The coming great California pension property tax earthquake

Aug. 16, 2012

By Wayne Lusvardi

The most widespread and persistent folktale about California is that some day the entire state will break away from the North American continent and fall off into the vastness of the Pacific Ocean.  That day may not be too far off if what is unfolding in the growing number of municipal bankruptcy court cases in California plays out to its logical consequence without massive and politically legitimate pension reform.

As reported by urban economist Steven Malanga, municipal bond insurers may lose out in court in their attempt to get bankrupt California cities to reduce pension costs.  This may lead to more than just bondholders getting wiped out and much higher borrowing rate costs across the state.

If the courts uphold pensions as a constitutional right over bondholders’ rights, municipal workers will be entitled to earn more in pensions and health benefits than cities can currently pay.  About 70 to 80 percent of municipal operating costs are allocated to salaries and benefits.  And the lion’s share of salaries and benefit costs go to police and fire protection.  There is little room for large budget cuts in most municipalities.

Some municipalities with pre-existing pension bonds may be able to refinance them without voter approval and shift the explosion in pension costs into long-term debt. Issuing brand new pension bonds would require voter approval. But such cities would have to have enough extra budget cash flow to handle the added debt.

Tax Flight: Voting With Their Feet

The only choice left would be to raise property taxes enormously.  The inevitable result would be a tax flight to other California cities or out of state. What is called Tiebout’s Law would prevail.  People would “vote with their feet” rather than at the ballot box.

As a consequence, property values would fall into a death spiral.  As cities raised taxes on ever-declining property values to try to maintain their revenue base, the great California property value earthquake would unfold.  It would be spotty at first.  Communities with huge pension-driven property tax hikes would end up with a stigma on their high property tax rates. Disinvestment would compound the problem of tax flight.

The shrinkage in property values would result in a zero sum game. The gain to municipal employees would result in a corresponding drop in property values that would only further erode the property tax base and municipal revenues.  Cities caught in this death spiral would over time end up like Detroit.

But many cities might not wakeup to this nightmare for 20 years in the case of deferred interest school district bonds such as those recently revealed by me in the Poway School District in San Diego County.  Deferred interest bonds — with sugarcoated terms such as “capital appreciation bonds” — are just a way to suck the equity out of home values twenty years from now after many public school retirees have likely expired.  It’s a time bomb with a long fuse to blow Proposition 13, the 1978 property tax limitation initiative, to smithereens.

Eroding Values Would Ruin Underwater Mortgage Buyouts

In such falling real estate markets, it won’t matter if cities or counties want to use eminent domain to socialize the cost of “underwater mortgages,” such as is being explored in San Bernardino.  Property values would likely drop further even after each city or county condemns over-mortgaged loans. For example, $1 billion in underwater mortgage liabilities may double to, say $2 billion after each city or county acquires them due to pension liabilities.

Voters who would be asked to approve issuing bonds to socialize the losses of properties with underwater mortgages would have to approve writing a “blank check” to bail out other homeowners.  Those municipalities that condemned underwater mortgages would face the problem of having to pick up the tab on property value losses that are in free fall with no certain bottom.

California Pension Programs are Illegitimate

Bond insurers National Public Finance Guarantee Corp and Assured Guaranty Ltd have challenged Stockton’s eligibility to file bankruptcy based on a lack of good faith bargaining. The case is City of Stockton, California, debtor, U.S. Bankruptcy Court, Eastern District of California, Case No. 12-32118.

Self-serving city officials cut the original pension benefit deals without protecting the interests of the bondholders or insurance companies who were not allowed at the bargaining table.  What lack of good faith bargaining means in political terms is lack of “consent of the governed” — or more precisely, the non-consent of bond investors, insurers and property taxpayers.

Another term for the non-consent of the governed is “illegitimate” political power.  The political problem of California’s one-sided public pension system is that it is illegitimate.  This problem is not isolated to public pension systems in California, but also to water rate increases, affordable housing, cap and trade emissions trading and post-redevelopment programs. The entire government apparatus has grown to be illegitimate.

Fixing Political Dysfunction Destroyed Political Legitimacy

“Consent of the governed” is the guiding principle that galvanized the founding of the American Republic against unjust tariffs and taxes from England. And in 1978, California’s Proposition 13 brought about supermajority voting requirements to pass tax increases.  Revolutions and tax revolts are formed from illegitimate taxation.

Presently, state Assembly Speaker John A. Perez, D-Los Angeles, is promising “broad-based” pension reform.  But no matter if such reforms are approved before the November 2012 election, it is unlikely they will make property tax hikes for public pensions legitimate in the eyes of the public.

Pension reform

This is why former mayor of Los Angeles Richard Riordan is urgently threatening to put pension reform on the ballot.  But that would be next March at the earliest and would only affect the city of Los Angeles.

In the new California political game of winner takes all under one-party rule, there never will be political legitimacy for those having to pay higher property taxes for lavish public pensions. The so-called political reforms of redistricting under Proposition 11 in 2008 and majority party passage of the state budget under Proposition 25 in 2010 have lessened the phony problem of “dysfunctional” government.  But these reforms have destroyed political legitimacy at the legislative level.  Such reforms have only wiped out rule by the consent of the governed and replaced it with rule by a tyranny of the majority based on force and fraud.

Political dysfunction has replaced political legitimacy as California’s central political value.  Mussolini could make the trains run on time, but his political system was illegitimate.  There is almost no political dialogue about the implications of weakened political legitimacy in California.

The “California Dream” of home ownership and property rights is on the verge of a 10.0 earthquake on the economic Richter Scale.  Broad-based pension reforms that can easily be unwound will be unlikely to cut off the negative political repercussions of such a widespread wipeout of property values.  That is because such reforms have destroyed the very framework that would have made the reforms politically legitimate.

Only enshrining pension reform in the California Constitution might work because constitutional amendments require compulsory supermajority voter approval.  But at this point, there are no political assurances of that happening. And how would an unscheduled supermajority vote on pension reform happen before the November election?

The omission of any permanent and binding pension reform on the ballot is sure to sink any tax hike propositions. The one-sided Legislature could pass pension reforms tomorrow and unwind it after the election. Voters are likely to sense that this is just one more illegitimate government move by fraud, force, and manipulation. Political illegitimacy is an issue that cuts across Red and Blue political boundaries.

The New Monkey Wrench Gang of Five

In Edward Abbey’s 1975 novel “The Monkey Wrench Gang,” a gang of saboteurs steals an earthquake-making machine on a truck from a university to run an extortion scheme.  They run around the Southwestern United States terrorizing the populace, threatening to set off earthquakes.  In the 2012 real life version of this story, the state Assembly speaker and the “Gang of Five” have hijacked the earthquake-making machine.   Hang on to your seats.  It is going to be a wild ride to the November election. And your property values may be at stake.


Write a comment
  1. Queeg
    Queeg 16 August, 2012, 09:52

    Everyone loves a conspiracy pot boiler. Donkey and Poodle will be foaming at their chops on this article!

    There is no place other than property taxes to raise a stable tax revenue stream for government services…the precious subsidized home owners with mortgage interest deductions will pay dearly through high property taxes.

    Don’t fret… like the weather and the burritos!

    Reply this comment
  2. Hondo
    Hondo 16 August, 2012, 09:59

    This article is a long, boring, in depth look at a profoundly important subject. This is what calwatchdog does so well. And this has to be written and read but won’t be read by many. There is no Oprah, or birther stuff. The author is not accusing Obama of killing people with cancer like the dems are of Romney.
    The end result of ‘political reform’ ballot measures is just the opposite. The legislature is not even close to balancing the budget but they are still getting their paychecks. There wasn’t the slightest bit of outrage when the democrats, who pushed that ballot measure, went to court to gut the accountability part of it.
    The dems are running the state into the ground and at the same time making it impossible to ‘politically’, throw the bums out. The tax increases may very well pass because almost none of the voters pay any real taxes. They collect taxes, welfare.
    To raise taxes of property whose value is plummeting is as insane as taxing the taxpayers out of the state. Many have come to Colorado and are voting liberal here, thinking that the same thing won’t happen here.
    The author may be right in saying that the dems will vote in pension reform before the election to get the tax measures to pass, only to un-pass it after the election. Most likely it will be very superficial and not at all deal with the ‘wall of debt’ Moonbeam complains about.
    It’s not gonna take 20 years for the bills to come due. They are due now and cannot be paid now. Tax reciepts down 33%, Facebook in a death spiral along with the taxes they were supposed to pay, socialist Europe in another death spiral, and our own unemployment going up again after the 800billion dollar stimulus gone.
    I could go on for another 5000 words so I won’t bore you anymore than I have already.
    Great article Wayne.

    Reply this comment
  3. Queeg
    Queeg 16 August, 2012, 10:20

    Why does anyone care what Colorado does? Spare us the reflections.

    Reply this comment
  4. Wayne Lusvardi
    Wayne Lusvardi 16 August, 2012, 14:15

    Email from Charles Warren, Pleasant Hill, California to author:

    Argentina stiffed THEIR bondholders…

    Reply this comment
  5. Bob
    Bob 16 August, 2012, 15:09

    “Argentina stiffed THEIR bondholders…”

    I can just hear Moon Beam and The Gusty One singing, “Don’t cry for me Colliefornia…”

    Reply this comment
  6. Ulysses Uhaul
    Ulysses Uhaul 16 August, 2012, 15:13

    Crafty Jerry is so ahead of you…..he is on a roll!

    Reply this comment
  7. Rex the Wonder Dog!
    Rex the Wonder Dog! 16 August, 2012, 16:57

    Hey Wayne, how about limiting Teddy Steals to just one account on here like the rest of us, and ban “Queeg” and “Ulysses Uhaul”.

    Thank you, the Readership 🙂

    Reply this comment
  8. Donkey
    Donkey 16 August, 2012, 17:47

    Good article Wayne! Queeg, you still know little about “Reconstruction.” 🙂

    Reply this comment
  9. Ulysses Uhaul
    Ulysses Uhaul 16 August, 2012, 20:43

    Calif public school educated is a handicap notable in posts by psuedo historians and desert dwellers!

    Reply this comment
  10. Rex the Wonder Dog!
    Rex the Wonder Dog! 16 August, 2012, 22:11

    Thanks for your support Teddy or should I say Mr. Calif public school educated is a handicap 😉

    Reply this comment
  11. Rex the Wonder Dog!
    Rex the Wonder Dog! 16 August, 2012, 22:15

    This state is going to default-I guarantee it. We will default on retiree health care, on pensions and on our bonds, it is not a matter of if we default, just a matter of when. Like former LA Mayor Richard Riordan said in 2010-LA was going to go BK before 2014, and he is right. I say CA will go BK before 2020.

    Reply this comment
  12. Buttermilk
    Buttermilk 16 August, 2012, 23:24

    The Liberals got California in this mess and now there is no hope but the voters are too uneducated to see what the problem is. California will bleed until the spending stops and that’s not going to happen until a conservative approach is taken. California opens the gates from across the border and it keeps getting worse but the voters are too blind to see. If care to start schecking you’ll find that just about every city in the country that is struggling is controlled by Liberals…Do I need to draw a picture? California is lost, they just know it yet!!!

    Reply this comment
  13. Ulysses Uhaul
    Ulysses Uhaul 17 August, 2012, 00:08

    Forecast 2014…….more stressful and omnious.

    Reply this comment
  14. DAN
    DAN 17 August, 2012, 07:17


    Reply this comment
  15. Rich Giddens
    Rich Giddens 17 August, 2012, 07:39

    I hate California’s horrible crooked State and Local Governments! See YouTube videos – Sewer Soon City or Solano Communist County video series. California can eat feces and die!

    Reply this comment
  16. Queeg
    Queeg 17 August, 2012, 09:23

    Queeg keeps you grounded!

    Could you imagine turning loose some of above posters to hold public policy posts. WHEW!

    Reply this comment
  17. The Rt Rev Ted Steele
    The Rt Rev Ted Steele 17 August, 2012, 10:11

    you rock Queeg!

    Reply this comment
  18. Queeg
    Queeg 17 August, 2012, 13:16

    Reverand…..just a public service. Think of Queeg as a pest control service dropping smoldering flowers of sulfur into a 1910 old brick building tenanted with posh righty chop houses to knock down their chunkee roaches…..

    Reply this comment
  19. Rex the Wonder Dog!
    Rex the Wonder Dog! 18 August, 2012, 01:13

    ..or think of Queeg as the sock puppet of Teddy Steals…….like we all know he is 🙂

    Reply this comment

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