At one time it was the symbol of what was great about America. Now it is the symbol of our troubles. As you have no doubt read in this paper, Motor City has filed for bankruptcy protection. What can we learn from this?
I think the first lesson is the same one that I preach regularly when it comes to investing: Diversification. The majority of jobs in and around the Detroit area are tied in some way to one industry. The city I live in, Wichita Falls learned their lesson when the oil business was decimated decades ago. City leaders made sure that a diverse combination of industries came in to fill that gap.
Detroit talked the talk but never walked the walk of diversification. Japanese vehicular invasion, competition from other states, and automation all combined to lower the needed workforce and raise unemployment. But once you’ve been a star, it is hard to see your role diminished. Hope for a return to their glory days trumped the cold realities of what was happening.
Well over a million people without job prospects were forced to leave, and with them the taxes that supported local government. Even as the city slowly raised property taxes to twice the national average, tax revenues went down 40%. This doubling of taxes along with double the U.S. average of unemployment could only lead to the continuation of the exodus, as well as the downward spiral.
However, Detroit’s grave mistake, and the one that led more directly to their bankruptcy, was the promises made without knowing if they could be kept. Of course promises are much easier to make when 1) everything is going great, and 2) you won’t be around to make good on them.
Detroit didn’t do anything that many other municipalities have done: Promise some pretty nice future benefits to their employees. In the case of Detroit, estimates of the difference between what were promised and what the city could afford to pay was in the range of $4-9 billion. And, unlike the Feds, cities aren’t allowed to print money.
What is sad is that this is not a surprise. Folks (including myself) have been warning about this for decades…without getting much traction. Why? I may sound cynical (or perhaps, realistic), but the municipal workers and their unions have nothing to gain by raising this alarm. Potentially, it would only lead to more of a cut in their benefits. The various city councils have nothing to gain since they’ll get the blame. Even Wall Street wants to bury its collective head in the sand so as not to upset the municipal bond markets (much like they did with all those derivatives from the last financial crisis).
This was not the first city this year to go bankrupt and it likely won’t be the last. But after ducking the issue for so long, now city employees, elected officials, bond holders, and ultimately the taxpayer will share the pain—pain that wouldn’t have happened if sense and reason prevailed decades ago.
This article was published under the title "Detriot's descent a caution sign for all" in the Wichita Falls Times Record Newson August 18, 2013.