Last month, the U.S. Bankruptcy Court in Detroit approved $178 million in legal and consulting fees as the city exited bankruptcy protection.
It is the most expensive municipal restructuring in our nation’s history and the money paid to lawyers and consultants alone is more than it cost to run the entire Seattle City Fire Department last year. To put its total debt in perspective, the amount Detroit owes its creditors is equivalent to the entire Washington state budget for this year. Once America’s fifth largest city, Detroit has seen its population drop by 60 percent. Unemployment stands at 16 percent and 36 percent of its residents live in poverty.
Detroit’s property tax rates are the nation’s highest, exceeding 4 percent of market value for some buildings. This has caused potential investors to shy away from purchasing any of the city’s large stock of abandoned homes, because they get assessed at far above their actual worth, leaving owners with inflated property taxes.
The city currently owes $3.5 billion to its pension funds. Currently about 21,000 retired city employees and their widows receive around $1,600 per month. The problem is, every day there are fewer workers contributing to the fund to cover payouts. Present-day Detroit is a testament to what happens when you have a bad business climate. The phrase “business climate” means little to the average person, but elected officials know full well that without a good business climate – low taxes, reasonable regulatory costs, freedom to innovate – jobs and vital tax revenues go away.
Actually, what happened in Detroit isn’t that different from many families who run up their credit card bills. Rather than cut up their credit card and pay their debts, they just keep spending up to their limit. Ultimately, they end up in bankruptcy.
To support its unsustainable spending, Detroit increased taxes on the city’s businesses and residents. Detroit has one of America’s heaviest tax burdens and offered notoriously bad services in return. For example, police response time average almost an hour and 40 percent of the city’s streetlights don’t work. As a result, businesses – and the jobs they provided – fled to cities with safer neighborhoods, lower taxes and better services.
Columnist Thomas Sowell nicknamed this downward economic spiral the “Detroit Pattern” – “increasing taxes, harassing businesses, and pandering to unions.”
In some ways, Seattle was like Detroit at one time. Detroit relied entirely on the American automakers while Seattle relied on Boeing. Many long-time Puget Sound residents recall that 1972 billboard as Boeing struggled: “Last One out of Seattle, Turn out the Lights!”
But Seattle learned from its mistakes and diversified its economy. While Boeing remains a key employer, the Puget Sound region is now home to major software, health care, retail and service industries and is a place tourists like to visit.
Detroit could do the same, but first it must shed its punitive tax policies and make the city more attractive to employers and investors. New Geography writer Scott Beyer writes: “Detroit could also help its cause with a business climate that better encouraged entrepreneurship. For decades it has done the opposite. It has squelched small businesses, which are generally better at creating jobs, with a cobweb of protectionist regulations.”
The Detroit bankruptcy holds important lessons for our city, county and state leaders as they consider regulatory, pension and tax policy. First, as hard as it is, keep pension costs under control and fund them. Second, don’t over tax employers or impose repressive and costly regulations. Finally, foster a climate where entrepreneurs can create jobs and produce tax revenues.
Employers talk a lot about the importance of maintaining a good business climate. Detroit’s bankruptcy is a cautionary tale of what happens when elected officials won’t listen.