On December 11, 2010 I wrote a blog post on Article 1, Section 10 of the U.S. Constitution entitled “Debtor in Possession… well at least Possessed.” In the wake of that posting, many professional investors and advisors (those who have a vested interest in picking the pockets of pensioners) suggested that my conclusions were overstated and the risk to bonds was not as great as I stated. The Honorable Rosemarie Aquilina, Judge for the Ingham County Circuit Court in Michigan sided with my precedent-setting blog post. Sorry Chrysler and Eminem – “Imported from Detroit” doesn’t get you free from the long arm of the law. And for those of you have been sleeping, when a Circuit Court judge finds it necessary to add, in her own handwriting on the court order, “A copy of this Order shall be delivered to President Obama. It is so Ordered.”, my warnings on the fixed income pension crisis are not black swans anymore – they’re a whole flock of buzzards getting ready for the carcasses.
Michigan Attorney General Bill Schuette immediately announced that he’s appealing Judge Aquilina’s ruling at the Michigan Court of Appeals. Governor Rick Snyder’s trying to limit the collateral damage from Detroit’s filing and Kevyn Orr, Detroit’s emergency manager is left looking like President Nixon at a Chinese table tennis match. At issue is the constitutional provision in Michigan barring a Chapter 9 bankruptcy that prohibits actions which “threatens to diminish or impair accrued pension benefits.”
Now, I’m not saying I told you so but I did thus inform you years ago! We’ve got a real problem on our hands and the Detroit filing – a reality that President Obama desperately tried to cover with a thin veneer in his acquisition of the Presidency – is neither isolated nor the most consequential. What makes this one somewhat ironic is that conservative pundits and many Republicans thought that unions put Obama into 1600 Pennsylvania Ave. Detroit will give us another interesting view of the President turning his back on that very population at the whim of his true benefactors: “The Powers That Be”. Detroit wasn’t spared in the auto bailout. The financial institutions exposed to distressed financing of the auto sector that had a lot to lose were paid off handsomely (and anonymously)!
So this record-setting $18 billion bankruptcy is fascinating on its face. In the actual filing Detroit states that:
It has over 100,000 creditors;
It has “More than $1 billion in assets”;
It has “More than $1 billion in liabilities”;
It has over 60,000 parcels of land and more than 7,000 vacant structures which pose “a threat of imminent and identifiable harm to the public health or safety”; and,
Detroit has been in a state, “of 60 years of decline for the City, a period in which reality was often ignored.”
It’s this last line that really jumps off the page. Call me Cassandra (think Trojan Horse) but the reference to “60 years” is particularly fascinating and vindicating. What was it in 1953 that put Detroit on the collision course with today? Ian Fleming introduced us to James Bond in Casino Royale, Watson and Crick unwound the helix, the CIA authorized the use of LSD to test human cognitive potential, Hugh Hefner published a nude photo of Marilyn Monroe in his first issue of Playboy. A more careful view of history may suggest that this reference hearkens back to the contentious polarization of relationships between management and unions which, under President Harry S. Truman, was punctuated with events like his veto of the Taft-Hartley Labor Management Relations Act of 1947. In his veto, he played the part of Cassandra to today’s Trojan Horse with his preamble, “I have no patience with stubborn insistence on private advantage to the detriment of the public interest.”
Private advantage insistence over public interest! Seldom could such a ringing indictment of our current fiscal state be more succinctly stated. And seldom have fewer paid attention to principles of fostering constructive understanding between management and labor evidenced in Truman’s veto. Ironically, however, one must consider what’s lurking behind the masquerade in Michigan. Does the court, the Attorney General or the Governor actually have the pensioners’ interest in mind or are they, once again, mere marionettes on the fiscal strings animated by benefactors who will profiteer from this bankruptcy? Tragically, when the City Manager seeks to put General Obligation Bonds (munis for those of you who are in the capital markets) on the same level as unsecured creditors and retirees, you realize that “safe assets” are getting far more volatile than sellers would want you to believe. PowerShares VRDO Tax-Free Weekly Portfolio (PVI) and PowerShares Insured National Municipal Bond Portfolio (PZA) reportedly have significant (over 3.5%) exposure to Michigan’s bond headaches according to S&P. And while retirees read the headlines wondering what this means for them, bond traders are placing bets against their future liquidity.
I’ve said this too many times but today begs recitation. Economies built on debt (uncorrelated, perpetual growth-dependent, leverage) must fail. Whether it’s the U.S. Treasury’s debt currency model that mandates perpetual GDP expansion or Detroit’s 60 year descent into insolvency, the jury is in and capricious debt speculation has once again failed. It took World War II to mask the first 30 year maturity default; Nixon’s gold default to mask the second; and, planes into the World Trade Center on 9-11 to mask the third sovereign default. Bottom line, we’ve never proven that debt works in the long run and the actions we take to cover our illiquidity events are dramatic and far-reaching to say the least. In last week’s post I warned of the looming specter of pension harm that is casting an ever-growing shadow across the G-20 economies. Detroit is merely the canary in the coal mine and, with any luck, some of you will wake up before the methane knocks you out.
“I got a question for you. What does this city know about luxury? What does a town that’s been to hell and back know about the finer things in life? You see, it’s the hottest fires that make the hardest steel, add hard work and conviction. When it comes to luxury, it’s as much about where it’s from as who it’s for. This is the Motor City. And this is what we do.” – Wieden & Kennedy / Eminem
It’s going to take more lawyers charging millions and more slogans than Wieden & Kennedy (that’s right, the same guys that Just Do Nike) can muster to paper the mess that Detroit’s in now. But none of that will fix the real problem. Until we align capital to measurable productivity (including contractions), we’ve got more promises to break. And We The People must wake up from the trance or there’s more wheels to fall off.