The Wrong Lesson From Detroit’s Bankruptcy

August 12, 2013



When I was growing up in Gary, Ind., nearly a quarter of American workers were employed in the manufacturing sector. There were plenty of jobs at the time that paid well enough for a single breadwinner, working one job, to fulfill the American dream for his family of four. He could earn a living on the sweat of his brow, afford to send his children to college and even see them rise to the professional class.

Cities like Detroit and Gary thrived on that industry, not just in terms of the wealth that it produced but also in terms of strong communities, healthy tax bases and good infrastructure. From the stable foundation of Gary’s excellent public schools, influenced by the ideas of the progressive reformer John Dewey, I went on to Amherst College and then to M.I.T. for graduate school.

Today, fewer than 8 percent of American workers are employed in manufacturing, and many Rust Belt cities are skeletons. The distressing facts about Detroit are by now almost a cliché: 40 percent of streetlights were not working this spring, tens of thousands of buildings are abandoned, schools have closed and the population declined 25 percent in the last decade alone. The violent crime rate last year was the highest of any big city. In 1950, when Detroit’s population was 1.85 million, there were 296,000 manufacturing jobs in the city; as of 2011, with a population of just over 700,000, there were fewer than 27,000.

So much is packed into the dramatic event of Detroit’s fall — the largest municipal bankruptcy in American history — that it’s worth taking a pause to see what it says about our changing economy and society, and what it portends for our future.

Failures of national and local policy are by now well known: underinvestment in infrastructure and public services, geographic isolation that has marginalized poor and African-American communities in the Rust Belt, intergenerational poverty that has stymied equality of opportunity and the privileging of moneyed interests (like those of corporate executives and financial services companies) over those of workers.

At one level, one might shrug: companies die every day; new ones are born. That is part of the dynamics of capitalism. So, too, for cities. Maybe Detroit and cities like it are just in the wrong location for the goods and services that 21st-century America demands.

But such a diagnosis would be wrong, and it’s extremely important to recognize that Detroit’s demise is not simply an inevitable outcome of the market.

For one, the description is incomplete: Detroit’s most serious problems are confined to the city limits. Elsewhere in the metropolitan area, there is ample economic activity. In suburbs like Bloomfield Hills, Mich., the median household income is more than $125,000. A 45-minute drive from Detroit is Ann Arbor, home of the University of Michigan, one of the world’s pre-eminent hubs of research and knowledge production.

Detroit’s travails arise in part from a distinctive aspect of America’s divided economy and society. As the sociologists Sean F. Reardon and Kendra Bischoff have pointed out, our country is becoming vastly more economically segregated, which can be even more pernicious than being racially segregated. Detroit is the example par excellence of the seclusion of affluent (and mostly white) elites in suburban enclaves. There is a rationale for battening down the hatches: the rich thus ensure that they don’t have to pay any share of the local public goods and services of their less well-off neighbors, and that their children don’t have to mix with those of lower socioeconomic status.

The trend toward self-reinforcing inequality is especially apparent in education, an ever shrinking ladder for upward mobility. Schools in poorer districts get worse, parents with means move out to richer districts, and the divisions between the haves and the have-nots — not only in this generation, but also in the next — grow ever larger.

Residential segregation along economic lines amplifies inequality for adults, too. The poor have to somehow manage to get from their neighborhoods to part-time, low-paying and increasingly scarce jobs at distant work sites. Combine this urban sprawl with inadequate public transportation systems and you have a blueprint for transforming working-class communities into depopulated ghettos.

Adding to the problems that would inevitably arise from such poorly designed urban agglomerations is the fact that the Detroit metropolitan area is divided into separate political jurisdictions. The poor are thus not only geographically isolated, but politically ghettoized as well. The result is a separate, poorer inner city with a dearth of resources, made even worse because the industrial plants that had provided the core of the tax base are shut down.

The decision to file for Chapter 9 municipal bankruptcy protection was made by Kevyn D. Orr, the nonelected emergency manager appointed by Gov. Rick Snyder, a Republican, to run the city’s finances. The incumbent mayor, Dave Bing, a Democrat, has decided not to seek a second term, which is hardly surprising given that he and other local officials have been left on the sidelines as their city’s future — and the accumulated debts owed its creditors — is being hashed out in court.

As historians like Thomas J. Sugrue have demonstrated, the disintegration of Detroit precedes the conflicts over social-welfare programs and race relations (including riots in 1967) and reaches back into the postwar decades, a time when the roots of deindustrialization, racial discrimination and geographic isolation were planted. We’ve reaped what we’ve sown.

Lacking regional political unity, there is no overall structure to improve the infrastructure and public services between poorer inner cities and affluent suburbs. So the poor fall back on what means they have, which is not good enough. Cars inevitably break down and buses are late, making workers appear to be “unreliable.” But what is really unreliable is the iniquitous design of the city. No wonder America is becoming the advanced industrial country with the least equality of opportunity.

The same skewed priorities that have gutted Detroit at the local level are echoed in a void at the level of national policy. Every country, every society, has regions and industries whose stars are rising, and others that are in decline. Silicon Valley has, for some time, been America’s rising star — just as the upper Midwest was a hundred years ago. With technological change and globalization, though, the Midwest’s comparative advantage as a global manufacturing hub has ebbed, for reasons too well known to list here. Markets, however, often don’t do a good job of self-rejuvenation.

Rather than deal purposefully with this changing economic landscape with useful policies encouraging the growth of other industries, our government spent decades papering over the growing weaknesses by allowing the financial sector to run amok, creating “growth” based on bubbles. We didn’t just let the market run its course. We made an active choice to embrace short-term profits and large-scale inefficiency.

There may be something inevitable about the structural changes that have made American manufacturing less central to our economy, but there is nothing inevitable about the waste, pain and human despair in cities that have accompanied that change. There are policy alternatives that can soften such transitions in ways that preserve wealth and promote equality. Just four hours from Detroit, Pittsburgh, too, grappled with white flight. But it more rapidly shifted its economy from one dependent on steel and coal to one that emphasizes education, health care and legal and financial services. Manchester, the center of Britain’s textile industry for more than a century, has been transformed into a center of education, culture and music. America does have an urban renewal program, but it is aimed more at restoring buildings and gentrification than at maintaining and restoring communities, and even at that, it is languishing. American workers were sold “free” trade policies on the promise that the winners could compensate the losers. The losers are still waiting.

Of course, the Great Recession and the policies that created it have made this, like so many other things, much worse. The mortgage bankers marched into large sections of some of our cities and found them good subjects for their predatory and discriminatory lending. Once the bubble burst, those cities were abandoned by all but the debt collectors and foreclosure sheriffs. Rather than saving our communities, our politicians focused more on saving the bankers, their shareholders and their bondholders.

The situation may be grim, but all is not lost for Detroit and other cities facing similar problems. The question facing Detroit now is how to manage bankruptcy.

But here, too, we must be wary of the influence of the “wisdom” of wealthy interests. In recent years, our financial “wizards” at private banks — whose skill is supposed to be managing risk — sold Detroit some fancy financial products (derivatives) that have worsened its financial plight by hundreds of millions of dollars.

In a conventional bankruptcy, derivatives would get priority as creditors before current and retired municipal workers. Fortunately, the rules governing Chapter 9 of the bankruptcy code put greater emphasis on the public good. When a public body goes into bankruptcy, there is always some ambiguity about its assets and liabilities. Its obligations include an unwritten “social contract,” including social services for its residents. Its ability to increase revenues is limited: higher taxes can accelerate a death spiral, driving out more businesses and homeowners.

The banks, not surprisingly, would like other priorities. With nearly $300 million of outstanding derivatives at stake, they may connive to be first in line for repayment. The Chapter 9 proceeding provides the opportunity to place the banks where they ought to be — at the back of the queue. It was bad enough that these nontransparent financial instruments were used to confuse and deceive investors. It would add insult to injury to reward the banks’ behavior. The priority in the bankruptcy proceedings must be restoring Detroit to vitality as a city, not just getting it out of the red. The basic principle of Chapter 11 of our bankruptcy code (focusing on corporations) is that bankruptcy should provide a fresh start: doing so is vital to preserving jobs and our economy. But when cities go bankrupt, it’s even more important to preserve our communities.

Banks and bondholders will argue that pension payments for city workers are an undue burden, and should be limited or canceled to reduce the banks’ losses. But the high priority that workers are typically given in municipal bankruptcies is entirely justified. After all, they have performed their services on the understanding that they would be paid, and pensions are nothing but “deferred compensation.” Workers are not engaged in the complicated business of risk assessment, as investors are. And unlike investors, they can’t really diversify their portfolios to manage their risk. So it should be unconscionable to tell workers that, sorry, we aren’t paying you what we promised for work you’ve already done. Especially because their pensions, unlike those of corporate chieftains, are far from generous. Most of the retired city employees receiving checks get about $1,600 a month.

This means that much of the burden of bankruptcy will have to fall on those who lent Detroit money, and those who insured those lenders. This is as it should be. They got a return, reflecting their subjective estimate of the risk that they faced. Of course, they would like to get high returns, and somehow not bear the risk. But this is not the way markets work, or should work.

Ensuring that bankruptcy proceeds in a way that is good for Detroit will require vigilance, and is only the first step in recovery. In the longer term, we will need to change the way we run our metropolitan areas. We need to provide better public transportation, an education system that promotes a modicum of equality of opportunity, and a system of metropolitan “governance” that works not just for the 1 percent, nor even for the top 20 percent, but for all citizens.

And on the national level, we need policies — investment in education, training and infrastructure — that smooth America’s transition away from a dependency on manufacturing for jobs. If we don’t, post-Great Recession bankruptcies like those in Jefferson County, Ala., Vallejo, Calif., Central Falls., R.I., and now Detroit will become far too common.

Detroit’s bankruptcy is a reminder of how divided our society has become and how much has to be done to heal the wounds. And it provides an important warning to those living in today’s boomtowns: it could happen to you.

About MZR

I am a middle aged man trying to be the best person I can become, make a positive difference in our world, while trying to make sense of my life's journey.
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