12 Reasons Meredith Whitney Is Wrong About The Muni Crisis

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More and more people are jumping on the bandwagon to bash Meredith Whitney’s prediction of a massive wave of muni defaults.

Now the centre on Budget and Policy Priorities has published a report critiquing the “mistaken impression that drastic and immediate measures are needed to avoid an imminent fiscal meltdown.”

Essentially the report says unfunded pension liabilities are not a structural or immediate problem, and outstanding debt isn’t unusually high. Modest budget changes and an improving market will fix everything.

Outstanding muni debt remains within historical parameters

CPB: States and localities have issued bonds almost exclusively to fund infrastructure projects, not finance operating costs, and while the amount of outstanding debt has increased slightly over the last decade it remains within historical parameters. Recently, the Build America Bond provisions of the Recovery Act encouraged borrowing for infrastructure building as a way to improve employment; these bonds can only be used to finance infrastructure.

Interest payments absorb less than 5 per cent of current expenditures

CPB: Interest payments on state and local bonds generally absorb just 4 to 5 per cent of current expenditures -- no more than they did in the late 1970s

Municipal bond default is extremely rare -- less than one-third of 1 per cent

There wasn't a bubble in muni bonds, nor any exotic derivatives

Pensions were fully funded until they had to weather back-to-back recessions

CPB: State and local shortfalls in funding pensions for future retirees have gradually emerged over the last decade principally because of the two most recent recessions, which reduced the value of assets in those funds and made it difficult for some jurisdictions to find sufficient revenues to make required deposits into the trust funds. Before these two recessions, state and local pensions were, in the aggregate, funded at 100 per cent of future liabilities.

Anyone claiming there are $3 trillion in unfunded pension liabilities is ignore investment earnings -- which are the majority of returns

Pension funds average over 8 per cent returns through a diversified portfolio. Why would they invest only in fixed income?

CPB: Economists generally support use of the riskless rate in valuing state and local pension liabilities because the constitutions and laws of most states prevent major changes in pension promises to current employees or retirees; they argue that definite promises should be valued as if invested in financial instruments with a guaranteed rate of return. However, state and local pension funds historically have invested in a diversified market basket of private securities and have received average rates of return much higher than the riskless rate. And economists generally are not arguing that the investment practices of state and local pension funds should change.

Municipalities devote only 3.8 per cent of their budget to pension funding: A modest increase could solve most problems

Municipalities have the next 30 years to remedy any pension shortfalls

Pension plans are legally protected. Health benefits generally are not

CPB: While pension promises are legally binding, backed by explicit state constitutional guarantees in some states and protected by case law in others, retiree health benefits generally are not. States and localities generally are free to change any provisions of the plans or terminate them entirely.

For instance, states can easily force retirees to pay health premiums

CPB: States' retiree health benefit plans differ widely. For example, 14 states pay the entire premium for retirees participating in the health plan, while 14 other states require retirees to pay the entire premium. States clearly have choices in the provision of retiree health benefits.

In fact, most states WILL have to scale back health benefits -- but won't default on pensions or bonds

CPB: With health care costs projected to continue to grow faster than GDP and faster than state and local revenues, it is highly likely that current provisions for retiree health insurance will be scaled back. Many states are likely to decide that their plans are unaffordable.

Mass default doesn't seem likely, but austerity does...

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