The most widespread and persistent folktale about California is that some day the entire state will break away from the North American continent and fall off into the vastness of the Pacific Ocean. That day may not be too far off if what is unfolding in the growing number of municipal bankruptcy court cases in California plays out to its logical consequence without massive and politically legitimate pension reform.
As reported by urban economist Steven Malanga, municipal bond insurers may lose out in court in their attempt to get bankrupt California cities to reduce pension costs. This may lead to more than just bondholders getting wiped out and much higher borrowing rate costs across the state.
If the courts uphold pensions as a constitutional right over bondholders’ rights, municipal workers will be entitled to earn more in pensions and health benefits than cities can currently pay. About 70 to 80 percent of municipal operating costs are allocated to salaries and benefits. And the lion’s share of salaries and benefit costs go to police and fire protection. There is little room for large budget cuts in most municipalities.
Some municipalities with pre-existing pension bonds may be able to refinance them without voter approval and shift the explosion in pension costs into long-term debt. Issuing brand new pension bonds would require voter approval. But such cities would have to have enough extra budget cash flow to handle the added debt.
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