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Obama Missed Big Opportunity With State Bailouts

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Lost in the excitement/mourning yesterday over the tax deal and the death of Elizabeth Edwards respectively yesterday was an interesting piece from James Pethokoukis at Reuters about a secret GOP plan to bankrupt the states.

Congressional Republicans appear to be quietly but methodically executing a plan that would a) avoid a federal bailout of spendthrift states and b) cripple public employee unions by pushing cash-strapped states such as California and Illinois to declare bankruptcy. This may be the biggest political battle in Washington, my Capitol Hill sources tell me, of 2011…

Republicans in the House of Representatives already want to stop state and local governments from issuing tax-exempt bonds unless they are more forthright about these future obligations. Republican Representatives Devin Nunes and Darrell Issa of California and Paul Ryan of Wisconsin have introduced a bill that would require state and local governments to estimate the size of public pension liabilities if their assets earned a more conservative rate of return than many plans currently expect. Failure to do so would result in the suspension of their ability to issue tax-exempt bonds.

Via Hot Air, Sarah Palin was quick to stake out her ground on the issue.

American taxpayers should not be expected to bail out wasteful state governments. Fiscally liberal states spent years running away from the hard decisions that could have put their finances on a more solid footing. Now they expect taxpayers from other states to bail them out, which will allow them to postpone the tough decisions they should have made ages ago and continue spending like there’s no tomorrow. Most Americans would say these states have made their bed and now they’ve got to lie in it. They accepted federal dollars and did not voice opposition to the unfunded federal mandates, and they even re-elected politicians who foisted debt-ridden programs on them that could never be sustained.

Instead of coming to D.C. cap in hand asking for more “free” money, they should follow the example of their more prudent sister states and take the necessary steps to sort out their own finances. They must start by reforming their insolvent pension systems. Many states have multi-billion dollar unfunded pension liability problems that they have refused to address for many years.  They’ve deferred their spending problems, assuming the problem deferred would be an issue avoided; instead, it’s resulted in a crisis invited.  These states still won’t reform their costly defined benefit systems for fear of offending the powerful public sector unions. Sooner or later, their pension systems will collapse unless they do what states like Alaska did, which is to swap unsustainable defined benefits, which are more like glorified Ponzi schemes, for a more prudent defined contributions system.

Think of the state pension system as the state-level equivalent of the impending doom the federal government faces with entitlements.  The problem is gigantic and it’s coming as sure as the sun will rise tomorrow.  Illinois, for example, officially has $62.4 billion in unfunded liabilities (if that doesn’t sound like a lot, the Illinois budget is around $30 billion).

I think the biggest part of this story is that the states have already been bailed out.  Back in August Obama and his Democrats gave the states $26 billion that was required to prevent major public employee layoffs (including cops and teachers), and in a sickeningly predictable manner, the states did nothing to get anywhere closer to solvency.

Generally there is quite a bit of bailout fatigue amongst people at all familiar with the concept of moral hazard.  Ignoring that for a second, there was a big opportunity that Obama missed in the process of the August bailout.

The states needed the money.  Why on Earth would you give it to them without concessions?

Instead of just giving the states the cash, he could have required an approved plan towards solvency.  It wouldn’t have been pretty, but it was essential for the survival of his key constituency, the public employee unions.

Now Republicans are doing what Obama apparently lacked the sack to do.  While letting the states go bankrupt was clearly a non-starter for Obama and the other union minions, Republicans are not beholden to public employee unions and are not afraid to let the blood-letting commence.

To close, a little primer from the Daily Caller on what public employee unions have to look forward to as a result of their fiscal insanity.

That issue looms large here because the most important feature of any state bankruptcy would be to discharge the pension obligations. It is doubtful that the obligations would be completely eliminated, but they could be extensively trimmed to bring them in line with private pension funds, which is both a financial and a moral necessity. Once that is done, the rest of the process should not be nearly as complicated.

…there is no obvious mechanism for state bankruptcies, even if there are some procedures, I believe, for municipal bankruptcies. This is a ticklish issue because states are sovereigns and it is a frightening prospect to think that when mired in bankruptcy, they could not discharge their essential functions because they could not pay their pension obligations, among others. So the battle over the form of bankruptcy will be acute, and I have no idea how this would play out–except badly.

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