Wednesday, September 12, 2012

The Muni Bond Massacre Approaches: Understanding The Coming Storm

The video below provides an excellent primer for those trying to understand why cost cutting seems impossible at the state and local government level. Unions have come to dominate the employee base for public (tax payer paid) workers at the state level (teachers, police officers, etc.). Unions pay huge campaign contributions to choice up and coming politicians who then reward the employees with massive pay increases when they arrive in office. These conversations all happen behind closed doors.

Things only come to the surface when the states "surprisingly" run out of money. What happens next? Exactly what is taking place this week in Illinois, which you have probably seen all over the news, with the teachers striking and impacting the education for 350,000 students in the state.

The initial reaction, for those that do not understand how this tax payer paid circle jerk works, is to feel terrible for the teachers. But just how bad is it?

The average teacher in Chicago makes $76,000 per year for 9 months of work. That means they make $95,000 annualized (if they worked a full year). The offer was to increase their pay by 16% this year. They chose to strike instead and keep the students out of school. After all, they paid for the current politician to be in office and feel they should get a return on their money.

Illinois, as you have probably also read in the news, is completely broke. Cities have begun to move toward bankruptcy, similar to the domino of bankruptcies currently spreading across California like wildfire. The situation will continue under the current structure until we reach the inevitable outcome in this process:

When the governing body paying out the ridiculous salaries can no longer borrow additional money in the bond market (when the credit card finally runs dry), they will declare bankruptcy. Then the current salary and pension structures in place will be wiped away, as will the savings of anyone stupid enough to invest in municipal bonds (most Americans right now unaware in their 401k's).

At that point the teacher's salaries will fall by at least 50%, and their retirement pensions will have disappeared. This will spread, state by state, slowly across the country. Of course, this exact process will take place at the federal level for those government workers as well, but that is down the line due to Federal Reserve's full backing of the treasury bond market with the printing press (state government workers have no such backing).

The first states to tell the unions to go f' themselves and declare bankruptcy will be the winners. With a cleansed balance sheet and expenses slashed they will soon be able to enter back into the bond market and start fresh. In the meantime, let's get those campaign contributions higher and the teacher salaries and life time pensions as close to $500,000 per year as possible.



h/t Mish

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