The financial crisis in Harrisburg, Pennsylvania.

Author:Beckett-Camarata, Jane
Position:Report
 
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  1. INTRODUCTION

    Harrisburg, the capital of Pennsylvania, is not a large city by national standards; however it is currently the ninth most populous city in the state. In 1950, the population of Harrisburg was close to 90,000 people, but according to the latest 2011 census estimates, Harrisburg's population now stands at 49,673. While Harrisburg historically was known for the 1979 Three Mile Island accident which occurred on its border, near Middletown, Harrisburg, in recent years has unfortunately, become better known for its much publicized fiscal troubles, it's extremely high debt level (approximately $1.5 billion at the end of 2012) and its "money burning" incinerator. According to an official from the State Department of Community and Economic Development, the City ended 2012 with a $13 million budget deficit, $9 million of that being accrued from missed general obligation bond debt payments (Veronikis, 2013).

    This article explores the factors that can lead to municipal bankruptcy in general and provides an objective and comprehensive analysis of the Harrisburg bankruptcy filing in 2011. First, we provide a review of the literature on municipal bankruptcy and seek to fill a large void in the knowledge of municipal bankruptcy within the field of public finance. Second, we present a framework for understanding the unique nature and outcome of the crisis in Harrisburg by delving into the underlying structural causes of the problem. Finally, we focus on the larger lessons to be learned from the mistakes made by city officials and offer policy recommendations for state and local governments to avoid future fiscal calamities of this magnitude.

    This research uses quantitative data collection and analysis in support of research into the factors that explain Harrisburg's bankruptcy filing. Based on a case study research design using comprehensive annual financial reports (CAFRs), Pennsylvania's Financially Distressed Municipalities Act (ACT 47) and other financial data, we conclude that there was no single cause or decision completely responsible for the Harrisburg crisis. Rather, several causes and conditions collectively enabled and complicated the situation in Harrisburg including (1) Great Recession, (2) incinerator project, (3) Pennsylvania state policies regarding municipal oversight and bankruptcy filing, (4) declining population and tax revenues, (5) fiscal mismanagement, and (6) political expedience. It is our hope that the Harrisburg experience will serve as a warning to avert similar financial crises in other local governments.

  2. BANKRUPTCY: AN HISTORICAL PERSPECTIVE

    The Great Recession, which officially lasted from December 2007 to June 2009, had a severe impact on state and local government finances. Not only did tax revenues fall precipitously during the crisis but increased unemployment also increased demand for public services (Jonas, 2012). Long term fiscal outlooks for both state and local governments has also been adversely impacted due to the widening gap between promised pension and health care benefits and the availability of funds to make good on these promises (Jonas, 2012).

    Following the last fiscal crisis of this magnitude, the Great Depression in 1937, Congress enacted a revised Federal Municipal Bankruptcy Act that permits municipalities but not states to file for Chapter 9 bankruptcy as a way to reorganize their finances (Brekke, 2010). The Federal Municipal Bankruptcy Act, Chapter 9, defines a municipality to include city, town, village, county, special taxing districts, municipal utility, and authority. Chapter 9 municipal bankruptcies historically have been the result of either economic problems such as experienced by Vallejo, California, or financial chicanery and malfeasance by elected and/or appointed officials, as was the case in Jefferson County, Alabama. They have also generally involved utility districts (water, sewer) or special districts. Chapter 9 bankruptcies are not designed to forgive debt. Rather, their intent is to aid a municipality through reorganization--for example, by renegotiating contractual obligations and seeking more favorable financing--while the municipality continues to operate. A municipality cannot be forced to file, but if it chooses to file, it must meet five federal statutory requirements prior to a filing:

  3. It must qualify as a municipality

  4. State law must include authority to file for bankruptcy

  5. Meet an insolvency test based on cash flow

  6. Demonstrate a desire to put a plan into action

  7. Negotiate with creditors

    It is worth noting that the final authority to grant or deny a municipality the ability to file for bankruptcy, and the degree to which the bankruptcy filing process is regulated resides with the state. Today, there are 26 states that prohibit municipal bankruptcy and of the 24 that do allow it, 13 require only formal notification to the state before the filing. While municipal bankruptcies are considered a rare event, over the last twenty-five years there have been thirty-six municipal bankruptcies involving towns or cities (Holian & Joffe, 2013). A list of towns/cities filing for bankruptcy in the last twenty-five years follows.

  8. REVIEW OF THE MUNICIPAL BANKRUPTCY LITERATURE

    Municipalities who consider Chapter 9 bankruptcy usually are experiencing a fiscal crisis. While most of the literature use fiscal stress and fiscal crisis interchangeably, it is important to distinguish between the two terms. Honadle (2003) defines fiscal stress as a situation in which there is a "relatively large amount of stress or pressure on the local tax base" (p. 1433) and argues that fiscal stress is a precursor to fiscal crisis. Fiscal stress is also defined quite simply as the inability of a government to balance its budget (Dougherty, Klase & Song, 2009).

    A fiscal crisis on the other hand, exists if "a municipality is not able to pay its creditors, continue to meet other credit obligations and has lost or is severely limited in its ability to raise revenue" (Honadle, 2003, p. 1433). Many local governments are currently in fiscal crisis because of health care costs and unfunded pension costs, and are "one step away from insolvency" (Fitzgerald, 2006, p. 1). In addition, many municipalities that have experienced unanticipated natural disasters are close to bankruptcy (Mysak, 2005; Municipal Bankruptcy in Perspective, 2006; Deal, 2007).

    Municipal bankruptcies are an indication of underlying financial problems and weak state policies regarding oversight of local government finances by states (Deal, 2007). There are several known factors that could potentially contribute to a local government or municipality's decision to consider a Chapter 9 bankruptcy filing. Municipal bankruptcies are caused by such factors as mismanaged investments, poor management oversight in financing an infrastructure project or unsustainable labor and pension contracts (Deal, 2007). Further, in recent years many local governments have increased their dependence on tax revenues to fund operating budgets even in the wake of declining property tax revenue due to recent declines in the housing market. As taxable property values have declined state governments are themselves cutting aid to their local governments in order to balance their own budgets.

    One of the key issues facing many local governments such as Harrisburg is the need to stabilize revenue and expenditures on an ongoing basis. In recent years, more local governments are having continuing difficulty balancing their revenues and expenditures and face the possibility of bankruptcy. The City of Harrisburg Pennsylvania filed for Chapter 9 bankruptcy because of the City's $2 million structural deficit in its 2010 operating budget and because the city's annual debt service is over $18 million per year on $220 million in bonds outstanding (Act 47 Recovery Plan, 2010). Chapter 9 is being more widely considered by local governments such as Harrisburg as a potential short-term survival solution to long-term fiscal structural imbalances (Kevane, 2011).

    In the bankruptcy case of Stockton, California, substantial borrowing, structural imbalances in revenues and spending, increasing costs to retiree benefits, reduced tax revenues associated with the Great Recession and past accounting practices which hid significant costs, including the cost of employee compensation and retiree costs, appear to be the driving factors. While in stark contrast, the bankruptcy filing of the High Sierra town of Mammoth Lakes appears to be driven by a single, discrete factor; a $43 million breach-of-contract judgment against the town which is nearly three times the size of its annual operating budget.

    In November 2011, Jefferson County Alabama filed the biggest municipal bankruptcy ever in the history of the United States up to that date, with debt balances exceeding 3.14 billion dollars (Denison & Gibson, 2013). The bankruptcy filing in Jefferson County was due to a combination of economic problems made worse by the Great Recession, corruption and malfeasance and lackluster administration. Twenty-six people have been indicted or pled guilty to a variety of charges stemming from bribery and corruption (Morris, 2011). More recently in July 2013, the city of Detroit, MI became the largest municipality in United States history both by population and outstanding debt (estimated to be within the range of $18-$20 billion) to file for Chapter 9 protection.

    Despite the increasing frequency of bankruptcy among local governments in recent years as shown in Table 1 below, the issue of municipal bankruptcies has not been a focal area of study for public finance scholars. Most of the existing literature has instead focused on fiscal stress and financial health. Studies examine the definition and causes of fiscal stress, forms of fiscal stress experienced, and the actions that governments can take to both alleviate and prevent fiscal stress (Martin, 1982...

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