Detroit's bankruptcy filing today is obvious grabbing some headlines. It's not clear, however, how much bankruptcy can do to fix Detroit. Bankruptcy is really good at dealing with problems created by overleverage. If there's too much debt, a debtor, municipal, corporate or consumer, can use bankruptcy to slough it off. Similarly, if the problem is some bad contracts outstanding, bankruptcy's got that covered too.
But bankruptcy can't fix everything. If a business doesn't have a viable operating model, well, bankruptcy doesn't solve that. At best, it buys a business some breathing room to fix its operating model. But not every business can be fixed. Slide rules, whale oil, and ice delivery just aren't winning business models these days. Same goes for a consumer. Bankruptcy can take care of the debt, but it can't get the consumer a job.
This principle also applies to municipalities. It isn't clear at this point whether Detroit would be able to operate in the black going foward even if it were delevered and lowered its labor costs. Put another way, it isn't clear at this point that there is an effective reorganization possible. The city is straddled with a much larger footprint than its tax base can easily support, and to the extent it increases the costs of the services it provides or decreases service provision, it risks losing the more affluent and therefore more mobile part of its tax base. Basically, Detroit needs to have its population consolidated in about a quarter of the city's square mileage. I don't know how that can be accomplished. It's one thing to consolidate operating divisions of a company to effectuate cost savings from reduced overhead. But that move just doesn't work with municipalities.
Similarly, Detroit does not seem to have been well managed, even in spite of its problems. The emergency manager represents a turnaround team at the very top of the city, but the management problems appear to go much, much deeper. I don't know how bankruptcy can fix this problem either.
So what does this mean for Detroit? My guess is that we see both bondholders and labor making (or being forced to make) concessions during the bankruptcy. But don't expect to see a revitalized city coming out of Chapter 9. Instead, Detroit will continue to be a deeply troubled city, irrespective of what happens in bankruptcy. I hope I'm proven wrong, but I just don't see how bankruptcy will fix Detroit. In the meanwhile, we can all sing along: Detroit, Detroit, it's a helluva town...the attorneys are up, but the bondholders down...