Standard & Poor's Ratings Services views the April 1, 2013, judgment that Stockton, Calif., is eligible for bankruptcy under Chapter 9 of the U.S. Bankruptcy Code as potentially influencing management decisions among U.S. local governments in distress.

Obligors considering bankruptcy will likely closely examine how U.S. Bankruptcy Court Judge Christopher Klein, as part of his finding, evaluated the city's argument that it negotiated in good faith with its creditors. The city's decision to undertake a "confidential neutral mediation process" with its creditors, rather than declaring a fiscal emergency -- both of which are allowed under California's bankruptcy statutes -- facilitated Judge Klein's quick rendering of a decision.

In addition, this decision could lead to faster approval of a "plan of adjustment" to exit bankruptcy. Local governments in states that allow bankruptcy filings but have looser requirements may decide to follow a process similar to Stockton's to avoid the setback of having a judge dismiss their petition.

They also may take corrective budget actions and reach agreements with stakeholders even before a formal process gets underway, although as a practical matter all parties may have a disincentive to enter mediation without already existing, serious financial challenges that make a mediated agreement less likely.

Less clear would be the effect of Stockton's bankruptcy process on the likelihood of officials responsible for other troubled local governments deciding to file for bankruptcy in the first place. The stigma of bankruptcy is unlikely to abate regardless of the outcome of Stockton's process and Chapter 9 filings will likely remain very uncommon.

Moreover, the city's actions to date -- including imposed or negotiated reductions in its payments to employees and debt holders -- have already harmed its service levels and image. However, unlike San Bernardino, Calif., Stockton has not suspended or reduced payments to the provider of its employees' defined benefit pension provider, the California Public Employees Retirement System.

To the extent that Stockton emerges from bankruptcy with significantly lower long-term fixed costs -- Judge Klein has signaled that pension contributions could be up for discussion -- other troubled local governments may decide to risk the fiscal and economic damage that often accompanies bankruptcy.

A change in pension benefits as part of Stockton's approved plan of adjustment also could make bargaining units in other cities more willing to come to the negotiating table well before a bankruptcy filing, possibly allowing a government on an unsustainable trajectory to restructure some of its liabilities without having to file for bankruptcy.

Notwithstanding Stockton's continuing credit distress, we anticipate that credit quality among most other cities in California will remain stable, with bankruptcy filings the result of decisions specific to individual cities rather than the start of a pervasive trend.

Moreover, municipal bankruptcies nationwide will remain unlikely to occur outside a very small minority of the obligors S&P rates because of the financial, reputational, and economic effects that come with bankruptcy.

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