Tuesday, April 17th, 2012

Yet Another Privatization Debacle in Chicago

I have been and remain a staunch defender of privatization done right, but done poorly it can be a disaster. It looks like we are seeing yet another example of this unfold in Chicago.

You are probably familiar with the now infamous Chicago parking meter lease. But prior to that the city had similarly leased parking garages downtown east of Michigan Ave. This transaction hadn’t done anything to raise concerns with me so far. I’m not sure why most city governments would be in the parking garage business in the first place. Put ‘em up on eBay I say.

But as it turned out, the city, in order to goose its returns, had promised the vendor who leased the garages a monopoly on parking. Lots of privatization contracts have no-compete clauses in them that prevent the government from operating a competitive facility for the duration of the lease. I’m not sure that’s good public policy, but it’s not a slam dunk decision either way. But the Chicago garage lease goes far beyond that and promised that the city would not allow anyone to build a garage that was open to the public in the area where the leased garages are. Wow! In effect, the city rezoned the area by contract without telling anybody. (A legit rezoning would have required notifying property owners, etc. as well as getting aldermanic signoff) It looks like the previous administration once again sold off the right to set public policy to a third party – this time for 99 years.

Naturally this has come back to haunt the city. Morgan Stanley, which controls both the meters and the garages, has filed a $200 million arbitration claim against the city. They claim that the city allowed the developer of the Aqua skyscraper to open a parking garage to the public in a restricted area, and this has harmed the value of their lease. If true, this looks like a very straightforward breach of contract.

This new claim comes on top of a $13.5 million claim over the parking meters related to allowances for handicapped parking. That’s a particularly dangerous claim because it could be recurring and if annualized and adjusted for inflation would mean that Chicago would end up owing over one billion dollars over the lifetime of that contract!

Rahm must be going crazy over these deals he inherited. This is what happens when you sign deals that don’t get subjected to proper public scrutiny. The timing is also less than ideal for Rahm as he tries to get his infrastructure bank proposal approved by a skeptical city council.

The Chicago experience should definitely cause other cities to think hard about privatization. Privatization should be about competition, not contractually enforced monopolies. It should not unduly restrict the ability to change public policy to meet future needs. The term should be strictly limited (50, 75, or 99 years is ridiculous). Deals featuring large up front payments should be avoided where possible, and subjected to strict controls on spending the windfall if not. And the contractual terms need a thorough vetting.

More on Privatization
Parking Meters and the Perils of Privatization
Can Chicago Get Out of Its Parking Meter Lease?

Principles of Privatization:
Part 1: Taxonomy of Transactions
Part 2: Value Levers
Part 3: Use of Funds
Part 4: Guidelines for Action

21 Comments
Topics: Public Policy, Transportation
Cities: Chicago

21 Responses to “Yet Another Privatization Debacle in Chicago”

  1. John says:

    Unfreakingbelievable

  2. Wad says:

    This sounds akin to the deal California almost took.

    Near the end of Schwarzenegger’s governorship, his idea to help close persistent budget deficits was to sell off state buildings and lease some of them back.

    Where it got interesting was when one of his commission appointees blew the whistle on the deal. The commissioner, with a background in real estate law and a Republican himself, did the numbers and said California would have gotten a horrible deal.

    The sale/leaseback, with a sizable upfront payment, would have been akin to taking out a 12% loan — and one, essentially, to pay off another credit card.

    Since no good deed goes unpunished, Schwarzenegger ended up turfing the commissioner. However, the deal ended up scrapped anyway.

  3. david vartanoff says:

    perhaps the judge can rule that having failed to give public notice of the fraudulent rezoning, the lease terms are invalid. Certainly would be a finer precedent.

  4. frank says:

    The contract terms can be found on the web in the form of the ordinance that was passed. I was curious because it’s illegal to promise something that one cannot deliver, and a taking of all the neighbors’ property rights with a secret stealth rezone seems like something illegal. But the attornies were clever and merely said that if the city issued a public parking permit, it would trigger a compensation event. Daley was and is an evil con man, and this guy’s brother, who worked for the privatizing investment group, was recently the president’s chief of staff.

  5. the urban politician says:

    Why don’t we talk about the real problem?

    Chicago is selling off the family jewels because it is a shrinking, and some can say dying, city.

    That is why it’s getting itself into these absolutely horrible deals. Short time bursts of cash in order to keep the city alive.

    Reality is, the population is continuing to decline, the south and west sides are hell-holes, and Chicago’s leadership doesn’t even care.

    I’m kind of beginning to quit caring too. You can only do so much for the ill when they have a disease that may not be curable.

  6. Roland S says:

    ^^ Wow, depressing much?

    I’m more anxious than anybody to see the city’s myriad infrastructure needs addressed, but the infrastructure bank sounds just as risky as this parking deal.

    The creation of the bank itself is harmless, but the members of the Chicago Infrastructure Trust will have the power to approve more deals like the parking deals with even LESS public oversight than those received.

    I understand Rahm’s incentive to strip power from the City Council and give it to a board that he controls, but who will prevent the city from getting fleeced? This is Wall Street we’re dealing with here. They have some of the smartest people in the world on their side. Who does the city have?

  7. frank says:

    It’s a shrinking and possibly dying city only because city and state debt scares the hell out of any potential employers who have no incentive to pay for the legacy costs of Daley and Blagojevich. Disposing the family jewels was intended to buy a little time to get the Olympics and then pile on even more debt. It was never not a ponzi scheme. Thanks Dems. thanks unions.

  8. the urban politician says:

    I’ve just come to realize that the group saying that Chicago is in serious trouble were probably right, the more I look at the numbers.

    In many ways it remains a great and bustling city with so much going for it. But the true picture behind the gleaming skyscrapers is a city that is crumbling, fading away.

    Until I see signs that this is changing, I’m going to have to join the bandwagon of those of you (Aaron, that means you) who have growing increasingly skeptical about Chicago’s prospects, at least in the medium term (I still think in the long, long term Chicago’s assets & infrastructure will serve it well).

  9. Robert Puentes says:

    Re: Roland S

    There is definitely more oversight with the CIT. The newly-amended ordinace that the finance committee approved makes sure there is a city council member on the board, that it adheres to the open meetings act, that it is subject to FOIA, that members of the treust are subject to MWBE requirements, etc.

  10. TUP, as I said, I’ve got a couple more tough pieces on Chicago en queue, but I think Rahm is doing some positive things that will hopefully pay dividends across the board. The reduction in permits required for businesses, if it is as good as the headlines suggest, could be a game changer.

  11. damenhandle says:

    Chicago is not dying. Yes, Chicago has major challenges facing it, and has stagnated in many ways in the past decade, but it is not dying. As Aaron has pointed out many times, Chicago is still and will likely continue to be the envy of pretty much every city in the U.S. that isn’t NYC, SF, or LA.

    These crappy deals were the result of an old political machine in its final years that ran out of ideas and was timid to confront the Unions and political establishment about the financial realities facing Chicago.

    Yes, wide swaths of Chicago continue to struggle. But the core of the problems faving the city are in Crime and Education. Fix crime and fix the schools, and jobs and people will being to repopulate the West and South sides.

  12. Peter says:

    The doom and gloom from TUP is a little over the top. And I agree with Aaron on this one:

    “The reduction in permits required for businesses, if it is as good as the headlines suggest, could be a game changer.”

  13. Anastasia P says:

    I’m absolutely baffled as to why anyone would offer a contract for nearly 100 years. Who knows what transportation and infrastructure will be like in 100 years? Maybe overcrowding and pollution will mean that everyone takes high-speed commuter trains to depots where they hire personal flying devices to get to their end destination. Imagine if you had leased the stable franchise in 1910 for the next 99 years!

  14. John Morris says:

    Baffled? Chicago is doing this because it’s politicians are broke and searching for any quick deal.

    Although even from that perspective, the move is bizarre. If one wanted to get the most cash with the least damage, one would just sell all the property outright and allowing the possible conversion for residential, office, retail or other land uses.

  15. John Morris says:

    Frank brings up the right point.

    The question here isn’t just about the specifics of any deal, but about the financial desperation that created it.
    I doubt the city council is really willing to fix the city finances. They just want to act shocked at the obvious results of the situation they had a hand in causing.

  16. nik says:

    Aaron, I don’t get why you’re an apologist for privatization. It seems you’re only in favor of it if it’s a raw deal for the business (eg. Indiana toll road). When it’s selling off a reliable revenue stream and relinquishing all control over a major public good (eg. Chicago parking meters), you’re understandably against it. Now, I don’t mind sticking it to the 1%, but it seems that even you don’t believe privatization is ever anything other than zero-sum or at least you don’t usually cite examples thereof. Do you have any examples of a “win-win” privatization? I’m eager to hear a counter-example

  17. There have been a number of privately financed tolls roads. I think these are generally good deals. I also liked the model where Indianapolis privatized management of its previous airport terminal. Steve Goldsmith in Indy privatized about 80 things, most of which worked out well. As a general rule, I don’t like these huge lease transactions for existing assets. Unfortunately, that’s the only thing that people think of when they think of privatization these days.

  18. John Morris says:

    Parking is a “major public good” ? We are doomed.

  19. John Morris says:

    @nik

    For starters one could look at Hong Kong’s privatisation of it’s subway and commuter rail systems forming one of the world’s most profitable transit systems while leading in reliability, price and technological innovation.

    The really big story is not likely to be privatisation, but just how little value the private marketplace is likely to see in most publicly owned infrastructure. a lot of this junk should never have been built in the first place.

  20. John Morris says:

    Privatisation of most public assets is likely to create very few win, win situations or at least situations in which there isn’t a lot of anger, waste and friction.

    The root reason is that one is dealing with things that were never thought out with cost/ demand/ profit in mind.
    The state is wildy proud that they are providing something the market couldn’t or wouldn’t like cheap parking in congested areas or trains to sparsely populated suburbs. The result however is an “asset” in name only that can only last as long as the state keeps it’s subsidy flow going.

    Not surprisingly, privatising things these so called assets is likely to cause lots of dislocation and waste.

  21. John Morris says:

    What privatising things like this does is reveal the level of waste that was always there.

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