The False Hope of State Bankruptcy

Brian Lehrer in Conversation with Nicole Gelinas

Thursday, February 10, 2011

stethoscope with dollar bills money (truthout/flickr)

Welcome to Politics Bites, where every afternoon at It's A Free Country, we bring you the unmissable quotes from the morning's political conversations on WNYC. Today on The Brian Lehrer Show, Nicole Gelinas, contributing editor at the Manhattan Institute's City Journal and author of After the Fall: Saving Capitalism from Wall Street and Washington, talked about her Congressional testimony on the fiscal woes of state and local governments — and whether bankruptcy should be an option.

In the first year after the end of the federal stimulus package, states across the country are looking for ways to deal with their accumulated debt. On Wednesday, New Jersey’s bond rating was reduced by Standard & Poor's from AA to AA-, which will mean higher interest rates, potentially making it even more difficult for the state to dig out from its debt. 

The Manhattan Institute's Nicole Gelinas testified at a Congressional hearing on Wednesday on whether states should be allowed to declare bankruptcy. Gelinas said permitting this kind of default would have massive and likely negative implications.

Analyst Meredith Whitney, who was one of the first to predict the Citigroup meltdown, predicted recently that there will be dozens of municipal defaults as cities scramble to cover their costs. Gelinas is less concerned and pointed out that bond debt obligations are only four-to-five percent of most city and state budgets.

If [Meredith Whitney] is talking about small-scale municipal defaults... and having more defaults than we usually have because of the recession... that would not be unexpected and it would not be a disaster. If she is talking about fifty defaults —  where it would be ten states and thirty big cities defaulting — I think that would be a different thing and I don’t see that happening.

Municipalities are allowed to declare bankruptcy if their home states allow it, even if the states themselves are not. Some 600 municipalities have declared bankruptcy in the last fifty years. Gelinas said that state bankruptcy would be a much different thing. 

For a small city that got itself into to trouble to go bankrupt is terrible for the people who live there and depend on them, but it is not the end of the world for the financial markets or the economy. It’s a completely different thing from, say, the state of California bankrupting.

A big part of the problem right now with investor confidence in state bonds has to do with the financial industry as a whole, said Gelinas.

There’s just a lack of trust in the financial industry now, so no matter what the merits of the investment... [investors] are not going to listen to their advisors this time, whether or not they should… This is a problem that goes back to how we haven’t fixed the financial industry.

Gelinas said the downgrading of New Jersey is more about future obligations than current ones. 

One thing that’s interesting about the New Jersey downgrade is that Standard & Poor's specifically talked about the state’s pension fund. New Jersey’s pension fund is one of the worst funded in the country… Standard & Poor's is looking out five or six years and saying that if New Jersey doesn’t start to get it together and put money into this pension fund, it’s going to see serious problems down the road.

Gelinas agreed that New Jersey will have to choose at some point between pensions, benefits, and public services. She said while Whitney’s predictions of widespread bankruptcies are premature, those predictions do highlight future problems that states will be forced to face.

These are long term problems and we still have time to solve them. If we wait for a crisis then it will be too late.

The hot button issue now is whether the law should be changed to allow states to declare bankruptcy. Gelinas said there are good reasons for not changing the law. 

State bankruptcy is a solution in search of a relevant problem…How are you going to take pension benefits that are the obligation of one public authority away, so that you can pay bond holders at another public authority? There is no way to put all of this stuff in one pool without ripping up tens of thousands of pre-existing agreements, covenants, laws. It would be Congress changing the rules of the game in the middle of the game, which is not a good idea in almost any circumstance.

A caller from South Brunswick said there has to be some restructuring of what people receive, especially of state workers, but it should be fair and across the board.

Whether we like it or not, something has to happen. We cannot support people as they go into their older age and just continue to pay for their medical coverage.

Another caller from Marine Park pointed out the danger of a default driving investors away.

Why would anybody invest when they could simply switch to something else?

Gelinas agreed that the current benefit structure is unsustainable, but said bankruptcy won’t fix the problems. She said without a change of state law, states will still be held to their current expensive contracts and obligations.

These are questions that markets can’t solve, you’ve got to fix them through the democratic process — which means, unfortunately, people are still stuck pressuring their politicians to do the right thing, but there’s no way around that in a democracy.

Several callers expressed concern that state bankruptcy would be problematic. Gelinas agreed.

The only thing state bankruptcy statute would get you is years and years of litigation. If we’re looking for a silver bullet, this is not it.

Some conservatives have ideological reasons to want state bankruptcy, of course, as it could deal a huge blow to unions and potentially rally the conservative base.  Gelinas noted it is only people like Newt Gingrich and Jeb Bush, who themselves are not in office, who are pulling for states to be allowed to declare bankruptcy. People in current office are not asking for bankruptcy powers.

When you’re in office, you’ve got to look at the details of things before you start talking about them and I think they’ve realized this is not the answer. This is a problem endemic to politics — people without responsibility happy to go off saying things that are not going to work in practice.


Nicole Gelinas


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Comments [19]

Eugenia Renskoff from Brooklyn

Hi, People who have worked hard al their lives should not lose their pensions. They need to come first. Eugenia Renskoff

Feb. 10 2011 01:30 PM
Jane from Glen Rock, New Jersey

There is a recurring problem with discussions that pit state employees against taxpayers in our current fiscal mess. Yes - we all have to be mindful of each other and compassionate and willing to share the burden of over-spending. We need to find equitable solutions to our shared problems. However, I am sick and tired of listening to comments that assume a polarity between state workers and taxpayers. STATE WORKERS ARE TAXPAYERS!!! I am a professor at a state university in New Jersey, and I promise you, I pay an exorbitant amount of taxes each and every year. Am I happy about it? No, but I understand the bind that we are in. We all have to pay our fair share. Please stop vilifying those of us who have devoted many long years of hard work and paying into the system just because we are employed by the state. The fact that I will have health care when I retire doesn't make me the bad guy or the problem.

Feb. 10 2011 11:13 AM
RBC from FiDi

The spending cuts shouldn't just be focused on the municipal workforce and union employees - there also should be a great focus on these contracts that the city & state make with private entitites. CityTime should've been a wake up call, but apparently not.

Feb. 10 2011 10:52 AM
John Lobell from NYC

Where was our WNYC watchdog media all those years while laws and constitutional provisions were accumulating that got us into this mess??????

Feb. 10 2011 10:30 AM
Fafa from Harlemworld

(Slightly off-topic, but what credibility do 'conservative' think tanks like MI have left after the laissez-faire economic theories they perpetuated have clearly failed?)

Feb. 10 2011 10:29 AM
bob from huntington

let me see: the economy was mugged by the banking industry. yet, the solution to making up the resulting losses is to extract wage and benefit concessions from working people--who, as taxpayers, contributed to bailing out the muggers.

so, while we're getting bogged down in the intricacies of bankruptcy and related rounds of finger-pointing, the muggers continue to prosper--with no accountability for the mess they've created for the rest of us.

Feb. 10 2011 10:29 AM
Brenda from Brooklyn

Deal with Egypt in another segment, Brian. This is an important issue and should be discussed fully. We can wait 20 minutes to hear about a different topic.

Feb. 10 2011 10:27 AM

If this is what happens when a ratings agency drops from AAA to AA-, just imagine how much honest-to-goodness panic it would have caused if NJ's rating dropped to B (assuming that ratings agencies were credible to begin with)...

Feb. 10 2011 10:26 AM
Robert from NYC

Bravo Fafa!

Feb. 10 2011 10:24 AM
Fafa from Harlemworld

Another race to the bottom...Seems that these economic discussions too often happen in vacuums. Facing fiscal crisis, for instance, we contemplate taking away the benefits of the stressed working class/ dwindling middle class, with no consideration of larger structural problems like ever growing income inequality...

Feb. 10 2011 10:23 AM

doesn't everyone get medicare after 65?

by the way these benefits were agreed to during contract negotiations.

Feb. 10 2011 10:22 AM
Latisha from Bronx

To the last caller, why would anyone invest in a state that has a nonsensical budget that constantly threatens their investment with huge deficits? They increasingly wont which is why the borrowing costs are going up. We are going to get to the bankruptcy point one way or another. Its a question of whether we do it smart, or kicking and screaming with mistakes along the way.

Feb. 10 2011 10:21 AM

Estimate on price to States of resulting investor and pensioner lawsuits?

Feb. 10 2011 10:20 AM

The big ratings agencies were astoundingly poor at rating the banksters' CDO offerings.

Why should we trust them now on how they evaluate the states? Do they have a financial stake in downgrading them? Some kind of backdoor deals with banksters?

Feb. 10 2011 10:16 AM

I read recently about the effect of bankruptcy on the state of Arkansas, way back during the Great Depression. It appears it resulted in the state stagnating for decades and acquiring a reputation for not providing decent services. And that was not a huge incentive for business to invest there.

Feb. 10 2011 10:15 AM

It’s strange that bankruptcy would be considered at the same time as all revenue source are not being utilized, ie millionaire tax cuts or not raising the gas tax to pay for the roads and other infrastructure used by drivers and truckers.
I guess the real message is if u don’t want to pay ur debts and obligations just walk away.
That’s the new america

Feb. 10 2011 10:14 AM

Like it conceptually. Will force municipalities to become competent or merge.

Before the Bush bank bailout, continued by Obama, this is exactly what I had hoped and assumed was going to happen to the finance industry.

Municipalities becoming competent will require a level of training that is far beyond America's current capacity. Fiscal competence would be a huge demand from our educational system and politicians.

Feb. 10 2011 10:12 AM

I'm curious: Did Mayor Bloomberg support the necessity of honoring the contracts of banskters to receive their bonuses, even though the banksters played a large role in the economic collapse?

IIRC, those contracts, we were told, HAD to be honored...bcz they were contracts.

Now, it seems, with contractual obligations to little people, Mayor Bloomberg does not agree that contracts are sacred....

Go figure. And then realize where we little people are on the food chain....

Feb. 10 2011 10:11 AM
Latisha from Bronx

Bankruptcy is really the only way to clean the books of the decades of bacroom deals that have put our state in such a mess. The residents cannot pay more. Let the localities and states enter a controlled default.

Feb. 10 2011 10:10 AM

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