Analysis: Why we’re not the next Detroit
BY DAVID ROEDER and FRAN SPIELMAN Staff Reporters July 20, 2013 1:36AM
Chicago now has fewer people in its population than Toronto. But so what? | For the Sun-Times~Lee Hogan
Updated: August 22, 2013 6:48AM
About 280 miles separate Chicago from Detroit, too long for a quick drive but too short for one city’s financial calamity to go unnoticed in the other.
Many investors who buy municipal bonds for tax-free income have similar images of the two cities: upper Midwest, industrial jobs in decline, crime rampant in too many places.
Both also put off the day of reckoning for their enormous pension debts to their work force. In asking for bankruptcy protection Thursday, Detroit listed debts of $18 billion, with pension systems among its largest creditors.
Yet the same day, Moody’s Investors Service Inc. delivered a blow to Chicago’s ego, lowering the city’s credit rating a rare three levels, although it remains at investment grade. Moody’s said Chicago’s biggest issue is pension liabilities, officially estimated at $19 billion but calculated by the bond-rating agency as $36 billion.
Is Chicago headed down the same road as Detroit?
It’s not the size of the debt, but the ability to pay it. Experts in government finance said Chicago is far better situated than Detroit. Compared with the Motor City, Chicago hasn’t suffered the population loss, it’s drawn more new employers from corporate headquarters to technology startups, its tax base is stable and it doesn’t have nearly the level of tax delinquency.
Donald Haider, a former Chicago budget director and a management professor at Northwestern University, recalled scouting Detroit for a bank acquisition years ago. “After the riots of the 1960s, there wasn’t a residential building permit issued in Detroit for 20 years,” Haider said.
Chicago has broken-down neighborhoods, but in Detroit, urban decline “was chronic and systematic and progressively downhill. We have nothing quite like that,” he said.
However, Detroit’s bankruptcy petition delivers a message to Chicago and to Illinois, which has yet to tackle its own $100 billion pension mess, experts said. And in an interview with the Sun-Times, Mayor Rahm Emanuel said he’s heard it loud and clear.
Emanuel said Detroit’s bankruptcy “should be a wake-up call for all of those who try to put their head in the sand and say that we don’t have a problem” with employee pensions.
“We have a problem. We need to resolve it. And we need to stop running away from it … so we can have a brighter future,” he said.
But in the short term, Detroit’s travails will raise Chicago’s cost to issue debt, as investors will look more carefully at risks in municipal bonds. That means higher costs for Chicagoans just when the city will face pressure to raise property taxes.
The Moody’s report said that without state help, Chicago will have to lift its pension contribution from $467 million in 2014 to $1.2 billion in 2015, draining cash from essential services.
Whether it’s Detroit or Chicago, “there doesn’t seem to be any sense of cost discipline in either city,” said Steven Luetger, senior managing director of fixed income for Mesirow Financial Holdings Inc.
Haider said the Detroit bankruptcy filing “certainly triggered the Chicago downgrade” and may well hit the credit ratings of other cities.
The good news, he said, is that the rating agencies are paying attention to pensions and putting pressure on politicians to act. The ratings arbiters were accused of missing the problems with mortgages a few years ago and want to appear tough.
The differences between Chicago and Detroit emerge in three key areas that bond analysts look at:
Economic strength: The Chicago area’s economy is almost three times the size of the Detroit region’s, where the unemployment rate is nearly twice as high. “Our economy is diverse, which is our strength,” Emanuel said, “We’re not tied to the auto industry. No one sector is more than 13 percent of our employment.”
Elizabeth Foos, municipal credit analyst at Morningstar Inc., said Chicago is seeing a job rebound in areas such as a banking, financial services, transportation and health care.
By some gauges, Detroit barely functions. Foos said 40 percent of the city’s streetlights don’t work and more than half of property owners didn’t pay taxes owed in 2011.
Debt levels: Chicago’s property and sales tax revenues are improving with the economy and the city’s debt load is manageable. Foos has published reports on both cities indicating that if their debts are compared to the taxable value of their property, Detroit’s burden is more than twice that of Chicago.
Population: Detroit has lost 60 percent of its population since its 1950s peak. For the first decade of the 21st century, Detroit was down 25 percent. For the same time periods, Chicago lost 25 percent and 7 percent of its population.
Despite the comparisons, Detroit has cast a shadow over Chicago and other cities that need the credit markets. Experts worry that if Detroit successfully navigates a bankruptcy filing, more cities will be tempted to follow its path.
Detroit’s emergency manager has tried to classify the city’s general-obligation bonds as unsecured credit. Buyers treat those bonds as being backed by the issuer’s “full faith and credit.”
A fight will pit bondholders against pensioners. Detroit’s case could drag in court for a year or more, but investors will watch closely.