Skip to main content

Cities and other municipalities are being left out to dry as financial speculators take funds out of the bond market, reports the WSJ:

With the market for municipal bonds tumbling, cities, hospitals, schools and other public borrowers are scrambling to refinance tens of billions of dollars of debt this year, another sign that the once-safe market is under duress.

The muni bond market was hit with the latest wave of bad news Thursday, prompting a selloff that sent the market to its lowest level since the financial crisis. A New Jersey agency was forced to cut the size of a bond issue by about 40% because of mediocre demand, and pay a higher rate than expected...

Using credit default swaps, Wall St. high-rollers are actually betting on bankruptcy.

As U.S. cities and towns wrestle with financial problems, investors are finding a new way to profit on their misery: by buying derivatives that essentially bet municipalities will default.

These so-called credit default swaps are basically insurance contracts that have long been available to protect holders of corporate bonds against default. They became available a few years ago for municipal debt, allowing investors to short sell—or bet against—countless cities, towns and bridges, and more than a dozen states, including California, Michigan and New York.

The derivatives are still thinly traded, but their existence has the potential to make investors skittish about the issuers of the bonds that underlie them. That has been the case for issuers ranging from Greece to Bear Stearns and Lehman Brothers during the financial crisis. When the price of this insurance goes up, nervous investors have sold off securities issued by these entities.

Conservatives see an opportunity to shred union contracts through bankruptcy court.

When the states come calling, the House must say, "No." More, it's time to amend the federal bankruptcy laws to create a procedure for state bankruptcies -- allowing states to abrogate their municipal-union contracts from the school-board level on up.

In the recent tax deal, the GOP killed off the Build America Bonds program, which had been used to cover the shortfall in state budgets.

So with states across the country facing a $140 billion shortfall next year, some experts and union advocates also see the GOP opposition to extending the bonds subsidy --despite its support from even some Republican mayors and governors -- as part of a broader scheme to bust public employee unions and wipe out pensions.

"We've got a huge bulls-eye on us," one union advocate told In These Times.  "I find it profoundly ironic that [GOP] people on the Hill who say they support states rights can undermine the ability to function of all states that are facing massive fiscal crises." Union officials hope that even with a Republican-run House, the support of Republican governors and mayors joining with unions could help pass the measure next year. But don't hold your breath waiting for fiscal reality and support for more federal spending to take hold of a Tea Party-fueled GOP.

Even the Federal Reserve's emergency lending program, through which corporations received trillions in loans for little-to-no cost, closed it's doors to municipalities.

The Federal Reserve said its backstop for the commercial-paper market isn't open to state and local governments who use the source of short-term financing.

The Commercial Paper Funding Facility, which is buying the loans from corporations starting Oct. 27, ``at this time'' isn't open to municipal issuers, the New York Fed bank said in an update late today to a ``Frequently Asked Questions'' page on its Web site for the program.

Adding injury to insult, as loan availability collapsed TARP enabled banks to remove cash from the market and park it inside the Federal Reserve.

The Federal Reserve announced Wednesday it will boost the interest rate paid to commercial banks on excess reserves, helping the central bank battle the credit crisis.

The move will encourage banks to keep excess reserves at the Fed because they will be earning higher interest on that money...

Congress in the recently enacted $700 billion financial bailout bill gave the Fed the power to pay interest on reserves for the first time.

The result has been a huge spike in "excess reserves", just when these funds are desperately needed to revive the economy.

Originally posted to The Anomaly on Mon Jan 24, 2011 at 10:15 PM PST.

EMAIL TO A FRIEND X
Your Email has been sent.
You must add at least one tag to this diary before publishing it.

Add keywords that describe this diary. Separate multiple keywords with commas.
Tagging tips - Search For Tags - Browse For Tags

?

More Tagging tips:

A tag is a way to search for this diary. If someone is searching for "Barack Obama," is this a diary they'd be trying to find?

Use a person's full name, without any title. Senator Obama may become President Obama, and Michelle Obama might run for office.

If your diary covers an election or elected official, use election tags, which are generally the state abbreviation followed by the office. CA-01 is the first district House seat. CA-Sen covers both senate races. NY-GOV covers the New York governor's race.

Tags do not compound: that is, "education reform" is a completely different tag from "education". A tag like "reform" alone is probably not meaningful.

Consider if one or more of these tags fits your diary: Civil Rights, Community, Congress, Culture, Economy, Education, Elections, Energy, Environment, Health Care, International, Labor, Law, Media, Meta, National Security, Science, Transportation, or White House. If your diary is specific to a state, consider adding the state (California, Texas, etc). Keep in mind, though, that there are many wonderful and important diaries that don't fit in any of these tags. Don't worry if yours doesn't.

You can add a private note to this diary when hotlisting it:
Are you sure you want to remove this diary from your hotlist?
Are you sure you want to remove your recommendation? You can only recommend a diary once, so you will not be able to re-recommend it afterwards.
Rescue this diary, and add a note:
Are you sure you want to remove this diary from Rescue?
Choose where to republish this diary. The diary will be added to the queue for that group. Publish it from the queue to make it appear.

You must be a member of a group to use this feature.

Add a quick update to your diary without changing the diary itself:
Are you sure you want to remove this diary?
(The diary will be removed from the site and returned to your drafts for further editing.)
(The diary will be removed.)
Are you sure you want to save these changes to the published diary?

Comment Preferences

  •  Tip Jar (14+ / 0-)

    Hope. It is the quintessential human delusion, simultaneously the source of your greatest strength, and your greatest weakness.

    by The Anomaly on Mon Jan 24, 2011 at 10:15:43 PM PST

  •  For what very little... (6+ / 0-)

    ...it is worth, Cantor has said that state bankruptcy legislation is off the table.  I don't know that he can realistically promise that if there are enough GOP defections, but my guess is that the unions would be organized enough to defeat this legislation in the senate in any event, and it would never obtain a veto-proof majority in Congress.  

    However, municipalities can already declare bankruptcy, although their ability to do so is limited by state law.  There are a few states that prohibit municipal bankruptcy, and then there are other states that supplement municipal bankruptcy with their own laws to handle financial stress, or their own trusteeships (Michigan, for example, has a provision allowing for emergency financial managers to come in and basically take over the financial affairs of municipalities and other political subdivisions like struggling school districts, as is currently happening with Detroit (schools) and happened with Flint (city) not too long ago).

    There are all sorts of problems that will arise as states begin to implement these "alternatives" to bankruptcy, or when municipalities in distressed states file if they are authorized or seek and obtain authorization.  For example, disputes over the limits of trustee powers, something that arises in state bankruptcy alternatives and will undoubtedly arise in Chapter 9 litigation.

    Kind of fascinating to watch it all unfold, were it not so depressing.  

    For there our captors demanded of us songs, And our tormentors mirth, saying, "Sing us one of the songs of Zion."

    by Alec82 on Mon Jan 24, 2011 at 11:13:29 PM PST

    •  According to Moody's, of all the (4+ / 0-)
      Recommended by:
      lzachary, semiot, JanL, daliscar

      bond issues rated between 1970 and 2000, only 18 defaulted and ten of those were hospitals.  Our municipalities are the repositories of good faith and credit.  To default on that would signal the collapse of America.

      The conservative mind relies mainly on what is plain to see.

      by hannah on Tue Jan 25, 2011 at 03:02:21 AM PST

      [ Parent ]

    •  Difference is... (2+ / 0-)
      Recommended by:
      semiot, laker

      ... under MI law, an emergency financial manager has to live with or renegotiate existing contracts.  He/she can't void them the way a bankruptcy filing would.

      They're opening a can of worms by considering states going into bankruptcy. Even if the idea is to shed portions of union contracts, ALL contracts with the state are voided by the filing.

      At that point, the bankruptcy judge decides what contracts will be renewed and on what terms.

      Moreover, I see nothing that would stop a progressive-minded judge from ordering a state to increase taxes to pay creditors.  Unlike a typical bankruptcy, a state readily has the ability to raise money to pay creditors.  It's called a sales/income/property tax increase and if it's slapped on, the creditors get paid within a year or 2.

      If I'm representing creditors, I argue A) the state is not bankrupt because it has CHOSEN to not raise taxes, i.e. money to pay debts and therefore has CHOSEN to become insolvent and B) if the state IS considered bankrupt, the judge should increase taxes to pay creditors.

      "Unseen, in the background, Fate was quietly slipping the lead into the boxing glove." P.G. Wodehouse

      by gsbadj on Tue Jan 25, 2011 at 04:23:17 AM PST

      [ Parent ]

  •  This is well researched! Thank you! (2+ / 0-)
    Recommended by:
    gsbadj, sceptical observer

    Learned a lot but still need to learn a lot more about this.  

    Politicians are like diapers. They should be changed frequently ... and for the same reason

    by Road Dog on Mon Jan 24, 2011 at 11:17:57 PM PST

  •  Muni bond attacks are perfectly reasonable. (1+ / 0-)
    Recommended by:
    Justanothernyer

    Look, if a county/city cannot pay the obligations that its promised (for whatever reasons) then it should default and seek bankruptcy protection.   Doing so is complicated,

    but at the end of the day if they can't pay... they have to default.   Just like you and I would our mortage bills,  credit card payments and the interest on consolidated bills overwhelmed our ability to pay.

    Its really that simple.   Its not attack on the unions as much as you want to believe it is.. Cities, towns and states are finding out they are totally fucked and all of the games they've played for the last couple of years have come to end.

    I know people will argue that "these are promises made and they cannot be broken."  Ya,   and what exactly are bankruptcy courts for?   Yep.. to renegotiate those "promises"

    "To you I'm an atheist; to God, I'm the Loyal Opposition." - Woody Allen

    by soros on Mon Jan 24, 2011 at 11:29:31 PM PST

    •  Is breaking the law reasonable? (6+ / 0-)

      Wall Street defrauded local governments.

      JPMorgan Chase & Co., Lehman Brothers Holdings Inc. and UBS AG were among more than a dozen Wall Street firms involved in a conspiracy to pay below-market interest rates to U.S. state and local governments on investments, according to documents filed in a U.S. Justice Department criminal antitrust case...

      The court records mark the first time these companies have been identified as co-conspirators. They provide the broadest look yet at alleged collusion in the $2.8 trillion municipal securities market that the government says delivered profits to Wall Street at taxpayers’ expense.

      Hope. It is the quintessential human delusion, simultaneously the source of your greatest strength, and your greatest weakness.

      by The Anomaly on Tue Jan 25, 2011 at 12:18:45 AM PST

      [ Parent ]

      •  Yes, the transfer of public assets into (3+ / 0-)
        Recommended by:
        semiot, Dirtandiron, laker

        private wealth was not a happenstance.  Some of it was legal, done under the cover of law, and some was simply theft--i.e. some people no longer bothered with the niceties of getting their plunder legitimized.  You know, sort of like wild-cat mineral claims.

        The conservative mind relies mainly on what is plain to see.

        by hannah on Tue Jan 25, 2011 at 03:06:12 AM PST

        [ Parent ]

    •  They have ability to pay (1+ / 0-)
      Recommended by:
      Dirtandiron

      Unlike any ordinary corporate or individual debtor, they have ready access to raise money to pay debts via taxing authority.

      "Unseen, in the background, Fate was quietly slipping the lead into the boxing glove." P.G. Wodehouse

      by gsbadj on Tue Jan 25, 2011 at 04:26:27 AM PST

      [ Parent ]

  •  Checkout this story in the latest WSJ... (6+ / 0-)
    Recommended by:
    Paleo, lzachary, semiot, gsbadj, JanL, farlefty

    Warning From S&P on Munis
    BY JEANNETTE NEUMANN
    Wall Street Journal Blog
    January 24, 2011

    Downgrades of bonds issued by state and local governments could increase this year, according to a report to be issued Monday by credit-rating agency Standard & Poor's.

    The $2.9 trillion municipal-bond market has been thrown into tumult in recent months, in part because of growing fears that some state and local governments will default on their debt. Investors have pulled out record amounts from muni-bond mutual funds, while the yields on muni bonds, which move inversely to price, have hit their ...

    Good diary! Tipped and rec'd...

    "I always thought if you worked hard enough and tried hard enough, things would work out. I was wrong." --Katharine Graham

    by bobswern on Tue Jan 25, 2011 at 12:21:21 AM PST

    •  This story is behind a wall. To read it, one (0+ / 0-)

      has to open an account.  I, for one, do not appreciate such teaser links.  They're a waste of time.  Looks to me like pimping.

      The conservative mind relies mainly on what is plain to see.

      by hannah on Tue Jan 25, 2011 at 03:08:17 AM PST

      [ Parent ]

  •  That chart from the Fed is the picture of (6+ / 0-)

    hoarding.  Our financial and industrial masters are hoarding cash to show us who's in charge of our money or, as Warren Stephens, bond-broker of Little Rock, puts it, "in charge of the allocation of credit."

    It's a power struggle between Wall Street and Washington.  Washington won one round when it moved the allocation of education loans from local banks to the Department of Education.  Social Security and Medicare are also, effectively, allocations of credit by Washington to individuals -- i.e. direct distributions of currency with no trickle going into the pockets of financial middlemen.  If Washington controls the allocation of credit, then Wall Street will have to beg for scraps.

    The reason the Build America Bonds program was canceled was very simple.  State and municipal bonds are attractive to lenders because they represent a triple treat.  Long term "capital" funding not only supplants routine revenues from tax collections, making it possible to keep those local taxes depressed, but the dividend income effectively direct a steady trickle of revenue from every dollar that's spent on public works into the pockets of the financial class and then that income is exempt from federal income taxes, as well.  In other words, people with pots of money get to lend and get doubly rewarded for doing so.  Not to mention being able to influence on the local level what capital projects actually get built.  The Build America Bonds short-circuited that process, mainly because the dividend income WAS NOT EXEMPT from the federal income tax.  Moreover, while the program did provide that taxes paid on such income could be rebated from the federal government, to get such a rebate, the bond holders had to actually file a return and ask for it, thereby providing financial information that they normally don't have to share with the IRS.
    You see, if you don't have any taxable income -- no earned income and your un-earned income is from tax-exempt sources-- you don't have to file a return with the IRS and what the IRS doesn't have, it can't check for accuracy.  So, there's an on-going effort to tempt people, at all income levels, to file returns.  Remember when Bush/Cheney sent everyone a tax rebate?  People had to have filed a return or file to claim it.  How do we know that people don't file?  Because every year the IRS gets sent FICA and income taxes for people who don't file income tax returns to get their money back.  Also, financial institutions are now required to file reports on taxable interest they pay out.  But, again, if the amount is modest and it's likely that the gross income isn't enough to be taxed, there's no reason to follow up.  
    The reason it's estimated that the underground economy is equivalent to at least 8% of GDP is because that's how much income isn't being officially tracked.  In Greece that number is presumed to be 30%.

    The conservative mind relies mainly on what is plain to see.

    by hannah on Tue Jan 25, 2011 at 02:47:59 AM PST

  •  Incredible to me (2+ / 0-)
    Recommended by:
    semiot, laker

    Given that credit default swaps are essentially insurance against defaults on obligations, why is there not a strict requirement that, like any typical insurance policy, the holder have an insurable interest, i.e. a direct pecuniary risk of loss?

    I can't sell off my insurance policy on my wife's life to someone who has no pecuniary interest in her remaining alive; creditors shouldn't be able to sell off their insurance against these defaults as well.

    And yes, I know that there's billions to be made on them... there's also billions to be lost.  The market stampede mentality created by the existence of this market seems to already be accelerating the sense of crisis.  The Overton window is moving.

    "Unseen, in the background, Fate was quietly slipping the lead into the boxing glove." P.G. Wodehouse

    by gsbadj on Tue Jan 25, 2011 at 04:38:36 AM PST

  •  Beware the muni market. (1+ / 0-)
    Recommended by:
    Justanothernyer

    Many people have been encouraged to invest in munis because of the tax-advantaged status. Be very, very cautious if you have municipals in your portfolio, there are some increased risks in that space - especially long-term.

  •  Great diary (1+ / 0-)
    Recommended by:
    JanL

    The whole idea of sovreign entities, in an economic system that glorifies and constitutionally protects the integrity of "the contract," maneuvering to renege on their obligations is fairly mind-boggling, whether the motivation is to screw its unions or otherwise.

    "Unseen, in the background, Fate was quietly slipping the lead into the boxing glove." P.G. Wodehouse

    by gsbadj on Tue Jan 25, 2011 at 04:42:46 AM PST

Subscribe or Donate to support Daily Kos.

Click here for the mobile view of the site