If a recession hits the U.S., Chicago and Detroit are not currently prepared, according to an analysis by Moody’s Investor Service.
Using four main factors to determine how prepared a city was for a recession — fiscal volatility, reserve coverage, financial flexibility, and pension risk — the researchers found that most of the largest 25 U.S. cities are prepared to handle a recession like the previous one, but the two cities of Chicago and Detroit are not well-positioned for hard times.
“The majority of local governments have used the broad economic expansion of the past 10 years to strengthen their finances while keeping overall leverage and related fixed costs from rising,” the report stated.
According to Moody’s analysis of the cities’ bond ratings, which is a measure of the quality of the creditworthiness of corporate or government-grade bonds, an “investment grade” rating refers to bonds that present a relatively low risk of default: “Aaa” and “Aa1” denote the highest credit quality while “Ba1,” “Ba2,” “Ba3” and others denote medium credit quality and non-investment grade.
Moody’s rated Chicago as Ba1 and Detroit as Ba3 — meaning that both fall under the non-investment grade category.
‘Detroit has taken steps’
Home to the automobile industry, the city of Detroit went bankrupt in 2013 in the largest municipal bankruptcy filing in American history in terms of debt. Since then, the city has made considerable efforts to boost its reserves — but not enough in Moody’s estimation.
“Detroit has taken steps to prepare for a potential downturn: establishing an irrevocable trust to smooth spikes in pension contributions, developing a capital improvement plan that identifies a variety of sources to finance capital investments, and continuing to increase its already strong reserves,” Moody’s researchers stated. “If these trends continue, Detroit’s overall preparedness for a future recession will be more in line with major city peers.”
Chicago ‘walked into a staggeringly large deficit’
The city of Chicago, on the other hand, is nearing bankruptcy.
In August 2019, just months after taking office, Chicago Mayor Lori Lightfoot announced that the city was facing a $838 million deficit in its upcoming budget.
“We walked into a staggeringly large deficit for next year and, what was worse, we were not left with any credible plan on how to fix this massive problem,” said Lightfoot at the time.
The Chicago City Council has since approved her $11.65 billion budget plan for 2020 to address the record deficit.
Chicago’s “leverage due to debt and unfunded pension liabilities – both direct city obligations and those of overlapping units of government – continue to weigh heavily on its credit profile,” Moody’s stated. “In this scenario analysis, Chicago's extraordinarily high fixed costs, coupled with its escalating pension liabilities, make it one of the cities least prepared for a near-term recession.”
Cities that fared well on the recession preparedness scale were Austin, Boston, Charlotte, Denver, San Antonio, San Francisco, and Seattle.
Aarthi is a reporter for Yahoo Finance. Follow her on Twitter @aarthiswami.