MuniLand

A canary is singing in a coal mine in California. Canyon Lake, a city of about 11,000, has announced its intention to terminate its contract with CalPERS, the statewide retirement system. The small city has outsourced most of its public services and has two employees on its payroll, which it will shift from full time to part-time employment. According to Reuters:

Canyon Lake said it has looked at Calpers’s website, which states that its unfunded liability to the fund is $661,000.

Richard Rowe, Canyon Lake’s interim city manager, said the city decided it would be cheaper to borrow money to pay off Calpers rather than continue to pay the fund.

The city only has two full-time employees. Payments to Calpers for the pair will cost the city about $35,000 in the next fiscal year beginning July 1, Rowe said. If the city quit Calpers and turned those jobs into part-time positions with much lower benefit structures, the city would save about $88,000 annually in pension and health costs, Rowe said.

This effort is not the first to terminate a municipal entity’s relationship with CalPERS. From Reuters again:

Recently I participated in a podcast for the non-profit Freedom Works. One of the topics was how much influence public unions have on federal, state and local politicians. I said that I had not seen academic studies, but my own belief is that their over-sized political influence has allowed them to increase wages, benefits and advantages for public workers. It doesn’t look all that different from how corporations and Wall Street buy political influence through elections and legislation.

This is from a University of Pennsylvania study that maps union support to favorable fiscal decisions:

Our empirical analysis focuses on municipal elections in the 150 largest cities in the U.S. between 1990 and 2012. We find that challengers strongly benefit from [union] endorsements in competitive elections. Challengers that receive union endorsements and successfully defeat an incumbent also tend to adopt more union friendly fiscal policies.

There has been a lot of discussion about the general underfunding of public pensions in muniland. Now credit rater Moody’s is reviewing cities in light of this:

Moody’s has new take on the effect of pensions on ratings, puts cities including Chicago, Cincinnati and Portland on review for downgrade.

— Romy Varghese (@romyvarghese) April 17, 2013

The potential fiscal drag that under-funded pensions can have on cities is very important, but several other issues need to be examined further. First is the level of fees that public pensions are paying to investment managers and hedge funds, and the second is the level of risk in specific assets that the funds hold. Kevin Roose of NY Magazine wrote about the excessive fees that pension funds pay to outside “active managers”:

The SEC held a fixed income roundtable on Tuesday to discuss two important issues: market structure and ways to improve it for municipal and corporate bonds. The SEC has as much authority to regulate this market as it does for equity securities, and it appears to be finally flexing its muscles with a little structure for the $18.7 trillion fixed income market.

I tweeted the roundtable all day (you can read the whole thread here), and I’ve posted the best ones here (parentheses are my editorial comments):

Good sign… new @sec chair Mary Jo White is attending the Fixed Income Roundtable 1.usa.gov/15cEjRm

There is a glaring gap in regulation – called Regulation Fair Disclosure – when it comes to protecting municipal bond investors. It appears that issuers may be in the habit of giving material nonpublic information to preferred institutional investors, while making retail and non-preferred investors sit out in the cold. Exhibit number one is the treatment of media members who have petitioned to attend the City of Philadelphia bond investor day scheduled for this Thursday. The Philadelphia Inquirer wrote:

Several news organizations led by Bloomberg News are protesting the exclusion of the news media from a two-day conference sponsored by the Nutter administration to stimulate investor interest in the city’s municipal bonds.

The Inquirer has joined the protest, signing a letter to Nutter that criticizes the city for refusing to let reporters attend the conference, scheduled to begin Thursday at the Comcast Center.

The firing of Rutgers basketball coach Mike Rice and the surrounding controversy recalls the governance meltdown at Penn State around the Jerry Sandusky scandal. Moody’s downgraded Penn State over that scandal, which involved serious allegations of child abuse and rape. From StateCollege.com:

In its report, Moody’s said the primary factor that led to the downgrade is the uncertainty over what Penn State can expect financially from the ultimate cost of future settlements and possible judgments stemming from sexual abuse claims made by Sandusky’s victims. Moody’s report said that the stable outlook reflects expectations that the University will ultimately resolve victims’ claims and that it will continue its work to implement substantial governance reforms.

Moody’s has since placed Rutgers on negative watch. The agency said this today in its Weekly Credit Outlook (subscription required):

In a Senate Banking Committee hearing, newly elected Massachusetts Senator Elizabeth Warren asked why bank regulators protected banks, but would not assist wronged homeowners. Regulators did not have an answer to her question, but there is still another question that needs to be asked: What about the economic damages to county governments from banks using a false mortgage registration system – MERS – to avoid paying mortgage registration fees

What is MERS?

”Mortgage Electronic Registration Systems” (MERS) is a privately held company that operates an electronic registry designed to track servicing rights and ownership of mortgage loans in the United States.

MERS serves as the mortgagee of record for lenders, investors and their loan servicers in the county land records. MERS claims its process eliminates the need to file assignments in the county land records which lowers costs for lenders and consumers by reducing county recording revenues from real estate transfers and provides a central source of information and tracking for mortgage loans.

The SEC is holding a Fixed Income Roundtable on April 16 to examine ways to improve the transparency and efficiency of the fixed income markets. This is the first time that I am aware of that the SEC has focused exclusively on the market structure of fixed income. Although fixed income as an asset class is over twice the size of the equity market, and the SEC was given authority in 1975 to oversee this market, almost nothing has been done to regulate it.

All US bond trading is done over the counter or through alternative trading systems (ATS), which are trading platforms registered as dealers. ATS do not have responsibility to oversee the conduct of the other dealers trading on their platform. Think of them as fancy eBay systems for dealers to interact with each other. Rule 300(a) of the SEC’s Regulation ATS provides the following legal definition of an “alternative trading system”:

Any organization, association, person, group of persons, or system:

That constitutes, maintains, or provides a marketplace or facilities for bringing together purchasers and sellers of securities or for otherwise performing with respect to securities the functions commonly performed by a stock exchange within the meaning of Rule 3b-16 of this chapter; and That does not:

1      Set rules governing the conduct of subscribers other than the conduct of such subscribers’ trading on such organization, association, person, group of persons, or system; or

The passing of the UK’s former Prime Minister Margaret Thatcher has brought the issue of her work privatizing public assets to the surface. When she began her efforts, her country was in desperate need of revenue. However, there were deeper reasons for her privatization binge. From the FT.com:

Mrs. Thatcher embraced it initially as a way to reduce public debt after the 1980-81 recession. It was only when the £4bn flotation of British Telecom in 1984 proved hugely successful – with the offer almost 10 times subscribed – that she seized on its political possibilities for rolling back socialism.

In 1987 came the flotations of British Airways, Rolls-Royce and British Airports Authority, followed later by steel (which had been renationalised by Labour in the 1960s), water and electricity. John Major’s government sold off the remains of the coal industry and the railways.

In a wildly contentious move in 2011, the Wisconsin legislature voted to end union rights for public workers. Those union rights established pay rates and employment conditions via collective bargaining agreements for most government workers. The new law also ended the deduction for union dues from employee salaries. The Wisconsin State Journal reports how merit raises have replaced automatic annual pay raises:

In the first round of pay increases for Wisconsin state employees since union contracts were invalidated, supervisors delivered an average 6.52 percent boost to 2,757 workers, roughly one in 14 of those eligible.

The payout — totaling $8.2 million — is very different from union-era raises, which were much smaller on a percentage basis but cost tens of millions more because they were distributed to most non-academic employees.