The end of muniland interest-rate swaps for Pennsylvania?

Pennsylvania may have suffered more damage from municipalities using interest rate swaps than any other state in America. Many cities and school districts were sold these “hedging” instruments after former governor Ed Rendell pushed legislation allowing their use in 2003. The fallout for the state has been devastating.

Small communities, large cities and school districts have suffered substantial losses from their use. Bloomberg reported in March 2008 how a school district suffered deep losses:

James Barker saw no way out. In September 2003, the superintendent of the Erie City School District in Pennsylvania watched helplessly as his buildings began to crumble. The 81-year-old Roosevelt Middle School was on the verge of being condemned. The district was running out of money to buy new textbooks. And the school board had determined that the 100,000-resident community 125 miles north of Pittsburgh couldn’t afford a tax increase. Then JPMorgan Chase & Co., the third-largest bank in the U.S., made Barker an offer that seemed too good to be true.

David DiCarlo, an Erie-based JPMorgan Chase banker, told Barker and the school board on Sept. 4, 2003, that all they had to do was sign papers he said would benefit them if interest rates increased in the future, and the bank would give the district $750,000, a transcript of the board meeting shows. “You have severe building needs; you have serious academic needs,” Barker, 58, says. “It’s very hard to ignore the fact that the bank says it will give you cash.” So Barker and the board members agreed to the deal.

What New York-based JPMorgan Chase didn’t tell them, the transcript shows, was that the bank would get more in fees than the school district would get in cash: $1 million. The complex deal, which placed taxpayer money at risk, was linked to four variables involving interest rates. Three years later, as interest rate benchmarks went the wrong way for the school district, the Erie board paid $2.9 million to JPMorgan to get out of the deal, which officials now say they didn’t understand.

Robert Khuzami: Master distracter

I blogged recently in support of Columbia Law professor John Coffee’s proposal for the SEC to hire outside expert attorneys to prosecute complex cases. He called the performance of the current SEC enforcement division lackluster, and wrote that it is “an overworked, underfunded agency that is subject to severe resource constraints.”

The soon to retire head of the SEC’s enforcement division, Robert Khuzami, blasted Professor Coffee’s idea in the National Law Journal last week with a piece titled “Unfair claims, untenable solution.” The New York Post nicknamed Khuzami the “master blaster” with a “poison pen” for going after Coffee.

In his rebuttal to Coffee, Khuzami lauds the number of settlements the SEC has achieved under his tenure. But the number of settlements under Khuzami and former SEC Chairman Mary Shapiro has actually declined from post-Sarbox-era SEC Chairmen William Donaldson and Chris Cox. NERA Economic Consulting shows this in its recently released SEC Settlement Trends: 2H12 Update (page 19):

American cities are bloated with unfunded pension liabilities

There have been hundreds of articles written about how a number of U.S. states have unfunded pension liabilities. These massive shortfalls have been researched by numerous groups, and although they differ on the size of the shortfalls, they all agree that pension liabilities are creating a troublesome drag on many state budgets. The Pew Center on the States is one of the first groups to dig down and analyze the condition of city pension funds and the promises made for retiree health benefits. Their new study, A Widening Gap in Cities, reports a mixed picture.

Cities such as Milwaukee, Wi. and Washington D.C. are prepared to meet their financial commitments to retirees (see above). Others, such as Chicago and Portland, Or. have seriously neglected their pension funds. Almost universally, cities have failed to pre-fund the commitments they have made for retiree health care. In total, cities have pre-funded only 6 percent of their healthcare promises, leaving a shortfall of $118 billion, according to Pew. In contrast, cities have funded 74 percent of pension liabilities, leaving an unpaid balance of $99 billion. In fact, 22 cities face larger unpaid bills for retiree health care than for pensions (page 16).

There are many approaches to increasing the funding for pension and retiree benefits. Pew discusses some of these approaches (page 22):

Pennsylvania bets on $70 billion in cash flows


A big brawl is going on in Pennsylvania over the way that Republican Governor Tom Corbett has been maneuvering to privatize the state’s successful public lottery. The governor held negotiations in secret for months before announcing in November, 2012 that he had chosen a single bidder, the UK’s Camelot Global Services, to be awarded a 20-25 year contract to operate the lottery.

This announcement, made while the Pennsylvania legislature was in recess, was intended to move the governor’s process to conclusion before the legislature came back into session. Public outrage caused Corbett to initially delay the contract, but in a move that seemed to show contempt for the state’s legislators, his office gave Camelot a “Notice of Award” late last Friday; just before the Senate Finance Committee was to hold a hearing on the details of the contract.

Over-selling California’s recovery

The Golden State, under the leadership of Governor Jerry Brown, has done a remarkable job of managing its finances through the worst economic period since the Great Depression. Because the state was the epicenter of the housing bust, its fiscal meltdown was one of the most severe in the nation. Although three California cities have declared bankruptcy (with others to possibly come) the state deserves a lot of credit for getting through a very rough period.

The governor held a press conference touting the state’s recovery. However, fireworks and champagne to celebrate recovery would be a little premature. Adam Nagourney of the New York Times reported:

“The deficit is gone,” Mr. Brown proclaimed, standing in front of an array of that-was-then and this-is-now charts that illustrated what he said were dramatic changes in California’s fortunes.

Pension reform: Litigate, negotiate or go bankrupt

Underfunded public pensions are an enormous problem that states, cities, school districts and other municipal entities will continue to wrestle with in 2013. Many public officials have already taken up the issue of reform, as their budgets are pressured by large required payments to public pension plans.

Nationally public pensions are funded at about 80 percent of their liabilities, but that masks the severe under-funding faced by some systems. For example, the Illinois state system only has about 43 percent of the assets needed to fund future pensions. States, cities, school districts and public employee unions have three options to address this problem – litigate, negotiate or go bankrupt. Here are examples of how this choice is playing out:


A private group, the Arnold Foundation, has published a guide to pension litigation across the country. The guide lays out the changes enacted by state legislatures and city governments, and the litigation filed to overturn the changes (see the map above). From the 2013 guide:

The big muniland tax exemption dud

Alarm bells are ringing across muniland because the discussion about capping the municipal bond tax exemption at 28 percent has surfaced again. Bloomberg reports:

“If and when there is a serious attempt to make substantial reforms to the tax code, I think that there’s a risk that the [municipal bond] tax exemption could be curtailed or eliminated,” said Decker, the co-head of SIFMA’s municipal securities activities.

The possibility of municipal-bond income losing its exemption from tax is as great as any time since 1986, when major tax reform was ushered into law during the Reagan administration, said George Friedlander, Citigroup Inc. senior municipal strategist.

Fitch Ratings to Governor Cuomo: Privatizing LIPA won’t work

The worst performing public service in the aftermath of Superstorm Sandy was the Long Island Power Authority. There are a lot of different estimates floating around, including 2.1 million of LIPA’s electricity customers were without power; some for up to 3 weeks. It was a public health disaster of epic proportions as households had to face late October and early November weather with no way to heat their homes or turn on the lights. The latest LIPA fiasco followed years of criticism of the organization.

New York State governor Andrew Cuomo ordered a swift investigation into the slow response of LIPA after Sandy. His Moreland Commission delivered its interim report on Monday.

According to Reuters (emphasis mine):

The commission recommended a complete overhaul of LIPA and the system by which power is delivered on Long Island…It recommended that a private utility buy LIPA.

Muniland’s greatest hits of 2012

The municipal bond market is one of the smaller corners of the bond market. It is dwarfed by the U.S. Treasury, government-sponsored organizations, mortgage and corporate bond sectors. Yet, muniland is larger than the equity market, as the data above (2011 and 2012 3Q year to date) shows, and it probably has more issuers than every sector combined. Muniland is a hopping place.

Thomson Reuters released its 2012 summary of municipal bond issuance data. Here is how it looked:

US municipal bond volume in 2012 reached $366 billion, a 32 percent increase over last year, but still behind 2010′s record setting underwriting volume of $430 billion by 14.8 percent.

Everyday government pork

Everyone in Washington is fighting over tax cuts, spending limits and the debt ceiling. But the real problem is the fat in all levels of government spending that must be slimmed down. A quick media survey uncovers poorly monitored and misspent government funds at every level of the system.

One of the most commonly reported spending issues is welfare fraud. When Massachusetts was sued to reach more citizens on welfare to get them registered to vote, 19,000 of the welfare recipients were not living at their listed addresses. The state, like most states, distributes welfare benefits electronically so that the benefits can be retrieved anywhere. If all these welfare recipients were illegally receiving support, that would be at least $138 million annually that Massachusetts has overspent. The Boston Herald had the story:

“The fact that 19,000 of these came back undeliverable tells me DTA has no idea where these people live, obviously, and is not doing the background checks they should be doing,” O’Connell said.

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