Analysis: Stuck in reverse, Detroit edges closer to bankruptcy

At the Detroit Auto Show earlier this month, luxury was in the air. Pricey new Bentleys and Maseratis glittered - including a Maserati 2014 Quattroporte with a $132,000 price tag; U.S. Cabinet Secretaries and dignitaries rubbed shoulders; and many of the well-heeled attendees ponied up for a $300-a-ticket black-tie charity ball.

But in a city that is slowly dying, the glitz didn't extend much beyond the Cobo Center exhibition hall.

General Motors Co and Chrysler , which along with Ford Motor Co gave the Motor City its identity, survived near-death experiences after filing for bankruptcy during the financial crisis. Now, Detroit itself is edging closer to a similar precipice, only unlike the automakers, its chances of getting a federal bailout are almost nonexistent.

The story of Detroit's decline is decades old: Its tax revenue and population have shrunk and labor costs have remained out of whack. But the city's budget problems have deepened to such an extent that it could run out of cash in a matter of weeks or months and ultimately be forced into what would be the largest-ever Chapter 9 municipal bankruptcy filing in the United States.

Frustrated by the lack of concrete progress, Michigan Governor Rick Snyder, a Republican, last month appointed a team to scour the city's books. The audit could result in a state takeover of Detroit's finances through the appointment of an emergency financial manager. Such a manager, who would seize control of the city's checkbook, could then propose federal bankruptcy court as the best option.

Snyder, who has called the situation "a crisis in terms of financial affairs," said the team would deliver its report in February.

"Detroit is teetering on the verge of bankruptcy after the City Council has failed to make the necessary cuts to deal with having a smaller population," said Rick Jones, chairman of the Republican majority caucus in the state Senate.

Jones, who has indicated he does not favor a bankruptcy, said he would like to see an emergency manager installed to fix the city's problems. If that failed, there would be a case for finding a way to shrink the Detroit municipal area, he argued.

Detroit's population is now just over 700,000 - down 30 percent since 1990 - but the city still has to provide services to an area encompassing more land than San Francisco, Boston and the borough of Manhattan.

While Democratic Mayor Dave Bing and the Detroit City Council have moved to reduce spending and initiate some reforms to stave off a takeover, including layoffs and wage and benefit cuts, the progress may not be enough for Michigan officials and lawmakers.

STREETS WITHOUT LIGHTS

In the booming post-Second World War era, Detroit was America's fifth-largest city. Today, it ranks 18th. In addition to a sharp population decline, it suffers from high unemployment related to a loss of businesses, a flood of home foreclosures and a cut in state funding. That has led to shriveling revenue, leaving the city unable to afford a workforce of more than 10,000 and the surging health and pension costs that go with them and with its retirees. As a result, credit ratings on Detroit's approximately $8.2 billion of outstanding debt have sunk deeper into junk territory.

The city's labor costs, including health care and pensions, are shrinking in absolute terms but rising as a share of the budget. They are slated to drop to $968 million, or nearly 49.5 percent of the operating budget, in the fiscal year ending June 30 versus $1.14 billion, or 45.5 percent, a year earlier.

Signs of decline are everywhere - in a rising crime rate, streets without lights and block after block of abandoned buildings. The murder rate of one per 1,719 people last year was more than 11 times the rate in New York City. The jobless rate is above 18 percent, more than twice rate for the country as a whole.

COLLISION COURSE

A bankruptcy would be messy.

The interests of creditors would likely collide with those of labor unions wanting to protect workers' benefits, said Eric Scorsone, a Michigan State University economist who has written papers on municipal bankruptcy and on the state's emergency manager laws.

"It is going to require the players - the City Council, the mayor, the state - to be on the same page. If you go into bankruptcy with a lot of conflict and dissent, it's going to cost more," said Scorsone.

It could also be racially explosive. Detroit has the largest percentage of black people of any U.S. city, with 83 percent of the population identifying themselves as African American, black or Negro, according to the 2010 U.S. census. Most of Michigan's state government, including the governor's office, is run by white Republicans.

Detroit Council Member JoAnn Watson, who along with two other members of the city's all-black City Council has been resisting reform measures, said she is still hopeful of a federal bailout or an injection of state money that she claims the city is owed.

Mayor Bing would not comment for this story.

CONSEQUENCES, WHAT CONSEQUENCES?

The automakers have little to say publicly about the crisis. Most of their operations in Michigan are now outside Detroit, and getting any top executive to even discuss the possibility of a city bankruptcy was almost impossible at the auto show. "I don't want to get into the politics," said GM CEO Dan Akerson, while Chrysler CEO Sergio Marchionne said: "I don't see what the consequences would be for us."

One of the city's biggest challenges is its complex set of labor agreements with a whopping 48 bargaining units that represent most of the city's workforce.

Max Newman, a bankruptcy attorney at Michigan-based Butzel Long, said a Chapter 9 bankruptcy could help the city throw out its collective bargaining agreements with unions.

Costs would have to be tackled since Detroit cannot just jack up taxes to reduce the cumulative budget deficit, which grew to $326.6 million in fiscal 2012 from $196.6 million in fiscal 2011. The state would likely resist tax increases, and they might only make matters worse anyway. "If taxes go up any further it would exacerbate the flight out of the city," Newman said.

But for some of those who have seen Detroit struggle for years, bankruptcy is starting to look like the least awful option - even though it will be painful.

"I think...off and on, that it wouldn't be a bad idea," said former Ford chief financial officer Allan Gilmour, now the president of Detroit's Wayne State University. "Let's clean this out once and for all."

(Reporting by Nick Carey and Bernie Woodall in Detroit and Karen Pierog in Chicago; Additional reporting by Deepa Seetharaman and Paul Lienert in Detroit; Editing by Martin Howell and Ciro Scotti)