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Detroit goes bankrupt and others are certain to follow

Detroit, the former Motor City, home of Motown music is now the largest bankrupt city in US history, brought down by debts totalling $18.5 billion. Already, 40% of the city's streetlights do not work and 78,000 abandoned buildings litter the city, whose population has dropped from its 1.8 million peak in 1950 to 700,000.

"The city no longer has the resources to provide its residents with basic police, fire and EMS services," federal judge Steven Rhodes said. He noted the average police response time is 58 minutes, more than five times the national average of 11 minutes.

After months of delays, Rhodes’  ruling opens the way for severe cuts in pension and health benefits for the city’s employees and as much as an 80% reduction in the value of savings invested by ordinary people in the city’s bonds.

Kevyn Orr, emergency manager for the City, a former bankruptcy lawyer appointed in March by the state of Michigan’s Republican governor Rick Snyder, has powers which over-ride the city’s locally elected representatives. 

Detroit city workers’ union, the American Federation of State, County and Municipal Employees Council 25 (AFSCME), has filed a notice of appeal arguing against the judge’s ruling that federal bankruptcy law trumps employee pension protections embedded in the Michigan constitution. They’re unlikely to have much success.

It was snowing as Sharon Levine, attorney for the AFSCME, left the courthouse, and union members were asking if they were going to lose their house. 

Simultaneous, ironic news of increased sales from the three big Detroit carmakers GM, Ford and Chrysler provided only the briefest of cheer. GM, the US’s biggest carmaker by sales, was rescued through a managed bankruptcy in 2009.

Now the US Government is set to see its largest loss from a crisis-era bailout – $10 billion of the $49.5 billion it poured into the company will never be seen again. Chrysler, also rescued from bankruptcy is now owned by Fiat. Share prices for both Ford and GM dropped by 3% despite the increased sales.

The decision on Detroit’s unrepayable debts and unmanageable finances, and the consequent assault on pensions, benefits, jobs and services looks likely to provide a template for the many other US cities and towns in a similar plight.

“Ballooned” hardly does justice to the US municipal debt which has grown from $361 billion in 1981 to $3.7 trillion today. Detroit’s bankruptcy means it –  and many others – will no longer be able to pay the interest on the monstrous loans they use to fund their budgets. And the loans themselves are shrinking.

Investors are shifting their funds out of municipal bonds and into more risky stocks and shares. Rollover, “refunding” deals which reinvest funds that have matured dropped by 25% in the second quarter of this year, whilst the household sector shed $32.2 billion of municipal bonds.

Detroit’s plight is a microcosm not just of the USA, but of the whole of the global economy. To the south, Brazil’s growth has turned to contraction for the first time since 2009. The economy shrank 0.5% between July and September from the prior three months.

Ukraine’s abandonment of far-reaching political and trade agreements with the European Union sparked a second crisis in nine years, with masses of people driven by the imminent threat of economic and financial collapse taking to the streets in a bid to bring down the regime.

Prime minister Mykola Azarov said its decision to walk away from the EU and back to the Russian competitor was based on “fiscal imperatives”, and ultimately prompted by the International Monetary Fund’s overly harsh terms for an aid package.

The reverberations from the 2008 crash continue to be felt throughout the world.

Gerry Gold
Economics editor
4 December 2013

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