Civic Federation – Federal Reserve Bank of Chicago Conference Explores Chicago's Fiscal Future

April 21, 2017

The Civic Federation co-hosted a conference with the Federal Reserve Bank of Chicago on April 19, 2017 entitled, “Chicago’s Fiscal Future: Growth or Insolvency?” Experts, practitioners and academics from around the country gathered to discuss the best and worst case scenarios for Chicago’s economic future. Attendees to the sold out conference included government, civic and business leaders.

Opening Remarks

William Testa, Vice President of the Federal Reserve Bank of Chicago, opened up the conference by presenting an alternative method of assessing whether a city is currently insolvent or might become so in the future. He proposed that looking at real property in a city provides both an indicator of the resources available to its governments and how property owners view the prospects of the city. He said that in addition to traditional financial indicators, property value can be used as a powerful—but not perfect—indicator to reflect a city’s current situation and its prospect for insolvency in the future.

Arguments in favor of the property value indicator include that there is much evidence in the literature that fiscal liabilities of a locality are capitalized into the value of property there. That is, if a city has high liabilities, those are reflected in an adjustment down in the value of real estate there. Dr. Testa examined the indicator using the examples of Chicago, Milwaukee and Detroit. Milwaukee was included because it has some financial challenges, but has only very low pension and other liabilities. Detroit’s property market collapse coincided with its political and economic crises. Between 2006 and 2009-2010 the selling price of single family homes in Detroit fell by four-fold. During those years and up to the present, the majority of transactions have taken place in cash, instead of via normal mortgages, indicating that the property market is severely distressed. In contrast, there is a lot of property value in Chicago, with values in residential and commercial properties rebounding after the real estate market crash. In Milwaukee, there is less property value, but higher bond ratings because of the government’s reputation for fiscal conservatism and very low unfunded pension liabilities. On a per capita basis, Chicago’s real estate value compares favorably to other big cities, behind Los Angeles and New York City, but ahead of Houston and Phoenix. Dr. Testa concluded that comparisons between Chicago and Detroit are overblown and the property value indicator shows that property owners in Chicago see value despite the city’s fiscal instability. Therefore, adding the property value indicator could provide additional context to otherwise misleading rankings and ratings that underestimate Chicago’s economic strength.

Session I: Lessons Learned from Recent Municipal Bankruptcies

The first session was moderated by municipal bankruptcy expert, Civic Federation Board member and Managing Director of Chapman Strategic Advisors James Spiotto. The panel discussed the impact of a municipal bankruptcy proceeding on a government’s provision of services, as well as the strategies states have implemented to help local governments in fiscal distress. Mr. Spiotto provided attendees with a primer on municipal bankruptcy under Chapter 9 of the federal bankruptcy code and in particular its differences from Chapter 11 corporate bankruptcy.

Mr. Spiotto emphasized that municipal bankruptcy is expensive, uncertain and very rare. It is also restrictive in that only debt can be adjusted in the process because the bankruptcy courts do not have the jurisdiction to alter services. Fewer than half of states allow their local governments to file bankruptcy and there is no involuntary process whereby a municipality can be pushed into bankruptcy by its creditors, unlike under Chapter 11 bankruptcy. Chapter 9 bankruptcy is solely voluntary on the part of the government. Mr. Spiotto noted that the large governments that have gone into Chapter 9 bankruptcy all have their own stories, but they generally involve service level insolvency, revenue insolvency or economic insolvency. If a jurisdiction does not have these extraordinary problems, bankruptcy is probably not the right choice. However, if a municipality does choose bankruptcy it is prudent to develop a comprehensive long-term recovery plan in concert with the bankruptcy process.

Professor Eric Scorsone, Senior Deputy State Treasurer in the Michigan Department of Treasury, reviewed the City of Detroit’s bankruptcy, focusing on the city’s recovery. He said that the bankruptcy was only one part of a longer process that had involved the controversial emergency manager program that allowed the State of Michigan to take over city government. When it was taken over by an emergency manager and then later filed bankruptcy, Detroit was arguably insolvent by all of the measures Mr. Spiotto had described. It took the bankruptcy process and mediation to bring all of the city’s communities together to develop the grand bargain that allowed the city to finalize a credible plan to exit bankruptcy. The bargain required the philanthropic community, the State of Michigan and the City of Detroit to put up funding to offset significant proposed public pension cuts. Because of strong financial leadership and a flexible and comprehensive long-term plan, Prof. Scorsone said the City of Detroit’s finances have significantly improved and the city is on track to have its oversight board, the Financial Review Commission (FRC) go dormant in 2018. He said that Detroit’s economic recovery since bankruptcy has been extraordinary and much better than could have been imagined five years ago. It has a budget surplus, basic services are being provided again and people and businesses are returning to Detroit.

Harrison J. Goldin, the founder of Goldin Associates, focused his remarks on the near-bankruptcy of New York City in the 1970s, which he said is a unique case, but with good lessons for other cities. Mr. Goldin was Chief Financial Officer of New York City as it went through its financial turmoil and vividly described the city’s disarray in managing and tracking its finances and expenditures prior to his arrival as CFO. The financial crisis forced the city to live within its means and become more transparent in its budgeting, but also forced difficult cuts to services and had significant social consequences. New York had to close municipal hospitals, reduce pensions and close firehouses, but also increased fees such as requiring tuition at the previously free City University of New York system and raising bus and subway fares. The upside was a stable financial environment that allowed New York’s economy to grow. He said the lesson of all of the municipal bankruptcies and near-bankruptcies he has consulted on is that a coalition of public officials, unions and civic leaders must come together to implement the four steps necessary for financial recovery: “first, documenting definitively the magnitude of the problem; second, developing a credible multi-year remediation plan; third, formulating credible independent mechanisms for monitoring compliance; and finally, establishing service priorities around which consensus can coalesce.”

Mary Murphy, Manager of State and Local Fiscal Health at the Pew Charitable Trusts, provided a broad overview of the role of states in preventing and managing local government fiscal distress. She emphasized the great diversity among states in whether they monitor local fiscal conditions, whether they offer technical assistance to distressed communities, responses to fiscal emergency and even how to define distress. States also vary in their legal requirements to access bankruptcy, with only 12 allowing unconditional access and 12 allowing conditional access. She noted that states often try to keep specific municipalities out of bankruptcy in order to avoid credit effects on other local governments. However, it has been established by the courts that states cannot interfere with a municipality’s filing for bankruptcy. Finally, she emphasized that the market response to state financial monitoring systems has generally been positive, with Moody’s in 2013 saying such programs are beneficial for ratings.

Session II: City of the Big Brains? Chicago’s Future Economic Growth

The second session, moderated by former Crain’s Chicago Business Publisher David Snyder, featured commentary about Chicago’s thriving financial and tech sectors and what makes a city attractive to a corporation looking to relocate. Mr. Snyder provided context for the discussion by looking at how the makeup of the corporate community in Chicago has changed since the 1980s, when Chicago’s economy was driven by large public corporations. Now, the era of the large corporation is over and services, healthcare and logistics firms lead the way, with private or family-held middle-market businesses driving growth in the Chicago region and an entrepreneurial culture experiencing a renaissance.

John Lothian, Executive Chairman, John J. Lothian & Co., gave an overview of the extraordinary changes, technological and otherwise, that have fundamentally altered how the financial sector in Chicago operates over the last 30 years. The number of brokers has consolidated significantly, as well as exchanges. Getting a job in the industry now more often requires a degree in science, technology, engineering or mathematics (STEM), which has closed off jobs from young people who used to join the sector as runners, gaining experience and contacts. There is also now more competition from other markets around the world, as others adopted Chicago-style trading. He advocated for the financial community in Chicago to commit to create partnerships to get young people interested in STEM and gain familiarity with the financial sector and the careers it has to offer.

Dr. Caralynn Nowinski Collens, Chief Executive Officer of UI Labs, a tech accelerator for digital manufacturing, gave attendees an introduction to the burgeoning tech sector in Chicago. She said that 15 years ago there wasn’t much of a tech scene or funding and support, so students graduating from Illinois schools with technology degrees had to leave to pursue their careers. Now, there are over 100 incubators and accelerators and 300 corporate R&D centers in the city and there are 275 digital startups every year. Tech is the fastest growing sector in Chicago and Chicago has the third fastest growing tech sector in the nation. She said that Chicago’s economic diversity and legacy of industry make it an excellent place for the technology industry to flourish as old industries are made more technically sophisticated. Dr. Collens noted that there are many challenges that could derail Chicago’s aspiration to become the digital industrial center of the world, from getting young people interested to concerns about the displacement of jobs by automation. But there are a multitude of areas where Chicago could be a leader in technological innovation and therefore in economic growth.

Jerry Szatan, founder of site selection consulting firm Szatan & Associates, explained why risk and higher taxes don’t always scare companies away from moving to a city like Chicago. The answer boils down to one thing: talent. All corporate headquarters need highly skilled, educated and creative professionals, sometimes in several occupational groups. There are only so many places in the United States where such a wide talent pool exists and Chicago is one of them. He said the diversity of the residents of Chicago is also very important for corporations, particularly those with an international workforce they want to feel welcome. Connectivity is crucial, with O’Hare being a huge asset as well as a dense downtown area that facilitates interactions between coworkers and peers in other industries. On the other hand, corporations are risk averse, so uncertainty can be a negative and image is important. In reality a corporation sees all of these characteristics as trade-offs. Chicago’s fiscal instability and the possibility of higher taxes are a trade-off, just as choosing a high-cost city like New York is a choice that a company might make, given its needs.

Keynote Panel: The Future of Corporate Investment in Chicago

Chicago Tribune Business Columnist Robert Reed led a discussion of Chicago’s attraction as a location for corporate headquarters and corporate investment. Jennifer Rodriguez, Director of Real Estate at Motorola Solutions, described her company’s reasoning for moving its headquarters from Schaumburg in the suburbs to downtown Chicago. She emphasized that the company hopes to attract the young, well-educated workforce that prefers to live in Chicago. Additionally, the company hopes through the inviting design of its headquarters and ease of access through public transportation, to entice its employees to come into the office more often to interact and exchange ideas and creativity.

Civic Federation Chairman Kent Swanson, Executive Vice President of Riverside Investment and Development, shared his views on the advantages Chicago has in attracting both domestic and foreign investment. First, Chicago has the infrastructure assets, educated workforce and international appeal of a global city, but not the price of a New York or a San Francisco. Office space costs are much more competitive, and therefore attractive to startups and smaller businesses. Additionally, he sees the recent movement of headquarters to Chicago as a microcosm of what is happening across the world as people move from smaller cities to the large cities of the core and the way people work changes dramatically.

David Reifman, Commissioner of the Department of Planning and Development for the City of Chicago said that the City of Chicago, despite the financial challenges of the State of Illinois, has worked to improve its pension funding and financial practices. He also underscored the amenities that Chicago offers to corporations, particularly amenities in near proximity to downtown, such as an expanded O’Hare, new transit stations and enhanced service on the Chicago Transit Authority and programs that leverage high-density investments in the downtown area to generate funding for underdeveloped areas. A discussion with attendees followed, with all of the speakers concluding that they had optimistic views of Chicago’s future, despite its current fiscal challenges.