Tuerto de los ciegos

The coming wave of municipal bankruptcies

Posted in Finance by Kyle S on February 18, 2010

This was originally an email to the MaisonBoys list.

I’ve mentioned the coming municipal financial armageddon on this list before: essentially, lots of state and local governments have made a lot of promises that they will not be able to keep. This is increasingly coming to a head these days as municipalities learn the intricacies of chapter 9 bankruptcy law. The Wall Street Journal tackles this subject in an article today (excerpted below). Beyond the governments listed, Birmingham, AL will almost certainly have to file at some point (they are currently in default on some of their sewer bonds) and there are numerous others who will get there given enough time.

The town of Vallejo, CA, which is “ahead of the curve” in that it filed chapter 9 in 2008, will be a very interesting test case. The town is attempting to reject the public employees union contracts (which I’ve predicted will be a huge sticking point in exactly these types of situations) amidst outrage and steadfast opposition from the union and its supporters. It will likely come down to the courts (maybe even the SCOTUS, if it gets appealed that far) to see whether or not Vallejo is allowed to reject the contracts and associated guaranteed benefits. If they ultimately are able to do this, it makes chapter 9 a much more appealing vehicle for towns and counties that not only face staggering interest payments on municipal debt (like Harrisburg PA in the article below, or birmingham) but also daunting pension shortfalls or expensive health plans.

My take: if it gets to SCOTUS, the contracts will be deemed rejectable; if not, the unions will likely win. I actually side with Vallejo on this one: bankruptcy is a vehicle to allow companies and even governments a “do-over”, which vallejo and others badly need. these contracts are exactly the types of obligations that hinder the competitiveness of private sector organizations (hello, automakers!) and localities should not be held hostage by a privileged interest group at the expense of the rest of their citizens, many of whom could only dream of the nearly guaranteed lifetime employment, health benefits and generous pensions that public unions feature.

Muni Threat: Cities Weigh Chapter 9


Just days after becoming controller of financially strapped Harrisburg, Pa., in January, Daniel Miller began uttering an obscure term that baffled most people who had never heard it and chilled those who had: Chapter 9.

The seldom-used part of U.S. bankruptcy law gives municipalities protection from creditors while developing a plan to pay off debts. Created in the wake of the Great Depression, Chapter 9 is widely considered a last resort and filings under it are more taboo than other parts of bankruptcy code because of the resulting uncertainty for everyone from municipal employees to bondholders.

The economic slump, however, is forcing debt-laden cities, towns and smaller taxing districts throughout the U.S. to consider using Chapter 9. As their revenue declines faster than expenses, some public entities are scrambling to keep making payments on municipal bonds. And that is causing experts to worry about the safety of securities traditionally considered low risk.

“People believe that municipal debt is safe based on assumptions that are no longer true,” says Kenneth Buckfire, managing director and chief executive of Miller Buckfire & Co., an investment bank that has worked with corporations on restructurings and now is advising municipalities. For example, it isn’t safe to assume that governments can raise taxes to cover shortfalls, he says.

Even threatening bankruptcy signals that municipalities are willing to compromise the security of bondholders, says Richard Raphael, an analyst at Fitch Ratings. That makes it harder for cities and towns to raise money from investors and will slow the U.S. economic recovery.

In Harrisburg, which is Pennsylvania’s capital and has a population of about 47,000, a March 1 deadline is looming on a payment of $2 million out of the $68 million due this year for the financing of an incinerator plant. The facility has about $288 million in overall debt.

“Bankruptcy is inevitable,” Mr. Miller says. “We are in a terrible bind.” A budget passed Saturday by Harrisburg’s city council didn’t include any funds to cover the debt payments, according to the city clerk’s office.

More here