At the most recent Urbanization Project brown bag, Robert Inman provided a general framework for considering how a city should move forward after a financial crisis:
Understand the past
Clean up past messes
Understand the city’s economic future
Manage the transition
Employ active fiscal decision-making
Inman then applied this framework to Detroit in order to understand how the city can move forward.
Detroit was poised for a crisis: a high percentage of poor and elderly residents, consistent 30% job loss from 2000-12, and weak policies such as unfunded pensions and rolled-over debt. The fiscal crisis that we see today has resulted in a 16% fall in property values since 2010.
So what should Detroit do? The choice between bailout or bankruptcy comes from weighing the economic and social costs of the bailout versus the cost of a bailout. If the total economic and social costs are greater than the cost of a bailout, then a bailout is preferred. If the economic and social costs are less than the bailout, a bankruptcy is preferred.
Detroit is moving forward with bankruptcy, however the proceedings have been complex and, in the words of Inman, the details are “a political choice along a fiscal frontier.” The latest revision of Detroit’s bankruptcy exit plan, filed by Emergency Manager Kevyn Orr on March 31, proposed additional cuts for retired city workers and bondholders, prompting hundreds to protest outside of a federal court on Tuesday.
Inman offered several suggestions for changes that, going forward, will help Detroit maintain fiscal stability. First, Detroit should concentrate on setting up the right institutions both in the short- and long-term. A fiscal control board (FCB) with politically independent members and credible enforcement for violations of a budget balance is one such short-run institution. A FCB would provide discipline for a balanced budget, credible budget information for the private markets, and board members would bring additional expertise into the city’s budgeting process.
In the long-run, Detroit needs to determine how it will decide which services to offer and how it will pay for those services. Inman suggests that city governments should provide residential services, including services for lower income households, and business services. He argues that the city should smooth out the poverty burden by increasing taxes on the wealthier, but that the additional tax revenue should be given to business in a tax cut. This improves job performance agglomeration and home values. In fact, in his study with Andrew Haughwout, “Should Suburbs Help Their Central City,” Inman shows that a 3% increase in the rate of poverty is correlated with a 25% fall in home values. Regarding taxes, Inman suggests two rules: tax it where it lives, not where it works; and resident taxes for resident services, and business taxes for business services.
Second, Detroit needs to employ the right incentives by focusing on getting the “fiscal culture” right and empowering those with stakes in the game. For Detroit he recommends focusing on involving residential homeowners through Neighborhood Improvement Districts and business property owners through Business Improvement Districts. These recommendations will capture and incentivize Detroit residents who own property.
Yet there’s a piece missing - 48% of Detroit residents are renters. Without a long-term stake in the game, renters will favor debt over taxation. How can Detroit incentivize renters? Inman’s innovative suggestion: selling equity in rental homes and tying that equity to the city’s fiscal performance.
A new Detroit will need to have the right institutions and the right incentives. We’ll be watching closely.
You can find the full presentation here.
Tile image credit: Kate Sumbler.
Professor of Finance and Economics, Wharton School of the University of Pennsylvania
Robert P. Inman is the Richard King Mellon Professor of Finance and Economics at the Wharton School of the University of Pennsylvania. He received his undergraduate and graduate training in economics at Harvard University. In addition to teaching at the Wharton School, he currently serves as a Research Associate of the National Bureau of Economic Research, Cambridge, MA. His research focuses on the design and impact of fiscal policies with an emphasis on fiscal federalism.