WASHINGTON — California Treasurer Bill Lockyer on Monday warned that discussions about states going bankrupt are misguided and lead to higher interest rates on state debt that hurts both issuers and investors.

“Even the threat or the discussion raising the possibility of a bankruptcy can substantially increase the interest that we have to pay on bonds that finance necessary infrastructure — bridges, schools, transit and parks,” he told reporters during a conference call sponsored by the Economic Policy Institute. It also leads to higher rates for short-term notes states issue when their tax collections lag cash-flow needs, he said.

Lockyer made the remarks as several Republicans in the House and Senate are exploring the idea of writing legislation that would permit states in financial crisis to file for bankruptcy.

“It’s a cynical proposal intended to incite a panicked response to a phony crisis — killer bees, space aliens and now the invasion of bankrupt states,” he told reporters.

States do not want or need such legislation and would never file for bankruptcy because it would severely hurt their economy, local businesses, taxpayers and investors, the treasurer said.

Talk of bankruptcy also hurts investors by lowering the value of the bonds they hold, Lockyer said during the call.

“I think what’s going to happen is when Republicans realize that their allies — the large insurance companies, banks, hedge funds and others — hold a lot [of municipal debt] and don’t like when someone talking this way injures their investments, they’re going to develop less enthusiasm for [such proposals], but we’ll see,” he said.

Lockyer said he is surprised that conservatives claiming to be states’ rights advocates would try to extend federal authority to intervene in state affairs and infringe on state sovereignty.

Asked what is driving the bankruptcy talk, Lockyer said: “Some of it is this feeling that the states are the enemy and that somehow or other they’re going to come in and ask for a lot of money and this is a way we can stop that. But behind that thought is an attack on public employee unions and workers.”

The lawmakers and others are confusing near-term budget shortfalls with longer-term liabilities in the areas of pension and health care, he said.

States can take care of their pension liabilities, according to Lockyer. The real problem is rising health care costs, he said.

“The same guys that are talking about this threat to fiscal solvency are the ones adding to health care accounts because they’re unwilling to do any genuine reform,” he said.

Lockyer was asked about claims by some market participant that hedge funds — which benefit from negative news — and some broker-dealers may have dumped inventories of munis before year-end and are buying them again, are behind the bankruptcy talk. He replied: “I don’t have any specific evidence of that happening.”

But he added that it was worth examining. “I think we have to always look for mischief since we saw during this last decade the extent to which there were market manipulations that caused trillions of dollars to be lost by small investors and homeowners and others because of the games that got played,” Lockyer said.

Lawrence Michel, EPI president, said talk of state bankruptcies is based on two “misguided premises”: that states are being bankrupted by underfunded pensions, public employee pay and other compensation.

“What’s really going on here is that we have the deepest, largest recession since the 1930s” and when people are out of work and companies are not producing, states lose money, Michel said.

EPI policy analyst Ethan Pollack said state workers on average get 6.8% lower compensation than their private-sector counterparts and local workers on average get 7.4% lower compensation.

“We should be encouraging public sector service, not scapegoating it,” he said.

Claims that unfunded pension liabilities are as high as $3 trillion are misguided because they are not based on appropriate discount rates, according to Pollack. If one uses a discount rate based on the actual return of the securities in which pension funds are invested, liabilities drop to about $700 billion, he said.

Meanwhile, Chris Mauro, RBC Capital Market’s director of municipal bond research, commenting on an op-ed piece on state bankruptcy in the New York Times Monday, was also concerned about the bankruptcy discussions.

“At the present time, even the most bearish of municipal analysts concede that a default on a state [general obligation bond] is an exceedingly remote possibility,” he said. “In our view, if the current discussions in Washington move out of the conceptual stage, the result could be a repricing of the state GO market, forcing yields higher.”

“We reiterate our view that U.S. states don’t have a debt problem,” Mauro said. “Rather, they have a budget problem. The recent recession decimated the principal sources of revenue for most states — retail sales and personal income taxes — while at the same time it resulted in significant increases in state social service expenditures such as Medicaid.”

“Pension liabilities …  are another matter as benefits established during periods of strong economic growth, combined with investment losses in recent years, have produced significant unfunded liabilities in many states. The current discussions … appear to us to have more to do with finding a mechanism to allow states to restructure and renegotiate public sector pensions than they do with any GO debt considerations.”

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