Turmoil in San Diego's City Hall


By Christopher Palmeri Despite the cool ocean breezes, the political climate in San Diego just keeps getting hotter. On Apr. 25, Mayor Richard Murphy resigned his office, effective July 15. He had won reelection last year, following a narrow and hotly contested three-way race. In recent weeks, Murphy had gotten in a public spat with City Attorney Michael J. Aguirre and was named by Time magazine as one of the nation's three worst mayors. "It is clear the city needs a fresh start," Murphy said in a short statement.

The unlikely source of Murphy's woes: San Diego's municipal pension fund, which is about $1.4 billion short of the money it needs to pay city retirees over time. Murphy's office had acknowledged that the Securities & Exchange Commission, the FBI, and the U.S. Attorney's office were investigating allegations of securities fraud and public corruption in connection with the fund. Some civic agitators have even called for America's seventh-largest city to declare bankruptcy to help it get out of its financial bind.

STRETCHING PAYMENTS. How did a wealthy city of 1.3 million people get in such a mess? The problem's roots trace back to 1996. During the term of Murphy's predecessor, Susan Golding, the city council voted a big hike in retirement benefits for municipal workers. Rather than increase the city's contributions to the plan, however, the council opted to stretch the contributions out over time. Four years later, as the stock market began to fall and fund assets declined, the city once again looked to limit its contributions.

To do that, the council had to win the permission of a pension-fund board composed largely of labor representatives. The council got permission -- after agreeing to additional benefit hikes. "What we're witnessing is the growing power of labor unions in city affairs," says Steven Erie, a professor of political science at the University of California, San Diego. "They're becoming big players. It's a very serious financial problem."

According to reports produced by Aguirre, the combined cost of the two benefit hikes increased city employee retirement pay by as much as 66%. As of the last fiscal year, the San Diego City Employee Retirement System had $4 billion in liabilities vs. $2.6 billion in assets, a funding ratio of just 65% -- well below a national average of 91%.

REVAMPED BOARD. Murphy had taken steps to fix the problem. Last November, voters supported his proposal to reconstitute the pension-fund board. Seven of the 13 board members are now independent, with no ties to city employees. In its previous incarnation, just four were independent.

To close the gap in funding, Murphy had hoped to sell hundreds of millions in pension obligation bonds, backed by the city. And he was getting tougher in labor negotiations -- looking to freeze salary and benefit increases, hike employee pension contributions, and reduce benefits for new hires.

The prospect of bankruptcy is remote. Nearby Orange County, Calif., which declared itself insolvent in 1994, remains the most prominent example of such an event. Although other cities, most notably Bridgeport, Conn., and Pittsburgh, have threatened such action.

"It's mainly a way to throw gasoline on the fire and get everyone to deal with the problems," says Carl Jacobs, a director of municipal-bond ratings at Standard & Poors, which suspended its San Diego rating last year, pending completion of an outside audit of the city's finances.

Murphy's permanent successor will be chosen in a November election. In the meantime, he's expected to be replaced by Deputy Mayor Michael Zucchet, who's slated to stand trial on May 3 on charges he and another city councilman accepted bribes from a strip-club owner to relax adult-entertainment laws. Like we said, the political situation in San Diego keeps getting hotter. Palmeri is a senior correspondent in BusinessWeek's Los Angeles bureau


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