It was a mixed picture as Pennsylvania Senate Local Government Committee took testimony today about how local PA governments issue debt and enter into interest rate swaps. Has every local government in Pennsylvania made as big a mess issuing debt as Harrisburg? Was every school district bamboozled into multiple layers of expensive and unnecessary interest rate swaps like the Bethlehem School District?
Philadelphia Treasurer Nancy Winkler assured Committee Chairman John Eichelberger that the city had reined in its swaps portfolio and was mostly assuring members of the committee that Philadelphia would not suffer substantial losses from swaps. She was fighting off legislation that would have banned Philadelphia from entering swap agreement. The Philadelphia City Council passed a resolution asking the General Assembly to ban the city from the practice.
Meanwhile the former Auditor General of Pennsylvania Jack Wagner, in standout testimony, used former government official Larry Summers as an example of how risky interest rate swaps are:
In reality, swaps are nothing more than a form of gambling with public funds. The party that guesses right wins and gets paid; the party that guesses wrong loses and must pay the other party. How much is won or lost is determined by the size of the underlying debt, how much interest rates fluctuate, and other factors.
How risky are swaps? Just ask Larry Summers, a former U.S. Treasury Secretary and top White House economic adviser, who is reportedly under consideration to be the next chairman of the Federal Reserve Bank. This is a man who should understand complex financial instruments. Yet as President of Harvard University from 2001 to 2006, Mr. Summers approved swaps so toxic that the school paid banks a total of almost $1 billion to terminate them.