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Jeffrey L Minch's avatar

Municipal debt is a lurking time bomb and cities like Chicago -- like Detroit and NYC in the past -- are going to get a knot jerked in their tutu. They could literally fail financially and that may be the only way to reform them.

In the current interest rate environment -- meaning high interest rates -- there will be no refundings that will relieve the pressure.

Since 2017, a municipality cannot refund a tax exempt issue with a new tax exempt issue (advance refunding) but can refund with a non-tax exempt issue. This makes it even worse as, of course, non-tax exempt interest rates are higher, much higher.

There is a limit to how much a municipality can withdraw from the local economy before the impact is the dramatic contraction of the economy.

When NYC went broke, Pres Ford famously said "Drop dead" for a year until NYC (aided by Felix Rohatyn of Lazard Brothers who was the brains of the operation) figured out how to get NYC's ship in order and then the Feds lent them $2B which was real money in those days.

The dirty little secret right now is exactly as Monsieur Carter deftly reveals -- the bloody sugar high created by the massive intergovernmental transfers from the Feds directly to failing Dem cities. That money is mostly gone and the chickens are coming home to roost.

Why do financiers buy shitty muni debt? Cause they all know the Feds will not allow a default on those instruments.

You could have made a bloody fortune on Mexican Brady Bonds, cetes, and tesebonos during the difficult times in the 1980s and early 1990s in Mexico because the US gov't wasn't going to let Mexico fail. You could have collected interest rates of 65% subject solely to a currency conversion risk of 1% per month. That really happened.

States like Illinois will continue to issue muni debt until the state collapses.

JLM

www.themusingsofthebigredcar.com

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Melinda Romanoff's avatar

Timely post, sir.

Two things on the “specialness” of IL Muni debt and why it’s priced a scootch weaker (higher yield) vs other states’ debt in the eyes of those Inst Inv that “have to own”. One, IL specific muni funds are a waste of time because, last time I looked, only two issues receive beneficial tax benefits from IL Dept of Rev, IL General Obligation and IL Housing Finance. Kinda shrinks the availability pool, and at the same time concentrates the risk. Second, beyond the biggie of perennial default risk, is issuance risk, IMOO. IL has more layers of taxing authorities than about any other state, and ALL can issue debt. So there’s always a risk of an impending flood from the jackbooted can kickers.

And we’re stuck here, for the duration.

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