Should Detroit’s Bankruptcy Be an Early-Warning Sign for Washington?

In an interview last week about Detroit’s bankruptcy, I explained that the city got in trouble because of growing dependency and an ever-rising burden of government spending.

I also warned that the federal government faces the same challenge. Washington is in trouble mostly because of poorly designed entitlement programs rather than excessive compensation for a bloated bureaucracy, but the end result is the same. Or, to be more accurate, the end result will be the same in the absence of genuine entitlement reform.

As I said in the interview, fiscal crisis was “the most predictable crisis in the world for Detroit [and] it’s the most predictable crisis for America.”

The Washington Examiner has the same assessment. Here’s how they conclude a recent editorial.

More than anywhere else in America (with the possible exception of Chicago) Detroit has been a one-party union city. Democratic politicians backed by the United Auto Workers and public employees unions have ruled virtually as they pleased. Along the way, many of the politicians ended up in jail on corruption charges and the bureaucrats made out with sweetheart deals on pensions and health benefits. Those sweetheart deals now account for most of the $20 billion in debt that put the city into bankruptcy. There are too many disturbing parallels between Detroit and America. The national debt of $17 trillion gets a lot of attention, but the reality is the government’s actual debt, counting the unfunded liabilities of Social Security, Medicare and federal employee and retiree benefits, exceeds $86 trillion, according to former congressmen Chris Cox and Bill Archer. As they say, things that can’t go on forever, won’t.

I used to warn that America was on a path to becoming Greece, but maybe now I should use Detroit as an example.

Some of America’s best political cartoonists already are using this theme.

Here’s one from Glenn McCoy. Since I’m not overly optimist about either Illinois or California, I also think it’s just a matter of time before this happens.

Keep in mind, however, that there was plenty of wasteful spending in both Illinois and California under Republican governors, so this is a bipartisan problem.

Speaking of California, here’s a good cartoon by Lisa Benson.

Amazingly, some people think California’s no longer in trouble because a retroactive tax hike collected more tax revenue. Yeah, good luck with that.

Next we have a cartoon by Rob Rogers of the Pittsburgh Post-Gazette.

And last but not least, Eric Allie weighs in with a cartoon comparing Texas and Detroit.

On a serious note, it would be interesting to see how Detroit looks compared to cities in Texas, such as Dallas and Houston.

But let’s end with something that’s really hilarious, albeit by accident rather than on purpose.

A few people want to enable Detroit’s profligacy. Here are some excerpts from a story in The Hill about union bosses wanting a federal-state bailout of Detroit.

Union leaders are calling on Congress and President Obama to provide a federal bailout to the city of Detroit. The executive council of the AFL-CIO, the nation’s largest labor federation, called for an “immediate infusion of federal assistance for Detroit” to be matched by Michigan, which they say has not done enough to keep the city from going through bankruptcy. …“It appears that Governor [Rick] Snyder and [Emergency Financial Manager] Kevyn Orr are pushing Detroit into bankruptcy to gut the modest benefits received by Detroit’s retired public service employees,” the AFL-CIO’s statement reads.

I suppose I could make some snarky comments, but I’ll close with two vaguely sympathetic responses.

First, there’s no way a bailout of Detroit goes through the House of Representatives. Heck, I don’t even think it could make it through the Senate. So some folks on the left would be justified if they asked why the high rollers on Wall Street supposedly deserved a bailout a few years ago but they don’t get one today.

The answer, of course, is discrimination by color. But I’m not talking black vs white. The color that matters in politics is green. The financial industry dispenses huge campaign contributions to both sides of the aisle, and the bailout was their payoff. Public employee unions, by contrast, give almost every penny of their money to Democrats, so there’s no incentive for GOPers to do the wrong thing.

Second, I have no idea whether retired bureaucrats in Detroit get “modest benefits.” I’m skeptical for very obvious reasons, but the real problem is that the city screwed up by having too many people riding in the wagon without paying attention to whether there were enough people producing in the private sector to pull the wagon.

Is that the fault of the garbage men, clerks, secretaries, and other municipal employees? That’s a hard question to answer. They obviously weren’t calling the shots, but they were happy to go along for the ride.

At some point, they should have paid attention to the message in this Chuck Asay cartoon.

P.S. For readers in New Jersey (and also New York City), I’ll be speaking this Wednesday, July 31, at the Friedman Day luncheon sponsored by Americans for Prosperity.

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Atlas Shrugs in Detroit

About two weeks ago, while making an important point about the Laffer Curve, here’s what I wrote about the fiscal disaster in Detroit.

Detroit’s problems are the completely predictable result of excessive government. Just as statism explains the problems of Greece. And the problems of California. And the problems of Cyprus. And the problems of Illinois. …Simply stated, as the size and scope of the public sector increased, that created very destructive economic and political dynamics. More and more people got lured into the wagon of government dependency, which puts an ever-increasing burden on a shrinking pool of producers. Meanwhile, organized interest groups such as government bureaucrats used their political muscle to extract absurdly excessive compensation packages, putting an even larger burden of the dwindling supply of taxpayers.

And in this Fox News interview, I elaborate on these arguments and warned that federal government profligacy – if unchecked – will lead to similarly dismal results for the entire United States.

I want to augment on a couple of my points.

First, I explained that Detroit’s bankruptcy won’t have any major and long-lasting ripple effects – assuming politicians on the state or national level don’t encourage more bad policy with bailouts. If you’re a creditor, it’s not good news that the city owes you money, and it’s also not a cheerful time if you’re a retired bureaucrat hoping for years and years of pension payments and healthcare subsidies, but there’s no reason to expect that Detroit’s problems will impose significant damage on Michigan – particularly compared to the harm that would be caused if Detroit was allowed to continue with business as usual.

Similarly, the United States wouldn’t suffer major consequences if (probably when) California no longer can pay its bills. On the other hand, the European Union and the euro currency are being weakened by the mess in Greece, though that’s because they’ve been subsidizing bad fiscal policy with bailouts.

Second, I made the argument for entitlement reform, specifically the “pre-funding” version of Social Security reform that’s been adopted in nations as diverse as Australia and Chile.

Incidentally, this approach is even bolder than the Medicaid and Medicare reforms in the GOP budgets.

Third, I expressed some optimism that the United States has a chance to implement these much-needed reforms, in part because countries such as France and Japan will blow up before America.

And each time another nation, state, or city gets into trouble, it will strengthen our arguments to put the federal government on a long-overdue diet.

Big problems for America if politicians leave government on auto-pilot

Having a strong argument, though, is not the same as having an argument that will prevail. So even though America still has some breathing room, and even though the economic and moral case for spending restraint is very powerful, we’re in the unfortunate situation of having to rely on politicians in Washington.

So keep places such as Australia in mind just in case you need to escape when America’s fiscal chickens come home to roost.

In conclusion, I can’t resist drawing your attention to something I wrote back in 2011, when I showed the eerie similarity of Detroit’s collapse with the “blighted areas” in Ayn Rand’s classic novel, Atlas Shrugged.

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Illinois May Beat California to Bankruptcy

The New York Times has a story about the budget debacle in Illinois, which is a classic case of a state with too much government and too many overpaid bureaucrats. Other than being an example of what not to do, the most interesting aspect of what’s happening in Illinois is trying to guess whether it is in better or worse shape than California. According to the credit default swaps market, Illinois is in slightly worse shape. Both states rank below Iraq and above Romania:

Even by the standards of this deficit-ridden state, Illinois’s comptroller, Daniel W. Hynes, faces an ugly balance sheet. Precisely how ugly becomes clear when he beckons you into his office to examine his daily briefing memo. He picks the papers off his desk and points to a figure in red: $5.01 billion. “This is what the state owes right now to schools, rehabilitation centers, child care, the state university — and it’s getting worse every single day,” he says in his downtown office. …For the last few years, California stood more or less unchallenged as a symbol of the fiscal collapse of states during the recession. Now Illinois has shouldered to the fore, as its dysfunctional political class refuses to pay the state’s bills and refuses to take the painful steps — cuts and tax increases — to close a deficit of at least $12 billion, equal to nearly half the state’s budget. Then there is the spectacularly mismanaged pension system, which is at least 50 percent underfunded and, analysts warn, could push Illinois into insolvency if the economy fails to pick up. …signs of fiscal crackup are easy to see. Legislators left the capital this month without deciding how to pay 26 percent of the state budget. The governor proposes to borrow $3.5 billion to cover a year’s worth of pension payments, a step that would cost about $1 billion in interest. And every major rating agency has downgraded the state; Illinois now pays millions of dollars more to insure its debt than any other state in the nation. “Their pension is the most underfunded in the nation,” said Karen S. Krop, a senior director at Fitch Ratings. “They have not made significant cuts or raised revenues. There’s no state out there like this. They can’t grow their way out of this.”

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Maybe Greece Should Go Bankrupt

The fiscal crisis in Greece is fascinating political theater, in part because the Balkan nation is a leading indicator for what will probably happen in many other countries. The most puzzling feature of the crisis is the assumption in other European capitals, discussed in the BBC article below, that a Greek default is the worst possible result. It certainly would not be good news, especially for investors who thought it was safe to lend money to the government, but there are several reasons why the long-term pain resulting from a bailout would be even worse.

1. Bailing out Greece will reward over-spending politicians and make future fiscal crises more likely. In a four-year period between 2005 and 2009, Greek politicians expanded the burden of government spending from an already excessive level of 43.8 percent of GDP to an even more excessive level of 51.3 percent of GDP. Subsidies are rampant, the public sector is bloated, civil service pay is way too high, and entitlements are wildly unsustainable. A fiscal crisis – with no escape options – is probably the only hope of reversing these disastrous policies. So why, then, would it make sense for Germany and other nations to provide an escape option?

2. Bailing out Greece will reward greedy and short-sighted interest groups, particularly overpaid government workers. Greece is in trouble because the the people riding in society’s wagon assumed that there would always be enough chumps to pull the wagon. In reality, Greece is turning into a real-world version of Atlas Shrugged. Government has become such a burden that the job creators and wealth generators have given up and/or moved their money out of the country. Should taxpayers in other nations reward the greed and narcissism of Greece’s interest groups by being forced to pull the wagon instead?

3. Bailing out Greece will encourage profligacy in Spain, Italy, and other nations. The hot acronym in public finance circles is PIIGS, which is shorthand for Portugal, Ireland, Italy, Greece, and Spain. Greece is getting all the attention now, but these other countries have the same problems of excessive spending, bloated and dysfunctional public sectors, and unsustainable finances. What happens in Greece will send a very clear signal to the politicians in these nations, much as a parent who lets the oldest child run rampant is sending signals the younger siblings. Does anybody doubt that a bailout of Greece will discourage the other PIIGS from undertaking needed reforms?

4. Bailing out Greece is not necessary to save the euro. This is the most puzzling feature of this Greek tragedy (sorry, I couldn’t resist). There is a pervasive assumption that a default somehow would cripple the common currency of most European Union nations. But why would a default in Greece undermine the euro? If California went under, after all, that would not cripple the US dollar. There are unpleasant things that would probably happen following a Greek default, but the stability and strength of a currency is a function of central bank behavior. And so long as the European Central Bank does not crank up the proverbial printing press to monetize Greece’s debt, the euro should be fine.

In my darker moments, I have sometimes warned audiences of what will happen when a majority of voters in a country or a state become dependent on government. In such an environment, it obviously becomes much more difficult to put together an electoral coalition that will lead to fiscal changes that shrink the burden of government and curtail the predatory state. This is what has happened to Greece, and what is soon going to happen in other European nations (and, barring reform, what will eventually happen in the United States). The irony of this situation is that even the folks riding in the wagon should favor reform. After all, a parasite needs a healthy host.

For background info, here’s an excerpt from the BBC article:

Despite heavy rain, there have been rallies across Greece throughout the day, with thousands of striking workers and pensioners gathering in the capital, Athens. Several thousand people were also reported to have protested in Greece’s second city, Thessaloniki. The rallies have been mainly peaceful, but in one incident police fired tear gas at rubbish collectors who tried to drive through a police cordon. …The unions regard the austerity programme as a declaration of war against the working and middle classes, the BBC’s Malcolm Brabant reports from the capital. He says their resolve is strengthened by their belief that this crisis has been engineered by external forces, such as international speculators and European central bankers. “It’s a war against workers and we will answer with war, with constant struggles until this policy is overturned,” said Christos Katsiotis, a union member affiliated to the Communist Party, at the Athens rally. …On Tuesday, Prime Minister George Papandreou’s socialist government announced that it intends to raise the average retirement age from 61 to 63 by 2015 in a bid to save the cash-strapped pensions system. …Mr Papandreou has already faced down a three-week protest by farmers demanding higher government subsidies. …The markets remain sceptical that Greece will be able to pay its debts and many investors believe the country will have to be bailed out. The uncertainty has recently buffeted the euro and the problems have extended to Spain and Portugal, which are also struggling with their deficits. The possibility of Greece or one of the other stricken countries being unable to pay its debts – and either needing an EU bailout or having to abandon the euro – has been called the biggest threat yet to the single currency. Ahead of the talks between EU leaders in Brussels on Thursday, some business media reported that Germany is preparing to lead a possible bail-out, supported by France and other eurozone members.

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