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Illinois Looks for a Life Raft

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Chapter 9 of the U.S. Bankruptcy Code governs bankruptcy proceedings for municipal governments (but not states). It’s been used mostly to restructure debts of small government entities who find themselves in temporary distress. But Chapter 9 has also been used to solve, in a manner of speaking, solvency problems incurred by real places, like Stockton (CA) and Detroit. And there’s more to come.

A committee of the U.S. House of Representatives is considering a bill that would make Chapter 9 available to Puerto Rico’s public agencies. Those agencies carry upwards of $70 billion in debt; their bonds trade at something like 60 cents on the dollar. Existing bankruptcy law doesn’t cover them. The pending bill would change that, but it has little chance of enactment. (Some Republicans are opposed.) I don’t know the details but I’m inclined to favor the bill. The real question here is who is not going to get paid, and how and when. The sooner that gets resolved, the better.

Meanwhile up north in Illinois (politically and economically a kind of Puerto Rico without surf but, huzzah, with statehood) the legislature is considering proposals that would make it easier for municipal governments (including large-ish Chicago) to avail themselves of Chapter 9. Here, too, the question is who will not get paid. That includes not only creditors but also, and foremost, current and former public employees, whose pension and other post-employment benefits are wreaking havoc on local finances. The move to restructure—i.e., partially abrogate—those debts in Chapter 9 proceedings is prompted in no small measure by Stockton’s experience: earlier this month, the city obtained judicial approval for its bankruptcy plan. Creditors took a small hit; the unions, a very large one. Like, a cool half-billion.

One has to wish the Illinois lawmakers and newly elected Governor Rauner (who firmly supports the Chapter 9 initiative) the best of luck. They will need yet more luck, and quite probably a new cast of judges, to restructure the state’s own pension and benefit debts. (The pension debt alone clocks in at around $111 billion.)  To date, even modest legislative measures to address the problem have been struck down by the state’s fabulous courts. Something will have to give, and soon.

Reader Discussion

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on February 17, 2015 at 20:15:07 pm

The Illinois situation is only the tip of the fiscal iceberg in America. Multiply the State of Illinois with many of the other States,Counties,Cities and municipal entities,with of course the Federal Government thrown in and we get the end results of decades of the Political Class elites gaining power by developing a voting constituency of nonproductive,overpaid government employees,overcompensated retired government employees plus an army of "entitlement" seekers who,all added together,create little or no value in the Private Sector economy where only wealth can be created that can be be taxed. Its the old H L Mencken adage of "there are those that work for a living and those that vote for a living." Governments create no wealth. They can tax,go into debt and,on the Federal level print fiat currency. The end result is the majority voting,net tax consumer Political Class has voted themselves a living that is not only unsustainable but makes tax and debt serfs out of the creators of taxable wealth,that being the Economic Class. What has happened in America is nothing but a repeat of what happened to the Roman Empire centuries ago except at a much more rapid pace. Rome collapsed mainly because of fiscal folly. And so will America.

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libertarian jerry
on February 18, 2015 at 11:53:57 am

It is a can't lose situation for Illinois, and other states as well. Only in government can you ruin your financial health, get a respite and assistance, and then ruin it some more. The average criminal must feel he has picked the wrong racket. The best racket of all is reserved for the federal government, they just increase budgets and float more treasury bonds. Al Capone couldn't do that. But blindness and greed can cripple, a look at certain states in Europe show that, And yet they go on. The Civil Service remains untouched, even as they farm work out to private concerns and their employees attend seminars in Los Vegas, and the unemployed millions disappear in the rigged unemployed statistics, as the AP is happy to provide.
An old story, as old as government.

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john trainor
on February 18, 2015 at 15:42:11 pm

This problem (bankrupt governments) is going to get worse, but it will solve itself eventually because politicians are basically people of bad character. (I say this as someone born in Chicago and currently residing in the suburbs.) The reason local and state governments are going bankrupt is because crooked politicians spent from the treasury, (and from future treasury collections,) to get themselves elected.

Those crooked politicians will do whatever it takes to get elected. If their government's finances are such that they have to fix their previous mistakes to get elected, then they will fix them. Here's one way: they could tax 100% of all government pensions over the amount of $30K per year. PRESTO! their bankruptcy problem goes away.

I'm not saying that's exactly what they'll do, but they will do whatever it takes to get elected. If that means doing something sinister to their former political allies, then well, look out all you former political allies (read: unionized government workers.)

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Philster
on February 18, 2015 at 16:02:33 pm

Here comes the "pension envy" chorus again bemoaning the fact that workers who put in 30 years on the job should now actually receive the 35k in retirement income they were promised in lieu of higher private sector salaries. So a question for you guys, since this pension is realistically the savings of these public servants: if I told you the government could no longer afford to allow you to defer your taxes in a 401k and would now be automatically invading your account and seizing the 28 percent of it you would have otherwise paid in taxes, you would scream and call it theft of your savings. So why is it morally any easier for you to support having the government steal the saving so retires by stopping their modest, fully earned pensions?

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Dyinglikeflies
on February 18, 2015 at 17:42:26 pm

Because that's not how 401k accounts work. It wouldn't be a matter of "invading" a 401k to take the 28%, it would simply be a line on the 1040 that no longer exists. All you're talking about is a tax hike.

What pensions represent (and health benefits too, which are generally even more underfunded than pensions) is a future obligation, or liability, of the government/taxpayer. There is no liability involved with 401ks, they are by their very nature an asset.

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Sean Parnell
on February 18, 2015 at 18:06:12 pm

I have great sympathy for pensioners, who are going to be screwed. They did not create this problem (there may be a few cases of abusive pension deals, but most of these people would only have gotten modest pensions) but they will be the ones who suffer.

To answer your question, there is a small difference. It is the difference between being mugged (confiscating people's 401k) versus loaning money to a deadbeat friend who promises to pay you if you mow his yard but doesn't (IL pensions). It is the difference between having your actual possessions taken at gunpoint (and don't fool yourself into thinking confiscation of 401ks would be anything else), versus having someone break a promise to pay you something you never really had. One is violence. The other is mere fraud.

IL government is not going to pay these pensions, because they simply don't have enough money. They can't raise taxes to get the money (that would only succeed in shrinking their tax base by driving people and businesses out of the state). The people who created the problem are mostly long gone, or holding office. They will be the very last to suffer. If that makes you less trusting of government, then it has made you wiser. Power corrupts.

Bailing out IL is attractive because there truly are innocent victims, and many of them. The problem is the moral hazard that creates, and the many more innocent victims it would create. I don't have the answer.

At some point, the polity will inevitably bear responsibility for the government it elects. This is not meant to be some kind of cute poetic justice. This is simply fact. And we are all in that same boat.

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nerdlyone
on February 18, 2015 at 19:36:46 pm

Workers? You mean employees. 90% of government employment on all levels could be either privatized or done away with. With that said,to answer your question 100% of the savings and pensions of these "workers" were created by the private sector Economic Class in the guise of wealth created and then taxed by the Political Class. The government creates no wealth,it can only tax,borrow or on the Federal Level print fiat currency. Retire after 30 years? Start off let's say by being employed at the age of 22 and then retire with a pension at the age of 52. Added to this pension is health insurance for life for the government employee and his or her spouse. Also,at the age of say 52 the "worker" can then get a part time job for ten years and then double dip by collecting Social Security. No wonder the government is fiscally bankrupt. The only answer is to dismantle or privatize much of the government employee gravy chain and then pass a law that retired government employees on any level can not receive any benefits,including pensions and health insurance until they reach the minimum age of 65.

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libertarian jerry
on February 18, 2015 at 21:00:04 pm

I don't see the distinction between breaking the promise represented by the government's future obligation to pay the pension versus the government breaking the promise not to make you pay taxes on your current income and taking money directly from your retirement account (in fact in Europe this has happened). Both are theft. In both cases the government is stealing money accrued to you based on promise which you relied on. If anything breaking the pension promise is more immoral since you already did the work to earn it. Probably the only real distinction is that the Pension Enviers here have a 401k and would see the invasion by the government of that money as theft, but since the folks here don't have pensions and that would be theft of someone else's money, so who cares, that's just "prudent government". Intellectual honesty is apparently as dead as the hoolahoop.

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dyinglikeflies
on February 19, 2015 at 02:23:19 am

So who would pay for their next campaign? Public employee unions will never be the "former political allies" of Democrats unless you take away their ability to contribute to campaigns.

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Buffalo Bob
on February 19, 2015 at 02:27:16 am

For a generation of politicians, every fragment of their intellect and training will be applied to the critical task of controlling the narrative so they and their respective parties get none of the blame.

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Buffalo Bob
on February 19, 2015 at 10:42:13 am

You just mentioned the difference--"taking money" versus "breaking a promise". The difference, as has been explained, is between "taking" what someone *already has*, and "withholding" what you've promised. One is action. The other is non-action. Both are wrong in the way that both muggings and fraud are wrong. (I note too you try to conflate changing *future* 401k rules--which would be perfectly fine and legal--and taking money from people that they've already earned and currently possess. This makes your comment about intellectual honesty a bit hypocritical.)

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nerdlyone
on February 20, 2015 at 12:28:27 pm

Would the people who favor government defaulting on pension obligations also favor government defaulting on paying bonds?

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nobody.really
on February 20, 2015 at 14:07:12 pm

Nobody:

I suspect not. However, is there not a difference with pension obligations the scope of which are sometimes found to be the result of a quid pro quo - more money to public unions in exchange for a vote. I am not certain that is the case with government bonds, some of which one may assume are used directly or indirectly to pay for those same pension benefits?

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gabe
on February 20, 2015 at 16:53:09 pm

So we have two arguments here.

1. Maybe taking money someone has is worse than taking money someone has been promised. If you subscribe to that view, then presumably you regard government’s duty to honor pensions and bonds to be similar.

Take it another step: This is similar to government’s ability to seize assets in the custody of banks or other financial institutions. After all, you don’t have such assets; you have merely been promised to receive them upon demand – and we now acknowledge government’s right to abrogate such promises when it becomes convenient.

Take it another step: This is similar to government simply taking stuff. After all, you don’t have property rights; you have merely been promised property rights – and we now acknowledge government’s right to abrogate such promises when it becomes convenient.

2. Alternatively, maybe we can abrogate wrongful deals if there was allegedly some quid pro quo involved. If you subscribe to this view, you might favor retroactively abrogating public pensions – as well as retroactively abrogating tax cuts to people who gave money to politicians that voted for tax cuts, retroactively abrogating relaxed regulations on behalf of people who gave money to politicians that favored relaxing the regulations, etc.

I'm willing to go as far out onto the ice as you are -- but I can hear it cracking already.

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nobody.really
on February 20, 2015 at 19:18:47 pm

Well, I guess then we are both in the ice cold water. "Take the cannoli, leave the gun" so to speak!

Honor the bonds as no malfeasance was involved; abrogate both the pensions and tax cuts that were gained improperly!

Oh and leave property rights alone unless of course the specific instances were ill gotten gains.

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gabe
on February 20, 2015 at 20:52:01 pm

Someone still needs to explain how an pension is a "future promise" rather than deferred collection of compensation already fully earned by the worker over the course of a working lifetime. Unless you subscribe to the view that anything a government does or promises is by definition crooked because government itself is a criminal enterprise, there is no basis to treat the annuity a worker has purchased through his or her labor as not being in every respect a fully vested property right. Again, there is no intellectual honesty in saying government bonds should be paid or promises to defer taxes on income in a 401k must be kept, but the vested obligation to pay someone for work they already performed (the form of compensation being an agreed annuity) can be treated as a mere "promise". No real conservative can see the shredding of such an obligation to pay someone in the agreed fashion for labor they already performed as anything other than theft.

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dyinglikeflies
on February 21, 2015 at 10:32:41 am

You are, of course, correct about the annuity being part of one's earnings from labor. It actually is no different than. let us say, vacation time that has not been taken. It is yours - as is your pension.
However, the problems seem to occur when one considers that in a fair number of instances, as in CALPERS, the Legislature has, as part of a bargain with the union(s), offered / proposed / promised that the rate of return on the workers *deferred compensation* is to be some rather unrealistic figure. We may speculate as to why the Legislature did this - but it is clearly unrealizable. At the same time, the wording of the contracts are such that they are open to dispute as to whether the State must pay the higher rate of return (in other words must the taxpayers be required to fork over more of their own retirement or current earnings) in order to meet the unrealistic promises made by their representatives.
Damned if I know. However, the courts in California have been 50 / 50 on this with some saying the contract must be modified and others saying it must be honored.
Of course, what one must also recognize is this: If the State is unable to meet its obligations, it may go bankrupt under certain conditions.
I suspect that most folks do not want to eliminate or abrogate public pension contracts - only that they be made sustainable without imposing draconian tax increases upon the folks.
I could cite my own experience with an annuity which after the bust of 2008 dropped in value by almost 50%. I must live with that - why must public employees be insulated from the vagaries of the market especially when it was known or should have been known that the rates of return being promised were historically unattainable.

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gabe
on February 24, 2015 at 05:31:50 am

[…] In what I would take as the first (but not the last!) article to examine the issue of whether Illinois will be able to evade its responsibility for paying public employees the pensions they’ve been promised by declaring bankruptcy, Michael S. Greve, writing at Library of Law and Liberty, remarks: […]

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How Illinois Could Declare Bankruptcy
on February 28, 2015 at 17:49:23 pm

Here is an example of what may happen and a bit of info on how one city got into such a mess:

http://www.nationalaffairs.com/publications/detail/the-meaning-of-detroit

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gabe

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