Pretty soon, all US taxpayers will be insuring state and muni debt of the broke state of California.
See, the state needs to raise $15 billion in fresh debt over the next few months, but of course, since the economy there is so terrible, and its government has been horribly mismanaged, nobody is willing to lend it money. Solution: Get the feds to insure the debt.
Governor Schwarzenegger and other state officials have sent a letter to Barack Obama and the Congress pleading for help. They claim there’s very little risk of default, but that: “Currently, we have only limited access to the credit markets, and banks have shown little interest in enhancing government-issued debt in a declining market.”
There’s a good chance they’ll get it. Barney Frank has already indicated a desire to help, and possibly to insure all muni debt. Remember, Frank slammed ratings agency Moody’s for putting all muni debt on negative watch, saying that higher borrowing costs for cities and states would be counter-stimulative.
And of course, the Federal government loves making bailouts in the form of “insurance” since it gives the appearance of only being a contingent — and unlikely — payment.
Indeed, muni defaults have been historically rare events. But they’ve been accelerating, and we keep going back to what Warren Buffett said in his letter to shareholders. Muni defaults were rare in the period before muni bond insurance. Now that cities and states have third parties who can pick up the tab, the pressure on them to make good and do the hard choices has abated. And if your muni insurer is the federal government, not some profit-seeking firm, then really, why bother making good on your loans at all.