the ponzi bomb under the city walls

put there by public sector unions, it's now exploding. will it leave anything behind?

those who have been paying attention, (a surprisingly small number in one gato’s opinion), have been increasingly wondering about major US cites going bankrupt. the folks at “truth in accounting” recently laid out some stark findings:

last year, 53 of the 75 most populous US cities (70%) did not have enough money to pay their bills. they held $307bn in assets and $595bn in debt, a coverage ratio of only 52% and this is probably much too optimistic as future labilities look to be being systematically reduced and future income projections look implausibly rosy, especially given how trends are going.

why is it so easy to stress a city like new york or chicago to the breaking point with a few thousand immigrants demanding housing and funding? this is why. many of these cities are teetering on the brink.

and this is going to be a huge demographic deal because when cities start to fail, people vote with their feet, the rich often voting first and hardest and that badly unbalances systems because the top 1% of taxpayers generally pay about 50% of income taxes as well as an awful lot of transaction tax and property tax. property taxes underpin a lot of city revenue so property values matter a ton. so too do business taxes, hotel taxes, etc. and if you start to erode that base meaningfully, you can suddenly find yourself with large, structural, self-reinforcing revenue holes and companies (and especially workers) have become more mobile than ever and if they do not like what’s going on in your city:

buh-bye now.

cities really do need to compete for people, especially the highly productive people and the shift from the ones that are deteriorating to the ones that are thriving seems to be picking up pace and the idea that “you need to be in SF, NYC, or LA” is falling apart for “mid and small town living is great, better for kids, and i can work from here” or “wow, austin is hoppin!” it’s shifting population patterns.

this sets up a truly nasty pincer of the people leaving and the debt remaining to become the ever growing per capita responsibility of those left behind. this sets up a snowball effect and it has been, to date, far worse than it has appeared. this bomb is going off, people have just not noticed yet.

in 2022, many cities were still suckling upon the federal teat of “covid-19 relief funds” which were, in general, nothing of the sort and were, in fact, unaccountable welfare for cities. the reason the feds have been so loathe to let these end is almost certainly fear of what would happen to these drowning metro areas if they did.

meanwhile, the value of pension payouts has been rising while the value of pension funds dropping calamitously because, of course, when rates rise, bond prices fall and this is most pronounced on the long end of the curve. when rates go from 0.1 to 4%, a 5 year zero coupon bond drops in price about 18%, but a 30 year drops about 65%. compound interest = leverage to rates.

how many municipality pension funds were buying long dated bonds looking for slightly higher yield in the yield desert of the last decade? hard to say, but either way they took some real structural hits last year. bets that rates are going back down look like bad ones. current rates are still on the lowish side of normal. it was the period from 2008 to now that was the outlier.

cities are required to balance budgets. per TIA, this is supposed to generate accountability:

Former U.S. Treasury official Frank Cavanaugh said it best, “Politicians should not have the pleasure of spending (getting votes) without the pain of taxing (losing votes).”

lovely idea, frank, but increasingly, it generates accounting practices that would make enron or worldcom blush.

it’s well past “fudge” and into “outright scam.”

more than any other issue, pensions and retirement health plans to blame. they have become at once the most sacred of cows and the most abject horrors of short-sighted can kicking.

public sector unions that outright bribe and intimidate the very people with whom they will then have their contract negotiations are the primary culprit here. if you turn on them, your election coffers run dry and they lavish cash upon someone to unseat you and get the gravy train running on time again.

this hideous conflict of interest and bought and paid for politics would be bad enough, but demographics have made it far worse. these pension ideas were put into practice when life expectancy was 65. now it’s in the 80’s. that’s an awful lot more years of defined benefit payout. it’s become a terrible ponzi where the vast spike in payments and payees lingers for decades and thus the tax and contributor base required to cover it does too. payments in are nothing like adequate, funds get plundered and redirected, and the accounting around this has become gangrenous.

The most common accounting trick cities use to understate government costs is not including true compensation costs. Cities provide employees with salaries and employee benefits, such as healthcare, life insurance, and pensions. While pension and other post-employment costs, such as health care, will not be paid until the employees retire, they still represent current compensation costs earned and incurred throughout their tenure. To ensure that taxpayers are accountable, each budget should include contributions into the retirement funds in the amount of the portion of retirement benefits earned and incurred during the budget period. Unfortunately, some elected officials have used portions of the money owed to pension and OPEB funds to keep taxes low and pay for politically popular programs. Instead of funding promised benefits now, politicians have charged them to future taxpayers. Shifting these payments to future taxpayers makes the budget appear balanced while increasing city debt.

and this is aided, abetted, and enabled by an accounting loophole that looks more like a fiscal sinkhole:

this got hideously abused during the age of zero rates because cities could lard on the debt and the service costs were negligible. no mas. today, muni debt carries real rates and refinancing it stings.

this burden/surplus calculation is (assets - liabilities)/population to generate a per person burden or benefit. it’s pretty grim, and in the big cities, it’s mostly pensions and benefits.

and honestly, i think this analysis is often seriously over-generous.

consider chicago.

chicago is in $63bn of official debt. the unfunded pension liabilities for which the city and its associated agencies (schools, transit authority and parks) are liable equal $29 billion of the total debt. add in the city’s share of cook county’s debt, chicago’s total pension debt increases to $32 billion.

and these are based in unrealistic assumptions about forward cost.

this is not an escapable situation. and no help is going to coming from the state. they too are broke as a joke.

15% debt to GDP is already a heavy burden for a state and the gap in spending vs income has become outlandish.

these places are have been staying afloat on accounting gimmicks and near zero interest borrowing. borrowing costs real money now and this is going to be a real problem.

local, state, and even national elections continue to be dominated by public sector unions who protect their pensions and retirement health benefits like momma bears protect their cubs. they will not give an inch on this issue and they are the ones funding elections and politicians.

i struggle to see from whence the political will to stand up to them will arise unless some federal politico gets sufficient gumption to bar public sector unions from political donations altogether or perhaps ban them altogether (those these paths carry nasty issues around rights.) it’s a system so corrupt and self-serving and entrenched that i doubt much can be done.

so the expenditures will continue.

then what?

crime is rising in many cities in a manner residents find unpleasant.

services are struggling.

quality of life is atrophying.

the rich are leaving.

companies are leaving.

where’s the break point where there is simply no ability to “extend and pretend” anymore?

i suspect it’s A LOT closer than many realize, perhaps one stock market crash away for the weaker gazelles in this pack. the debt cheetahs are going to be all over them.

are they just going to default wholesale?

imagine that cascading through the bond markets and the contagion into pension funds, 401k’s and mutual funds.

is this how the feds swoop in to run the cites and states?

with what money?

look what the last couple years did to the US federal balance sheet. the age of “print without consequence” is over. we’re back to a real world inflationary response as the china potemkin economy rationalizes and there is no longer massive consumer and capital goods oversupply being sold globally for 80c on the dollar.

the feds have $213 trillion of unfunded liabilities of their own and their debt costs are exploding. they too cannot pay their bills as entitlements and debt service alone eclipse revenue. as one notorious internet feline put it: “democracy dies in deficits.”

the simple fact is that many cities, states, and likely the US as whole are past the point of fiscal irresponsibility where there is any path back that is not truly horrible for someone.

it’s a bullet we need to bite and it’s only going to get harder and more damaging the longer it’s allowed to run.

cities will be the canary in the coal mine.

then states.

and then…

we’ve become fixated on political issues like the border and student loans and DEI and which of the panoply of soap opera villain level politicos did what and for whom and to what tawdry personal gain, but the reality is that little of it matters a decade from now unless we get our fiscal house in order at every level of government.

until we do, it’s just rearranging deck chairs on the titanic.