Many municipalities face huge unfunded pension liabilities. City-dwellers will always need rubbish incinerators, sewers and other capital-intensive infrastructure financed by municipal bonds. And these are unusually tough times for state and local governments. At the beginning of the 2012 fiscal year, states faced a collective budget deficit of $91 billion, according to the National Conference of State Legislatures. That is down from a peak of $174 billion in 2010. But since every state except Vermont has a balanced-budget law, closing the gap will be painful. The housing bust has hit cities like a hod full of bricks falling from a ladder. Property-tax receipts have slumped. Sales and income-tax revenues have fallen, too. Pension and health-care costs for city employees are rising, even as federal stimulus funds dry up. This year will be the fifth in a row in which city governments see revenues decline, predicts the National League of Cities, an advocacy group. City financial officers are gloomy (see chart).
Big though these problems are, they need not necessarily lead to more defaults. Pessimists will see Harrisburg and Jefferson County as harbingers of doom. But Linda Murphy, an analyst with T. Rowe Price, a fund manager, notes that each municipality “is its own story”.
The bankruptcies of Harrisburg and Jefferson County are the result of years of financial mismanagement and political dysfunction. Moody's, a credit-rating agency, maintains a negative outlook for local governments but does not expect “a significant number of defaults, bankruptcy filings or hefty downgrades”. In fact, municipal-bond defaults are rare. Between 1970 and 2009, among the 80,000 state and local-government entities permitted to issue bonds, Moody's counted only 54.
Still, the measures which municipalities must take to avoid default will hurt a lot. Budgets will be slashed; roads and schools will languish unrepaired. Some municipalities will end up doing little besides funnelling taxpayers' cash to their own pensioned-off employees, says Howard Simons of Bianco Research. (Such pensions, no matter how overgenerous, are protected by law.) The best that can be said is that lending money to a poor city still looks slightly preferable to living in one.
