CHICAGO - On his way to the office in Hamtramck, Mich., Louis H. Schimmel Jr. drives past the private contractors hired to upgrade sidewalks to Americans with Disabilities Act standards. As he does, he realizes that he has to remind city Department of Public Works superintendent Steve Shaya about the limited resources --$4 million in federal funds -- that the city has to fund the project.
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Shaya's been one of Schimmel's right-hand men since Schimmel came to Hamtramck in 2000 as a state-imposed financial manager and laid off or transferred all but nine DPW employees and hired new department heads.
"I sold the whole DPW, every piece of equipment we had in the town. It's all gone. All we have are some mops and brooms," Schimmel said during a summer interview as he talked about his role as financial manager here.
Schimmel came to this aging inner suburb of Detroit to fix a financial wreck -- a $2.5 million deficit and $7.5 million of bond debt in a city budget of about $16 million. Schimmel is one of three city managers under the Local Government Fiscal Responsibility Act in Michigan who manage cities the state says can't manage on their own. The success, or failure, of Schimmel and his peers -- Ramona Henderson Pearson in Highland Park and Ed Kurtz in Flint -- will be a test of one of the few laws in the country that specifies how the state will respond to local municipalities in fiscal distress.
"I think this is one of the most challenging public policy issues right now," says Michigan Treasurer Doug Roberts. "We're learning as we go along."
States use their first line of defense, budget reserves, and then they start cutting back locally, said Richard Ciccarone, managing director and chief research officer with McDonnell Investment. "Fiscal year 2004 will probably be a tough year for municipal finance because the rate of growth in revenues will be relatively slow, if not negative," he said. "I expect a lot of fiscal challenges for cities across the country, even healthy ones."
A city's problems paying its debts can be the clearest sign for states that a municipality needs help. States like Michigan, which carries triple-A ratings from Moody's Investors Service and Standard & Poor's and AA-plus from Fitch Ratings, have an interest in keeping local governments healthy. The state's willingness or need to step in varies with the obligation they have under state law, which range from an informal response based on the situation to the legal or legislative response that lays out specific steps.
Like states such as North Carolina, Michigan has taken a direct hands-on approach to handling local municipal debt problems, remembering the Depression, when defaults soared without state oversight. Now the state is testing the limits of a law that then-Senator and now outgoing Gov. John Engler introduced in 1986 as a way to flag those municipalities in trouble. Twelve years after Act 72, or the Fiscal Responsibility Act, was updated to include schools, Schimmel, Pearson, and Kurtz are traveling the uncharted territory of this law and demonstrating its merits and shortcomings.
A FISCAL STREET FIGHTER
Schimmel needs three things to balance Hamtramck's fiscal 2004 budget next year: the $1.3 million the city expects from a remediation settlement for a brownfield site, remaining proceeds from a $2.3 million bond sale, and $900,000 from selling the DPW building. The building sale has fallen through twice.
Without those one-time revenue sources, he said in a telephone interview last week, the city will face about $1 million in cuts from a $17 million budget. After he arrived in Hamtramck, Schimmel hired private contractors for snow plowing, street repairs, water and sewer line repairs, while offering unionized employees buyouts. He's cut raises, frozen hiring, and suspended pay for the City Council and Mayor Gary Zych.
In 1999, the city signed a consent agreement with the state to fix its deficit, but then failed to stick to a reduced spending plan, submit audit reports on time, or hire a full-time controller. These failures triggered Act 72, which sets 14 triggers as criteria for financial review, and the state began the process of determining whether to send in a financial manager. The city's efforts to stop the fiscal bleeding ended as the state's Emergency Loan Board chose Schimmel for the job.
Schimmel became the first financial manager appointed in the 10 years since Act 72 was passed. There are now three others, including one appointed for a school district. The state gives broad powers to these managers, limiting only their ability to break collective bargaining contracts or raise taxes without a vote of the people. The communities have reacted to this latitude with everything from physical threats to lawsuits to guarded relief.
Kathy Kristy, a first-term City Council member in Hamtramck, drives a car with this bumper sticker: "Keep our Hamtramck police back on the job." Her fight to rehire police officers was one of many open battles she has waged with Schimmel. Early on, Kristy went straight to Fred Headen, the deputy director of the Bureau of Local Government Services in the state's Department of Treasury, to complain about Schimmel signing no-bid contracts.
" Headen said he doesn't have a problem with what Mr. Schimmel's doing," Kristy said in an interview after a town meeting in Hamtramck this summer. "Whatever Mr. Schimmel wants to do, he can do."
When budget negotiations came in June and Schimmel introduced his 2002 budget, Kristy came prepared with an analysis of union and non-union wages and raises. She wanted to re-hire some employees and look into a contract for garbage collection for which she wanted $35,000. Schimmel dismissed her proposed additions, calling them absurd, Kristy recalled.
City Council members also fought the $80,000 salary Schimmel decided to pay his controller, Bill Barnett, with whom he had worked in the city of Ecorse. They argued that paying Schimmel $100,000 was sufficient. However, Schimmel countered that the salary was the only way he could find the quality help.
"I was really disappointed," Kristy said. "I thought we were going to be discussing all of the budget issues. I wanted this to be a back-and-forth."
Kristy recalls when she watched the council meeting rebroadcast on cable television. She noticed that City Council members jokingly referred to Schimmel as "God". Schimmel had replaced Zych as the person who people thought had all the power, she said.
Schimmel believes that's what Act 72 intended.
"A financial manager has one advantage if appointed from the outside, and that is they are not running for re-election," said Roberts, the state treasurer.
Schimmel has a financial background, but he also knows how government operates, having worked for 38 years as the head of the Municipal Advisory Council of Michigan, the nonprofit agency that advises government on bond-related issues in Michigan.
"I've always been a tough financial person in the private side. I've always been somewhat conservative," Schimmel said. "Most people will look at a problem like Hamtramck's and say, we have to raise more money. I look at a problem like this and say, we have to cut expenses."
But cutting expenses means opposition. There were the threatening phone calls to his home. Then, the magazine subscriptions came, uninvited. All kinds, some unsavory, showed up at his house. The bills followed.
Still, Schimmel loves the job and he'll tell you it's the best job he's ever had.
"This is a matter of learning how to deal with people and unions and town hall meetings," Schimmel said. "You have to be a good street fighter."
A PUBLIC POLICY QUESTION
Managers under Act 72 carry the backing of the state but have minimal supervision. Once the review team makes its recommendations to the state, the governor determines whether a fiscal emergency exists. If so, the Emergency Financial Loan Board recommends a manager.
The idea of a financial manager or control board is not new. In 1920, New Hampshire appointed the earliest known financial control board for Manchester, according to a 1997 Harvard Law Review article, "Missed Opportunity: Urban Fiscal Crises and Financial Control Boards."
"It's one of those cyclical issues," said Carol Weissert, a professor at Michigan State University and the director of the Institute of Public Policy and Social Research. "It was really big in the 1970s."
Beth Walter Honadle, director of the Center for Policy Analysis & Public Service at Bowling Green State University, surveyed states to find out how each defines fiscal crises for municipalities and how each responds. A paper with her results was accepted for publication by the International Journal of Public Administration.
She found that states respond most often with "ad hoc" legislation after the crisis hits, or with an oversight board or manager. The former response often comes too late, while the latter lacks an effective exit strategy, she said. Only 10 states have laws that set out a formal response to intervene in failing municipalities.
"Compared to all the other tools by states to deal with local crises, financial takeovers are less common," Honadle said. States more often offer technical assistance, advise, or advance money. In one extreme case, the state jailed local elected leaders to force them to increase taxes. "A lot of states went out of their way to tell me they did not do bailouts."
The definition of fiscal emergency varies from the inability of municipalities to make debt payments to "something close to bankruptcy." Generally, rating agencies say, the state's stepping in can only improve a municipality's health.
"That's certainly a very positive factor in local government ratings," said Claire Cohen, a Fitch Ratings analyst. "There's something being done to solve the problem."
Whether the state's credit rating would be affected with or without a formal process to help local municipalities can depend on what laws states have that obligate them to help out, and on the number of entities that have fallen on hard times.
"There's usually a story where a place falls that hard and that quickly," said Nicole Johnson, an analyst for the Midwest region from Moody's. She points to Flint or Troy, N.Y., where the response to a local economic problem has been slow.
"What would we think of a state that had a lot of Flints? You might wonder ... why is it that a large number of municipalities in a certain state are in so much trouble?" she said. "I can't think of any state where that's the case."
Some states have laws that may require them to act to meet their own legal obligations, according to Jim Wiemken of Standard & Poor's. The decision is a public policy one rather than a reflection on the state's credit. For example, in Indiana, the state offered a loan to East Chicago following LTV Steel's bankruptcy in December 2000. While no law compels the state to do so, the city is an important component of the state, he said.
The threat of a financial manager may be "a stick" that the state can use to push local municipalities to fix their finances, but it does not mean a cure for ratings downgrades, Wiekem said.
Act 72 was meant to mirror corporate receivership. Engler introduced the legislation after talking with Schimmel, who was then the receiver in Ecorse, an industrial city south of Detroit. Bondholders took the city to court after bond payments were missed. After attorney John Axe recommended Schimmel be appointed as receiver, Schimmel went in without a map.
"I guess I was thinking more along the lines of, 'OK, I guess maybe I'll take care of their bank accounts,' " Schimmel said. "And then just all of a sudden it sort of dawned on me that 'I'm running this town.' "
Act 72 was passed in 1988 and was amended to include schools in 1990. Michigan knows that perception counts, said Headen, the state Treasury official. Look at New York City in the 1970s when it stood on the brink of a financial crash, he said. The problem was the city's, but "the perception clearly was that, as went New York City, so went New York State," he added.
"Same thing would happen if a local unit declared bankruptcy," Headen said. "From the perception of the news media, the implication would probably be that something might be amiss with the state as a whole."
The Emergency Loan Board, which now appoints the financial manager, was created to review applications for $1 million loans for municipalities in trouble. No municipality has applied for a loan in the past 10 years, Headen said.
"In many cases, it's simply not worth it to borrow $1 million," he said. The legal paperwork alone can be extensive.
Municipalities in trouble can also seek approval to borrow using fiscal stabilization bonds sold through the Michigan Bond Authority. Flint planned to apply for $30 million of fiscal stabilization bonds, but the state review of the city said that the high debt burden made that option unreasonable.
In 2000, the city issued $3.5 million of fiscal stabilization bonds. That request tipped off the state to the city's financial troubles. Now, the city has returned to the state seeking legislative approval to increase its borrowing limit. Hamtramck borrowed $2.5 million last year to pay off vendors, according to Schimmel.
Each city's problems are unique. In Hamtramck, 38 languages are spoken. Kowalski's has been making Polish sausage since 1920 and American Axle and Manufacturing still maintains a global corporate headquarters here.
Highland Park, near Detroit, has a proud heritage as home to the Highland Park Ford Plant, considered the birthplace of the moving assembly line. But its coffers dried up and politics stalled any progress. Its population shrank and business would not come to the city.
Flint's problems made national headlines reflecting the pain of cutbacks in automobile and steel manufacturing.
"Depending on the circumstances, sometimes it's prudent to approve a loan or credit without looking at the situation further ," Headen said. "I think you have to look at it on a case by case basis to figure out how you're going to fix the problem."
The state's challenges are these: find problems before they are a crisis, offer assistance without taxing the state's limited manpower and resources, and avoid long-term dependence.
Failing to act is only one problem. The authors of the Harvard Review article outline a host of other problems that can accompany the financial control board model. The state-appointed managers may offer short-term fixes that lead municipalities deeper into trouble in the future.
A financial manager or control board can foster dependence while failing to educate voters and involve citizens and local leaders who must take over when the state leaves. Meanwhile, some of the solutions that control boards or managers use could drag a city down further.
Local officials may resent the state's taking away power, but secretly welcome the help.
"I want Lou Schimmel here right now because I have no faith in our mayor," Councilwoman Kristy said after a town hall meeting in the summer. "I don't want him to leave because I'm afraid of what's going to happen."
Because Kristy wants to run for mayor some day, she said she wants to learn how to do the job right by using Schimmel as a resource. But she's the first to say that she doesn't want him here forever.
Schimmel says he's about 80% done in Hamtramck. He thinks he'll have to make budget cuts next year and there are labor contracts to negotiate for 2004. The state gave him no deadline. He thought he might be done by the end of the year, but now he'll stay longer.
"If I walk out of there now, they aren't going to make it," Schimmel said. "They aren't going to have the fortitude to do what I'm going to do."
A MAP FOR FLINT
Unlike Schimmel, Ed Kurtz doesn't love this job. He came to Flint in 2001 when he was set to retire from his job as the president and chief executive officer of Baker College, which, under his leadership grew from 200 to 25,000 students. Here, he told Engler he had a deadline: Jan. 1, 2004.
"I'm doing it out of a sense of responsibility," Kurtz said. "I'm doing it because I think I can."
Also unlike Schimmel, Kurtz lives in Flint, and he wanted only $10,000 for the job. He has settled, uncomfortably, into the former mayor's office. Now, he's adjusting to the office where, "everything you do is scrutinized" and the environment is less cooperative than at the private college.
Kurtz spent the first few months as manager being told to go home and then to come back as the courts tossed back and forth a lawsuit brought by the City Council to stop the state from keeping him here.
The city didn't have a fiscal emergency, said council President Scott Kincaid. The state had "a political emergency," he said. They wanted more control in Flint politics. Even with its viable tax base, the city's leaders had failed to react quickly enough to 20 years of a declining manufacturing base.
By 2001, when state Sen. Robert Emerson, D-Flint, introduced a resolution seeking a review of the city's finances, Moody's had dropped Flint's rating to below investment grade. Standard & Poor's withdrew its rating. Fitch rated the city BBB-plus.
The city recalled Mayor Woodrow Stanley, and with 75% of its future state revenues pledged for outstanding debt, a late audit that came in February 2002 showed a budget deficit that had jumped to $28 million from $15 million.
"They doubled it in one year," said Roberts, who chaired the review team looking at Flint's finances. "We didn't sit around and say, 'What should we do.... Do you double it again? When do you act?' "
The city leaders couldn't agree on what needed to be done to solve their problems. Flint became the third and largest city under the watch of a financial manager, and the city filed suit. In October, the Michigan Court of Appeals ruled in favor of a state takeover.
The court issued a reported opinion, said the City Council's attorney in the case, Jon H. Kingsepp of Howard & Howard Attorneys. "It does constitute the first interpretation of the law," Kingsepp said.
The opinion comments on two issues. The first is what constitutes insolvency, which he said is not clearly defined in the act. While it uses the criteria of bankruptcy, Kingsepp argued that Flint did not meet those criteria: the inability to pay creditors, employees, or pension funds. The second comments on the appeals process under the law that uses a governor's hearing -- a "very, very rare" process -- instead of the more traditional administrative hearing which would have allowed the city to present its case more effectively, Kingsepp said.
The council finally passed a budget for fiscal year 2002 after city manager Darnell Earley became interim mayor. The city also planned to eliminate 150 jobs in 2002 and make other cuts. The city's suit claimed that they had too little time to demonstrate this change. After the appellate court ruling, Flint dropped its case. But by all accounts, the law has proven to be vague and will likely need amending.
SHIFTING A CULTURE
Kurtz said his job doesn't come with the broad power that everyone thinks it does. He aimed his first directives at city leaders; he lowered the $30,000-a-year salaries for part-time council members. It wasn't a popularity contest. But when he tried to change some ordinances, Kurtz realized he either had to hold the council in contempt for failing to pass his changes and have them removed, or he would have to work with them.
For now, the city has stopped the bleeding, he said in a phone interview last week. Flint has a proud, and some say entrenched, labor history. Nearly everyone here, Kurtz said, is either in a union or owns a union shop. A cultural shift is what Kurtz thinks this city needs.
"You look at some of the more prosperous communities. They are very pro-business. Very low ratio of union jobs, probably," Kurtz says. "And my father was a skilled tradesman. My father was in a union his whole life."
This former second city is now the fifth- or sixth-largest city in Michigan and must adjust to its new size. Kurtz will be pushing the city to work with the growing county to share services.
"This is the first city of any real size and scope that they've applied this law to," Kurtz said. "We're going to be determining what are the real roles of the financial manager and what kind of authority does he really have."
WHEN TO LEAVE
Policy analyst Honadle finds that cities in fiscal trouble fall into two categories: those with a one-time hit, such as a large company leaving, and those with long-term problems, such as inept management. Often the problems are outside the control of local leaders.
In Honadle's survey, several states have had cities under their management for some time. East Cleveland, Ohio, has been under financial management since 1988. The states have found no easy exit strategy.
Highland Park, under state oversight for 15 years, is Michigan's chronically troubled city. In 2001, the state appointed financial manager Ramona Henderson Pearson, but since then, she's had public differences with Gov. Engler about how to fix the problems and she's finding out how difficult the job can be.
"Everything we do is an archeological dig," Pearson said. "You have to blow the dust off." For a city of only 16,000 people, she said, "This is as complicated as any major city."
Pearson asked the state to approve an increase in the city's debt level to no avail. She says the jury's still out on whether she'll stick around.
Even with its limitations, Schimmel has changed his mind about Act 72. At first, he didn't believe it would work. In Hamtramck, the citizens have elected a Charter Commission to consider a change in the city manager form of governance. That may be the long-term change the city needs.
"The law is working a heck of a lot better than I thought it would," Schimmel said.
The state hopes to devise a "blood pressure test" to identify sick cities and is working with Michigan State University to identify triggers for when to come in and when to leave. Meanwhile, they want other cities to take note.
"The hope is, once the state does this a couple times, it might help local units be a little tougher," said state Treasurer Roberts. "Maybe we'll never have to move again."
