Up in Flames

The New York Times reports that many state tobacco bonds are technically in default. Many more are in deep trouble, and outright default may be just around the corner.

Good. Excellent. And not a moment too soon.

By way of background, the bonds in question owe their origin to the 1998 Master Settlement Agreement (“MSA”) between state attorneys general and the major tobacco manufacturers. To gain the majors’ consent to a $200 billion-plus payment to the states (supposedly to settle the manufacturers’ liability for past misconduct), the parties engineered a nasty pact to ensure that future consumers, rather than the guilty manufacturers, would pay all of the costs (plus untold billions in oligopoly profits). The means to this end was a cleverly constructed cartel to divide market share, raise prices, and drive up rival producers’ costs. Had the tobacco executives concocted this naked cartel on their own, they would all be in jail. The state AG’s participation provided them (supposedly) with “state action” immunity. It also brought the MSA within the ambit of the Compact Clause of Article I, Section 10, prohibiting any state compact without the consent of the Congress (which the MSA never received). The MSA survived repeated challenge on those (as well as antitrust) grounds because the Supreme Court, including its soi disant originalists, can no longer be bothered to enforce the plain text of the Constitution even in the clearest of cases.

(I’ve written quite a bit on the MSA’s mechanics and legal problems; for a brief summary and further references see this post on balkinization.)

MSA payments—originally estimated at about $246 billion over 25 years and thereafter to run in perpetuity—are based on the producers’ current sales and market share. Most states soon adopted a take-the-money-and run strategy: they issued bonds backed by nothing but future MSA payments. For various reasons, however, cigarette sales and therefore MSA payments have come in well below expectations. Thus, the market is in turmoil. Some states are making payments from tobacco funds, meaning that investors are getting paid, for now, with their own money. Of course, the initial proceeds of the bond sales have long been “invested“ in one scam or another. Many states used the windfall to expand Medicaid and, in that fashion, to leverage federal dollars. These would be the same states that yammer about federal Medicaid “mandates,” but that’s another story. Sort of.

Somebody here will have to take a haircut. Either Altria & Co will have to cough up more money than they owe under the MSA. Or the states will have to back the tobacco bonds with general revenues. Or the geniuses who bought this junk will have to suck it up.

It doesn’t matter who takes the hit and to what extent: anyone and everyone within the vicinity of this sordid business deserves to get very badly burned. The duty and the privilege of American citizens is to watch the spectacle with undisguised glee. If we can no longer rely on the Supreme Court to enjoin outbursts of naked crony capitalism even when the Constitution unmistakably commands that result, we still can and should cheer when those schemes collapse, at long last, under their own weight.