The Corner

State Bankruptcy: Harder than It Looks

In last weekend’s Radio Derb I pontificated on the prospect of states being allowed to declare bankruptcy:

The states have two big blocs of creditors: Municipal bond holders, and retired state employees. In bankruptcy proceedings, who’s going to have the first claim on state tax revenues? Well, bond holders can always walk away, and in fact have been doing so — the Times tells us that $25 billion has flowed out of Muni funds in the past two months. Nobody has to hold municipal bonds, but state retirees do need food and housing.

But then, a collapse of the Muni market is unthinkable, with big institutional investors — people like insurance companies — swirling down the plughole. Washington isn’t going to let that happen.

So if state bankruptcies become a reality, it’s the state workers who are going to taste cold steel. Future hires will certainly be given much less generous packages. It may even be that current workers and retirees will have to take haircuts, state constitutions notwithstanding.

Nicole Gelinas, who for my money (really) is America’s premier writer on government finances, points out a critical difficulty that makes the whole state-bankruptcy project nineteen times more difficult than anyone in Congress seems to realize:

The idea seems to be that the Empire State would go “bankrupt,” figure that it can afford only, say, 80 percent of [its outstanding bond debt] — and get a judge to lop off 20 percent.

Ha. The complications of the municipal-bond markets make this plan hopelessly naive.

For starters, states like New York run up “their” debt indirectly. They issue bonds through tens of thousands of separate legal entities. New York “state” doesn’t owe all of that $78.4 billion in debt — it owes only $3.5 billion in “general-obligation” debt.

Who owes the rest? The MTA, the Dormitory Authority, the Triborough Bridge & Tunnel Authority and so on.

… … …

States’ problems aren’t pretty. The solutions may be messy. But bankruptcy wouldn’t be a messy answer; it would be no answer at all.

For bankruptcy to work, this tangle of independent or semi-independent bobnd-issuing agencies, each with its own peculiar legal and state-constitutional standing, will have to be collapsed somehow into general-obligation state debt. Can this actually be done? I asked my bond guy. He: “The lawyers proved how smart they were by doing it, and now they’ll prove how smart they are by undoing it.”

I hope he’s right; but I have this vision of a guy defusing a complicated bomb, the timer dial clicking down through single digits, and he starts snipping wires at random.

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