Lawmakers leaked to the NYTimes this morning their intent to find a way for States to re-organize their debts under something much like bankruptcy.
The problem is that State’s pension and healthcare insurance obligations are so high that they can’t pay for the essential services they need to provide, like schools and roads. So, like GM on the brink of collapse a couple of years ago, they are looking for a way to reorganize those debts. That means finding a way of not paying them.
If only States could go bankrupt, then the federal government could step in and change all the rules, just like they did with GM. A judge could simply decide how much of what people and companies are owed will actually get paid. Municipal bondholders get this percent of the face value of their bonds, state employees get this fraction of the pension, the asphalt company gets this percent of the invoice it’s owed, and so on. And the Fed could simply print the money to pay these debts, or the US Treasury loan the money.
The good thing about it is that with all these debts effectively shifted to the past and handled by some kind of “bad” state (just like the “bad” GM took all the bad stuff so that the “new” GM could flourish unburdened by debt and useless assets) the new state could then move on fresh and clean. And that would be good for me, personally, in the short term. I’ve got no pension, no municipal bonds, and no contract with the state. I do have a kid in kindergarten, and I’d love for the public schools to stay solvent.
The bad thing about it is that everyone owed money by the states in question would get the shaft. Union workers, retirees, and so on. Chances are, municipal bondholders would not have their bonds reduced the way GM bondholders did, for fear of setting off a market panic and compounding states’ problems. But bond values would drop, anyway, as investors and pension funds flee for fear of what could happen. (Which means the way to “play” this crisis would be to buy munis after they drop, when their interest rates skyrocket – simultaneously getting out of cash, which will be printed by the fed to pay the states’ debts.)
For any of this orderly bankruptcy-style debt reorganization to happen, however, states would have to get the law changed. They are considered “sovereign,” which means as corporations they are not subordinate to the federal government, so they can’t be re-organized from above. The current dialogue is a way of preparing the pubic for the eventual reality of state bankruptcies, and testing which sort of re-organization language and structure will be least threatening to our perception.
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