Moody’s Suggests Greedy Taxpayers Clinging to Their Money and Too Much Local Government Authority Are Causes of Municipal Bankruptcies; Predict More to Come

Print Friendly

UPDATE: Inglewood Unified School District was indeed the next school district to be taken over by the state, as predicted below. On September 14, Governor Jerry Brown signed Senate Bill 533, a bill amended on August 15, 2012 to authorize emergency loan assistance to the school district of up to $55 million. Senate Bill 533 also requires the State Superintendent of Schools Tom Torlakson to assume all the rights, duties, and powers of the school board and appoint a state administrator for the district.

Note that the Inglewood Unified School District Superintendent Gary McHenry was the Superintendent of the Mt. Diablo Unified School District in the mid-2000s when the school board spent years arguing over requiring construction contractors to sign a Project Labor Agreement with unions to work on certain projects at the district.


ADDITIONAL THOUGHT: as I was writing about the Costa Mesa City Council’s derailed cost-efficiency plan on the morning of August 18, 2012 (Costa Mesa’s Bold and Meaningful Government Cost-Efficiency Plan on Hold Until November 6, When Citizens Vote on a Proposed Charter (Measure V) and for Three City Council Members), I realized that Moody’s looks at strong local government authority without considering all of the potential POSITIVE aspects of strong local governments and “home rule” under charters. A 4-1 majority on the Costa Mesa City Council is asking voters to enact a charter on November 6 through Measure V that would allow it more freedom and flexibility to save money for taxpayers by contracting out services and exempting local construction from state-mandated construction wage rates (so-called “prevailing wages”).

The people sending out the message from Moody’s about city bankruptcies in California apparently didn’t think much about wasteful government spending and the flexibility that comes with local control. They simply blame democratic obstacles to tax increases (“raising revenues is difficult for all California cities because tax hikes require voter approval”) and insufficient centralized government control (“unlike other states that are empowered to intervene in the financial affairs of stressed local governments, California’s strong ‘home rule’ means local governments get relatively little financial, technical, or oversight help from the state”).

If institutional investors are foolish enough to buy bonds issued by the City of Compton and the Inglewood Unified School District, why do California taxpayers need to bail out those investors with tax increases and costly state government interventions?


Imagine the constant pressure on the Howard Jarvis Taxpayers Association as it responds in bad times (as well as in good times) to the relentless claims that California would be so much better without those silly laws (especially Proposition 13) enacted by greedy, uncaring, ignorant voters who want to limit tax increases. When will people be more willing to share their bounty for the public good?

The latest subtle attack on the selfish taxpayer comes from Moody’s Investors Service. Today (August 17, 2012) Moody’s announced the release of a report entitled “Why Some California Cities Are Choosing Bankruptcy.” The announcement on the Moody’s web site hints of fundamental problems in California that include the following: (1) governments aren’t taking enough money in taxes and fees from their citizens to pay for services and other obligations; and (2) the state government isn’t strong enough to effectively meddle in municipal affairs. Here are some relevant excerpts:

[The report] details the economic, legal and policy environment that is helping to drive the increase in bankruptcy filings and defaults by California cities and concludes that the risk profile of California cities has increased across the board. Factors include the state’s boom-bust real estate economy, its hands-off policy with regard to the fiscal problems of local governments, and newly enacted legislation that … effectively lays out a path to bankruptcy court for stressed municipalities…

“Raising revenues is difficult for all California cities because tax hikes require voter approval,” said Moody’s Managing Director Gail Sussman. “And, unlike other states that are empowered to intervene in the financial affairs of stressed local governments, California’s strong “home rule” means local governments get relatively little financial, technical, or oversight help from the state.

“The inability and unwillingness to honor obligations to bondholders is relatively new in US public finance and still remains rare,” said Sussman. “The emergence in California of bankruptcy as a tool to extract bondholder concessions as part of a budgetary solution is a significant new risk for bondholders.”

“Stressed local governments” need a financial massage from the taxpayers through “raising revenues” and an “empowered” state government. A Reuters article about the report picks up on the theme:

The remedies California’s municipalities can employ are more limited than those of some other states, citing restrictions on property tax hikes and cities’ considerable independence from the state government, Moody’s said.

Get it? Local communities are too independent, and they selfishly want to keep their own money. They need to give away more money and more power to the wise in Sacramento, and then some of it will come back.

Here is a counter-perspective, which can be done by citing Moody’s own words:

Looking at the last couple of months of ratings issued by Moody’s for California local governments, it looks like the City of Compton might be the next city to file for Chapter 9 bankruptcy. On July 23, 2012, Moody’s announced that it had downgraded the rating for the City of Compton‘s $4.9 million in Sewer Enterprise revenue bonds from A2 to to Ba1 with the possibility of further downgrades. Apparently the city is collecting more than enough money from its sewer bills to make its payments on these bonds. Some other pesky issues have come up, such as “weak internal controls and management practices” and “severe General Fund overspending relative to budgeted amounts” and “waste, fraud and abuse.”

The downgrade is based primarily on the city’s severe liquidity crisis, the risk this raises that the city could seek bankruptcy protection, and the potential implications of such a development on timely debt service payments. The sewer enterprise currently generates more than sufficient net revenues to make debt service payments, and the Ba1 rating reflects our expectation of full, if not timely, debt service payment, assuming revenues have been allocated as legally required. The downgrade also reflects the city’s weak internal controls and management practices, highlighted by the depth of the liquidity crisis; recent, severe General Fund overspending relative to budgeted amounts; and allegations of waste, fraud and abuse of public monies by the city’s Mayor. These allegations undermine our expectation that the city will properly account for and transfer pledged enterprise revenues to bond trustees consistent with trust agreements to ensure timely debt service payments. Uncertainty also derives from the city’s inability to produce audited financial information on a timely basis.

The July 18, 2012 Los Angeles Times suggested that the City of Compton would be the next city to go bankrupt: see “Compton on Brink of Bankruptcy: The city is the latest to fall victim to questionable financial practices. It could run out of money by the end of the summer.” (The article hedged its bets by also mentioning Victorville and Montebello.)

At California school districts, it looks like the Inglewood Unified School District might be the next school district to be taken over by the state. On June 28, 2012, Moody’s announced that it had downgraded the rating for the Inglewood Unified School District‘s $113 million worth of outstanding general bond obligations from A3 to Baa1. It also assigned a “negative outlook” because of “the district’s continued fiscal crisis and the possibility it could be forced into state receivership to remain solvent.”

According to an April 20, 2012 announcement about the Inglewood Unified School District from Moody’s, this school district has been spending more while taking in less and educating fewer students:

The district’s financial position has eroded to a level of near insolvency that requires an immediate correction to maintain operations. The current financial position occurred due to growing expenditures during a period of acute revenue decline. Revenue decline has been driven by two main factors: declining enrollment averaging 4.8% annual decrease over a five year period, and reductions of state aid experienced by all California school districts beginning in fiscal year 2008. The district’s operational imbalance was funded during fiscal years 2009 and 2010 by Federal ARRA funds and the use of the district’s reserve funds. Fiscal year 2010 ended with a General Fund balance of $3.8 million, 3.4% of revenues, a significant drawdown since fiscal 2007’s balance of $17 million, or 12.8% of revenues.

Speaking of school bonds, notice all the wonderful things that happened after Californians voted in 2000 to reduce the voter approval threshold for school districts to sell general obligation bonds for school construction from two-thirds to 55%. School districts went wild borrowing money from bond investors, often by selling Capital Appreciation Bonds. Today the kids enjoy their new and renovated school facilities, and tomorrow their families will enjoy a lifetime of renting when property taxes shoot through the roof in 20-30 years to pay off the compound interest from those bonds. (Don’t worry, I’m sure the state government and local governments will institute laws to control the rent.)

Really, do you want to give more money to the City of Compton and the Inglewood Unified School District, the way they’re run today? The problem is not that Californians aren’t giving enough money to their government. The problem is the government itself.

Comments are closed.