Stockton California - the largest American city to ever go bankrupt

So the largest city so far in America has declared bankruptcy this week:

http://edition.cnn.com/2012/06/27/bu...

Bloomberg had an interesting analysis of the situation, which blames the bankruptcy on several major factors:

http://www.bloomberg.com/news/2012-0...

The best overview of Stockton’s troubles comes from California Common Sense, a think tank that identifies the factors that combined to drive the city into bankruptcy:

First, Stockton had a huge property bubble, with median home prices rising 200 percent between 2000 and 2006. This flooded the city’s coffers with property tax revenues. Assuming the trend would continue, officials signed employee contracts that proved unaffordable. The city even agreed to a “heads you win, tails we lose” pay structure tied to the city’s tax receipts: In strong revenue years, workers got 7 percent raises, but even if revenues declined, they got 2.5 percent raises.

Then Stockton had a huge property bust. The median home price in Stockton fell 70 percent from 2006 to 2009 (i.e., back to 2000 levels). In many states, municipalities raise property tax rates when values fall; that’s illegal in California, so plummeting home prices meant plummeting tax receipts. But even as tax receipts were falling, compensation costs per employee continued to rise; in recent years, the city sharply cut headcount, but still could not close its budget deficits.

Making matters worse, says the think tank, in 2007 Stockton issued $125 million in pension obligation bonds. As in other jurisdictions that tried to “fix” their pension problems with bonds in the last decade (see Woonsocket, Rhode Island), this backfired: The assets Stockton bought with the bond proceeds declined in value, and the city is stuck with both a pension liability and a bond liability. And that pension liability has been a major driver of the city’s insolvency.

The part about trying to sell bonds to cover pension costs is particularly important:

California also needs to give municipalities more flexibility to adjust employee benefits, so that places like Stockton do not have to resort to bankruptcy to get compensation costs under control. Public employee unions have excessive political power in the state, which could be curbed by abolishing collective bargaining in the public sector. And the state must reform pensions so that costs are predictable and municipalities do not get into pension bidding wars that leave taxpayers saddled with costs for decades to come.

And a national lesson: Nobody, anywhere, should ever issue pension obligation bonds! Let’s think for a moment about what these really are. They are commonly described as a way of exchanging a pension liability for a bond liability. But really, when a city issues pension obligation bonds, it gets a bond liability and keeps its pension liability -- plus it gains an asset that offsets the bond liability. Typically, the jurisdiction invests the bond proceeds in an equity-heavy portfolio, which may lose value, but the bond liability remains fixed

.

How does this happen? Can't the Fed just give them some of its infinite money?

How does this happen? Can't the Fed just give them some of its infinite money?

You put a $5 can of coke next to a $9 can of coke. Despite $5 being an outrageous price for a can of coke, it seems like a rock bottom bargain next to the $9 can.

Then the shop owner tells you that the $5 can of coke increases in value 20% per year with no end in sight. People take out loans to buy 12 packs.

One day, people wake up and realize there is nothing special about the can of coke and the real value is $1 but people are still trying to sell their $5 cans of coke for $2.50. And they still have 8 cans of the 12 pack left but no one is that thirsty.

How does this happen? Can't the Fed just give them some of its infinite money?

Absolutely it could, but Stockton didn't commit any crimes, and won't be employing Mr. Bernanke after he leaves the Fed. So of course they don't qualify for bailouts.

I like Root Beer.

jdzappa wrote:

The part about trying to sell bonds to cover pension costs is particularly important:

Quote:

California also needs to give municipalities more flexibility to adjust employee benefits, so that places like Stockton do not have to resort to bankruptcy to get compensation costs under control. Public employee unions have excessive political power in the state, which could be curbed by abolishing collective bargaining in the public sector. And the state must reform pensions so that costs are predictable and municipalities do not get into pension bidding wars that leave taxpayers saddled with costs for decades to come.

And a national lesson: Nobody, anywhere, should ever issue pension obligation bonds! Let’s think for a moment about what these really are. They are commonly described as a way of exchanging a pension liability for a bond liability. But really, when a city issues pension obligation bonds, it gets a bond liability and keeps its pension liability -- plus it gains an asset that offsets the bond liability. Typically, the jurisdiction invests the bond proceeds in an equity-heavy portfolio, which may lose value, but the bond liability remains fixed

.

It's a bit simplistic to lay the blame at the feet of public employees and their unions.

By far, the one thing that has contributed the most to California's fiscal woes over the years is Prop 13, which capped property tax rates at 1% of the property's value, limited any increases in property tax assessments to 2% a year (instead of the 100%+ increases that were seen during the housing boom), and required a two thirds super-majority on any vote to increase existing taxes or create new taxes.

That law devastated California's ability to raise money to fund the things it's citizens wanted and also made the state overly reliant on income tax revenue to fund its operations. The former has made bonds the go to method of funding since it's about all but impossible to get any tax increase or new tax passed through the legislature. The latter makes the state very vulnerable to any economic downturn, especially ones where a lot of jobs are shed. Heck, California's finances were only just recovering from the thrashing it took when millions of well-paying high tech jobs were lost when the Dotcom Bubble bubble burst when it got hammered again by the housing crisis.

Personally, I'm also uncomfortable with the current conventional wisdom that all public employee unions must be smashed to balance the budget because those unions and their agreements also serve as canary in the coal mine to all sorts of nefarious cutting of corners and financial tricks state legislatures play to "balance the budget". I like the idea of class size being locked into teacher's contracts instead of being a nebulous goal that can be repeatedly broken without any actual consequence.

Planet Money recently did a podcast about public sector employee benefits and how various states are having problems funding those programs. They focused on Illinois, whose state legislature has purposefully underfunded its state pension fund to the tune of $83 billion, and the Commonwealth of the Northern Mariana Islands, whose extremely generous pension plan is just about out of money and recently petitioned the courts to declare bankruptcy. That ruling just came back and said that the pension fund is a government unit and cannot hide behind Chapter 13.

Well, to be fair, Stockton took on many commitments it shouldn't have, looking at the property bubble as an ongoing thing. The inability to raise property tax is probably a good thing, net-net, because that's what stops governments from expanding way past the ability of the community to support, and then demanding a higher and higher percentage of what's left every year to maintain operations they should never have started in the first place. It's forcing Stockton to live within its means, which is absolutely the right outcome.

The real key to the problems in California is that the voters have made it much, much easier to spend money than to raise it. If it takes a 2/3 majority to raise or repeal taxes, then it should need a 3/4th majority to spend money.

Make it very hard to spend money, and taxes aren't a problem. But make it easy to spend, but hard to raise, and you get California.

Malor wrote:

The real key to the problems in California is that the voters have made it much, much easier to spend money than to raise it. If it takes a 2/3 majority to raise or repeal taxes, then it should need a 3/4th majority to spend money.

Really? You want a political system that would be effectively controlled by a handful of Tea Partiers? Why even bother to have elections when a tiny number of people can stop everything?

Had that system been in place California would have never built the education system that helped spawn Silicon Valley because there'd always be a block of radical fiscal conservatives who would always vote against spending money. Yes, they'd have lower taxes, but they'd also have missed out on a trillion dollars or so of economic growth because of their shortsightedness.

Malor wrote:

The real key to the problems in California is GREED and Hubris

FIXED

All I'm saying is that you make it X hard to raise taxes, you need to make it X+1 hard to spend money. And if you focus on the spending side instead of the revenue side to begin with, the taxes just handle themselves.

Malor wrote:

All I'm saying is that you make it X hard to raise taxes, you need to make it X+1 hard to spend money. And if you focus on the spending side instead of the revenue side to begin with, the taxes just handle themselves.

It's government, not a for-profit entity. I *want* my government to invest in things and take care of my fellow citizen.

Focusing only on the spending means empowering a small group of people who only know how to say "no." It also means that the government will never be able to invest in anything.

Hell, the current crop of Republicans would have filibustered the Federal-Aid Highway Act of 1956 for the simple reason it meant spending money.

Look. Whether you happen to like it or not, government has to pay its own way. It cannot spend more than it takes in for very long, or it will collapse. See: Stockton. See: Greece. See (soon): Spain and Italy. See: Zimbabwe.

So if you limit intake, but you don't limit spending, you almost guarantee collapse. It becomes more a question of when, not if.

Spending needs to be harder than raising revenue. It just does. Spending is more popular than taxes, so it has to be harder to pass.

Malor wrote:

Spending needs to be harder than raising revenue. It just does. Spending is more popular than taxes, so it has to be harder to pass.

No it doesn't. I know I'm not a government but it's still a lot harder for me to raise money than to spend it and I have no problem keeping above water.

Besides, wasn't Eisenhower born in Germany Kenya anyway?

IMPEACH EISENHOWER!

Malor wrote:

Look. Whether you happen to like it or not, government has to pay its own way. It cannot spend more than it takes in for very long, or it will collapse. See: Stockton. See: Greece. See (soon): Spain and Italy. See: Zimbabwe.

So if you limit intake, but you don't limit spending, you almost guarantee collapse. It becomes more a question of when, not if.

Spending needs to be harder than raising revenue. It just does. Spending is more popular than taxes, so it has to be harder to pass.

No, governments don't *have* to do anything. A simple review of history will show that various governments have used every trick in the book to avoid repaying their debts.

Hell, when there's records of Babylonian rulers cleaning the slate on debt every couple of decades it's clear that debt has always been a problem for both government and its citizens since the very beginning of civilization. And yet both have survived quite nicely.

And the reverse of your position would also be true: if you purposefully limit spending you will almost guarantee collapse. After all, what's the saying? Every society is just three meals away from a revolution. If you pull a Hoover and insist that balancing the budget is more important than people starving then you aren't going to have a government to worry about since the people will rightfully tear it down.

SixteenBlue wrote:
Malor wrote:

Spending needs to be harder than raising revenue. It just does. Spending is more popular than taxes, so it has to be harder to pass.

No it doesn't. I know I'm not a government but it's still a lot harder for me to raise money than to spend it and I have no problem keeping above water.

I'm confused, are you suggesting that you can spend more than you make indefinitely?

bandit0013 wrote:
SixteenBlue wrote:
Malor wrote:

Spending needs to be harder than raising revenue. It just does. Spending is more popular than taxes, so it has to be harder to pass.

No it doesn't. I know I'm not a government but it's still a lot harder for me to raise money than to spend it and I have no problem keeping above water.

I'm confused, are you suggesting that you can spend more than you make indefinitely?

Absolutely not. I'm saying spending is always "easier" than making money and making it a requirement that it's the other way around is not the solution.

SixteenBlue wrote:

Absolutely not. I'm saying spending is always "easier" than making money and making it a requirement that it's the other way around is not the solution.

People are certainly corruptible, and it isn't an automatic panacea for all funding woes, but it sure strikes me as a positive safeguard against the flagrant financial idiocy that haunts our government at all levels. Malor's point that doing the exact opposite of it has hurt CA badly is completely valid.

It needs to be hard to spend money, because spending money is always popular. People will always happily vote for the candidate that promises them the most with the least direct cost to them, no matter what the long-term effects are on the economy and society. Regular folks just aren't very good with money, especially other people's money, so making it hard to spend money, but making it easy to raise taxes to cover any spending incurred, will insure that the government in question actually pays its own way.

That doesn't mean they can't issue bonds or something if they really need to, but the barrier for spending needs to be high - the electorate needs to be really convinced that taking on the long-term obligation in order to get a benefit now is really worth it.

Making imposing taxes harder than spending leads to disaster. Doing it the other way around should stop the taxes in the exact same way, but isn't a ticking time bomb.

Hell, when there's records of Babylonian rulers cleaning the slate on debt every couple of decades it's clear that debt has always been a problem for both government and its citizens since the very beginning of civilization. And yet both have survived quite nicely.

Actually, since Babylon no longer exists, and we've had numerous total system crashes since then, your provided example argues against your position far more eloquently than I ever could.

No it doesn't. I know I'm not a government but it's still a lot harder for me to raise money than to spend it and I have no problem keeping above water.

That's because people that are smarter than you are won't lend you money past a certain point. That often doesn't happen with governments.

Malor wrote:

Actually, since Babylon no longer exists, and we've had numerous total system crashes since then, your provided example argues against your position far more eloquently than I ever could.

To be fair, it occurred after conquests and civil wars resulting from disputed successions or power grabs.

Malor wrote:
No it doesn't. I know I'm not a government but it's still a lot harder for me to raise money than to spend it and I have no problem keeping above water.

That's because people that are smarter than you are won't lend you money past a certain point. That often doesn't happen with governments.

No it's because despite the fact that it's easy to spend money, I don't actually do it all the time.

Yes, but you're not a government. Do you have kids? Let the family vote on spending for awhile, and the budget may not look so good.

OG_slinger wrote:
Malor wrote:

The real key to the problems in California is that the voters have made it much, much easier to spend money than to raise it. If it takes a 2/3 majority to raise or repeal taxes, then it should need a 3/4th majority to spend money.

Really? You want a political system that would be effectively controlled by a handful of Tea Partiers? Why even bother to have elections when a tiny number of people can stop everything?

I took that as Malor saying that the 2/3 requirement to raise money was a bad idea, not that a 3/4 requirement to spend money was a good one.

Malor wrote:

Actually, since Babylon no longer exists, and we've had numerous total system crashes since then, your provided example argues against your position far more eloquently than I ever could.

My point was that governments have struggled with debt since there's been governments and yet we still have this social organizing construct called government.

My point was also that no matter if humanity has had a government run by a monarch or a government run by citizens we have collectively sucked at managing state finances. Perhaps our little primate minds simply can't cope with things this big or complex especially when we're told we have to scrimp or suffer so some faceless rich person (or institution) can have more.

It seems a little pointless for you to keep insisting that we suddenly need to get good at it when the weight of history says the exact opposite. Governments have either reneged on the debt, killed the creditor, or just radically changed the rules by doing something like devaluing the currency. And if one government falls another one will rise and it very likely won't assume the debt of its predecessor. Such is life.

A simple majority to spend money is okay, as long as raising taxes is even easier than that.

And if you want to control government's size, control the spending, not the taxes. That was California's enormous, enormous mistake, one so large they may never really recover.

It seems a little pointless for you to keep insisting that we suddenly need to get good at it when the weight of history says the exact opposite. Governments have either reneged on the debt, killed the creditor, or just radically changed the rules by doing something like devaluing the currency. And if one government falls another one will rise and it very likely won't assume the debt of its predecessor. Such is life.

You haven't, apparently, lived through transitions like this. They are not fun. If that happens to us, you will probably lose most or all of any wealth you have accumulated. Any dreams you might have of a nice safe retirement will be dashed.

Reneging on debts, especially on a national level, has terrible consequences.

Malor wrote:

A simple majority to spend money is okay, as long as raising taxes is even easier than that.

And if you want to control government's size, control the spending, not the taxes. That was California's enormous, enormous mistake, one so large they may never really recover.

It seems a little pointless for you to keep insisting that we suddenly need to get good at it when the weight of history says the exact opposite. Governments have either reneged on the debt, killed the creditor, or just radically changed the rules by doing something like devaluing the currency. And if one government falls another one will rise and it very likely won't assume the debt of its predecessor. Such is life.

You haven't, apparently, lived through transitions like this. They are not fun. If that happens to us, you will probably lose most or all of any wealth you have accumulated. Any dreams you might have of a nice safe retirement will be dashed.

Reneging on debts, especially on a national level, has terrible consequences.

I don't think he's saying your point is a bad idea, just that the weight of history is not on the side of our getting our sh*t together.

Personally, I have no dreams of a nice safe retirement for this reason... the printing press has been running too long at this point with no signs of ceasing.

Malor wrote:

You haven't, apparently, lived through transitions like this. They are not fun. If that happens to us, you will probably lose most or all of any wealth you have accumulated. Any dreams you might have of a nice safe retirement will be dashed.

Um, we're all living through one of those transitions right now. I'd guess that most people haven't seen their retirement investments do much over the past decade (certainly not the 8% a year your HR department tells you you need to retire).

I've also burned through quite a bit of my personal wealth (pretty much a house worth) because Wall Street f*cked up the entire global economy chasing profits and the Bain Capital wannabes that owned my company decided they wanted to make just a little more profit.

All I've learned is that the people who have money make more and everyone else suffers. At this point anything that makes those people lose money is good in my book. They don't need it and they certainly don't deserve it.

And those are the same reasons why Babylonian rulers forgave debt and the Greeks are acting completely sane.

The town of 8,000 in the Sierra Nevada mountains is facing a bill of $43m (£28m) for a botched development agreement more than twice its budget.

...

The town, about 300 miles (483 km) north of Los Angeles, had tried to back out of a 1997 agreement that gave a developer the right to build a hotel and buy land in return for improving the local airport.

http://www.bbc.co.uk/news/world-us-c...

I'm sure all the people calling for an end to collective bargaining will now demand that businesses be more highly regulated and scrutinized in their dealings with local governments, amIrite?

8,000 population may be a little misleading since Mammoth Lakes is a major California ski resort. The same goes for why it would pursue a hotel development deal twice its budget.

fangblackbone wrote:

8,000 population may be a little misleading since Mammoth Lakes is a major California ski resort. The same goes for why it would pursue a hotel development deal twice its budget.

Not sure it's misleading because it's not really relevant: fact is, local governments make dumb decisions, so where's the call to protect them from businesses to go along with the call to protect them from unions?

No, it is not relevant to your point. I was just pointing it out because the article obviously put it in there for an intended bias. To which I am clarifying the info to negate the bias. 8,000 people in Mammoth Lakes is probably more like 8,000 year round with a spike up to 30,000+ during the winter.