Oct. 24 (Bloomberg) -- The receivership that looms over Harrisburg, Pennsylvania’s capital, may signal a new willingness for states to wrest control from local officials -- and voters - - to get a grip on financial crises.
This week, Republican Governor Tom Corbett may declare an emergency that would let an appointee oversee Harrisburg’s finances. In March, Michigan gave emergency managers unprecedented power to order tax elections and nullify union contracts. The state trained more than 250 people, many of them officials from towns that want to keep the state out. In January, New York took control of Nassau County after 11 years of monitoring its finances.
More state takeovers might occur as municipalities’ budgets crumble, said Robert Strauss, professor of economics and public policy at Carnegie Mellon University in Pittsburgh, Pennsylvania. Combined revenue for U.S. cities is expected to drop 2.3 percent by year’s end, the fifth-straight year of declines, according to the National League of Cities.
“Everybody’s in trouble,” said Strauss, 67, who was lead staff economist for the congressional Joint Committee on Taxation that worked on New York City’s financial rescue in the 1970s.
On Oct. 11, the Harrisburg City Council filed for bankruptcy after the city skipped payments on debt five times its general-fund budget. Last week, Corbett signed the bill that will let the state take control of city finances.
Crises will follow at a faster pace, Strauss said. For years municipalities have promised expensive pensions and retiree health care, he said. Now, falling property values have reduced revenue. Those conditions, along with “benign neglect from states,” have set up cities for fiscal ruin, Strauss said.
Moody’s Investors Service reported in February it had rated 26 local U.S. governments below investment grade. Of those, 18 fell into that category in 2009 and 2010.
Alan Gover, senior partner at White & Case LLP in New York, who said he’s advised 10 communities on avoiding bankruptcy, said states may step in to avoid municipal bankruptcies and show investors that they are responsible by seizing control.
“I think you’ll see more, but I don’t think you’ll see an explosion of it,” Gover said.
On Aug. 5, Vallejo, California, emerged from a three-year bankruptcy. It cut its police force by a third, a move that drew prostitutes, pimps and drug dealers.
A California law that takes effect in January makes it more difficult for municipalities to declare bankruptcy. A city must first submit to a financial review by a neutral evaluator, or demonstrate that its public welfare is jeopardized or that it will run out of money in 60 days.
Pennsylvania legislators said they support a takeover of Harrisburg -- a first for the state -- because of its inability to deal with its debt. The city council rejected two recovery plans. The new law gives it a last chance: After an emergency declaration, the city has 30 days to devise a program before a receiver is named.
The city of 49,500 took on debt because of an expansion of a waste-to-energy incinerator. The facility doesn’t generate enough revenue to cover $310 million in bond obligations, restructure debt and repay Dauphin County and insurer Assured Guaranty Municipal Corp., which made payments the city skipped.
Pony Up, Pennsylvania
A federal judge next month will decide the validity of the council’s bankruptcy filing. Council members Eugenia Smith and Wanda Williams said at a news conference Oct. 21 that bankruptcy might give the city its best deal.
“I don’t want the state to take over,” said Smith. “But I think the state can do more.”
Ross Bowman, a 35-year-old homeowner, said in an interview that he wanted the state to stay out.
“They’re looking out for the interests of Wall Street and of bondholders over the interests of residents,” Bowman said, smoking a cigarette outside before an eye appointment.
If the council won’t act, Corbett must, said Angel Garcia, 28, who was getting a fauxhawk haircut at Gifted Hands Barbershop.
“It’s about time,” said Garcia. “I can’t believe the capital of Pennsylvania is going bankrupt.”
Acting at Last
New York watched Nassau County, whose 1.3 million residents have the state’s highest median household income, for years before acting. The state created the Nassau County Interim Finance Authority in 2000 after the county’s credit rating was downgraded to one level above non-investment grade following years of reliance on one-time revenue, said Judy Jacobs, a Democratic county legislator.
The authority was empowered to help restructure the county’s debt and monitor its finances, according to its website, and it seized control in January after determining Nassau’s deficit exceeded 1 percent of the budget.
County Executive Ed Mangano and the Republican-led county legislature continue to manage operations, although the authority can block some actions. The agency will remain in control until it finds the budget balances.
Michigan, where statewide property values fell 21 percent between 2007 and 2011, has years of experience supervising cities under a previous law permitting emergency managers.
Now, the state is armed with a stronger law, Public Act 4, signed in March by Republican Governor Rick Snyder.
The Detroit Public Schools were placed under an emergency manager in January 2009 by then-Governor Jennifer Granholm, a Democrat. A new manager, Roy Roberts, was appointed in May by Snyder. Roberts in July used the tougher new law to impose a 10 percent wage cut and made employees pay 20 percent of the cost of health care, for a combined savings of $81.8 million.
Benton Harbor, Michigan, was placed under emergency manager Joe Harris in April 2010. Harris said he faced a $3.5 million operating deficit in the city of 10,000. The city owed $2.1 million to the IRS, vendors and other municipalities.
Harris said he reduced the workforce from 103 to 75 -- that saved $1 million a year. He was unable to take other necessary steps, he said.
Thanks to the new law, he combined the police and fire departments, saving $1 million a year. He also bargained for other city employees to pay 20 percent of their health care and more of their pay toward their pensions.
“There’s no way I would have done that if I had not had Public Act 4 behind me,” Harris said.
Punishing the Poor?
In Pontiac, emergency manager Michael Stampfler used the law to abolish the police department, saving the city $2 million a year. The Oakland County Sheriff’s Department now patrols the city.
The state last month and this month ordered financial reviews of Flint and Inkster because of deficits. The outcome could be a recovery plan or an emergency manager, according to the law.
A group of 28 Michigan residents is challenging the law in court, said John Philo, legal director for the Sugar Law Center for Economic and Social Justice in Detroit, which is handling the lawsuit. The law strips the poorest residents of the power to manage their own affairs, Philo said.
“We’ve yet to see an emergency manager appointed to a wealthier community,” he said.
--With assistance from Romy Varghese in Philadelphia and Esme E. Deprez in New York. Editors: Stephen Merelman, Stacie Servetah
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