August 19, 2013

A few weeks back, we brought you a guest commentary by Josh Laurito regarding the City of Detroit. His perspectives were well-received by our readers. This week, Josh is back by popular demand with some thoughts on his home town of Chicago. We believe there is great value in considering fresh perspectives from intelligent people – that is precisely what Josh brings to the table.


Windy City Forecast – How Similar are Detroit and Chicago?

By Joshua Laurito

I love Chicago. I grew up outside the city and still try to get back as often as I can.

Sadly, Chicago has fallen on some tough times of late. The city had the most murders of any US city in 2012 and has closed so many schools that it’s being accused of human rights violations. And now, in the wake of a massive downgrade from Moody’s, the city is being compared to Detroit in some circles.

Are these comparisons to Detroit justified? Chicago is not an imminent default risk so, on that basis, no. But Chicago is one of many cities facing a difficult combination of demographic factors and legacy costs over the next several years which make the city a riskier investment.

Legacy Costs

How do Chicago and Detroit compare? Let’s compare their General Funds very quickly using DIVER Analytics’ search tool. I’m going to normalize both cities’ revenues to 100 to make the comparison easier (Chicago’s revenues are actually about 4x as large as Detroit’s). Let’s add in a comparison to the second largest Midwestern city, Indianapolis, which is highly ranked by the rating agencies . This is an oversimplified analysis but should give you some sense of the relative situation of each city.

1 A couple of footnotes: I’m comparing fiscal 2012 numbers, since they are the last ones that are available for all issuers. I’m also taking all numbers here as reported, ignoring changes to pension accounting that will be going into effect over the next few years.

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I know, not the most interesting graph, but bear with me. Now let’s add all primary government debt in.

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Here you can see a pretty good delineation between (relatively) healthy Indianapolis, stressed Chicago, and a crisis-ridden Detroit.

Unfortunately, these numbers do not include one major expense for each city: their Unfunded Pension liabilities, which was the reason for Chicago’s downgrade. Fortunately, DIVER includes comprehensive pension data, so we can add that into the comparison.

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Here again, you can see that though Chicago isn’t in a strong position by any means, its Primary Debt plus Unfunded Pension Liability would need to increase by almost 3x its revenue to have the same debt to revenue ratio as Detroit.

To give you context, Chicago’s debt-to-revenue ratio would look like Detroit’s if Chicago incurred over $15 billion more in debt. While that might sound like a lot, at the current rate that Chicago’s deficits and pension liabilities are growing, that probably gives the city about 7 years to implement meaningful budgetary solutions and start seeing results.

Demographic Factors

In some regards, demographics are as important as financial management. Using DIVER’s Data Access tool, we can see how the demographics of Chicago and Detroit are trending.

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Here you can see some major differentiators between Chicago and Detroit. Chicago’s Population has been relatively stable, while the Detroit area has been losing people quickly (though a lot of the 2009-2010 changes can be attributed to inaccurate population estimates pre-census). Chicagoans are wealthier and safer than Detroit residents as well.

We believe that demographics really are a major driver of financial performance. Household creation impacts real estate values. Employment is directly related to income tax growth to support debt. Dependency ratios help drive pensions. In order to simplify these factors, the DIVER Geo Score was developed by Lumesis to assist our users in better understanding the overall economic health of a particular geographic area.

The DIVER Geo Score brings together multiple, meaningful economic and demographic factors related to employment, income, and housing. The scale ranges from 0 to 10, with 0 being the worst. Detroit, with a score of 0, is in the bottom percentile of all US cities. Chicago, with a score of 1.3, is in the 13th percentile, meaning that we estimate 87% of US cities have more favorable demographics for economic stability. The trend in Chicago’s demographic health is also worse than average.

Overall

Chicago is not in the same situation as Detroit (yet) but that is damning with faint praise. Mayor Rahm Emanuel has shown that he is serious about trying to change Chicago, but it’s not clear the city is ready. The city has some major advantages over Detroit (primarily a more stable population and better debt/income levels) and several years to turn things around, but if meaningful changes aren’t made, the city will be in full-out crisis by the end of the decade.


On the Road: It’s a busy week here at Lumesis! Tim will be in NYC on Tuesday, Gregg will be in NYC and Chicago on Tuesday and will then join Mike and Ralph who will be in Minneapolis and St. Paul on Tuesday and Wednesday.

Tim Stevens, CFA

President, COO & Co-Founder, Lumesis, Inc.

Data Released Last Week:

  • Bankruptcy Filings – Issuers, State, County, 2013
  • Default Filings – Issuers, State, County, 2013
  • Weekly Initial and Continued Jobless Claims, State, 8/3/2013
  • Foreclosures, County and State, July 2013

Expected Releases This Week:

  • Unemployment and Unempl. Rank Change, July 2013, State
  • Labor Force, State, July 2013
  • Employed as % Population, State, July 2013
  • Coincident Index Change, July 2013, State
  • Housing Price Index, County & State, 2013 Q2
  • House Price Change, 2012 Q2 – 2013 Q2, State
  • Weekly Initial and Continued Jobless Claims, State, 8/10/2013
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