Perspective on the Chicago Public School Teachers’ Strike, Municipal Labor Relations & Implications for Investors
In September, Chicago Public School teachers walked off the job for the first time in 25 years.1 The strike resulted from disagreements over performance-based pay, wages, and job security.2
The Chicago Public School District’s dysfunctional management-labor relationship describes that of many municipal issuers and the strike is consistent with other labor initiatives around the country that seek to reverse collective bargaining and pension reforms. We expect more public sector headline risk over the next several years but anticipate very few bonds defaults resulting from unstable management-labor relations.
In this Special Commentary we provide a brief history of U.S. public sector labor relations and outline the current framework for labor relations in the states. We then explain why we believe strong labor unions, poor labor-management relations, and even strikes, are unlikely to induce municipal defaults. Strong labor unions may lead to lower credit ratings for certain high-grade issuers, but only severely distressed issuers are likely to default on account of labor pressure.
Public Sector Labor Relations: A Brief History
Early History
Public sector unions have existed in the United States for nearly two centuries. Federal shipyard employees were the first to unionize. President Andrew Jackson granted shipyard workers’ a shorter workday after a strike in 1836.3
State and local government employees began unionizing in the 1870s, first with teachers and then with public safety officers. Teachers created professional organizations to counter state laws mandating teacher-curfews, dress codes, and prohibitions on smoking.4 Police and firefighters typically organized over labor conditions and pay.5
Early unions lacked the power of today’s labor organizations. Unpopular strikes, antiquated legal precepts, and basic civil service protections generally limited their influence. As a result, most public sector unions in the 1920-1950-era were relegated to the status of mere association groups.
Labor historians credit the 1919 Boston police strike with delaying the rise of public sector unionization.6 That strike resulted in three days of robberies, vandalism, and deaths, and it convinced voters that unions were incompatible with government employment.7 It led to then-Governor Calvin Coolidge’s dictum that “there is no right to strike against the public safety by anybody, anywhere, anytime,” and it informed President Franklin Roosevelt’s belief that collective bargaining rights were anathema to public service.8
Early unionization efforts typically met with judicial resistance, as well. Pre-1960 court rulings generally held that government employees forfeit rights when hired, including those to political speech, union organizing, and strikes. As late as 1976, the U.S. Supreme Court ruled that state and local governments were exempt from many provisions of the Fair Labor Standards Act.9
Civil service reforms also forestalled the rise of public sector unions. Before the 1930s, many states modeled their civil service protections after the 1883 Pendleton Act, which required federal job applicants to pass competitive exams and led to merit-based promotions and removal protections for public workers.10
Modern History
Today, public sector labor unions represent nearly 40% of the public workforce.11 Widespread unionization of the public workforce began in the late 1950s. The “rise” of public unions is attributable to the growth in government employment, the success of private sector labor unions, and changes in legal theory.12
The growth in government employment and the spillover effect of successful private sector unions in the 1950s caused some state and local governments to enact public sector collective bargaining laws. The “Little Wagner Act” granted New York City’s workers the right to bargain collectively in 1958. Around the same time, the State of Wisconsin enacted a similar law.13 Many other legislatures followed.
The late 1950s and 1960s also witnessed a change to the legal framework surrounding public unions. States enacted friendlier labor laws after federal courts expanded public employees’ rights in the 1960s, and President Kennedy established collective bargaining rights for federal employees by executive order.14
Once states began enacting friendlier labor laws, unionization rates increased. There is a strong correlation between high unionization rates and union-friendly labor laws – and vice versa.15
The Existing Framework
The current labor relations framework in the states is highly fragmented. States cannot ban unionizing, but states can choose whether to collectively bargain with employees.16 As a result, the employer-employee relationship varies dramatically from state to state.17 Over 60% of public workers in New York State serve under a collective bargaining agreement, compared to less than 20% in Georgia.
At least nine states completely prohibit collective bargaining by public employees. This includes North Carolina, Virginia, Arkansas, Louisiana, Mississippi, South Carolina, Arizona, Indiana, and Colorado.18
In the remaining states, some or all employees have the right to negotiate the terms of their employment. Three states protect public employees’ collective bargaining rights through the state constitution: Florida, Hawaii, and Missouri.19 Others protect collective bargaining rights through statute. The remaining states require employers to “meet and confer” with employees to discuss wages, work rules, and other terms of employment.20 “Meet and confer” laws formalize talks but do not bind governments to labor agreements.21
Beyond collective bargaining rights, states differ in many other ways, including how to resolve impasses between unions and employers and whether public employees have the right to strike.22 As the Chicago Teachers Union strike illustrates, public school employees in Illinois have a right to strike. However, most states forbid strikes by public employees, and the majority of collective bargaining agreements prohibit them.23
Recent Reforms
States continually revise the scope of public sector labor rights, and since the mid-2000s, some states have moved to curtail the reach of collective bargaining laws. The Great Recession has accelerated this phenomenon.
In 2005, Indiana rescinded public employees’ collective bargaining rights by executive order.24 More recently, Ohio passed a law rescinding collective bargaining rights for all public employees (it has since been repealed),25 and Wisconsin revoked most collective bargaining rights for school employees and state workers.26 In 2011, Massachusetts lawmakers limited municipal unions’ ability to bargain over healthcare costs.27
The uptick in 21st century legislation to curb bargaining rights partly results from federal initiatives. Many of today’s labor reforms build on President Clinton’s “reinventing government” reforms in the mid-1990s. “Reinventing government” resulted in more federal contractors and fewer personnel regulations.28 New work-rule reforms29 and aggressive laws designed to limit collective bargaining stem, in part, from these efforts.30 State and local government mimicry of federal labor relations policy is nothing new. Many state and local governments expanded public workers’ collective bargaining rights following President Kennedy 1962 executive order.
Backlash
In the last few months, several invigorated labor unions have begun challenging the wisdom of modern reforms through strikes, political action, and the courts.
In addition to the Chicago Public Schools strike, unions have struck recently in Washington State31 and at the Detroit Water Department.32 In August, a strike was threatened at the New York and New Jersey Port Authority.33
Unions are also pressing their case with the public. They seek to ingrain collective bargaining rights in Michigan’s constitution via a ballot initiative,34 and they have successfully delayed certain pension reforms in Illinois and California, among other places.35
In the courts, labor unions are challenging many pension reform laws. Recent reform efforts in Rhode Island, Louisiana, Maine, and San Jose and Los Angeles, California have been met with lawsuits.36
Credit Implications
Labor’s enlivened approach to protecting existing collective bargaining rights and pension benefits is unlikely to lead to municipal bond defaults. The evidence suggests that inflexible labor laws and poor labor relations are uncorrelated with credit quality. Going forward, however, poor labor relations may slow necessary reforms for some issuers and reduce credit quality. In rare cases of serious distress, a default might ensue.
Little Correlation Between Public Sector Labor Relations and Credit Quality
Traditionally, there has been little relationship between state and local government fiscal stress and unionization rates or collective bargaining rights.
Since the onset of the Great Recession, this lack of correlation has remained intact. An analysis of states’ FY 12 budget gaps is illustrative. In FY 12, Texas and North Carolina – which prohibit collective bargaining – had general fund budget gaps of 30% and 20%, respectively. In contrast, in Massachusetts and New York – which endow public employees with collective bargaining rights – deficits have been relatively modest (less than 6% in Massachusetts, FY 12, and 4% in New York, FY 13).37
Large unfunded pension liabilities also have limited correlation with a state’s labor framework. Indiana’s Teachers’ Retirement System was only 33% funded in FY 10 even though Indiana prohibits collective bargaining by teachers. New York State’s several pension plans are 94% funded even though New York’s labor laws are union-friendly.38
Strikes, too, seem uncorrelated with default. We are aware of no public sector strikes that have led to a bond default. New York City’s strike-happy workforce in the 1970s never triggered a default by walking off the job. The 2005 Metropolitan Transit Authority strike was also resolved without a serious credit event.39 Sometimes, strikes actually improve near-term liquidity. Local workers often receive no pay during strikes.40 This may enhance a government’s cash flow.
A bond issuer’s credit quality seems far more correlated with its economy, budget discipline, and reliance on short-term financing than labor union power or collective bargaining rights.41
Strong Bondholder Security Structures
Even if powerful labor unions and strong collective bargaining provisions did correlate with credit stress, many municipal bonds would likely be insulated from such credit pressure. Public employees are generally paid from a state or local government’s general fund. Bondholders are often paid from legally segregated funds and revenue streams. Bonds secured by dedicated taxes, statutory liens, or net revenues of public enterprises are typically unaffected by a host government’s labor troubles. For example, in Illinois, tax revenue flows first to the debt service fund each month.42 In California, school district general obligation bonds are paid from revenues never controlled by the school district.43
Little Strategic Value to Impairing a Governments’ Finances
Importantly, labor leaders benefit little by inducing government bond defaults. Most issuers’ debt levels are relatively low, so there is little to gain financially by diminishing a government’s access to capital. A bond default often increases the likelihood of layoffs, privatization of local services, and, in dire situations, lower pension recoveries. All of these scenarios threaten union membership, political clout, and dues. We have seen this rationale play out with regard to pension reform. Many labor leaders have supported restructuring pension plans to ensure the pension funds’ solvency (or as one leader put it, to save the “goose that lays that golden egg”).44
Poor Labor Relations are Likely to Impact Distressed Issuers Most
Poor labor relations are likely to impact issuer credit quality in three overriding ways. First, powerful labor unions may seek to slow the restructuring of labor contracts and, in so doing, diminish credit quality. Second, poor management-labor relations may accidentally trigger a bond default during financial emergencies. Third, a small minority of unions may seek a “shared-pain” approach to municipal restructuring when it appears a municipal government is irretrievably insolvent.
Many state and local government bond issuers may encounter the first scenario in the coming years. In the high grade space, many issuers are in relatively sound financial condition, with modest debt burdens, good liquidity, and adequate economic resources.45 These issuers’ labor unions may seek to delay necessary reforms that lack immediacy. This behavior can reduce financial flexibility over time and lead to meaningful – but manageable – deterioration in credit quality. Issuers that carry double-A ratings today may carry single-A ratings tomorrow.
Few issuers are likely to succumb to the second situation. However, in instances of dire financial distress, poor management-labor relations may inadvertently trigger a bond default. Recent defaults in Detroit, Michigan and Scranton, Pennsylvania are examples. In Detroit, labor leaders and the City Attorney triggered a two week delay of a note payment to Bank of America by filing lawsuits challenging the validity of a State-City accord.46 In Scranton, a February 2012 court ruling awarding back pay to police officers and firefighters led, in part, to a June default.47 In both cases, City leaders and unions ostensibly sought to avoid default.
The third situation seems unlikely, but there are growing hints that some labor unions may seek a “shared pain” approach when faced with municipal insolvency. Labor leaders in Michigan are seeking repeal of that state’s emergency financial manager legislation knowing that repeal might lead to bond defaults.48 Well secured municipal bonds are likely to survive this kind of strategy.49 However, poorly secured bonds may prove vulnerable.
Going forward, Breckinridge will continue to monitor developments in public sector labor law and assess their impact on state and local credit quality. Public sector labor structure has historically had little correlation with credit quality. However, this pattern may be changing for certain distressed issuers. While we remain confident that the overwhelming majority of issuers will ably manage their current labor cost pressures and avoid bond defaults, we remain cautious about the lower tier of the market.
DISCLAIMER: The material in this document is prepared for our clients and other interested parties and contains the opinions of Breckinridge Capital Advisors. Nothing in this document should be construed or relied upon as legal or financial advice. Any specific securities or portfolio characteristics listed above are for illustrative purposes and example only. They may not reflect actual investments in a client portfolio. All investments involve risk – including loss of principal. An investor should consult with an investment professional before making any investment decisions. Factual material is believed to be accurate, taken directly from sources believed to be reliable, including but not limited to, Federal and various state & local government documents, official financial reports, academic articles, and other public materials. However, none of the information should be relied on without independent verification.
1. See Monica Davey, “With No Contract Deal by Deadline in Chicago, Teachers will Strike,” New York Times, September 9, 2012.
2. See Stephanie Banchero and Kris Maher, “Strike Puts Spotlight on Teacher Evaluation, Pay,” Wall Street Journal, September 10, 2012.
3. See Richard Kearney, Labor Relations in the Public Sector, p. 12-13. Public Administration and Public Policy (2001).
4. See Kearney, at 14.
5. See Joseph E. Slater, Public Workers: Government Employee Unions, the Law, and the State, 1900-1962, p. 14. Cornell University Press (2004).
6. See Slater, pp. 13-16.
7. See Slater, 13-16.
8. See Martin H. Malin, Public Employees’ Right to Strike: Law and Experience, 26 U. Mich. J.L. Reform 313 (1993), at 313.
9. See National League of Cities v. Usery, 426 U.S. 833 (1976).
10. See Stewart Liff, Managing Government Employees, American Management Association, p. 17 (2007).
11. See Kenneth Jost, “Public Employee Unions: Are the Current Attacks Justified,” p. 316. CQ Rsearcher, Vol. 21, No. 14 (April 8, 2011). The 40% figure includes federal workers.
12. See Kearney, p. 17-21.
13. See Kearney, p. 60.
14. See Kearney, p. 19.
15. See Ann C. Hodges, “Lessons from the Laboratory: The Polar Opposites on the Public Sector Labor Law Spectrum,” 18 CORNELL J.L. & PUB. POL'Y 735 (2009).
16. The right to form a union is protected by the “freedom to assemble” under the Constitution’s first amendment. So, states must respect the rights of employees to assemble for the purpose of political action or speech, etc. However, states are not required to collectively bargain with those unions. Absent a federal law to the contrary, states retain the authority to control many aspects of public employment, including whether to enact collective bargaining laws. There may also be limits to federal power in this regard. The 10th amendment might protect states from a collective bargaining law unduly interferes with their sovereign rights.
17.State and local governments remain exempt from the federal National Labor Relations Act (NLRA), which has led to a wide variety of approaches labor relations in the states. The NLRA governs the unionization and collective bargaining rules for private sector employers and unions in the United States.
18. See Title 40.1, Chapter 4 of the Virginia Code: § 40.1-57.2. “No state, county, municipal, or like governmental officer, agent or governing body is vested with or possesses any authority to recognize any labor union or other employee association as a bargaining agent of any public officers or employees, or to collectively bargain or enter into any collective bargaining contract with any such union or association or its agents with respect to any matter relating to them or their employment or service. See also: § 95-98 of the North Carolina General Statutes: “Any agreement, or contract, between the governing authority of [any North Carolina government]… is… against the public policy of the State, illegal, unlawful, and void and of no effect.” See also, Kearney, p. 63.
19. See Fla. Const. art. I §6; Haw. Const. art. XIII, §2; and Mo. Const. art. I §§8-9.
20. See Kearney, p. 60.
21. See Kearney, p. 67.
22. See Malin, p. 313 – 320.
23. See Kearney, p. 235.
24. Todd Dvorak, “The Best of Prophets: Historical Perspective and Potential Reform of Public Sector Collective Bargaining in Indiana.,” 85 Ind. L. J. 701 (2010). Note that the Indiana House of Representatives later codified the elimination of collective bargaining rights in House Enrolled Act 1001.
25. See Senate Bill 5, State of Ohio (2011).
26. See 2011 Wisconsin, Act 10
27. The changes were included in Massachusetts’ 2011 budget bill. See M.G.L. Chapter 32B, Sec. 22(c). “The decision to accept and implement this section shall not be subject to bargaining pursuant to Chapter 150E or Section 19.” Chapter 32B applies to group health insurance policies for counties, cities, towns, and various other political subdivisions in Massachusetts.
28. See Liff, p. 14.
29. See Stephen Goldsmith, “Partnering for Public Value: New Approaches in Public Employee Labor-Management Relations,” 5 U. Pa. J. Lab. & Empl. L. 415 (2003)
30. See Leo Troy, “Are Municipal Collective Bargaining and Municipal Governance Compatible?” 5 U. Pa. J. Lab. & Emp. L. 453 (2003).
31. See “Longshore and Warehouse unions reach agreement, end strike,” King5.com, September 14, 2011. Available at: http://www.king5.com/news/Longshore-and-Warehouse-unions-reach-agreement-ending-strike-129857598.html.
32. See “Detroit water strike weakens; 80% of workers cross picket line to work,” Detroit Free Press, October 3, 2012. Available at: http://www.freep.com/article/20121003/NEWS05/121003079/detroit-water-department-strike
33. See “Possible longshormen’s strike could cripple Port of NY and NJ,” NJ.com, Tuesday, Aug. 28, 2012. Available at: http://www.nj.com/news/index.ssf/2012/08/possible_longshormens_strike_c.html.
34. See “Michigan Unions Seek Constitutional Protection,” Stateline.org, October 8, 2012. Available at:
35. See “Illinois fails to act on public pensions in special session, Chicago Tribune, August 17, 2012. Available at: http://articles.chicagotribune.com/2012-08-17/news/sns-rt-us-illinois-pensionsbre87g0cy-20120817_1_pension-costs-pension-system-democratic-governor-pat-quinn. See also, “California leaders strike public pension reform deal,” Chicago Tribune, August 17, 2012. Available at: http://articles.chicagotribune.com/2012-08-28/news/sns-rt-us-california-pensionsbre87r13b-20120828_1_public-pension-pension-system-enormous-pension.
36. See: “3 Unions join lawsuit over state pension changes,” Maine Business Journal, October 3, 2012; “Unions Threaten Lawsuit over L.A. City Pension Changes,” Los Angeles Times, September 25, 2012; “State asks pension lawsuit to be tossed,” The Advocate, October 12, 2012; “Raimondo Pension Lawsuit Seen Risking Bankruptcies,” Bloomberg, July 27, 2012; and “San Jose pension fight has statewide ramifications,” San Francisco Examiner, June 24, 2012.
37. See RBC Capital Markets Research note: “Management-Labor Disputes Hit Municipals,” March 1, 2011 and Center for Budget and Policy Priorities report: “States Continue to Feel Recession’s Impact,” June 27, 2012, p. 5. New York figure is for FY 13.
38. See Merritt Research Services and “The Widening Gap Update,” Pew Center on the States, p. 5 June 18, 2012.
39. See Roger Lowenstein, While America Aged, p. 135 – 152. The Penguin Press (2008).
40. Whether workers are paid while picketing is determined by local law regarding public sector strikes.
41. See RBC Capital note, March 1, 2011.
42. See State of Illinois, General Obligation Refunding Bonds, Series of February 2010. Available at: http://emma.msrb.org/EA367384-EA289420-EA684910.pdf.
43. See Cal Educ. Code §15250, §15251, §15252, §15253, §15254.
44. The quote was in reference to union acquiescence to pension changes in Minnesota. Unions in Minnesota supported pension changes to save the fund and the state’s ability to support it. The union agreed to less generous cost-of-living adjustments because such a reform likely delayed or forestalled a change to a 401k system. See: Jeannette Neumann, “State Workers, Long Resistant, Accept Cuts in Pension Benefits,” Wall Street Journal, June 29, 2010.
45. Conclusion based on Breckinridge’s internal analyses of client portfolios and Moody’s Investors Service annual state and local government “medians” reports.
46. See “Matt Helms, “Judge ousts lawsuit challenging Detroit’s consent agreement,” Detroit Free Press, July 26, 2012. See also Caitlin Devitt, “Detroit Wins Extension on Payment Date on B of A Merrill Debt,” Bond Buyer, July 5, 2012.
47. In February, the Pennsylvania Supreme Court ruled that Scranton could not escape a collective bargaining obligation in perpetuity just because the City was routinely unable to extricate itself from Pennsylvania’s Act 47 program. Pennsylvania’s Act 47 is a municipal distress law that suspends certain municipal rules. It is intended that Act 47 municipalities will emerge from distress in short order and return to fiscal stability. Scranton has been under Act 47 supervision for over 20 years.
48. See Chris Christoff, “Michigan Voters Risk Bankrupt Cities With Vote on Managers,” Bloomberg, October 10, 2012. Available at: http://www.bloomberg.com/news/2012-10-10/michigan-voters-risk-bankrupt-cities-with-vote-on-state-managers.html
49. For example, in Central Falls’ case, bondholders were paid, in part, because the state placed a statutory lien on the payment of the RI municipal bonds. Labor creditors were unable to reach the revenues pledged to bondholders. In Stockton, California, the City plans to continue payments on its water revenue bonds. These bonds, like all “special revenues,” are exempt from the automatic stay in bankruptcy under 11 USC 902(2)(A),
