Bob Deis made the city's case for cutting payments to bondholders through Bankruptcy in the Wall Street Journal last Friday. I agreed with him through the first 2/3 of the piece. Creditors do bear some responsibility for the City's fiscal woes, and the City has cut services to a dangerously low level. The city has a primary responsibility to provide basic services to its citizens today, especially in the midst of a rapid spike in crime.
But Mr. Deis starts to lose me, and I suspect most WSJ readers towards the end of the piece when he argues that they couldn't cut employee compensation or CalPers, because the city has been losing police officers and needs to stay competitive.
I am not convinced that the turnover in police is completely due to recent compensation cuts, other cities have made similar percentage reductions so I don't think the Stockton's relative compensation and benefits has diminshed significantly. I suspect it has more to do with bad morale from the nasty fighting between the city and the union over the past 3 years, the fact that the job has gotten tougher with a diminshed force and increasing crime, and the anticipation of more serious compensation/pension cuts being imposed through bankruptcy. Officers may correctly view more cuts as inevitable in the long-run despite the City's recent efforts to hold the compensation line in its short-term pendency budget and initial ask to creditors.
The city is hiring a lot of new officers right now, and my concern is that the city may still be making promises it can't keep to recruit them. This is an opportunity to remake the force with officers who understand what the city can truly afford to pay in the long-run and are committed to making a difference in the City and contributing to a turnaround. But this easy for an academic like me or a bond insurer executive in a corporate office to say when the reality is that Stockton has an emergency need to hire more police now (actually months ago), not in the future after new compensation and recruiting plans can be developed and implemented. I believe that quality police officers can be hired and trained for sustainable levels of compensation, but it will take longer to find and train them, and the transition will be inevitably messy. Unfortunately, the criminals aren't waiting. I am not sure of the solution to this very tough problem. The City may need some non-financial help providing services through the transition.
The other question is why isn't the City going after CalPers? I agree with Stockton's choice to target retiree healthcare benefits instead of pensions. I also think there is a case to further reduce compensation (which also reduces future pension liabilities) before going after CalPers. After all, bankruptcy is about restructuring debt and postponing payments to creditors - and the root problem with CalPers is that the contributions are too small for the promised benefits. A letter to the editor in the WSJ yesterday makes the point,
Mr. Deis says that pension benefits cannot be cut during bankruptcy because that would lead to an exodus of police officers and senior management. But perhaps the real reason that Stockton has chosen not to cut pensions is that, ironically, it cannot afford to. That's because cutting would trigger a takeover of pension obligations by the California Public Employees' Retirement System (Calpers) and, under California law, Stockton would be required to pay Calpers a lump sum to cover unfunded liabilities. The kicker is, those liabilities would get repriced at a 3.8% discount rate, instead of the 7.5% discount rate that Calpers normally uses for pricing liabilities. So Stockton, already struggling with what it perceives to be hundreds of millions of dollars of unfunded pension liabilities, would face a demand by Calpers for a much larger amount if it tries to cut pensions.
In other words, Stockton is trapped in Calpers's game of kick the can down the road. Stay in the game, and it gets to use Calpers's rosy investment assumptions to underfund its pension obligations, passing the true cost to future generations. Quit the game, and it's stuck paying the true cost now.
Michael J. Sabin