By Chris Reed

As John Seiler pointed out here Tuesday, Monday’s court ruling by U.S. Bankruptcy Judge Christopher Klein isn’t seen as definitive. Yes, the city of Stockton can proceed with its bankruptcy filing. No, Klein doesn’t yet agree with the city’s plan to only short bondholders and not CalPERS, its biggest creditor, as it reorganizes under Chapter 9 of federal bankruptcy law. He explicitly said later that he will decide on its fairness later.

But did Klein make one crucial point in his ruling and comments from the bench? Maybe, and I’m not the only one who thinks so.

Consider this: Every newspaper advance story that I saw before last week’s hearings in Klein’s court spoke of the centrality of the CalPERS argument that promised pensions were protected by the state Constitution, which should take precedence over federal bankruptcy laws which allow federal courts to modify contracts that bankrupt entities have with their creditors.

Pension preservation: State law vs. federal law

So did the most sophisticated legal analysis of Stockton’s pension-protection proposal that I read before Klein’s April 1 ruling. It appeared in January on the Bankruptcy Law Insights blog and was written by bankruptcy expert Ben Feder:

“The issues at stake — whether California state laws protecting public employee pension obligations are pre-empted and superseded by Congress’s Article I, Section 8 authority to establish uniform laws regarding bankruptcy, or are protected under the Tenth Amendment — implicate fundamental issues of federalism, and in all likelihood the Supreme Court will eventually need to resolve the questions being raised regarding the proper balance between state and federal power … .

“The [most] complicated question is whether priorities for unsecured claims created under state law — particularly regarding obligors that are themselves governmental units — can trump the distribution mechanisms of the U.S. Bankruptcy Code, and the Code’s underlying purpose of providing similar treatment for similarly situated creditors. Numerous states in addition to California have varying degrees of protection for public employee pension obligations. (Rhode Island, on the other hand, recently took the opposite tack and enacted a law that gave priority to bondholders in the Central Falls Chapter 9 cases.)

“Calpers will argue that the preference under California law for public employee< pension obligations is protected under the Tenth Amendment. San Bernardino’s bond investors will argue that the Bankruptcy Code expressly sets forth the priority of certain types of unsecured claims, that no other unsecured claims are entitled to more favorable treatment, and that California law regarding public employee pension obligations is pre-empted by the Supremacy Clause of the Constitution.”

‘Powers not delegated to the U.S. are reserved to the states’

What is the relevance of the Tenth Amendment? This is from CalPERS’ counsel:

“The Tenth Amendment provides that the ‘powers not delegated to the United States by the Constitution, nor prohibited by it to the states, are reserved to the states … or to the people.’ This is no minor addendum to the Bill of Rights; this amendment reflects the federal structure of our government.

“This structure allocates and ultimately provides limits on the powers of dual sovereigns — the federal government and the governments of the States. The Tenth Amendment and the principles of federalism preserve the integrity and residual sovereignty of the States, and ensure that the States function as political entities in their own right.”

But at least based on published accounts, the knotty question of deferring to the California Constitution’s pension protections or interpreting the Tenth Amendment to the U.S. Constitution as preserving the state’s decision-making authority on such matters didn’t seem knotty at all to bankruptcy Judge Klein.

Klein depicted CalPERS as a “garden-variety creditor” -– not one in a protected class.

He also said that going forward, he “is going to have a difficult time confirming a [bankruptcy reorganization plan] over the objection of unfair discrimination.” That’s a reference to Wall Street bondholders’ objecting to CalPERS being insulated from any of the pain facing other creditors. That’s another way of saying he rejects the idea that CalPERS is in a protected class.

Complex question — or not even a close call?

So instead of being a complex, challenging legal issue, Klein doesn’t appear to see this as a close call at all: Federal bankruptcy law supersedes the California Constitution, and the Tenth Amendment doesn’t shield CalPERS either.

I welcome any counter interpretation in the comments. And I acknowledge that an appeals court could completely disagree with Klein and go in another direction.

But I also think there is a chance that April 1, 2013, is remembered as a turning point in how Chapter 9 allows local governments to deal with their immense pension debts. We’ll see.

By John Seiler

Last year, three California cities declared bankruptcy: Stockton, San Bernardino and Mammoth Lakes. Atwater nearly did. Mammoth Lakes lost a lawsuit.

But for the other cities — as well as for the Vallejo bankruptcy in 2008 — what the cities basically are saying is: “Previous city councils were bought and paid for by the public-employee unions. Those councils ripped off the taxpayer by giving wildly excessive pay, perks and pensions to city employees. We can’t afford that anymore, so we’re declaring bankruptcy. Let a federal bankruptcy court sort it out. Then we can start over.”

Peter Schiff is one of the country’s top financial gurus. His Euro Pacific Capital has an office in Newport Beach. He’s best known for predicting the 2008 financial collapse. Here’s his reasoning on why cities should declare bankruptcy:

“Stockton is like a Greece here in California. I mean, Stockton, the government there made a lot of promises to its government employees. And, when the real estate boom was going, there was plenty of revenue coming in, and they promised the moon to voters and to employees, big pensions, health care benefits. And then the bottom dropped out. You’ve got 20 percent unemployment now in Stockton. They don’t have the tax base. They can’t afford all these commitments. And what are they doing? They’re telling their bondholders, we can’t pay. You’ve got all the municipal bonds outstanding. I mean, this is going to be a major problem for those bondholders and now government workers.

“But Stockton is not going to be the last city to declare bankruptcy, not by a long shot. And I think it’s going to go up the food chain. We’re going to have state governments that are going to face these problems. We’re going to have the federal government face this problem, especially when interest rates go up….

“If interest rates go up, or rather ‘when’ interest rates go up, the debt becomes unserviceable. And the minute it becomes unserviceable, the minute our creditors worry that we can’t service the debt, then they actually want their principle back. Then it’s not about just the interest; it’s about coming up with the principle. Where are we going to get that?…

“But, you know, it is going to be problematic for a lot of people who have based their lives on assumptions of a revenue stream coming in from a government entity. And so it’s going to be very painful for the people involved. And it’s also going to be painful to people who loaned money to the city of Stockton, who hold those bonds, who thought they were going to get certain interest payments and they were going to get their principle returned. They’re going to wake up to the reality that Stockton can’t pay. So when we do have the restructuring that we need, there is going to be pain. We just have to be able to suck it up and bear that pain.

“And, of course, for some people, it’ll be relief because, you know, otherwise, in order to keep their promises, we have to increase taxes. And if you already have 20 percent of the city unemployed, how are you going to increase taxes on the few people that are still working, and will they stay in town to pay those taxes or will they leave, particularly the employers? So we have to do this.”

By Todd C. Ringstad

The threat of bankruptcy still haunts California. State and municipal finances have been improving, yet last year three cities filed for Chapter 9 bankruptcy: Stockton, San Bernardino and Mammoth Lakes.

Around the country, Jefferson County, Ala. went belly up. Detroit, Mich. is close, and even might be dissolved by the state of Michigan.

Despite the recent surge in Chapter 9 filings, municipal bankruptcies still are relatively rare. There were just 12 of them filed in the United States in all of 2010.  During that same year, there were nearly 60,000 business bankruptcies under Chapter 13 of the federal Bankruptcy Code; and more than 1,500,000 individual, non-business bankruptcy cases filed under Chapter 7.

So municipal bankruptcy is a rare and little understood event.  Under Chapter 9 of the Bankruptcy Code, a “municipality” is a political subdivision, public agency or instrumentality of a state.  Counties, cities and various municipal agencies have successfully filed for bankruptcy protection.

Federal law governs bankruptcy and guarantees the right of individuals and business entities to seek bankruptcy protection, with certain limitations.

10th Amendment

However, the right to seek bankruptcy protection is not guaranteed to municipalities.  Under the 10th Amendment to the U.S. Constitution, all powers not delegated to the United States by the Constitution, nor prohibited by it to the states, are reserved to the states.

Following that, the 10th Amendment limits the federal government’s ability to mandate bankruptcy protection for municipalities.  The right to establish and govern municipalities within the boundaries of the state is essential to the sovereignty of the state.  Thus, municipalities cannot resort to bankruptcy protection without the authorization of the state.  This is a critical distinction between consumer and business bankruptcy (Chapters 7 and 13) and Chapter 9 for municipalities.

Twenty-six states have passed laws that permit municipalities, under certain circumstances, to file for bankruptcy.  Twenty-three states have no laws authorizing municipalities to file under Chapter 9.  One state, Georgia, has passed a law that specifically prohibits municipalities from filing bankruptcy.  Finally, Illinois does not permit a municipality to file Chapter 9, but has enacted a complicated path that could lead to such authorization.

AB 506

After Vallejo filed for bankruptcy in 2008, California placed some restrictions on the ability of municipalities to file for bankruptcy.  AB 506, signed into law by Gov. Jerry Brown in 2011, requires that a municipality with financial problems must work with a mediator for a “neutral evaluation.” The evaluation lets interested parties meet with the municipality in a structured setting in an attempt to negotiate a resolution to the municipality’s financial problems. The parties could include a committee of creditors, pension funds and unions.

A municipality can avoid the mediation process by declaring a state of emergency by a majority vote of its governing body, such as a council or board of supervisors. The state of emergency must jeopardize the health, safety or well-being of the public; and the municipality must be unable to pay its obligations within 60 days. The municipality then proceeds directly to the filing for relief under Chapter 9.

Federal law also places restrictions on a municipality’s ability to file for protection under Chapter 9 of the Bankruptcy Code.  The municipality must be insolvent — that is, unable to pay its debts as they become due.  The municipality must show that it is working to pay its debts, and isn’t just delaying or frustrating creditors.  And the municipality must demonstrate that it negotiated in good faith with creditors before filing for bankruptcy protection, except in exigent circumstances.

Bankrupt cities

The city of San Bernardino filed for bankruptcy in August 2012, declaring a fiscal emergency and avoiding the mediation process.  According to its bankruptcy filings, the city’s general fund plunged to $150,000 before the bankruptcy filing, or about 71 cents for each of 210,000 residents.

Stockton filed in June 2012 after going through the mediation process. During mediation, Stockton reached preliminary agreements with about 30 percent of its creditors.

The California Public Employees Retirement System has the dubious distinction of being the largest creditor for both Stockton and San Bernardino.

Mammoth Lakes filed a petition under Chapter 9 in July 2012 after going through mediation. Its problems were somewhat different from the other cities because it is a small city that lost a $43 million breach-of-contract judgment to a developer.  Mammoth Lakes used the mediation effectively and reached agreement with a number of its creditors before the bankruptcy was filed.

The goal in each of these bankruptcy cases will be the confirmation of a plan of debt adjustment. The plan will allow these municipalities to adjust their obligations to their creditors and emerge from bankruptcy solvent and able to meet future obligations.

The bankruptcy process will allow these cities a breathing spell in which they can avoid paying some of their obligations, while working to reach agreement with creditors and confirm a plan of adjustment.  Bankruptcy offers these beleaguered municipalities an opportunity to reclaim a level of fiscal responsibility and solvency that has been lost in a sea of red ink.

Todd C. Ringstad is an attorney with Ringstad & Sanders Inc. in Irvine.

By Dave Roberts

“Are your cities going to make it for five years?” asked Little Hoover Commission Chairman Daniel Hancock at the recent commission hearing on pension and infrastructure financing.

“That’s a good question,” responded Dwight Stenbakken, deputy executive director of the League of California Cities.

California’s cities are being eaten alive by employee compensation costs. The pension reform measure signed into law in September by Gov. Jerry Brown, AB 340 by Assemblyman Warren Furutani, pretty much left current employees alone, focusing instead on new hires. Government officials will have to wait until 2018 to negotiate with public employee unions to reform pensions for current employees.

Hancock pressed Stenbakken. “We all know when you run these numbers, they’re all hugely back loaded,” said Hancock. “The front end numbers don’t change very much at all. So over a five-year period, this is not going to move the needle very much. Can you guys make it five years?”

Stenbakken hesitated. “Well, uh, I don’t know,” he said. “And that is a looming question over everything. I think it’s one thing that first of all has changed the dynamic at the local government collective bargaining table. Back in 2008, when we first started going into the tank economically and we were trying to make some changes, of course we were accused of cooking the books and hiding things and making this up.”

But in the wake of the Great Recession, union negotiators have not had as strong a hand as when the tax dollars were rolling in.

“At the local government collective bargaining table I think everybody is being a little more realistic about it,” said Stenbakken. “Because there are very few alternatives. And the most ugly one is that we’re going to cut employees. And I don’t think that’s good for employers. I don’t think that’s good for employees. And I don’t think it’s good for the taxpayers, because the services go down too.”

Layoffs

Throughout the state, government employees have been laid off, services have been slashed and just this year Stockton, San Bernardino and Mammoth Lakes have declared bankruptcy. The worst may be over. The real estate market is starting to rebound, so property taxes may start to pick up next year. But it will take a while for most cities to restore employees and services.

“We are at least four to five years behind any kind of recovery in terms of governmental revenues,” said Stenbakken. “So this is a problem that we are going to be dealing with for a long time, not just a short-run problem. And I don’t know if we are going to see more Stocktons or not. I hope not. But that may be the ultimate result.”

AB 340 provides a variety of pension reforms: a cap on maximum pensions, postponement of the retirement age, reduction in the pension formula, cost-sharing, three-year averaging to determine the pension amount, only regular pay and regular overtime can count toward the pension, a ban on buying “air time” service credits to boost the pension payout, and no retroactive benefit increases. But only the cost sharing and air time provisions apply to current employees.

As a result, the reform has been criticized as window dressing. Some studies suggest that California’s unfunded pension liability could total more than $500 billion. But the reform package is estimated to save California taxpayers only $42 to $55 billion over 30 years for CalPERS plans. While pension costs are currently a fairly small part of the state general fund budget, they are metastasizing on the local level, where personnel costs comprise most of the budget.

“With city governments, and to some extent with county governments too, a much higher percentage of that money goes for police and fire,” said Stenbakken. “So we do have a significant problem. We do have an issue of these costs crowding out other services that we provide.”

Current employees

He said that cities need to have the power now to rein in retirement expenses for current employees.

“We would love to … be able to unilaterally implement this at the end of the collective bargaining process, without the five-year time frame [delay] and without the requirement for an MOU [memorandum of understanding],” said Stenbakken. “But that wasn’t going to pass the Legislature and get signed by the governor. We think that there’s sufficient leverage now at the collective bargaining table to make these changes, even with the requirement that we have a signed MOU. Because it is real, it’s happening, and the alternatives are not good for anybody.”

For decades, the legal cards have been stacked against government officials seeking to get a handle on runaway retirement expenses. A League of California Cities analysis concludes that California case law dictates that:

* A public employee’s pension constitutes an element of compensation.

* A vested contractual right to a pension benefit accrues upon acceptance of employment.

* Eliminating this pension right will impair an employer’s contractual obligation to the employee.

One of the precedents was a 1991 case, Legislature v. Eu. State legislators sued to retain their retirement benefits after Proposition 140, the term-limits initiative, was passed by voters in 1990. The legislators argued that they had a vested right to their pensions, and the court agreed. Federal law also dictates that states must honor vested employee contracts.

Controlling costs

Hancock questioned why the law should be so tough on governments trying to control employee costs.

“We’ve spent a lot of time on this over the last few years, and some questions have been hard to get answers to,” he said. “How is it that a private employee working for IBM can work there for 20 years and you vest his pension for the 20 he works and then put him in a 401(k) — and that’s considered OK. And when the state of California, the city of San Jose want to do that, it’s not OK. Under what theory does that happen? If I were litigating this, I would look on that issue, suggesting that it isn’t so clean cut that they’re vested rights.”

Commissioner David Schwarz picked up on the litigation suggestion.

“My bottom line is ultimately all this discussion about how you rearrange or tweak pension reform; it’s interesting and it’s important,” he said. “And the legislation that was recently passed has moved things before it. At the end of the day it strikes me that this has got to be litigated. We have got to get an answer on whether the federal constitution will permit this impairment [of vested pension rights].”

Stenbakken agreed, saying, “What I don’t think has come in front of [the court] yet is a collectively bargained agreement between an employer and an employee in an economic time we are in right now. And whether or not that combination of facts is going to change a court’s decision, I don’t know. But it seems like until you get that in front of the court, we’re not going to know.”

While Stenbakken is fearful for the fate of California cities as they struggle with employee costs over the next five years, others are more sanguine.

“We believe that, while the fiscal challenges facing cities and counties are difficult for all those involved, pensions are not the cause of, nor a significant contributor toward, bankruptcies we are seeing,” said Ann Boynton, a CalPERS deputy executive officer. “Ambitious borrowing during boom times, and low revenues that came with the bust, are actually the biggest factors behind the recent bankruptcy filings.”

And Ron Cottingham, president of the Peace Officers Research Association of California, said that the employee unions have already agreed to significant benefit reductions. These include contributing more to their pensions and agreeing to anti-spiking measures.

“We think a lot of these things have been accomplished at the bargaining table,” he said. “We realize that continuing changes, because of the [reform] legislation, will occur at the bargaining table. Maybe not as fast as you’d like in some areas. But that will depend on each area’s ability to get to the table and negotiate changes. We have some that have not been to the bargaining table yet. We have one unit that just inked a contract that does not expire until the year 2020.”

It remains to be seen what fiscal shape that unit’s municipality will be in by 2020, assuming it still exists.

Third in a series on public pensions. The first is here and the second here.

Oct. 5, 2012

By Mark Cabaniss

On Wednesday, the city of Atwater declared a fiscal emergency, putting it on the path to become the fourth California city to declare bankruptcy this year, joining San Bernardino, Mammoth Lakes and Stockton.  Unfortunately, these four cities seem to be just the tip of the iceberg.  Many other California cities are rumored to be heading for bankruptcy as well, including, at least according to former mayor Richard Riordan, Los Angeles.

The common thread to these bankruptcies is  current retiree pension obligations, which were granted during the go-go years of the stock market and property bubbles, but which have proven dramatically, unbelievably unsustainable during periods of economic contraction, such as the one we are caught in now. For example, Gov. Gray Davis’ infamous SB 400, which in 1999 retroactively boosted state worker pensions, implicitly assumed that the Dow Jones Industrial Average would be at 25,000 by 2009.  (As of 9 am Friday, it is at 13,637.)

One reason that cities have chosen bankruptcy as a means of restructuring pensions, rather than choosing the more direct route of simply attempting to alter current pensions, is the widespread assumption that current public employee pensions are legally untouchable.  However, even though widespread and oft-repeated, this assumption may be wrong.  The only way to find out is to test it in court.  Such a court battle would, I believe, make plain the reality of the situation, which is that what seems to be a “complex legal issue” is in reality a political issue — nothing more, and, unfortunately, nothing less.

The naked political issue can be stated different ways.  In the “social justice” formulation, pension proponents state their argument as, “Is it right for government to just tear up its debts to retirees that have worked their whole careers for that money?”

“Social justice”

In their own version of the “social justice” formulation, pension opponents frame their argument as, “How much money must one group of people give to another group of people, when times are unexpectedly tough, as now?” Or, “Is it right for some politician to sell my children into slavery just to get himself elected?”

Since the “social justice” formulations are so fraught with emotion, simple numerical tautology may be the best and most honest way to frame the argument:  “If the government does not have the money to pay all pension obligations, must the government still pay all pension obligations?”

Obviously, this is a very contentious political issue. But if we frame it as a political issue, the solution presents itself, because it can then definitionally only be solved by doing what is politically possible in the first place, which means that any solution will have to get a majority of people to back it.  Therefore, one possible way to approach the pension crisis is to cut only the very highest pensions, those more than $100,000 per year which, according to CalPERS, only 2 percent of current retirees receive.

Currently, Social Security benefits, to which you have no contractual rights, are capped at a maximum of $30,156 per year. Implementing a pension cap of $100,000 per year would put the 2 percent in the position of arguing that they just can’t live on over three times as much money as everyone else, an argument to which the voters, the 98 percent, might not be sympathetic.

Pension abusers

To their credit, CalPERS has been taking the politically admirable step of going after some of the very worst pension abusers, such as former Bell City Administrator Robert Rizzo (former pension $650,000 per year; new pension $50,000 per year); former City Manager of Vernon Bruce Malkenhorst (former pension $540,000 per year; new pension $115,848 per year) and Scott Plotkin, former Executive Director of the California School Boards Association (former pension $205,000 per year; new pension $72,288 per year).

Nonetheless, such symbolic sacrifices will not be enough to make a dent in the problem. To have an effect, governments will have to make an across-the-board cut in current pension payments, by, for example, simply stopping the payment of benefits in excess of $100,000 per year. If they do that, they will soon find themselves in court, where the legality of the proposition “pensions are contracts and contracts are sacred” will be put to the test.

In evaluating this claim, courts will look to prior cases, in which governments have altered or torn up other contracts. They won’t have to look far; recent governmental actions in California show the government’s ongoing belief that it absolutely has the power to alter or amend or tear up contracts as it sees fit, to promote the governmental objective of ensuring the health, safety, and well being of the citizens.

Ironically, one of the warriors currently working hard to establish the legal precedent that, yes indeed, governments can tear up contracts, is none other than Lt. Gov. Gavin Newsom. He Newsome recently wrote a strongly worded letter supporting the idea of local governments using eminent domain to seize underwater mortgages at below-contract prices, and then resell them to the homeowners at the lower prices.  The idea is that government has an interest in stabilizing the housing market, and thereby stabilizing tax revenues.

Who would lose under the plan to use eminent domain to seize mortgages?  Obviously, the current owners of the mortgages, such as banks and funds owning mortgage-backed securities, would lose. But aren’t these mortgages contracts, and aren’t contracts sacred?  Yes, but some contracts are more sacred than others.

So how do you tell which contracts are sacred?  If the highest pensions were to be cut, how would the defenders of the 2 percent top pensioners explain the contradictory proposition that government can tear up some contracts when it feels like it and yet is absolutely forbidden to tear up other contracts, such as current pension benefits?

Although many lawyers will construct various arguments differentiating the tearing up of private mortgages from the tearing up of public pensions, perhaps the argument is best collapsed down to its most basic: the distinction between public contracts and private contracts. Stated simply, the defenders of the 2 percent believe that it is okay for the government to tear up contracts if doing so negatively affects the rights of private citizens; but it is not okay for the government to tear up public contracts if doing so negatively affects the rights of public employees.

In other words, they believe in an explicitly two-tiered society: government employees have inalienable rights, non-government employees have alienable rights. To put it even more simply, what they really believe is this: contracts which protect my money are sacred; contracts which protect your money are toilet paper.

Will this argument be a winner?  For myself, I wouldn’t want to make it.

By Steven Greenhut

First Vallejo, then Stockton, then Mammoth Lakes and now San Bernardino. As Orange County Supervisor John Moorlach told Bloomberg News, the bankruptcy dominoes are starting to fall. One California city after another — following a decade-long spree of ramping up public-employee pay and pension benefits, as well as redevelopment debt — are becoming insolvent.

Not that the state’s legislators have anything constructive to offer. California’s Democratic leaders are not only unwilling to rein in the costs of benefits for their patrons, the public-sector unions, but they have been erecting roadblocks to those localities that want to fix the problem on their own. Yet all the political blockades in the world cannot fix the basic problem of insolvency.

Stockton negotiated the new process created by a state law requiring a 60-day period of negotiations before filing for Chapter 9 bankruptcy. That period is over and the city – a hard-pressed port on the edge of the California Delta – has become the largest city in the country to pursue municipal bankruptcy. The cause was a pension system eating up 30 percent of the budget, an absurdly generous retiree medical program that provided lifetime benefits after working for the city for a short period, and excess bond debt for pension obligations and redevelopment projects.

Soon after, Mammoth Lakes decided to pursue bankruptcy. That city’s problem came after it lost a judgment in a development case. Although not tied to public-employee compensation, the situation was caused by city officials who prefer to play developer than tend to the nuts-and-bolts of city government – a long-term problem in that eastern Sierra vacation town. In 1996, Mammoth Lakes lost a court case after it declared its downtown area blighted because of excess urbanization, in a ruling the judge said exemplified the misuse of redevelopment power.

The latest city to declare bankruptcy is San Bernardino, which has declared an emergency situation that will allow it to evade the negotiation period mandated by state law. The city simply doesn’t have the cash to keep operating. As Bloomberg reported, “San Bernardino and its agencies have more than $220 million of debt, including $48.6 million of taxable pension-obligation bonds, according to financial statements.” Pension-obligation bonds are used by cities to pay ongoing pension expenses, yet San Bernardino’s problems show that a city cannot borrow its way out of debt.

Other big cities, including Los Angeles, are talking more openly about the bankruptcy option. Not long ago critics who mentioned the B-word were considered Chicken Littles.

The latest talking point is that these cities couldn’t control what happened to them – that they were victims of the foreclosure crisis that rocked the inland areas where housing construction boomed during the housing bubble.

Foreclosures

The Riverside Press-Enterprise reported: “The city of San Bernardino’s financial woes are a directly correlation to a torrent of foreclosures in the Inland area of Southern California, the national foreclosure tracking firm RealtyTrac said Thursday. ‘Property taxes plunged in San Bernardino because of an avalanche of foreclosure activity during the recent housing bust,’ said RealtyTrac vice president Daren Blomquist.”

There’s no doubt San Bernardino and Stockton — Ground Zero for the housing crisis — suffered from the problem described above. But what did those cities do with the rapid increase in property tax revenues during the price run-up? We know – they squandered it on increased compensation for government employees, on redevelopment projects and other questionable spending deals. They squandered the money when it came flowing in, now depict themselves as victims of circumstance when the funds dried up.

The real culprit, as I argue here in City Journal, is foolish decision making. Stockton, for instance, refused to take advantage of an exemption in prevailing wage laws – something that could have saved it money but would have angered the powerful unions.

The housing bubble hit the hardest in cities inland from the growth-controlled major metropolitan areas. When the prices went up in Los Angeles and San Francisco, developers moved inland, where it was easier to get the permits necessary to respond to the demands of the marketplace.

Coastal cities

But even coastal cities are struggling. Los Angeles is not a victim of the foreclosure crisis. Pension costs in San Jose — where the housing market has rebounded thanks to a healthy tech-based economy — rose 350 percent in 10 years and now consume 20 percent of the general-fund budget. That city passed pension reform on the November ballot to stop the fiscal bleeding.

Here Joe Mathews debunks San Bernardino’s allegations that the state is to blame for its fiscal problems: “Local elected officials who complain about a lack of state money have things backwards. The state of California is relatively spare in its spending, compared to national averages. California’s local officials are, by contrast, big spenders, at or near the national lead in compensation for local workers, especially law enforcement.”

There’s no doubt the problem is fiscally profligate local governments, who busted the bank on public-safety pay and benefit packages and now are looking to cast blame anywhere they can.

Bankruptcy is not a great option but at least it gives cities a chance to get their house in order and start fresh. Unfortunately, Vallejo and Stockton refused to tackled existing pension debt in their bankruptcy plans. Orange County emerged from bankruptcy in the 1990s in better shape than ever, but as Chris Reed explained for CalWatchdog, subsequent boards of supervisors then began spending like crazy on public-sector compensation.

Bankruptcy cannot stop future officials from wasting the taxpayer dollar. But when there’s no money, there’s nothing left to do. In Scranton, Pa., a judge issued an injunction to stop the mayor’s plan to begin paying all city employees minimum wage. But there’s no money left to pay any more than that, he said. The city will gladly pay more as soon as it has the cash to pay it.

Only when the money runs out will cities find the necessary solutions. That’s perhaps the saddest commentary on the situation in California cities these days.

By John Seiler

San Bernardino — San Berdoo to old-time Californios — just declared bankruptcy. The reason, reported the Sun:

By Katy Grimes

Californians can heave a sigh of relief for the moment; the Assembly did not pass the latest bill preventing cities and municipalities from filing for bankruptcy.

But don’t think that this bill is dead and buried.

AB 1692 by by Assemblyman Bob Wieckowski, D-Fremont, would revise the recently enacted language in AB 506, relating to the neutral evaluation process for local public entities. What this means is that the Assemblyman who pushed, cajoled, promised, and made deals last year to get AB 506 passed, this year has been trying to renege on those promises and deals.

AB 506, also by Wieckowski, was passed last year and signed into law by Gov. Jerry Brown. The bill made it more difficult for municipalities to file bankruptcy, by requiring negotiations with creditors before a bankruptcy can be filed.

When AB 506 was only four months into law, Wieckowski started pushing a new bankruptcy bill, AB 1692. Wieckowski has said that AB 1692 was a “cleanup bill” for AB 506. The new bill would prevent cities from filing for bankruptcy protection without first participating in a lengthy mediation process.

But Assembly colleagues were furious after Wieckowski said at a recent hearing that because he made so many concessions on the original bill just to get it passed and signed into law, he created AB 1692 to rectify and retract those concessions.

“Our cities are out there dying right now,” Assemblyman Bill Berryhill, R-Stockton, said. “This deal was struck last year. This is a bad bill, in bad faith. It tells local government the Legislature won’t stand by the deal struck just last year.”

“We in the Legislature have to decide if a deal is a deal,” said Assemblyman Cameron Smyth, R-Santa Clarita. “Two cities are currently going through the new system—let them go through it.”

New State Bankruptcy Law

Under AB 506, local governments are now required to use a “neutral evaluator” for a minimum of 60 days before seeking full bankruptcy protection. This new mediation process can only be avoided if a municipality declares a financial emergency and heads straight for federal bankruptcy court.

The City of Stockton and the Town of Mammoth Lakes are currently in the middle of the pre-bankruptcy phase of the newly-created neutral evaluation process enacted by AB 506.

Behind Wieckowski supporting AB 1692 are the California Professional Fire Fighters, the California Labor Federation, the Teamsters, the United Association of Plumbers and Pipefitters, the Sheet Metal Workers’ International Association, and many other labor unions obviously concerned about losing their rich union contracts.

Cities feel duped

The League of California Cities formally opposed early versions of AB 506 “because it created obstacles to municipal bankruptcy, and resulted in a process stacked against local agencies.” The League said it now is opposed to AB 1692 for the same reasons.

The League of California Cities reported in its fall 2011 newsletter, “In September 2011, after careful negotiations, which included Sen. Lois Wolk, D-Davis, and Gov. Jerry Brown, the League agreed to a compromise based on provisions that allowed for pre-bankruptcy facilitation by a mediator without state or other political intrusion, and unfettered local access to federal bankruptcy protection if an emergency fiscal situation exists.”

Wieckowski agreed to the League’s amendments in September 2011.

AB 1692 appears to revert back to some of the earlier 11 versions of AB 506, before the many amendments were agreed to. But early versions of Wieckowski’s bill had vehement opposition last year.

AB 1692 would remove provisions of AB 506 related to the mediation process, including giving the “neutral evaluator” independent decision-making authority. AB 1692 would allow other interested parties to create delays by allowing the process to continue without agreement by the public entity.

And a disturbing addition to AB 1692 adds “successor agencies” to the list of local public
entities that may file for federal bankruptcy protection. The bill’s analysis explains, AB 1692 “Expands the definition of ‘local public entity,’ to include a successor agency, as defined in the Health and Safety Code related to the dissolution of redevelopment agencies and designation of successor agencies, for the purpose of an entity eligible to file for federal bankruptcy.”

For the moment AB 1692 is stuck in the Assembly; it failed on a 31-28 vote this week. But with the powerful labor unions behind it, don’t expect Wieckowski’s bill to go away.