Detroit And Rome: A Tale Of 2 Cities

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by: Marc Chandler

Detroit was allowed to declare bankruptcy last year. This began a protracted process by which the municipality renegotiated with its creditors, including government worker pensions.

This illustrates several characteristics about the American "system". First, it has de-stigmatized bankruptcies, as we saw with GM (NYSE:GM) and Chrysler. Second, bankruptcy is not failure it is a process by which the creditors are held at bay while restructuring or reorganization can take place.

While economists often focus on the barriers to entry, by removing the stigma from bankruptcy and easing the process, it makes lowers the barriers to exit. While bankruptcy does not necessarily mean liquidation, when it does, it allows, the recycling of people and capital. It is an important, even if under-appreciated part of the flexibility of the United States.

This stands in stark contrast with Europe. Consider Rome. Florence Mayor Renzi has become the new Prime Minister of Italy and one of his first acts was to withdraw the proposal from former Prime Minister Letta to bailout Rome. Letta was offering a program of about 850 mln euros, which required parliamentary approval by the end of February. The Northern League and the 5-Star Movement mounted a filibuster to oppose.

Reports indicate that Rome is running out of money quickly. It will not have sufficient funds to pay the 25,000 city workers, pay for petrol for its buses, or collect garbage, as early as Saturday, according to reports citing Rome's Mayor Marino.

Separately, Naples, Italy's third largest city (after Rome and Milan) received a (ten year) loan from the national government for about 220 mln euro and required the city to cut spending by 700 mln euros over the decade. Naples' Mayor De Magistris indicated that spending was cut by about 200 mln euros last year. Last month, a court rejected a plan to reduce its debt by around 1 bln euros. Reports suggest that several large international banks have derivative contracts with the city. In response to the economic weakness and rising expenses, many cities bought derivatives (often swaps and similar products) from the banks to reduce their short-term interest rate expenses.

The word from Rome is that the Renzi government is working on measures that will offer the city funds. The program might be included in a decree law, which allows them to go into effect without initial parliamentary approval. This is an undesired distraction for the new national government. The potential disruptive consequences of a Rome default is deterring officials from taking the Detroit path.

Yet new funds cannot begin to address the problem let alone the symptoms. There is not much industry in Italy that can be taxed and yet, as a major tourist destination, its public services are heavily used. Rome's finances, as they are, rely on a narrow tax base of mostly garbage-collection fees and the sale of bus and subway tickets. A Dow Jones report, without citing its source, suggested that about 25 % of the passengers on Rome's public transit system don't buy tickets, compared to 2% in London. The estimated cost is 100 mln euros a year. Employee absenteeism in the public transportation and garbage collections runs as near 20%, which is well above the national average.

There is a tourist attraction in Rome. On the street level, it is a church, but if your enter and walk down some stairs, you can see below it was a pagan temple and below that an primitive home. Much of the marble in the Vatican was stripped from the ancient Romans. For a city that has recycled itself like few others, it is a pity that what Keynes called "paper shackles" are preventing it from re-cycling itself once again.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.