Global Agenda: Debt-roit

There is no doubt that Detroit is just the tip of a very large iceberg of municipal and state debt that can never be repaid.

By PINCHAS LANDAU
July 26, 2013 01:01
4 minute read.
Global Agenda: Debt-roit

global agenda 88. (photo credit: )

As anyone remotely interested in financial affairs surely knows by now, last Thursday was a black day for the US financial and governmental system. The city of Detroit became the largest municipal entity to declare bankruptcy in American history. Its $18.5 billion of debt far surpassed those of the previous large municipal busts, including the recent entrants from California (Stockton and San Bernardino last year) and those of local governments, notably Jefferson County, Alabama (in 2011) that had a mere $4.2b. in debt.

But last Thursday is not currently remembered as a black day, but rather as a(nother) red-letter day for the financial markets, because the main share indices of the US markets made a(nother) record high that day. An intelligent Martian, and even a rational human being, would be right to be nonplussed, not to say discombobulated, by the disconnect between the boom in New York and the bust in Detroit.

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There are two ways to explain this dissonance. One is to see it as a socio-economic phenomenon.

Detroit, probably more than anywhere else in the entire US, symbolizes the industrial might of 20th century America. That has all gone, with the big cars, the domestic heavy industry (steel, for example) and the huge swathe of jobs they represented.

The demise of Detroit is the fitting and inevitable climax to the prolonged decline of industrial America.

New York, on the other hand, has gone almost straight up since its own near-bankruptcy in the 1970s. It is to financial America what Detroit was to industrial America, and the seemingly endless string of all-time highs in the equity indices of Wall Street signals that financial America is alive and well, having recovered handsomely from its near-death experience in 2008.

The other explanation is seemingly financial, but actually goes far deeper. New York represents the deeply and deliberately distorted result of five years of hugely expansionary monetary policy. The vast sums that the Federal Reserve is pumping into the financial system are not flowing to Detroit, or “old economy” firms in general. Nor are they flowing much to “new economy” firms in Silicon Valley or elsewhere.

They are instead concentrated in the financial markets, where the big banks and the big hedge funds continue to play the markets intensively, because simply lending the money to households and firms is no longer good business – mainly because good borrowers don’t want to borrow and even the banks are wary of lending to bad ones. So the stock exchange keeps climbing, although the economy is barely growing and corporate revenues – the part of the financial report hardest to massage / distort / misrepresent – are generally stagnant.

Meanwhile, in Detroit, the accumulated mistakes and miscalculations of several decades have come home to roost. Nothing was less surprising than the bankruptcy announcement, because the data regarding Detroit – declining revenues from a shrinking population and a collapsed industrial base, versus the legacy of vote-getting promises for pensions and healthcare spending made by generations of politicians at city, state and national level – had been known all along.

Nor is there any doubt that Detroit is just the tip of a very large iceberg of municipal and state debt that can never be repaid, because the revenues to repay the interest and principal do not and will not exist. That’s why the media reaction to the announcement was to compile lists of cities, counties and states with very high debt levels and/or low income levels, to see who’s likely to be next. The lists are not pretty, because they contain so many names – often of large and formerly illustrious cities across the nation (but especially in the mid-West).

If there was any basis to the widely-held belief that the Fed is able to fix everything, and that so long as it and its peers across the developed world continue pumping money, then at the least nothing terrible will happen and maybe all will be well – if that was true, then Detroit would not have been allowed to go bust. An Administration headed by a mid-Westerner who has already tried to save the auto industry would have stepped in to bail it out. But then the precedent would be set, for Minneapolis, Philadelphia, eventually even Chicago, all of which suffer from milder – but still ultimately fatal – versions of the syndrome that destroyed Detroit’s finances.

Washington did not save Detroit. Meanwhile, long-term interest rates have been rising for the last year or more, despite the Fed policy of buying $85b. of medium- and long-term government bonds every month. In the ongoing struggle between Main Street, Detroit and Wall Street, New York – between bitter reality and seductive la-la-land – last week’s result seemed to be a tie. In fact, it was as stark a warning as anyone has any right to expect to receive.

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