Huffpost Business
The Blog

Featuring fresh takes and real-time analysis from HuffPost's signature lineup of contributors

Terry Savage Headshot

Detroit and the Tooth Fairy

Posted: Updated:

The pension war has been a long time coming. Now, in the midst of Detroit's bankruptcy trial over whether the city can legally file, the real issue will be whether the bankruptcy trustee can cut the pension benefits of retirees as part of the process that requires assets of the bankrupt city to be fairly apportioned between creditors.

Nearly five years ago, in a Chicago Sun-Times column on January 26, 2009, I raised this issue, saying:

Pension wars are coming to Chicago. In the near future, they will pit the taxpayers against the city workers who provide services ranging from police and fire protection, to snow removal and public school education. It won't be a pretty fight.

The column generated a spate of emails telling me that a city "couldn't" default on its pension promises, that they were "guaranteed." The anger of the responses suggested that there would be little negotiating on an appropriate way to balance the promises of the pensions with the cost to the taxpayer.

And even as I write, the Chicago municipal pension fund deficits are being juggled by Mayor Rahm Emanuel, who has promised not to raise property taxes or the already steep 9.25 percent sales tax (second highest municipal sales tax in the country) paid on purchases in the city -- all while facing an additional $600 million contribution to pensions, out of the city's nearly $7 billion budget. Proposed hikes in cigarette taxes and parking fines simply can't fill the gap!

And, no matter where you live -- small town or large -- it's likely that your city will be facing similar problems in the years ahead. Unless you had a fiscally tough city manager, it was simply far too easy to compensate public employees with pension promises, while avoiding the required pension contributions. Just ask your city where it stands on the simple issue of assets vs. liabilities, including pension promises.

Detroit's Pensions

Meanwhile, the city of Detroit is in court right now -- litigating the issue whether the city's emergency manager can actually declare bankruptcy, and thus cut pensions. The issue is a huge one: Of the city's $18 million in long term liabilities, roughly $10 million is owed to pensions and other employee benefits.

There is some precedent for municipal pension cuts in two smaller city bankruptcies. Central Falls, Rhode Island (just north of Providence) filed for municipal bankruptcy in 2011 -- and subsequently reduced municipal pensions, in steps, by 45 percent, and eliminated medical coverage. Before that, Pritchard, Alabama filed for municipal bankruptcy in 2009, resulting in retirees receiving only about one-third of their promised pensions.

Needless to say, Detroit's 20,000 municipal retirees, and nearly 10,000 current workers have been vocal in their resentment. But since there is no Federal protection for state pensions, they may find themselves standing in line with other creditors. (The Pension Benefit Guarantee Corp, which provides at least some level coverage for corporate pensions of bankrupt companies, does not cover government workers.) So at any moment, the court is likely to decide that the bankruptcy will go forward, and that despite the promises made in the past, the pensions are part of the bankruptcy estate -- and fair game to be reduced.

Other Standoffs

The deficits in municipal pensions pale in comparison to the underfunding of state pension funds. And there is no precedent, or chapter in the bankruptcy code, for a state to declare bankruptcy. Plus, most states' pensions are guaranteed by the state constitution. All of this leads to the potential for far greater conflicts between state tax-payers and pension beneficiaries.

Postponing the confrontation only makes the problem larger, as all recognize. Are they waiting for the tooth fairy? Only the federal government can get away with making unfunded promises forever -- because they can simply print the money!

We tell young children to close their eyes so the "boogie man" can't get them. But closing your eyes to this oncoming disaster won't make it go away. If you can stand knowing the truth about your state's financial condition, visit here, where they have posted the financial state of each state.

Some are doing well. The top five "sunshine" states include Alaska, Wyoming, North Dakota, Utah and Nebraska -- each with an accounting surplus for each of its citizens. At the bottom is Connecticut, followed closely by Illinois, Hawaii, New Jersey and Kentucky. Most of these states "liabilities" comes from unfunded pension liabilities and retiree medical promises.

That's why everyone who has their eyes open is keeping a close watch on what happens in Detroit. If precedent is set there for one of America's (formerly) largest cities to default on its pension promises, then it will likely drive other cities and states into more serious negotiation about both funding and re-adjusting their pension plans.

That's the one good thing you can say about what's going on in Detroit: It will hopefully motivate the politicians, employees and unions everywhere else to face reality and not believe the Tooth Fairy will somehow deposit the cash under their pillows. And that's The Savage Truth.