When City Hall Forecloses

Rising labor costs and lower property tax revenue will cause municipal bankruptcies

There are 350 or so cities and towns just in the state of Massachusetts. What is the chance that every municipality in the US has a good financial manager at the helm?

Think about it – if the best MBA’s working at Merill Lynch, Lehman, and Citigroup can’t run a financial company, what are the odds that at least a few cities and towns across the country are run by a financial maverick?

With the recession underway, municipalities are experiencing falling revenues:

BusinessWeek 

And of course, city and town leaders are just smaller examples of their big brothers and sisters in Congress and they want to spend spend spend just like Congress. It is true that cities must balance their budget but they certainly can issue bonds if cash flow doesn’t even out.¬† And what if they lose tax revenue too quickly or they issue bonds too recklessly?

Let’s look at some examples. Vallejo, CA almost declared bankruptcy as falling real estate revenue, combined with inflexible payroll costs almost caused the city to make a RARE chapter 9 filing (probably won’t be rare for long – more info here):

Portfolio.com – Vallejo, CA Story(great summary of the whole problem)

Fortunately, they worked out a deal with the unions. They were facing a $10 Million deficit this year and this is a city with only 117,000 people according to the article! Vallejo sits just 27 miles from San Francisco (I discussed recent news from SF in this post here).

Even though they avoided bankruptcy, they will have to cut jobs and reduce funding for some programs. these smaller towns are more reliant on residential property tax which is VERY volatile right now, and will continue to be.

Trouble in the Deep South

Another gem of an example – instead of a town that is experiencing lower tax revenue, how about a county financial chief investing in complex derivatives? if Merill, Lehman, and Citigroup can’t pull this off, what are these guys going to do? Apparently, a local financial manager in Jefferson County, Alabama (where Birmingham is) allowed a slick JP Morgan (and we all thought this company was the savior – Bernanke thinks so) manager to talk him into approving switching from fixed rate bonds to adjustable bonds couple with interest rate swaps.

And also apparently, this JP Morgan guy is SOOO good, he’s in jail. Nice work. Here’s the story from the NY Times:

NY Times – Jefferson County

If you have even the slightest bit of common sense, you can see more of this coming. Here’s why:

  • municipal payrolls are often inflexible
  • tax revenues are falling due to falling home prices – should we jack up property taxes in a recession?
  • At this time, it is estimated that the USA needs $1 trillion of infrastructure upgrades to get back to working order – this will be borne by the many cities and towns as well as states and the federal government (see my articles HERE).

With all of these pressures, it doesn’ t look pretty for cities and towns. If you have a local story about budgetary problems near you, feel free to share – I’d enjoy hearing from you.

Chris Grande

7.31.08
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