In a federal courthouse in Detroit on Wednesday morning, Judge Steven Rhodes began hearing arguments about the city’s eligibility for bankruptcy protections. The eligibility trial is expected to last into early next week and feature up to 16 witnesses in total. Rhodes’ decision based on that testimony and other evidence will go a long way toward determining the fate of the roughly 20,000 retirees and 10,000 current employees of the city, as well as a herd of investors with legal claims on the city’s finances.
The Detroit News is maintaining a liveblog of the minutiae of the proceedings in Rhodes’ courtroom, but the big picture is that this is the final chance for the city to avoid bankruptcy. Here is what you need to know about the eligibility trial:
I thought Detroit already went bankrupt. How can the city still avoid it? This trial is the last chance for opponents of the bankruptcy to derail it. Detroit filed for bankruptcy protections over the summer, but the legal protections from creditors are granted by a court. Bankruptcy law requires that a judge verify that the entity that is declaring bankruptcy is in fact deserving of the protections that the law provides. Other challenges, such as the argument that Michigan’s Constitution protects retiree pensions from cuts, pertain to what options the city will have for restructuring its debts once it enters bankruptcy. The eligibility hearing is the final opportunity to cancel the bankruptcy outright.
What determines whether or not Detroit is eligible for bankruptcy protections? Bankruptcy eligibility depends on four separate questions, two of which are formalities and two of which are points of contention in Detroit. A city “must be specifically authorized to be a debtor by state law or by a governmental officer,” an authorization which Gov. Rick Snyder (R) granted over the summer. The city must also “desire to effect a plan to adjust its debts.” Those two conditions aren’t controversial.
The other two conditions are the focus of the trial that began Wednesday. Detroit must prove that it is insolvent, which opponents of the bankruptcy may dispute. The city must also prove that it at least made a good-faith attempt to negotiate a non-bankruptcy resolution of their claims on the city funds. Opponents of the bankruptcy will argue that it didn’t meet this requirement based on emails they have obtained.
How will anyone argue Detroit isn’t insolvent? Isn’t the city $18.5 billion in the red? The argument that Detroit is ineligible because it is not in fact insolvent appears to be the weakest one that bankruptcy opponents have, but it isn’t entirely crazy. The $18.5 billion figure for debts that can’t be paid came from Orr, the unelected emergency manager, and it has some problems. The key question here is Orr’s claim that city pensions are $3.5 billion short of the funding they need to pay out retiree benefits. Prior to Orr’s takeover of the city, the pension shortfall was believed to be much smaller — $650 million — and the pension funds were understood to be funded at roughly the national average level. The numbers that suggest the funds are in crisis come from “very rough preliminary guesstimates” by an accounting firm Orr hired, and municipal finance experts are skeptical of the figures. Still, even if Judge Rhodes were to weigh in on the math questions here, the bulk of the city’s debts are not disputed, so the solvency argument is more of a fallback.
How will opponents argue that Detroit didn’t negotiate in good faith before declaring bankruptcy? Emails obtained through Freedom of Information Act requests by a labor activist indicate that the emergency manager and the governor had a plan in place to move into bankruptcy as quickly as possible before Orr was even appointed by Snyder to take charge of Detroit’s finances. If Orr and Snyder planned the bankruptcy back in the winter, the argument goes, their negotiations with unions and investors throughout the spring were a charade designed to satisfy the legal requirement of negotiations without ever actually entertaining the possibility of a negotiated solution. In the emails, one of Orr’s colleagues defines bankruptcy as the only avenue to “any meaningful resolution to Detroit’s problems.” An aide to Snyder at one point recommends that Orr start talking instead to another staffer “who is not FOIAble,” suggesting an intent to evade further disclosures of the plan Snyder and Orr cooked up prior to Orr’s emergency manager appointment.
What is at stake if Detroit is deemed eligible for bankruptcy? If the city succeeds in proving it is eligible for bankruptcy protections, it will win the freedom to write down its debts in a financial restructuring plan. Bankruptcy would let Detroit pay people less than it promised to in various contracts struck over decades. As ThinkProgress previously explained, that is a complicated group of people. The city’s creditors include about 30,000 workers and retirees whose pensions are relatively modest by national standards. City officials have warned that pension cuts are a certainty if the city’s bankruptcy proceeds. The other large group of creditors are investors who loaned the city money for various projects over the years. That group includes hedge funds that have started buying up Detroit debts for pennies on the dollar in hopes of influencing a potential bankruptcy deal. In essence, if Rhodes determines Detroit is eligible for bankruptcy, retirees will square off with professional investors in a fight over the city’s inability to pay what it owes.