Harrisburg, Pennsylvania - You've Got (Bankruptcy) Next!

Warning: long post full of inconvenient facts below.

One of the areas we are going to be very early on is the coming 'class warfare' between the public and private worker. Aside from Mike Shedlock over at Sika Capital, I haven't seen anyone else pounding the table as we have the last 3 years on the large - and growing - disparity between what is happening in the public v private workforce.  [Jan 24, 2010: For the First Time, More Union Workers Work in Government versus Private Sector]  Even as city and state budgets go into an abyss, it leaves me in awe (but does not surprise me) to watch the steps lawmakers are taking to try to kick the can even further down the road.  But then again, a good portion of their voting base would be affected by any re-alignment of the public sector wage/benefit structure to that of the increasingly damaged private sector worker.  As for the workers, well the reality is no one is going to turn down extra pay or benefits for the 'collective good' - that is understandable.  The point here is to continue to showcase how structurally broken things are and why more 'stimulus' and new taxes are headed your way [Dec 4, 2008: Bloomberg - Hoboken New Jersey Increases Taxes 47%] [Jul 2, 2008: Cook County, Chicago ---> Highest Taxes in the Nation: 10.25%] - until finally the private worker says enough is enough.

Hence, the moment I saw that Harrisburg, Pennsylvania could potentially be on the way to Chapter 9 - or as we like to call it around here "You got Vallejo'd!" [May 7, 2008: Vallejo, California Votes for Bankruptcy] my first thought was to research the wage structure of said city.  But after doing a lot of reading over the years, I could imagine it would be very little different than what is happening across almost all city and state offices.  [May 8, 2008: It Pays to be a Firefighter in Vallejo]  Then I wanted to see if they were paying city workers such perks as some towns in New Jersey - you know, a full day paid off to go Christmas shopping.  [Dec 4, 2009: Public Workers Continue to Live the Good Life in New Jersey]  Or if this was just a pension problem - which is at the root of almost every municipalities time bomb.  [Jan 5, 2010: FT.com - US Public Pensions Face $2 Trillion Deficit]

I am sure both the wage and benefits issues are the root cause of Harrisburg's problems (allowing no breathing room in a budget where 1 bad decision can cause a death spiral) but many other cities are still able to kick the can, while this city is forced to face reality now, due to an ill timed debt due to an incinerator.  How ironic really - while unrealistic promises served to hollow out the support, it was the garbage that finally broke the camel's back.  Even more ironic is that Harrisburg is the capital of the state of Pennsylvania - that about sums it up better than I ever could.

• Pennsylvania’s capital of Harrisburg was downgraded to five levels below investment grade by Moody’s Investors Service, as the city considers bankruptcy in the face of $68 million in debt payments this year.
• Harrisburg’s city council and controller, Dan Miller, have said Chapter 9 bankruptcy protection is one option under consideration as the city contends with debt payments this year that exceed the size of its general fund budget for services such as police and parks.
• He said the city may not have the money to meet $2 million in debt service payments March 1 that it has guaranteed on behalf of the Harrisburg Authority, operators of a trash-to-energy waste incinerator.
• City Council members are considering a 2010 budget that would attempt to raise $69 million for bond payments on the incinerator this year by selling assets such as an historic downtown market, an island in the Susquehanna River that includes the city’s minor-league baseball stadium, and the city’s parking, sewer and water systems.
• The $68 million in debt payments Harrisburg faces this year is four times what the city expects to raise through property taxes, and $4 million more than the city’s entire proposed operating budget.  (the citizens of Harrisburg should ask for "clawback" provisions on the politicians wages for this one)

*************************

With that said, it is now a fun hobby of mine to research what exactly government officials have given to themselves over the years - as they glibly put more strain on the taxpayer, year after year.  While of course crying (when the debt hits the fan) that you must save the benefits we increased through the roof... after all you don't want to have less police officers on the streets.  (what the 2 have to do with each other is something anyone who lives outside the Matrix must ask)  Hence you get "stimulus" plans... err, or as they are called now "job creation" plans.

As I dug, I was heartened to hear that the new mayor of Harrisburg, took a small page from Wall Street - and decided an office revamp, to the tune of $35,000 was a requirement.  John Thain would be proud, although that bill would not even pay for half a rug in his world.  [Jan 22, 2009: Merrill Lynch's John Thain Can Only Work on $87,000 Area Rugs]  But the important thing is our government officials are learning from our Wall Street feudal lords, and doing their part to run a parallel oligarchy.

• The renovations cost taxpayers $35,130, according to an itemization of expenses The Patriot-News received after filing a Right to Know request with the city.

But really that's small potatoes compared to the damage done early in the decade... in our favorite black hole.  Pensions.  This article I found while researching Pennsylvania was quite the eye opener: PA Pension Time Bomb Still Set to Explode in 2012.  And to put it in perspective, PA's GDP is around $550B annually; compared to Greece at $350B.  This needs to be emphasized to show readers we have our own European states residing within the United States.

Pennsylvania readers... please hide the children before continuing.  Readers of all other states - trust me, about 9 out of 10 of you have the same issue happening in your state.  I am just highlighting PA today due to the Harrisburg issue.

• (Dec 2009) The Public School Employees' Retirement System, for teachers and other school workers, and the State Employees' Retirement System, which mostly serves state government workers, gave a sobering joint presentation to the Senate Finance Committee on Wednesday.
• The updated numbers they presented were ugly, and quite ominous for the taxpayers who ultimately guarantee that the benefits that have been promised will in fact be paid out. Even though the equities markets have swung upward this year, both funds were severely devastated by the recession-driven downturn.
• The teachers' pension fund fell from $67.2 billion in mid-2007 to $46 billion at the end of September. The state workers' pension fund, which had a market value of nearly $36 billion in 2007, was under $24 billion by Sept. 30.
• The state pension fund that's supposed to help pay for pensions is now smaller than it was in 2000 - $24 billion, down from $27 billion. (no surprise, considering the 'lost decade' in stocks - but again many of these pension plans assume at minimum 6% a year)

That sounds pretty awful.  Remember a lot of these pensions are based on pie in the sky 6-7-8% annual returns, and thus a lot of states and cities have not been putting enough money into them, since the "super cool" accounting for future returns takes care of the issue.  But when those returns don't come in... well you have a problem.

But that's just half the story - look at these actions done earlier in the decade:

• In 2001, the General Assembly got Gov. Tom Ridge to agree to increase pensions for most state lawmakers by 50 percent, and in doing so they also bumped up pensions by 25 percent for some 300,000 active state workers and teachers. It breezed through both chambers overwhelmingly, with no floor debate.

No floor debate? Why bother - it's just money.  Where is my "That was easy" button - ah there it is.

Well of course when that passed in 2001, previous retirees wanted theirs too!

• Retirees, left out of the deal, clamored for their own raises, which were approved in 2002 at an estimated cost of $1.7 billion.

Boo yah!

But we're not done yet... we've covered 2001 (which was a recession year for the country), 2002 (which was a recession year) and now comes 2003 (which was a jobless recovery year) - but apparently government is immune to recession.

• The final twist was in 2003, Gov. Ed Rendell's first year. In the face of substantially higher mandatory pension payments for state government and school districts, he and lawmakers struck a deal to push back paying most of it for 10 years.

Oh baby, when confronted with reality - kick the can mate!  Beckham would be proud on this one, a decade long kick!

So what does this kick the can look like in real numbers? 

• ....the largely taxpayer-funded "employer cost" (employer cost? haha)  for the teachers' pension system, which is roughly half local property taxes and half state budget money, is currently projected to increase from about $617 million in the current fiscal year to $4.2 billion in the fiscal year that ends in June 2013.

$600 million to $4.2 billion.  Annually.  Nothing the federal "stimulus plan" of 2012 (sorry, "job creation plan" to keep firefighters and police on the streets) cannot fix!  Bernanke can print $4 billion before you can even blink an eye.

Unfortunately this is not just a 1 year problem, or 3 years, or 5 years... this albatross lives for a good 20 years.  Why do you care? 

• It then climbs steadily before topping out at $6.4 billion in 2032.

That takes care of the teachers (i.e. what I call the pseudo public worker), what about the more traditional public worker.  Same story...

• The state workers' pension system tells a similar story.
• The 2009 employer cost is about $344 million. That jumps to $1.8 billion in 2011 and $2 billion in 2012 and reaches $2.6 billion in 2030.

Combined?

• In other words, today's taxpayer cost of less than $1 billion will be more like $6 billion in about three years.

You think it's just a PA problem? Nah - we're all going to be paying to fix this - either indirectly (more debt on grandkids) or directly. [Dec 24, 2009: California Asks Rest of Nation's Taxpayers to Help Pay for its Unbalanced Budgets]

But never fear!  Remember, this is America ... the home of (financial) innovation!  Remember, how PA kicked the can in World Cup fashion a decade ago?  Following in the federal government's footsteps, one of the proposed solutions to this mountain of debt is to... (wait for it)

.... issue more debt!  Problem solved kicked!

• .... talk of issuing pension obligation bonds, using federal money (do you want me to direct desposit it directly in the teacher's fund or shall I write a check?) or a new version of the financial structure changes that Rendell and lawmakers imposed in 2003.

Of the 3 above "solutions" above, I don't even understand how option 3 is a solution.  Option 2 is very easy - ask the nation's grandchildren to owe more debt as the federal government money trees are shook yet again for more dollars from the heavens.  The one I want to educate you is the fancy shmancy "pension obligation bonds".  Wow they sound so cool, with such a Wall Street-y name; surely they will fix our problems.

• To understand the irresponsibility of pension obligation bonds, remember that an employee's retirement benefits should already be "paid-up" when he or she retires. In other words, governments should be setting aside enough money during an employee's career so that the cost of his or her total lifetime retirement benefits has been saved up by the time the employee retires.
• But what happens when you have deferred the maximum cost permitted by law and the result is still deemed unaffordable? Rather than reduce benefits or cut other spending, legislators propose to float a bond, known as a "pension obligation bond," to finance these unaffordable benefits.
• The theory is to borrow monies at a relatively low interest rate — for example, 4 percent — and invest the proceeds within a pension or health care trust fund to earn an assumed high rate of return, such as 8 percent. (which ironically is the same premise that got caused states and cities to get into this mess in the first place... if at first you don't suceed, try try again?) Whatever the theoretical merits of this financial arbitrage, the practical reality is that it simply creates more risk and more debt for the current and next generation of taxpayers. 
• To see the problem, ask yourself this question: Would you borrow on the equity of your home and invest the money in capital markets, hoping for an 8 percent annual return? If this investment proposition gives you pause — and it should — you understand the fundamental risks associated with pension obligation bonds.
• After all, a pay-as-you-go approach allows local officials to overpromise benefits while creating a mirage of manageable costs. If the real costs had to be paid upfront, taxpayers would revolt. Instead, the costs are thrust upon the next generation of taxpayers, many of whom are too young to vote. The result is an unsustainable Ponzi scheme.

Ponzi scheme?  Bingo. 

Look for "pension obligation bonds" to break out all over city and state government's in the years to come ... after all its the United States of Ponzi and if you vote against it, you will be accused of hating the police.  [Dec 30, 2009: Eric Sprott Wonders if US Debt Scheme is Simply the Biggest Ponzi Scheme Ever]  And this is one state - we have many with identical financial situations.  And you think Greece has problems?

There are going to be a lot of angry taxpayers who have yet to realize what is heading their way in the coming decade.