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Scranton could join national trend of bankrupt cities, despite officials’ opposition

By   /   July 17, 2012  /   No Comments

By Eric Boehm | PA Independent

HARRISBURG — No city in Pennsylvania has ever declared bankruptcy, but Gary Lewis says there’s a first time for everything.

Specifically, Lewis said he thinks the city of Scranton — where he was born, went to college and now lives — should look to bankruptcy as a way to get out from under about $300 million in debt. That includes $90 million in unfunded pension obligations, $150 million in debt held directly by the city or the Scranton Parking Authority, and a $15 million mandatory arbitration settlement due to the city’s firefighters’ union.

The Pennsylvania Paper & Supply Company tower is a landmark in downtown Scranton. The city is facing $300 million in debt.

The annual budget this year is about $86 million.

“The numbers just don’t make sense.  They’re not sustainable,” said Lewis, a freelance accountant with experience in managing failing banks.  He writes a blog on the city’s finances, appropriately titled “Scranton Is Broke.”

Lewis is advocating openly for the city to declare Chapter 9 bankruptcy. It’s is the only way for Scranton to sort out its financial problems, he says.

City officials have so far opposed the prospect of bankruptcy, but that hasn’t kept Scranton off the front pages.

Two weeks ago, Scranton Mayor Chris Doherty made headlines with the decision to cut all city workers’ pay — including his own — to the minimum wage of $7.25 per hour to make payroll. The lawsuit from the unions representing city employees was upheld in court and requires the city to pay the full amount, $15 million. 

The cash crunch is the tangible consequence of a debt problem growing behind the scenes in Scranton — and many other American cities — for years.

Just how bad is the debt situation in Scranton?  For some context, consider the case of Stockton, Calif., which declared bankruptcy last month, becoming the largest municipality in the nation to do so.

Stockton, a city of about 300,000 in central California, was about $700 million in debt. Scranton is facing $300 million in debt, but with its population of about 76,000, per capita debt in Scranton is nearly twice that of Stockton.

Entering bankruptcy would allow the city to suspend payments immediately on debt service and health-care costs, and allow the restructuring of collective-bargaining agreements that drive salary and pension costs for city workers.  Together, those changes could save $23 million, according to Lewis’ estimates, which are based on the changes made in Stockton after that city declared bankruptcy.

Opponents of the bankruptcy option are concerned about its effect on the city’s ability to borrow money and the ripple effect, which could force higher interest rates on other Pennsylvania cities, many of which also are dealing with fiscal difficulties.

Economic decisions and political decisions

The story of Scranton’s financial mess is not much different from many other U.S. cities.  The lonely road to municipal bankruptcy has become considerably more crowded in recent years, with about 30 municipalities entering Chapter 9 bankruptcy since 2009.

Like Scranton, most cities find themselves in financial trouble because of poor economic decisions — such as parking or sewer authorities that fail to generate enough revenue to cover costs — combined with poor political decisions, such as unsustainable pension promises to public employees the city cannot cover, said Steven Frates, director of research at the Davenport Institute at Pepperdine University School of Public Policy in Malibu, Calif.

“What we’re seeing now, more and more, is that cities are looking to go to bankruptcy because of the pension debt,” Frates said.

Scranton’s pension costs are self-inflicted, a result of one of the state’s more generous plans. Nonuniformed employees in Scranton can collect pensions equal to 3 percent of their pay for every year of employment.

“They are never going to get their pension costs under control as long as they have that,” said James McAneny, executive director of the Public Employee Retirement Commission, a Pennsylvania state agency that oversees and analyzes state and local pension funds.

Overall, Scranton’s pension plans are funded at only 42 percent and listed as “severely distressed” by the state, but the nonuniformed plan is funded at an even lower level — 28 percent.

Making matters worse, the city’s own actuarial adviser has gone on the record, telling the board handling the pension funds it is not contributing enough to keep the system solvent.

The city is planning to contribute about $4.2 million toward its pension plans this year, but in May the adviser told them at least $10 million is needed to keep the funds sound, according to the Scranton Times-Tribune.

State requirements are not helping the situation. Under Pennsylvania law, which was partially changed only a few weeks ago, cities were required to pay arbitration awards in full, even when they are in fiscal distress.

The state Legislature now has taken steps to limit the payment of arbitration awards by cities in financial distress, but the changes signed into law by Gov. Tom Corbett this month aren’t retroactive and will not help Scranton.

A second state law is preventing the city from even considering pension reforms because all Pennsylvania cities — though not other kinds of municipalities — are required to use defined benefit pension plans instead of 401(k)-style plans, which could save on costs for future workers.

At the current rate of payments and contributions, Lewis estimates the city’s pension funds will be completely out of cash in four years.

McAneny said he believes declaring bankruptcy could have dire consequences for the pensions of Scranton public workers.

Bankruptcy would be settled by federal courts, and the U.S. Constitution does not have the same protections for collective-bargaining agreements written into the Pennsylvania Constitution.

“Can a bankruptcy court alter benefits for existing employees? My reading of the law says they probably could,” McAneny said.

Any way out?

The combination of structural pension costs, poorly managed debt and reduced ability to raise taxes or borrow — the City Council has blocked Doherty’s plan to raise taxes by 78 percent over three years, and banks are refusing to deal with the city to provide the money needed for even basic services and payroll — explains why observers keep throwing bankruptcy around as one of the only available options.

Richard Vilello, mayor of Lock Haven and president of the Pennsylvania League of Cities & Municipalities, a nonpartisan nonprofit that advocates for local governments, said Scranton should be allowed to enter bankruptcy, despite concerns that such action would cause banks to raise interest rates on other cities in the state and drive many of them further toward economic insolvency.

“Corporations are given that tool, so I don’t know why municipalities shouldn’t” be allowed to declare bankruptcy, he said.

City officials, including Mayor Doherty and City Council President Janet Evans, have opposed bankruptcy publicly. State officials also see it as a last resort.

“In general, bankruptcy should be an absolute last resort after all other options have been exhausted,” said Steve Kratz, spokesman for the state Department of Community and Economic Development, which operates Act 47, Pennsylvania’s program for financially distressed municipalities.

Scranton has been under Act 47 for more than 20 years and is one of about 20 municipalities in the program. As part of the program, municipal officials must submit to the state a recovery plan outlining their plan to dig out of the financial mess.

The problem is Doherty and the City Council couldn’t agree to a plan this year. In December, the City Council blocked a state-approved tax increase by Doherty.

Last week, the state dangled a carrot in the form of $2.25 million in additional aid if city leaders agreed to a recovery plan by Aug. 1 and passed it into law by Aug. 15.

Whether that plan will come to fruition — and whether it will solve the city’s woes — is yet to be determined.

But Mark Funkhouser, director of the Governing Institute, a municipal policy think tank operated by Governing Magazine, said Scranton’s future doesn’t have to be bleak. Plenty of examples exist showing how towns and cities have dug their way out of financial trouble, even without bankruptcy, he said.

Leaders have to put forth a long-term plan based in reality and have to let the residents feel like they have a stake in the city’s future, Funkhouser advised.

“It’s a process that involves active citizen engagement,” he said. “It’s about saying, ‘All of us got into this mess, and it’s going to take all of us to get out.’”

Taxes alone can’t fill the hole

Lewis remains skeptical that a solution can be found. He estimates the city’s budget deficit will exceed 20 percent next year, and doubts the City Council and mayor can reach an agreement.

A little money from the state is not going to solve the bigger problems, he said.

Doubling taxes in the city would bring in just $14 million against an expected budget hole of $20 million next year, and the mayor’s plan to raise taxes 78 percent to help fund the city’s ongoing operations would equate to a $250 tax increase for Scranton’s median household income, which is about $36,000.

“I honestly don’t know how they think they are going to tax their way out of this,” Lewis said. “It’s not about revenues. It’s a spending problem.”

Scranton is Pennsylvania’s sixth largest city, but it has only half as many residents as it did in 1930, when the population peaked.

The city’s website proudly declares Scranton to be “Pennsylvania’s Progressive City,” but that title soon could be replaced with the less-impressive moniker of “Pennsylvania’s bankrupt city.”