Should States be Allowed to Declare Bankruptcy?

Attacking the Wrong Problem?

Republicans have not been shy about the fact that one of their main goals of pushing a state bankruptcy option is to break the power of public employees’ labor unions. Many unions won higher pay and retirement benefits for their members in recent years, even as many private sector workers are losing jobs and benefits, and states they serve sink deeper into debt.

A recent Forbes magazine story describes the case of Glenn Goss, who retired as a police commander in Del Ray Beach, Fla., in 2005 at age 42. He is guaranteed to receive $65,000 in annual pension benefits, and the amount will rise with inflation. Given that the average American man has a life expectancy of 78, Goss’s retirement will cost Florida taxpayers $2 million.

“If California could explain to its government workers, who are trying to bankrupt the state trough pension and other obligations, ‘Look guys, if you keep doing this we’ll go bankrupt,’ then I think we may be able to turn it around,” says Norquist.

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Others point out that exorbitant-seeming pension benefits for public employees have multiple causes that bankruptcy cannot address. One problem is that many states that faced smaller budget crises in recent years found short-term fixes to their problems by depleting funds set aside for pensions, and by freezing or cutting state workers’ pay for a year or two in exchange for promises of higher benefits later.

“How did we get into this problem to begin with?” Spiotto says. “We got here by not paying into these benefit funds what we promised. If we paid the required contribution amount every year, the problem would go away.”

Moreover, states’ current budget crises have little to do with their long-term pension commitments, which consume just 3.8% of most states’ budgets, according to a recent report by the Center for on Budget and Policy Priorities, a left-leaning think tank. Budget shortfalls are mostly the result of lower tax revenues due to the recession, the center found, and require merely short-term adjustments to keep government functioning until the economy recovers.

Media reports of huge state budget deficits “create the mistaken impression that drastic and immediate measures are needed to avoid an imminent fiscal meltdown,” according to the report. “Such claims overstate the fiscal problem.”

Instead of upending the entire government budget process, critics of the bankruptcy proposal say the solution lies in the same messy, complicated arena of electoral politics that created the problem of underfunded pensions in the first place.

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“These are decisions made by public sector managers and state legislators, and they should take responsibility for fixing them,” Neiman says. “Throwing our hands up in the air and walking away from these contracts strikes me as very bizarre.”

Conservatives counter that states’ immediate and long-term financial health are inextricably linked.

“If a state bankruptcy option allows a state to demonstrably improve its long term financial profile, its short term budget crisis will be a lot easier to handle,” Haley says. “States will have greater credibility in going to the public markets for greater amounts of short term financing if creditors see structural corrections allowing greater fiscal health over the long term and thus greater ability to pay off its short term debts.”

What Does the Future Hold? »