Can Chicago and Illinois declare bankruptcy?

daleybank.jpg

Mayor Richard M. Daley discusses pension reform at a news conference Wednesday. (Alex Garcia, Chicago Tribune / December 7, 2010)

Himself, Mayor Richard M. Daley, was the one who brought up the unthinkable: Bankruptcy.

Financial ruin. Fiscal discipline of the unknown kind. Sacrifice. Pain. Disgrace. Creditors lined up, fighting over whatever scraps are left. Favored contractors left holding the bag. This, Daley was suggesting, is what the spreading government financial crises could come to.

Bankruptcy, he had first suggested, might be the easiest way to fix the city's starving pension funds. But the consequences apparently dawned on him and he quickly backed off. Just pointing out, he said, what could happen if we don't face reality.

Maybe, though, his first thought was right. Bankruptcy would be a reality if Chicago, the state and its subdivisions that are stiffing their creditors for billions were private businesses. More than likely, their creditors would already have forced them into bankruptcy, and they'd be reorganizing or liquidating their assets.

Federal and Illinois laws make possible bankruptcy for local governments. Chapter 9 of the Federal Bankruptcy Code was created during the Great Depression, when hundreds of cities and towns were going broke, to allow local units of government to fall under the protection of federal bankruptcy courts. In Illinois, the Local Government Financial Planning and Supervision Act sets out the details for local governments.

Under the law, local governments -- municipalities, school districts and so forth -- that declare a fiscal emergency would petition the governor to establish a special financial planning and supervision commission. Essentially, the local government would have to agree to enter into something like a receivership that would prescribe the necessary medicine. And a bitter pill it would be: setting a balanced budget by, among other things, requiring tax increases and deep spending cuts. Its powers seem broad enough that it might even be able to force the liquidation of city assets. More certain is the commission's power to halt any state payments that the local government, say Chicago, is entitled to receive. Ouch.

It also could recommend that the local government apply for protection under Chapter 9. That would mean that a federal judge and his trustee could run Chicago. Spend the next couple of hours contemplating that delicious prospect.

This being Illinois, much would depend on who runs the supervision commission. The governor would appoint eight members, including himself, the state comptroller, director of the governor's Office of Management and Budget, state treasurer, head of the Illinois Finance Authority and in Chicago's case, the "presiding officer" of the City Council (i.e., the mayor). The mayor would nominate three others; financial experts all and no recently elected politicians. In other words, a state agency would run Chicago. Ouch.

Politically impossible? Perhaps. But Daley has railed against a police and fire pension reform bill passed by the General Assembly that he insists could force the largest property tax increase in Chicago history -- $550 million. How is any new mayor to contend with that? Maybe by telling the state: "You created this problem; now you solve it."

Of course, the state is bedeviled by its own financial meltdown and, for all practical purposes, bankruptcy seems unlikely. Long story short: Is it constitutional for Congress (by passing a new bankruptcy chapter that applies to states) to infringe on state sovereignty, as set out in the 10th Amendment? Some people think it would be constitutional, as long as the states ask for federal bankruptcy protection. Then there is the Illinois Constitution: Can the legislature create the state's own Financial Planning and Supervision Commission, without unconstitutionally ceding its authority to an agency not provided for in the state constitution? Whatever the answer, surely protracted legal action would follow.

The other question is more practical: If states, especially Illinois, California and New York, sought bankruptcy protection in the federal court, would there be enough money, outside of our China pawnshop, to get it done right?

As for the federal government, bankruptcy isn't a problem; Washington just prints more money.

There is precedent for cities to go bankrupt -- a couple of hundred have since the Depression. In Illinois, the tiny Downstate town of Washington Park filed for bankruptcy protection last year -- for the second time since 2004.

Daley may have misspoken when he brought up bankruptcy. Or it revealed a moment of his real thinking. Either way, he could be prescient.

Comments

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  • I think you brought up the problem when you said that the laws provide for judicial supervision of the government entities and reorganization of debts.

    As I read Chapter 9, it refers to "adjustment of debts," not "discharge," as do the personal and corporate chapters. Most commenters on newspaper message boards assume that bankruptcy would wipe out the debts, especially the pension obligations. Given the "vested rights" provision in the Illinois Constitution, and the "impairment of contracts clause" in the U.S. Constitution, I doubt that.

    I think that you do have a grip on the 10th Amendment issue, and that, more than likely, a bankruptcy court would approve a plan (whether under existing Chapter 9 or otherwise) that would impose a tax hike.*
    ___________
    *By analogy, go back to what I said a couple of days ago about NY not allowing public employee strikes. The unions, however, have a right to arbitration, and NY courts have upheld arbitrators' awards, the courts saying, in effect, raise the taxes to cover them.

  • The scenario I envision....local municipalities invoke the bankruptcy "supervision" allowed...
    Michael Madigan continues to pull strings... in Illinois and Rham Emmanuel, the new Mayor of Chicago promises to deliver Obama's re-election...for the quid pro quo of a Federal Bailout for Chicago. The balance of power between the Mayor of Chicago and Madigan's IL legislature is restored.

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