How We All Pay for Detroit’s Mistakes

Last week I hosted a family reunion on St. Pete Beach in Florida. More than 40 people from across the country came to enjoy the sunshine, sailing, and a margarita machine. It was glorious.

One of those people was my son, who drove down from his college town. When he arrived I immediately noticed his car was making a funny noise. It caught my attention because I bought the car… and I pay for maintenance.

The fact that my son has let the car deteriorate is an example of moral hazard. Because he has no monetary interest in the vehicle, and won’t be financially hurt by expenses, what should he worry about?

I pointed out that if the car isn’t repaired, the resulting damage could be severe. He seemed surprised, but much less concerned than I wanted him to be. And therein lies the issue…

When you are spending other people’s money, it’s easy to get careless.

For many years, city and state government officials have gambled with taxpayer dollars. They haven’t exactly gone to the race track or been caught at slot machines. Instead, they’ve bet on future circumstances bailing them out of current decisions.

And they’ve lost.

Time after time, government officials would negotiate employment contracts with workers and end up providing even better retirement benefits. Pensions, cost of living adjustments to pensions, and the years of service required for retirement all rolled downhill in favor of workers.

These concessions cost the politicians nothing in terms of immediate tax dollars, but they’re wildly expensive to future taxpayers as retirees claim their benefits down the road.

Cities and states were hoping, indeed betting, on fabulous investment returns to fill the funding gap. It didn’t happen, nor will it.

There are some regulations about funding pensions, so cities and states have about 73% of what they need to make good on those promises. Of course, these numbers are fudged a bit, but still, there is some money there. Still, they need about $700 billion to shore up these benefits.

Unfortunately, we can’t say the same about healthcare benefits…

By and large, cities and states put away nothing – nothing! – to pay for future retiree healthcare benefits. Currently, the overall level of funding for healthcare benefits is 7%.

You read that correctly. Of the hundreds of billions of dollars required to pay for retiree healthcare benefits, cities and states have put aside a measly 7%. But that’s OK. They have a plan…

Since relying on their own funding efforts didn’t work, and relying on investment returns didn’t work, these entities are looking to extend their play on moral hazard. Government officials are no longer content to gamble with their own taxpayer dollars. Now they want everyone else’s money as well.

Detroit is not a canary in a coal mine. The city is a dinosaur in a tar pit. The slow-moving, agonizing death of Detroit is cause for celebration in city halls and state capitols around the country. Government officials from California to Pennsylvania are dancing in their offices as they see unions and elected officials connect the dots of failed city benefits and the Affordable Care Act.

In one giant, game-changing move, those in charge of city and state finances are watching almost $1 trillion in liabilities be moved from the books of their own towns and states – and from the backs of their specific taxpayers – to the blob known as the U.S. government and the unwitting U.S. taxpayer.

Detroit is leading the way in claiming that its healthcare benefits are not only subject to change and cancellation, but also are unaffordable. So retirees, who presumably live on modest pensions, will be forced into the newly created health exchanges where they will receive U.S. government subsidies. Those over 65 will be sent into Medicare, another very large and subsidized program.

By off-loading this massive liability, these officials can gleefully claim they have done right by their own constituents and retirees. The obligations of the city or state were reduced while retirees maintained some level of subsidized benefits.

What about those taxpayers not in their jurisdiction… the ones they just handed a huge, ongoing medical bill to?

Who cares?

It looks like Detroit’s doubled down bet is about to payoff. And we, the broad American taxpayers, are the house.

 

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Categories: Purchasing Power

About Author

Rodney Johnson works closely with Harry Dent to study how people spend their money as they go through predictable stages of life, how that spending drives our economy and how you can use this information to invest successfully in any market. Rodney began his career in financial services on Wall Street in the 1980s with Thomson McKinnon and then Prudential Securities. He started working on projects with Harry in the mid-1990s. He’s a regular guest on several radio programs such as America’s Wealth Management, Savvy Investor Radio, and has been featured on CNBC, Fox News and Fox Business’s “America’s Nightly Scorecard, where he discusses economic trends ranging from the price of oil to the direction of the U.S. economy. He holds degrees from Georgetown University and Southern Methodist University.