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The byzantine multi-step deal meant to keep Jefferson County out of bankruptcy has fallen apart, and the county is now the largest municipal bankruptcy in U.S. history. The situation in Jefferson County has been a slow-moving disaster for some time, but from the moment the tentative deal to restructure out of court was announced, the challenges were apparent.
There were legislative hurdles, as a new entity backed by a state guarantee was demanded by creditors and a revenue gap for the county needed to be addressed.
There were the inevitable disagreements between creditors and debtor over the level of indebtedness Jefferson County could bear. And finally there were mundane but crucial political realities: politicians were eager to limit the size of rate increases.
With this outcome we are beginning to see the outlines of how the municipal distress issue will play out across the U.S. in the coming years.
- Creditors seeking state backing for their debts will encounter legislative challenges or the simple but inescapable calculus of local politics (i.e. it is more desirable for Financial Guarantee Corp, JPMorgan, et al to suffer losses than it is for voters to suffer onerous reductions in services or rate/tax increases). And with states facing their own financial challenges, the ability to backstop troubled municipalities may vanish irrespective of any desire to do so.
- Plans based on increased revenue from taxes and fees will need to take into account what is politically feasible.
- The historically low default rate for municipalities is irrelevant, as the weight of pension and healthcare liabilities, as well as revenue challenges, place financial pressure on local governments the likes of which they have not experienced since the 1930s (a time of considerable municipal distress).
- A 35% haircut was insufficient to keep Jefferson County out of bankruptcy. Bondholders, this is the new floor.
We are fortunate to live in interesting times.
About the author: David Johnson is a partner with ACM Partners, a boutique financial advisory firm providing due diligence, performance improvement, restructuring and turnaround services to companies and municipalities. He can be reached at 312-505-7238 or at [email protected].
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