Features » January 21, 2015
How To Sell Off a City
Welcome to Rahm Emanuel’s Chicago, the privatized metropolis of the future.
Most privatization deals fail every public policy test. There’s little record of successful competition between concessionaires to deliver services more efficiently.
In June of 2013, Chicago Mayor Rahm Emanuel made a new appointment to the city’s seven-member school board to replace billionaire heiress Penny Pritzker, who’d decamped to run President Barack Obama’s Department of Commerce. The appointee, Deborah H. Quazzo, is a founder of an investment firm called GSV Advisors, a business whose goal—her cofounder has been paraphrased by Reuters as saying—is to drum up venture capital for “an education revolution in which public schools outsource to private vendors such critical tasks as teaching math, educating disabled students, even writing report cards.”
GSV Advisors has a sister firm, GSV Capital, that holds ownership stakes in education technology companies like “Knewton,” which sells software that replaces the functions of flesh-and-blood teachers. Since joining the school board, Quazzo has invested her own money in companies that sell curricular materials to public schools in 11 states on a subscription basis.
In other words, a key decision-maker for Chicago’s public schools makes money when school boards decide to sell off the functions of public schools.
She’s not alone. For over a decade now, Chicago has been the epicenter of the fashionable trend of “privatization”—the transfer of the ownership or operation of resources that belong to all of us, like schools, roads and government services, to companies that use them to turn a profit. Chicago’s privatization mania began during Mayor Richard M. Daley’s administration, which ran from 1989 to 2011. Under his successor, Rahm Emanuel, the trend has continued apace. For Rahm’s investment banker buddies, the trend has been a boon. For citizens? Not so much.
They say that the first person in any political argument who stoops to invoking Nazi Germany automatically loses. But you can look it up: According to a 2006 article in the Journal of Economic Perspectives, the English word “privatization” derives from a coinage, Reprivatisierung, formulated in the 1930s to describe the Third Reich’s policy of winning businessmen’s loyalty by handing over state property to them. In the American context, the idea also began on the Right (to be fair, entirely independent of the Nazis)—and promptly went nowhere for decades. In 1963, when Republican presidential candidate Barry Goldwater mused “I think we ought to sell the TVA”—referring to the Tennessee Valley Authority, the giant complex of New Deal dams that delivered electricity for the first time to vast swaths of the rural Southeast—it helped seal his campaign’s doom. Things only really took off after Prime Minister Margaret Thatcher’s sale of U.K. state assets like British Petroleum and Rolls Royce in the 1980s made the idea fashionable among elites—including a rightward tending Democratic Party.
As president, Bill Clinton greatly expanded a privatization program begun under the first President Bush’s Department of Housing and Urban Development. “Hope VI” aimed to replace public-housing high-rises with mixed-income houses, duplexes and row houses built and managed by private firms.
Chicago led the way. In 1999, Mayor Richard M. Daley, a Democrat, announced his intention to tear down the public-housing high-rises his father, Mayor Richard J. Daley, had built in the 1950s and 1960s. For this “Plan for Transformation,” Chicago received the largest Hope VI grant of any city in the nation. There was a ration of idealism and intellectual energy behind it: Blighted neighborhoods would be renewed and their “culture of poverty” would be broken, all vouchsafed by the honorable desire of public-spirited entrepreneurs to make a profit. That is the promise of privatization in a nutshell: that the profit motive can serve not just those making the profits, but society as a whole, by bypassing inefficient government bureaucracies that thrive whether they deliver services effectively or not, and empower grubby, corrupt politicians and their pals to dip their hands in the pie of guaranteed government money.
As one of the movement’s fans explained in 1997, his experience with nascent attempts to pay private real estate developers to replace public housing was an “example of smart policy.”
“The developers were thinking in market terms and operating under the rules of the marketplace,” he said. “But at the same time, we had government supporting and subsidizing those efforts.”
The fan was Barack Obama, then a young state senator. Four years later, he cosponsored a bipartisan bill to increase subsidies for private developers and financiers to build or revamp low-income housing.
However, the rush to outsource responsibility for housing the poor became a textbook example of one peril of privatization: Companies frequently get paid whether they deliver the goods or not (one of the reasons investors like privatization deals). For example, in 2004, city inspectors found more than 1,800 code violations at Lawndale Restoration, the largest privately owned, publicly subsidized apartment project in Chicago. Guaranteed a steady revenue stream whether they did right by the tenants or not—from 1997 to 2003, the project generated $4.4 million in management fees and $14.6 million in salaries and wages—the developers were apparently satisfied to just let the place rot.
Meanwhile, the $1.6 billion Plan for Transformation drags on, six years past deadline and still 2,500 units from completion, while thousands of families languish on the Chicago Housing Authority’s waitlist. Be that as it may, the Chicago experience looks like a laboratory for a new White House pilot initiative, the Rental Assistance Demonstration Program (RAD), which is set to turn over some 60,000 units to private management next year. Lack of success never seems to be an impediment where privatization is concerned.
Privatization plainly made sense to another witness to the Plan for Transformation: Rahm Emanuel, who served as a Chicago Housing Authority vice chairman from 1999 to 2001. After his time as a top aide in the Clinton White House, he made more than $18 million in two-and-a-half years as an investment banker, brought into the business by the man who just became Illinois’ new Republican governor, billionaire venture capitalist Bruce Rauner.
And as mayor, Emanuel has proven himself practically an addict when it comes to brokering deals with his former investment banker comrades and the other business interests he keeps on speed dial. As the Chicago Reader’s Ben Joravsky and Mick Dumke discovered when they filed a Freedom of Information Act request for the mayor’s private schedule, Emanuel almost never met with community leaders during his first year in office, but he met constantly with rich bankers like Rauner, BMO CEO William Downe and Larry Fink, chairman and CEO of BlackRock, the world’s biggest money management firm. These are his people.
When he took office as mayor, Emanuel inherited several major deals with corporations for city services. One is infamous: the parking meter deal between Morgan Stanley, Allianz Capital Partners and the Abu Dhabi Investment Authority—the poster child for privatization deals gone wrong.
Mayor Daley’s 2008 deal to sell off Chicago’s parking meter franchise was negotiated in secret; City Council members got just two days to study the contract before signing off on it. Under the deal, rates promptly skyrocketed. And worse: Not only does the privately owned Chicago Parking Meters get the money whenever one of Chicago’s fine upstanding citizens pumps money into a meter; CPM gets paid even when they don’t. Each parking meter has been assigned a “fair market valuation.” When the city takes what is called a “reserved powers adverse action”—anything from removing a meter that impedes traffic flow to shutting down a street for a block party—CPM can demand a payment for the loss of that meter’s “fair” market value for the entire time it’s down.
What’s more, a 2009 estimate from the city Inspector General found that the city had sold the meters for about half of what they were worth. Then, in 2010, Forbes estimated that the city had in fact been underpaid by a factor of 10.
What, then, did the new mayor do? “He simultaneously badmouths the deal and defends it to the death,” explains public interest lawyer Thomas Geoghegan, who argued in an unsuccessful lawsuit that the contract was invalid because it unconstitutionally usurped the police powers of the city. On the one hand, Emanuel loudly boasted he’d renegotiated the deal to the public’s benefit. Parking became free on Sunday (but the hours people had to pay to park on weeknights were extended, vouchsafing CPM’s profits). Meanwhile, he was careful to say nothing bad about the multinational consortium, which continues to bilk his constituents. That would discourage other would-be concessionaires—like the ones with whom he negotiated a $154 million deal to operate digital billboards along Chicago’s expressways for a term of 20 years.
That’s in keeping with the cash-up-front, consequences-later logic of privatization deals. An extreme example is a 2004 deal that then-mayor Daley won’t even be alive to see the outcome of: the leasing of the Chicago Skyway for $1.8 billion to a consortium composed of Macquarie, a Sydney-based investment firm, and Cintra, a Spanish private infrastructure developer, for 99 years.
In 2007, Chicago’s chief financial officer, Dana Levenson, explained the rationale for the deal to Businessweek: “There is money to be had, and cities need money.” He pointed out that because of the $1.8 billion cash influx, Chicago was able to pay off its debt, commit $100 million to social programs like Meals on Wheels, and have enough left over to earn as much interest income as it used to make from tolls (which now went instead to the concessionaires in Sydney and Spain). Sounds nice—unless you happen to drive on the Skyway. On January 1, the price to drive its eight miles rose to $4.50, up from the two bucks it cost when the city ran it, making it the highest toll-per-mile roadway in the United States; if prices had reflected only inflation, it would cost $2.50. To investors, that’s the point. As Timothy J. Carson, vice-chair of the Pennsylvania Turnpike commission, noted years ago in fighting a deal to privatize that highway: “There’s no magic here. These [deals] are largely driven by one factor: the permitted toll increases.”
As for the Skyway, the hit is likely to get worse—and the claimed benefits will fade, too. Research by John B. Gilmour of William and Mary University indicates that the longer road privatization deals last, the more they reward investors but shortchange the public.
He ran a mathematical model based on the deal the state of Indiana inked in 2006 to lease the Indiana Toll Road, the “Main Street of the Midwest,” for a 75-year term. The delightful initial cash payout closed the state’s budget deficit, But, according to Gilmour’s midrange estimate, by the time that deal reaches the last third of its term, only 13 percent of revenue goes to the public.
Why would politicians negotiate 75-and 99-year contracts that systematically shortchange their constituencies the longer they last? Because the concessionaires are able to exploit the simple fact that no politician, even ones named “Daley,” last in office that long. Politicians reap immediate glory for closing deficits without raising taxes and funding popular programs, an irresistible temptation. Voters blame the corporations that operate the roads for the toll increases and revenue shortfalls, not the politicians who wrote or voted for the deals in the first place. Then, when the damage is done, IBDYBD—“I’ll be dead, you’ll be dead,” to repurpose the phrase that became popular among the cynical Masters of the Universe who structured the financial time-bombs like mortgage-backed securities that tanked the global economy in 2008. A short-term infusion of cash that forces the recipient more and more into hock the longer the arrangement lasts: “It’s like going to the payday loan store,” explains Tom Tresser, a Chicago-based anti-privatization activist.
What Rahm hath wrought
Other cities and states did their homework and rejected the privatization fad. In 2008, Pennsylvania turned back Democratic governor Ed Rendell’s dream of selling off the state’s famous turnpike for 75 years to a consortium of Citi Infrastructure Investors and the Spanish company Albertis Infraestructuras. The proposed deal would have raised tolls by about two-thirds within 10 years (to $36.40 to travel from one side of the state to the other), would have eventually made the state pay the consortium for lost traffic during emergency road-closures, and would have turned over transportation-planning decisions to far-off corporate bureaucrats. And after Atlanta leased its water system to United Water Inc. in 1997, leading to a series of water-main breaks and billing disputes, the city’s watershed commissioner said, “I don’t believe the city will ever look at privatizing essential services again.”
Rahm Emanuel’s Chicago, though, presses ahead.
Rick Perlstein is the author of The Invisible Bridge: The Fall of Nixon and the Rise of Reagan (2014), Nixonland: The Rise of a President and the Fracturing of America (2008), a New York Times bestseller picked as one of the best nonfiction books of the year by over a dozen publications, and Before the Storm: Barry Goldwater and the Unmaking of the American Consensus, winner of the 2001 Los Angeles Times Book Award for history.
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