Financial Lessons From … the Motor City

The next time someone tells you we will never fix bloated public pensions in this country, tell them about Detroit. Tell them about how workers and retirees there just approved a 4.5% cut in their pensions. Tell them about how a lot of those workers also gave up annual inflation adjustments to those pensions. And tell them about how three out of four of those retirees accepted those cuts. Not some. Not a majority. Most.

In a word, my friends, remarkable, and proof that despite all the cynics who say we can never solve our massive unfunded public liabilities, the Motor City is proof we can at least take a stab at them. That’s what happens when you’re on the brink, you have to come up with options. And bankrupt Detroit just did.

None of this means the embattled city will emerge from the largest municipal insolvency in U.S. history, but it’s the surest sign yet it’s very serious about doing so. Clearly, many hurdles remain. A judge still must decide whether Detroit’s bankruptcy plan is doable, and that it’s fair to retirees and creditors alike – to put it mildly, a huge hurdle.

But key to any deal has been getting 32,000 retirees and city workers to go along. All of them would have to accept cuts to their pensions, or risk what Detroit emergency manager Kevyn Orr recently told me might mean no pensions, at all. Try telling that to police and fire retirees, whose average annual pension is about $32,000, considerably higher than other city workers averaging retirement payouts closer to $20,000.

Yet faced with the possibility of being held up in bankruptcy limbo for conceivably years, public workers past and present overwhelmingly approved nixing annual cost-of-living raises (police officers and firefighters sucked up smaller raises, but concessions just the same).

They did this to help meet the requirements for an unusual $816 million bailout from the state of Michigan, and avoid even steeper cuts. That doesn’t mean Detroit is out of the financial woods, but it does mean it’s closer to clearing a path. Getting tens of thousands of creditors, including everyone from bondholders to businesses, to go along won’t be easy. The creditors argued this whole process hasn’t been fair to them, and they haven’t quite embraced the concept of getting paid pennies on the dollar.

But the thinking is any deal is better than no deal, and pennies on the dollar beats NO pennies– just as public workers getting smaller pensions beats getting no pensions. That’s why Orr predicts in the end, everyone will rally around a deal involving shared pain and shared sacrifice.

There’s a lot riding on this nationally if they do. Many governors have been battling these same public pension issues. New Jersey Governor Chris Christie wants to transition state workers to self-funded retirement plans, much like the 401(k) defined contribution plans that are virtually standard fare in the private sector. It’s been a tough sell in the Garden State, but Christie might have just gotten a huge boost, given developments in the Motor City.

As Orr told me, none of the options are pretty for states and municipalities facing these daunting financial obligations. But they sure beat the alternative of getting nothing. That’s the thing about bankruptcy. All bets are off. All obligations are off. All deals are off. All promises are off. It’s a clean slate, and left to the vagaries of the courts, such filings can risk cleaning everyone’s slate.

That’s where the concessions come in, and the compromises come in too. Detroit is trying to dig out of an $18 billion mess, with everyone doing their part, and surrendering his or her pound of flesh. The fact that overwhelming numbers of public workers and retirees have accepted meaningful cuts to what they used to claim was fully owed to them, fully changes the debate, and challenges others to pony up as well.

I suspect they will, because frankly the alternative is worse.

Who knew perhaps the most blighted city in America would be showing the way for the country? That’s what happens when you’re on the edge of a cliff. You’ll do almost anything to make sure you don’t fall.