Friday, January 21, 2011

Loose talk of allowing states to declare "pseudo bankruptcy" bad for muni bond markets; GOP may say "drop dead", but to retirees?

The New York Times has a harrowing front page story Friday, by Mary Williams Walsh, “A path is sought for states to escape debt burdens; traditional bankruptcy is not an option but versions of it gain support”, link here

As of now, states cannot declare bankruptcy, and they cannot print money; they must remain solvent, but cannot pay with money they don’t have; the federal government can (and just listen to the GOP on this.)

Politicians are afraid to introduce a bill allowing bankruptcy. Merely seeing the bill on Thomas or govtrack would drive down municipal bond markets, which have gone soft since late 2010 over economic uncertainty about tax policy. Even “pseudo bankruptcy” would put retirees and bond investors at the back of the line as creditors. However a concept like “Big Mac” as was used in the 1970s during NYC’s financial crisis (“Ford to City: Drop dead!”) might work.  Back in the 70s, the teachers' union had to relent to avoid a massive default. 

But the issue is challenging to retirees in more than one way: pensions, and the value of traditionally safe tax-free investments.

States could also conceivably lighten their Medicaid nursing home burdens by starting to enforce filial responsibility laws (in 28 states) on adult children. 

Update: Feb. 4

The Washington Times has a followup by Patrice Hill, "GOP Plan would let states go bankrupt; prospects rock bond market", link here.  It's sort of a "Newt Gingrich to California: Drop dead". Bond markets had only just calmed down a little from the same talk about municipalities.  One of my own portfolio (with Suntrust)  has fallen 10% since Dec. 1.

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