fiscal year 2009, a 16.4% increase. For comparison purposes, watch the growth in household participation.

SNAP Household Participation

FY 2005 – 11,197,377
FY 2006 – 11,734,491
FY 2007 – 11,789,594
FY 2008 – 12,728,981
FY 2009 – 15,232,105

Cost of SNAP Program

FY 2005 – $31.07 Billion
FY 2006 – $32.91 Billion
FY 2007 – $33.19 Billion
FY 2008 – $37.66 Billion
FY 2009 – $53.63 Billion

Household and cost numbers are as of March 30, 2010.

Clearly the recession took its toll, and will continue to do so until there is a dramatic decrease in the unemployment rate.

Mike “Mish” Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Oh Really? (Kocherlakota on CNBS)

Posted by Karl Denninger

The Fed’s Kocherlakota said in an interview on CNBS today that The Fed could sell $15-25 billion in mortgage securities a month, implying that this would normalize the balance sheet by 2020.

2020 eh?  Ten years into the future?

Mr. Kocherlakota seems to have forgotten history – and not only recent history.  We’ve yet to go a decade without a serious financial “upset” of some sort; we had the early 1990s recession, the 2000 tech wreck and of course the 2008 meltdown.  Before that there was 1987, the early 1980s recession and then the 1970s oil embargo and inflation scare.

Notice that there hasn’t been a ten-year uninterrupted period where The Fed could have “unloaded” what’s on its balance sheet.

This, of course, presents a problem.

What presents an even larger problem is this:

That’s the 10 year Treasury rate (again), and while it came in a bit today I wouldn’t call it “heading down.”  That nice little technical pattern targets 6%, a rate that would bring ruinous losses (in amounts likely to exceed $100 billion!) on The Fed’s mortgage portfolio, assuming it tries to sell those securities.

Frankly, I don’t see how The Fed pulls this off, and since The Jawbone is now out talking about it, I have to assume they’re not quite so sure how to do it either.

In my opinion skepticism is well-advised here.

My belief is that they’re trapped.  They need lower rates to create that “par” value, while at the same time they also need ample funds around in Treasury to backstop losses so people will buy the MBS without a haircut. 

Where’s the money going to come from? 

Well I can tell you where it won’t come from – sovereigns.  China sure isn’t going to be all that interested – or capable, especially if they drop their hard peg.  Europe?  Greece anyone?  Me thinks not.  Money market funds?  At what yield will people dump them and buy Ts?  I think not.

Oh wait – we could start another stock market panic!

Hmmmm….

My antenna is up on this folks…..

FOMC Lying Reaches A New Zenith

Posted by Karl Denninger

Things that make you shake your head….

Members noted the importance of continued close monitoring of financial markets and institutions–including asset prices, levels of leverage, and underwriting standards–to help identify significant financial imbalances at an early stage. At the time of the meeting the information collected in this process, including that by supervisory staff, had not revealed emerging misalignments in financial markets or widespread instances of excessive risk-taking.

Really?  A couple of charts.  First, what Government has done:

No misalignment there!  Heh, it’s totally normal for the government to replace on a two-year running basis more than 20% of GDP, and to have a current replacement rate of almost 12% of GDP.

Then there’s the stock market, of course:

There’s no misalignment there either! 

Ed: Well, actually, there isn’t if you want to be technical about it – government borrowing and spending $3 trillion in two short years, replacing a collapsed consumer and business final economic demand, will indeed produce a ferocious stock market rally.

The problem of course is that this “rally” and this “turn in the economy” is exactly the same sort of event that happened in 2003, when intentional blindness toward making liar loans and other similar silliness in other areas of credit (“covenant light”, “pik/toggle bonds” and other stupidity) without concern for ability to pay essentially blew up the world.  Never mind that this was all an intentional act to paper over the recession and corrective influence of the markets that should have occurred in 2000.

For those who are ignorant of history, the same sort of game was attempted in 1930.  It didn’t work.  Oh sure, it seemed to, and it produced a huge market rally.  For a while.

But in the end the cash flow won, as it always does – and as it will again.

Unlike the Latin American debt crisis when Paul Volcker threatened Citibank and others with closure if they didn’t take his “willful blindness” as an opportunity to get all of the trash off their balance sheet, this time around nobody has purged anything from anywhere.  We have instead simply left the crap there and pretended it was performing when it is not.

Now it may be true that this story will not end the same way as 1930 did, or as Japan did in the 1980s, but all I can do is look to the past and the mistakes that were made there.

We’re making the same errors made throughout history as a consequence of regulatory capture and even outright fraud, adding even bigger and newer errors on top of the old ones.

Beware Goldmen Proffering Investing Ideas

Posted by Karl Denninger