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Tags: Municipal Bonds

Two Ways to Approach a Deficit



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Detroit, the standard specimen of urban dysfunction, has, you will not be terribly surprised to learn, a serious municipal deficit. The numbers and trends will be familiar to anybody who has monitored the evolution of that fascinating modern parasite, the government employee: Having destroyed the city’s economic base and rendered most of the city proper unlivably dangerous, the political powers of Detroit have maintained a consistently large government work force, which subsequently has grown entirely out of proportion to its declining population. Detroit today employs one city worker for every 55 residents, as opposed to one city worker for every 109 residents in Charlotte, which is just barely bigger than Detroit (the Motor City has indeed declined so much) and one city worker for every 101 residents in El Paso, which is one spot down from Detroit on the population rankings. And on its Spartan city budget, El Paso maintains the nation’s second-lowest crime rate among large cities (behind Honolulu), despite its being conjoined to besieged Juarez, Mexico, one of the world’s most dangerous cities. Detroit was found to be America’s most dangerous city in a 2009 Forbes study.

Detroit maintains 13,000 government workers but has 22,000 government retirees burrowed into the body politic, and their health-care subsidies alone account for nearly $200 million of the city’s budget. Pensions alone already account for a quarter of city spending; in three years, they will account for half. Pensions and city workers’ health-care subsidies account for $561 per year from every resident of Detroit, which has a very poor population — average monthly income of barely $1,200 before taxes, a fifth of the population in poverty, etc. The official unemployment rate is 30 percent; the real rate is much higher.

One would think that a city in that condition would engage in some austerity measures, if only small and largely symbolic ones. But then one would fail to appreciate the sort of willful malevolence that put Detroit into its current condition. Rather than cut corners, the city recently finished a multimillion-dollar renovation of a single library branch, installing designer chairs from Allermuir at $1,000 a copy. That’s a lot of library for a city in which about half of the adult population was estimated to be functionally illiterate in a 1998 National Institute for Literacy study. (I was not able to find a more recent estimate, but I cannot imagine that the numbers have much improved, especially since Detroit mayor Dave Bing is pressing to include Detroit natives currently resident in out-of-town abodes of the sort with armed guards and doors that don’t unlock from the inside as part of the city’s population. (That is not purely a matter of civic pride; with its population fallen below 750,000, Detroit is not legally entitled to collect a city income tax.)

Having exhausted all its other options, Detroit’s nominal city government finally is turning to the root of its fiscal problem, and is asking for concessions from the labor unions, which are the city’s real government. The main targets are pensions and health-care costs, along with sheer  work force size. The unions are not inclined to budge. The city council is poised to make things worse by reducing its payments to the city’s pension fund, which will not save money — the pension payments still will be made – but will simply hasten the day on which those pensions will either be rendered insolvent or will require even more direct taxpayer support, i.e., it’s fiscal nonsense on stilts.

Dartmouth College faced a big deficit this year, too, its endowment having been double-decimated (it declined by one-fifth) as a result of the market turbulence of 2009 and after. Dartmouth enjoys many benefits not available to the city of Detroit: Its governance is democratic in only the very loosest sense, and its left-wing maniacs are of the variety who mostly know how to count money. But it also has disadvantages: It cannot levy taxes, for instance, nor issue tax-free bonds on the muni market.

This is how Dartmouth closed its deficit: It fired about 40 employees outright and bought out more than 100 more. It eliminated 82 more positions through attrition, cut raises, and reduced health-care benefits. Dartmouth does not have the ability to levy taxes, but it did raise the cost of attendance (by replacing some grants with loans). The faculty howled and no doubt will continue howling. But Dartmouth acted more or less as if the school believed that its main obligation is to the students, present and future, that it will educate, and not to its employees, whose professional duty is to serve that obligation. Detroit, on the other hand, like most cities (and states and other government groupings) proceeds as though its main obligation is to its employees; in Detroit, that probably is the politically intelligent thing to do, since the citizens are fleeing as fast as they can, while the bureaucrats are staying put.

If there is a lesson to be had from these examples, which admittedly are very different, it is this: Matters of essential fiscal prudence should be isolated from democratic pressures to the extent that it is possible to do so. The main reason that our states run balanced budgets (other than their ability to mask their deficits) is that they are not legally able to do otherwise. While I remain skeptical of the model of problem-solving that says, in essence, “Pass a constitutional amendment saying the problem is solved,” I am increasingly sympathetic to the case for a balanced-budget amendment, and for attaching one to the debt-ceiling bill. True, it would take years for such a thing to become law, if ever it did. But it would be worth the wait.

—  Kevin D. Williamson is a deputy managing editor of National Review and author of The Politically Incorrect Guide to Socialism, published by Regnery. You can buy an autographed copy through National Review Online here.

Tags: Debt , Deficit , Despair , Fiscal Armageddon , Municipal Bonds

Never Mind Putting Republicans in Congress . . .



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. . . city hall is where they might do some good. Union goons, meet Exchequer’s new favorite mayor, Tomás Regalado of Miami. (Technically a non-partisan election; he’s a Republican.)

Miami commissioners are likely to impose contracts on the city’s employee unions that will cut wages and pensions to ease a projected $96.5 million operating- budget gap next fiscal year, Mayor Tomas Regalado said.

“Probably in two weeks the commission will impose a contract whereby we will be reducing salaries and pensions, which is what’s responsible for the deficit,” the first-term mayor said in an interview on Bloomberg Television outside City Hall today.

Miami faces a pension payment exceeding $100 million in the fiscal year that begins Sept. 30, Regalado said, which will consume a fifth of its operating budget. Moody’s Investors Service and Standard & Poor’s both cut the city’s general- obligation bond ratings in the past two months, citing the deficit and pension costs.

Get that, taxpayers and bond-market watchers: Government workers’ pensions alone will consume 20 percent of the city of Miami’s operating budget. For many states and municipalities, it is going to get a lot worse than that very soon.

Miami has been playing catch-up on its pensions since the Carter administration, when it came to light that the city was using pension funds for general operating expenses. But with a city attorney who is paid $380,000 a year and a deputy — deputy! — fire chief who is paid $353,000 a year, Miami has a long way to go achieving fiscal sanity. (Would you like a list of Miami’s city salaries? It is here. Read it and retch.)

Mayor Regalado does not want to increase taxes; Miami, already among the cities hardest hit by the real-estate crash, really cannot be jacking up property taxes with tens of thousands of vacant condos languishing on the market. So, he’s biting the bullet, cutting the fat where it’s found — in the paychecks of overfed city bureaucrats — and, apparently, trying to do the right thing.

Hope he has an exit strategy.

Tags: Debt , Despair , Doom , Fiscal Armageddon , Municipal Bonds , Politics , Unions

The Next Bubble: Municipal Bonds?



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An interesting thing happened on the way to the bond market: As I mentioned earlier, the state of Illinois went to market with $900 million in “Build America Bonds,” which are federally subsidized debt instruments intended to be used for infrastructure projects — building bridges, blacktopping roads, and the like. Which is to say, right in the middle of a fiscal meltdown, Illinois is launching a major construction campaign — basically, it’s a make-work jobs project, a chance to get a piece of all the money that the stimulus bill has left on the table and put it in the hands of politically connected union bosses. Thanks to Barack Obama, Nancy Pelosi, and Harry Reid, you and I will be covering a 35 percent federal tax credit for investors in those bonds. (Most of the investors, that is, but not all — more on that development in a second.)

Illinois, already sitting on top of $5 billion in unpaid bills and an imploding pension system, is borrowing money everywhere it can, having already tapped into the bond markets three times in recent years just to cover its unfunded retirement obligations for state employees. (Illinois state-government pension? You should have a retirement so fat.) So the chance to go even deeper into debt, with a federal subsidy to sweeten the deal, was irresistible.

Strangely, the market went crazy for those Build Americas. Illinois is already paying a premium in the debt markets; its credit was downgraded in June and its finances are just abject. But the yield demanded on those Build Americas came in 15 basis points lower than expected, meaning Illinois will pay a little less interest on that $900 million bond obligation. Why did the markets cut Illinois a break? Did they forget the Land of Lincoln is the land of Obama, Blago, and George Ryan? That it has the worst credit rating of any state in the Union? That it’s currently considered a greater default risk than Iceland and that it’s only one spot behind Iraq in the default-risk ratings? (And only three behind Pakistan!) What gives?

The most obvious explanation is that the yield on the Build Americas is nearly 7 percent, and there’s not much out there paying 7 percent right now. Investors also get a 35 percent federal tax credit on those returns, so the real rate is even higher. [See correction below.] But what about the risk? My own suspicion is that, even though the law explicitly says otherwise, there is some suspicion on the part of investors that the Obama administration would, in a crunch, stand behind those Build Americas — especially from a big state like California or from a politically sensitive state like the president’s home turf of Illinois.

Addison Wiggin has an interesting observation: 29 percent of the bids for those Build Americas came in from overseas, where investors don’t even enjoy the tax subsidy. They’re just looking for a yield and not paying much attention to the risk. Investors are liking governments: Capital inflows into municipal bonds are way up — $2.7 billion this week vs. $676 million last week, with similarly strong increases in the four-week rolling average — and junk-rated municipal bonds are popular, too. Wiggin sees a bubble and reports:

Allstate (perhaps not ironically headquartered in Illinois) has trimmed its muni holdings by 13% over the last three quarters. An insurance giant holding $20 billion in munis is seeing the same subprime-style risks we outlined in the last issue of Apogee Advisory:

  • Widespread investor acceptance
  • Complicated derivatives
  • Intense incentive for banks to make deals
  • Boneheaded assumptions of endless return on investment
  • Loads of underqualified borrowers
  • Stunning amounts of leverage and debt
  • Social and political pressure to grow at all costs

The multi-trillion-dollar muni market remains loosely regulated, and despite high-profile mishaps in the subprime market, municipal bonds still carry overstated credit ratings from Wall Street’s finest firms.

The latest stimulus under consideration, Stimulus V, is a state-and-local bailout in disguise. If Illinois, California, and the others keep borrowing like this, they won’t even be able to disguise the coming bailout when the municipal-bond bubble bursts.

I wonder, Where will the money come from?

STIMULUS SPENDING UPDATE: $50,000 in stimulus dollars spent to put on a stage version of Gertrude Stein’s novella Brewsie and Willie. Taking the stimulus to the theater? And nothing for the critics?

UPDATED: Reader Prayin’ for Reagan (nice name)  sends in a correction, which I’m still trying to confirm. In short: There are two kinds of Build America bonds: one in which the 35 percent interest subsidy is paid directly to the bond issuers, and another in which the subsidy is passed on to the bond investors in the form of a tax credit. Either way, the investors receive a higher real yield and the issuers get the benefit of a federal subsidy to offset their risk. I thought Illinois was issuing tax-credit bonds, PfR says I’m wrong. Am checking out now, will update.

UPDATED AGAIN: Prayin’ for Reagan is indeed correct, and I am wrong.

– Kevin D. Williamson is deputy managing editor of National Review.

Tags: Barack Obama , Debt , Deficits , financial Armageddon , Illinois , Municipal Bonds , sovereign credit

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