Unfundable State Deficits

From Matthew Goldstein at Reuters:

The U.S. municipal bond market will become a “casualty” of massive deficits the 50 states likely will chalk up once the federal stimulus program ends, New York’s lieutenant governor said on Wednesday.

“I believe that these States of the United States will face deficits the year after the stimulus ends of $300 to $500 billion a year,” said Richard Ravitch, the financial guru who helped craft New York City’s fiscal bailout in the mid-1970s.

Predicting this would be a major news story next spring, Ravitch added “and you may begin to see cracks in the municipal bond market well before that — it’s an inexorable casualty of unfundable state deficits.”…

Congress enacted a two-year nearly $800 billion federal stimulus package, and when it ends, Ravitch said New York’s state’s deficit could shoot to $15 billion to $18 billion.

A total of 48 states already have deficits in their current fiscal years that add up to $179 billion, according to the Washington, D.C.-based think tank, the Center on Budget and Policy Priorities.

From Mary Williams Walsh at the NYT:

A member of the Securities and Exchange Commission called on Wednesday for legislative changes to put municipal bond markets on a more even footing with the stock and corporate bond markets.

The municipal bond market, long a regulatory backwater, has become too prone to defaults and accounting irregularities, said Elisse B. Walter, one of the five S.E.C. commissioners.

In a speech in New York, Ms. Walter said the Depression-era laws that exempted municipal bonds from oversight by the S.E.C. had outlasted their usefulness.

She urged Congress to repeal the Tower Amendment, a 1975 law limiting federal authority over states and local government bodies that raise money on the bond markets…

She pointed out that local governments were engaging today in complex derivatives transactions “whose risks even sophisticated investors sometimes have trouble understanding.”

From Darrell Preston at Bloomberg:

“The municipal bond market is the last bastion of hidden information,” said Timothy Koch, chairman of the finance department at the Moore School of Business at the University of South Carolina in Columbia.

Public officials’ financing in the dark in the $2.8 trillion tax-exempt bond market is costing U.S. taxpayers as much as $6 billion a year, according to data and interviews from more than a dozen states, while the worst recession since the Great Depression forces municipal governments to cut spending or raise taxes…

A 2008 study found that as many as 25 percent of municipal borrowers go three years or longer without giving investors any information…

This year, through September, public officials issued debt without seeking bids for more than 85 percent of the $308.9 billion in new issues, according to data compiled by Bloomberg…

The no-bid deals and private discussions further limit transparency and present what Christopher “Kit” Taylor, a former top regulator, called “an irresistible invitation to corruption.”

Elizabeth Warren comes to the rescue:

“I believe the single biggest change a consumer finance protection agency would make is to give people financial products they understand, and once that happens they’ll never go back,” she said. “They’ll demand it in other areas, areas such as municipal finance.”

Back to the problem at hand:

Municipal bond defaults exploded to $7.8 billion in 2008 from $348 million in 2007, according to Miami Lakes, Florida- based Income Securities Advisors Inc., which tracks distressed securities. So far this year, defaults total $4.2 billion. Menasha, Wisconsin, Vallejo, California and 105 community development districts in Florida have defaulted or drawn on reserves since May 2008, although no state has done so since the Great Depression.

10-30-09 8:15: An anonymous commenter has left a link to a Zero Hedge post linking to an article by Frank J. Sheehan called Dark Vision: The Coming Collapse of the Municipal Bond Market.

16:30: The link above is dead.

19:30: Who’s your daddy?