07/21/2013 05:06 EDT | Updated 09/19/2013 05:12 EDT

Canadian Cities, Take Note Of Detroit's Downfall

Canada's municipalities may be unlikely to face the same fate as Detroit, but the financial fall of Motor City carries lessons for towns and cities here, experts say.

"Detroit is a wake-up call to say that long-term problems can eventually get to you if they're allowed to remain long term," said Brian Kelcey, a Toronto-based policy consultant who's worked in municipal affairs across the country.

With $18 billion in debts after six decades of falling fortunes, Detroit filed for bankruptcy Thursday — a petition now under question by the courts. It is the largest of dozens of American cities to do so following the economic downturn.

"I don't think it's out of the realm of possibility that a [Canadian] city that faces a natural disaster or some downturn in the economy could be on the path to Detroit, 10, 20, 30 years from now," added Kelcey.

For now, however, most of Canada's 5,000 municipalities are financially healthy and unlikely to face a similar catastrophe, experts say.

"Our cities are nowhere near that," said Mario Lefebvre, director of the Conference Board of Canada's Centre for Municipal Studies.

He notes that towns and cities here are required by law to balance their operating budgets every year.

"You can have tough years where you really need to scratch hard to make sure you are going to show a balanced budget but at the end of the day they do," said Lefebvre.

Infrastructure weighs on cities

Municipalities can take on debt to fund large-scale infrastructure projects, but provinces enforce strict rules on how much debt can be incurred.

In Ontario, for example, a city cannot have debt charges exceeding 25 per cent of what they bring in with their own source revenues.

"If they get into trouble — even with those rules — then the province would step in with a supervisor to help them," said Enid Slack, director of the Institute on Municipal Finance and Governance at the University of Toronto's Munk School of Global Affairs.

But even though cities balance their budgets, it doesn't mean they aren't financially struggling.

Aging infrastructure weighs on the minds of most civic leaders across the country. Some estimates suggest that repairing roads and bridges will cost $200 billion, what's oft described as the looming "infrastructure deficit."

Lefebvre says even though cities can take on debt to finance infrastructure, most — with the exception of those in Quebec — are extremely cautious, especially since the costs can show up in operating budgets as interest payments.

Quebec cities are more willing to take on debt to fund projects, but Lefebvre says none appear to have suffered.

Past Canadian bankruptcies

It's that cautious integration of a large margin of error that's helped Canadian cities, says Kelcey.

"Detroit destroyed its own room for margin of error," said Kelcey. "Municipal leaders should take Detroit as a lesson to keep that room as much as possible instead of pushing themselves to the brink in terms of imprudent liabilities."

Cities didn't always have that financial breathing room.

During the Great Depression, at least five British Columbia municipalities went bankrupt. Burnaby, Merritt, Prince Rupert, plus the city and district of North Vancouver fell into a state of budget disrepair in the early 1930s.

The communities saw falling property tax revenue as fewer residents were able to pay. At the time, municipalities were also responsible for unemployment relief, taxing dwindling resources.

The disastrous failure took decades to rectify. It also became a lesson for municipalities and provinces.

A provincial ministry of municipal affairs was born, property taxation changed and social services became a provincial domain. Also, Slack notes, "a lot of the rules on borrowing came in at that time."

While those changes may have imposed necessary restrictions on municipalities and lifted the weight of social services off their shoulders, the potential for problems still loom today if leaders fail to address long-term issues, experts say

"We don't have some of the same complex financial issues that American municipalities do," said Kelcey, "but we do have this risk that everybody's quietly talking about."

'Legacy costs' hurt

A number of Canadian cities face overwhelming costs of paying the pensions of public sector retirees, a problem that will only rise at Baby Boomers enter their sunset years.

Earlier this year, one of Canada's largest pension funds — the Ontario Municipal Employees Retirement System — tried unsuccessfully to reduce benefits paid to future retirees and force them to work longer in the face of a $10-billion deficit.

The City of Saint John, N.B., has a pension plan underfunded by at least $195 million and is now undergoing controversial reforms. Regina's pension fund tops that with a $250-million deficit.

"The cities that do have the biggest [financial] problems are those that are too strapped down with their pension obligations," said Candice Malcolm, Ontario director of the Canadian Taxpayers Federation.

Malcolm suggests also looking at what percentage a city is forking over just to pay for those pensions.

In Detroit, roughly 38 per cent of the city's daily budget went to so-called "legacy costs" like debt service and pensions for municipal employees, according to emergency manager Kevyn Orr.

Estimates now suggest the city owes $9 billion to pension funds and health-care benefits, though the city had only listed about $644 million in unfunded pension liabilities.

Kelcey notes municipalities can make poor decisions, such as relying on markets for higher returns than investments receive and a gap can quickly appear in a pension fund.

"It's easy to sort of pretend that the gap will go away when the market gets better and in some cases it just hasn't," he said.

Now, he says, is a good time for municipalities to review those pension liabilities.

"[Detroit is] a healthy reminder that civic leaders need to be up-to-speed on how important the pension issue is."

- Read more: Detroit bankruptcy: Is it a warning sign of things to come?

- See photos of decaying Detroit

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