Detroit and Bust

Riding the southbound Woodward 53, between midtown and downtown Detroit, you come across a massive, gutted apartment building looming over acres of empty lots. Scrawled beneath its cornice in letters ten feet high is the word ZOMBIELAND. Woodward is the city’s main north-south thoroughfare, and from Lothrop, three miles from the center city, the bus begins already to skip crowded corners. It is packed to the front door, as usual, so the driver only stops when there are a few people waiting, when she thinks they can fit. She does not want to risk an altercation. The bus is hot, and when it does finally stop, people start yelling—first one, then several, to let a passenger off. A half dozen people spill from the open door and out from the crowd emerges a small, elderly body, slowly shuffling to the curb.

The bus is like a furnace. Somebody yells for the driver to turn off the heat, and people shout in agreement. The closer the bus gets to the pre-war skyscraper district, the more people pack on, the hotter it gets. Grumbling gets louder, and by the time we reach Michigan State one of the the taller men wedged in the aisle yells, “Long as we keep taking it they going to keep doing it.” Another shouts from the back, “We got to speak up!” Half a mile away hundreds of protesters are surrounding the federal courthouse, but nobody knows about it. Outside the freezing window I see Comerica Park, the Tigers’ logo looming large. Later a driver will tell me a list of rider complaints; prominent among them the difficulty of holding a job when transportation is so unreliable.

City bus service had been disrupted the day before I arrived, on October 21. The drivers’ union, ATU Local 26, held a one-day “sick-out”—one of the euphemisms public sector workers use in lieu of the illegal word “strike.” Like most things in Detroit, public transportation has seen severe cuts. According to the union president Fred Westbrook, who’s been a driver for twenty-seven years, the Detroit Department of Transportation has a daily ridership of around 100,000, but in the past decade Local 26 has lost nearly half its membership. “Right now we’re to about 470,” said Westbrook, “but I remember ten years ago we were 900.”

Along with the rest of the city’s unions, the ATU has lawyers in federal court arguing against the city’s eligibility for bankruptcy. Bus drivers average $32,000 a year, and pensioners stand to lose up to half of their retirement checks. But the sick-out wasn’t about the budget, or retirement; it was about safety. The week before, two bus drivers were stabbed, and another had urine thrown on her.

“This is not just safety for bus drivers,” said Westbrook, “it’s safety for the riding public. We have assaults on bus drivers, and then we have assaults passenger-on-passenger, because the buses are overcrowded. You’re at a bus stop with a crowded bus, and there’s twenty people out there, and they’re fighting to get on.” The sick-out aimed to push the police department to intervene in the overburdened service, to air a public statement on TV that service issues were not the fault of drivers, and for police to begin riding on the lines rather than next to them in their cruisers. After the disruption, Chief James Craig acceded to all of the demands. “But I gotta see it,” said Westbrook. “Talk is cheap.”

At end of the line is the Rosa Parks bus terminal. It is one of downtown’s few civic spaces. Riders mill about; drivers rush from bus to bathroom among loose strings of people. Some deride drivers who walk too slow, and one sneaks out to get lunch nearby. Part of the reason the buses are so crowded is a lapse in maintenance, says Westbrook. “We have drivers just sitting because we have no buses.” According to him, about 60 percent of the bus fleet is operational. “Why the buses are not fixed, my honest opinion, is the layoff of mechanics.”

“Here in the state of Michigan it is illegal for public employees to strike, so I would never be an advocate of striking,” says Westbrook. “But”—and this he says with a huge grin—“I love rallies. I will rally all day long.” Walking from Rosa Parks through Detroit, you don’t come across many rallies, or many people at all. Even on the few comparably higher traffic streets in the vacant city center, one gets the feeling that the area was evacuated, that the hundreds of thousands of workers said to live in Detroit don’t actually exist, and that the people walking in and out of the few occupied offices are tourists, venturing from the spaceship Renaissance Center and the few buildings reclaimed as hotels.

There must be over a dozen storefronts downtown owned by Rock Holdings, the third largest private-sector employer in the city and the project of real estate and casino mogul Dan Gilbert. They are filled with mannequins wearing the latest season of Burberry, but each store space is empty. Only the window displays are filled. They aren’t advertisements for items, but advertisements for retail space—pleas for luxury-apparel businesses to open in Detroit, where median household income is $28,000 a year. It’s impossible to walk around for any length of time without seeing an “Opportunity Detroit” bus, which is a private transportation service advertising Gilbert’s company Quicken Loans, who, according to one source for this story, has to bus its workforce in from the surrounding suburbs.

Outside the federal courthouse, Sam Cooke is playing on a loudspeaker, and a couple hundred people shuffle around watching the clouds of their breath, shoving their hands in their pockets. It is the first day of the bankruptcy eligibility hearing, and as the hour passes the crowd doubles.

Across the street is George Cannon, who worked at Champion Spark-Plug for twenty-two years until it closed, a job for which he gets $270 a month in retirement from the UAW. He followed that job with eighteen years in the city sanitation department, for which the city is currently giving him a $600 monthly pension. With Social Security, his mortgage payments take nearly half of his income. If his city pension is cut to about 15 cents on the dollar, as it stands to be, his payments will take up a good deal more.

As we talk a megaphone begins blasting the crowd: “Hands off water and sewage! Hands off Detroit Institute of Arts! Hands off Belle Isle!” The crowd starts to circle the building.

The pensions of unions like the ATU sometimes get cited as the primary source of Detroit’s current crisis. This is why the pensioners sometimes get portrayed in the press as standing in the way of Detroit’s eventual solvency. But the current fiscal crisis isn’t the pensioners’ fault. The roots of Detroit’s bankruptcy instead lie hidden in the rocky soil of municipal bond finance. What sank the city was an elaborate scheme to avoid pension payments, which left Detroit drastically more indebted than it otherwise would have been.

It was after the dot-com crash and the subsequent recession that the city’s pension funds, overinvested in failing securities, began to underperform. By 2003 the city’s annual contributions to its general retirement fund grew to $72 million, double its level in the mid-’90s, bringing the city in 2001 to its first budget deficit in six years. By 2004 the city’s revenues were $95 million short of its $3.1 billion budget, a small but not insignificant deficit, driven largely by underperforming investments.

This was the situation that Mayor Kwame Kilpatrick faced in his first term. In 2005, he responded aggressively by issuing $1.4 billion in pension obligation certificates (POCs). These are similar to bonds but do not require voter approval. The city issued them with the goal of reducing their deficit; the POCs would eliminate a yearly contribution to the pension funds with a one-time payment. Thanks to the certificates, the pensions appeared to be nearly 100 percent fully funded. But the certificates were another form of debt—and they came with swaps, which came with fees, which were hooks big enough to sink into the city’s revenue structure and pull the whole thing apart.

The details of the deal were complex, and they involved several parties. Standard and Poor’s met with Detroit’s Chief Financial Officer and Deputy Mayor, along with representatives from Fitch, UBS, and Merrill Lynch, to hash out the details of the deal. The city would enter into a swap with the two banks, whereby it would pay a fixed interest premium on the pension certificates; in return, UBS and SBS (backed by Merrill) would pay the variable rates on the certificates which were tied to the Libor rate (which we now know was manipulated). The whole thing hinged on a bet: If the variable interest rates rose, the city would save money on its loan.

The industry reps sold it as an easy fix; but at the time the risk was obvious to many. The Mayor’s 2005 budget document acknowledged that the deal “raise[d] the issue of intergenerational equity” and went on to explain how trusting your lenders both to manage your loan and alter your monthly premiums could be a bad idea. There was opposition both from city councilmembers and the professional municipal finance community. But the Detroit Free Press denounced the dissenters, as it today admonishes pensioners. When the Mayor threatened to lay off 2,000 city employees if the certificates were not issued, the city council capitulated, and the lenders reached a deal. “While the use of [POCs],” read the Mayor’s budget, “is expected to produce pension contribution savings that are estimated at $24–26 million per year, the Government Finance Officers Association (GFOA) has recommended that [POCs] be used with caution.” By the next market crash, it was clear that any caution taken was insufficient. In 2008, interest rates collapsed, along with the market.

The swaps were littered with termination triggers, giving creditors a variety of causes to end the agreement and demand payment of their termination fees. This is what happened in January 2009, when, staggering from the recession, the city had to issue another round of stop-gap deficit financing bonds. Standard and Poor’s and Fitch downgraded Detroit’s bond rating, terminating the swaps and enabling UBS and Bank of America (the new owner of Merrill) to demand their fee—$400 million in cash, which would have bankrupted the city immediately.

When the city couldn’t pay, it agreed to restructure the loan. Detroit turned to casino taxes for help. The casino tax makes up $180 million in yearly revenue for the city: with industry gone, gambling resorts have become one of the city’s most reliable sources of income.

The city would pledge $4 million of its $15 million monthly casino tax revenues to continue making swap payments, at a vastly reduced rate. The banks accordingly deferred their fee.

After the city declared bankruptcy, the new, and unelected, Emergency Manager Kevyn Orr moved to pay off the swap fee, canceling the swaps and removing this liability from the bankruptcy restructuring. The cancellation threatened to downgrade the POCs’ rating, leaving Syncora, the certificate insurer the city had bought a policy from, on the hook to certificate holders whose investments were threatened. To protect itself, the insurer placed a lien on the casino taxes the city had pledged as collateral in 2009 as part of the restructuring agreement, further threatening Detroit’s revenues.

After federal bankruptcy judge Steven Rhodes ruled against Syncora’s attempt to freeze the tax money as collateral, Orr pledged it to Barclays as debtor-in-possession financing on yet another loan, which he will use to pay off UBS and Bank of America for their swap fee. Under the terms of the loan, Detroit will pay the tax revenues directly to Barclays, who will hold the funds for the city. If Detroit can’t make payments on this new loan, Barclays gets to keep the casino revenues. This would mean, in effect, that Barclays will have privatized a significant portion of Detroit’s taxes.

All this, just so Detroit could avoid its pension payments. Now that the pensioners are going to be stripped of most of their retirement funds, you might say that the city has finally succeeded.

According to Kevyn Orr, the city’s debts total $18 billion. But this number is misleading. The amount that the city could not pay in 2012 was only its $121.8 million deficit. What brought the city to bankruptcy was not the debt—it was the cancellation fees on the swap agreements. Also included in Orr’s $18 billion sum are $6 billion in Water and Sewerage bonds, backed by an authority that serves three million people in southeastern Michigan. Less than a quarter of them live in Detroit proper, but Orr still insists the city enter municipal bankruptcy to pay off this debt. He has pledged Bank of America and UBS three quarters on the dollar for their swap fees, but unsecured creditors, a designation that includes both pensioners and bondholders, stand to get two dimes at most. Writing for Reuters, Cate Long has explored the open speculation in the financial press that Orr has grossly inflated the city’s unfunded pension liabilities by a factor perhaps as great as five. If Orr is making the city finances seem worse than they are, it could only be to make it easier to demand concessions from pensioners.

The financial press seems to be the only group up to the task of disentangling the various authorities involved in the process. Their readers have a direct stake in clarity. For example, that the city may not have the authority to restructure water department debt is something important to bond buyers; accordingly it was reported in Bond Buyer. Similarly, during the bankruptcy eligibility hearing, multiple consultants’ testimonies revealed talks with private equity firms to lease the water department or purchase it outright, on the condition, of course, that they be allowed to raise the rates for consumers.

The most painful lacuna in media coverage is of the city’s generous corporate subsidy program. Two of the three largest private sector employers in Detroit pay almost nothing in city, county, and state taxes. The largest of these three, the Detroit Medical Center, provides over 12,000 jobs in the city. The nonprofit hospital was sold by then CEO, and now mayor-elect, Mike Duggan in 2011 to the for-profit health care provider Vanguard, and the deal was made under the condition that it become part of a Renaissance Zone, which is a state tax-credit program that exempts businesses in specified geographic regions from virtually all state taxes. The new Red Wings Arena, which will go up in another of these zones, will have over half its construction funded with almost $300 million from a bankrupt city.

Quicken Loans, whose parent company Rock Financial has bought up some forty historic buildings in downtown, employs just under 6,000 people, and Quicken owner Dan Gilbert has pushed for a renewal on the fifteen year tax-free status he and his company enjoy. In a situation like this, democratic politics can only appear to be a nuisance. Detroit mayor Dave Bing views his role accordingly: he was quoted in the Times saying that his job was “to knock down as many barriers as possible and get out of the way.”

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