Tag Archives: Boomergeddon

Boomergeddon Watch: Illinois and Puerto Rico

S&P Global has warned that Illinois’ debt could be downgraded to junk bond status if the state doesn’t get its fiscal affairs in order. Paralyzed by partisan gridlock, the Prairie State hasn’t had a budget in two years. Since the Great Depression, no other state has gone for more than a year without a budget, reports the Wall Street Journal. Meanwhile, the state’s unfunded pension liability exceeds $130 billion, and its backlog of unpaid bills has hit a record high of $14.3 billion.

If S&P, Moody’s and Fitch all downgrade Illinois debt to junk status, the state will be in violation of numerous loan covenants which could trigger more than $100 million in penalties, and make state and municipal debt even more expensive.

In parallel developments, Bloomberg reports today that the bankrupt Commonwealth of Puerto Rico has lost two percent of its population in each of the last three years. Since the economy began contracting a decade ago, the cumulative loss amounts to 400,000 residents from an island with population of 3.4 million today. By contrast, Puerto Rico’s fiscal turnaround plan assumes that the population will shrink only 0.2% each year over the next decade. Good luck with that!

The exodus means that fewer people will remain to shoulder the island’s $74 billion debt, trapping Puerto Rico in a vicious cycle of a contracting economy, cutbacks to core government services, and a population fleeing the deteriorating conditions.

Hmmm. As its turns out, Illinois is one of only seven U.S. states that experienced a population decline in 2016. Between 2000 and 2010, the population grew only 3.3%, one third the national rate. Then the population has declined every year since 2013 by a cumulative total of about six-tenths of a percent. A 2016 poll found that 47% of respondents said they would like to leave the state, citing taxes, the weather, government, and poor job opportunities in that order as the reason.

Just think what will happen when the next recession comes. Instead of Okies fleeing the Dust Bowl, we’ll see Illini fleeing the Blue State governance model.

Boomergeddon Watch: Higher Interest on Debt

Graphic credit: Wall Street Journal

Today’s Wall Street Journal editorial page explores the ramifications of the Federal Reserve’s decision to dial back years of Quantitative Easing and near-zero interest rates. Higher interest rates will translate directly into higher debt payments for the world’s largest debtor, Uncle Sam.

Interest on the debt rose $28 billion for the six months of fiscal 2017. Annualized, that amounts to $56 billion in a budget that is running a $522 billion deficit this year

During the era of Quantitative Easing the Fed purchased trillions of dollars of financial assets, the profits on which were remitted back to the U.S. Treasury. That amounted to a gift of between $50 billion and $70 billion or so above typical remittances of the pre-QE era. As the Fed unwinds QE and disposes of its assets, those remittances will decline as well, creating a double-barreled shot to federal budget deficits. Between higher interest payments, lower remittances and the structural imbalance of spending and revenue, increasing federal deficits are on auto-pilot. Not a single additional dollar of spending increases or tax cuts is necessary to push the nation toward fiscal crisis.

The Trump administration has different budgetary priorities than the Obama administration — it wants to increase defense spending while cutting domestic spending — but it appears to be no more serious about attacking deficits than was the Obama administration. Insofar as there seems to be a fiscal policy, it amounts to cutting regulations, reforming the tax structure and protecting American jobs from foreign competition in order to boost economic growth. In theory faster growth will generate a gusher of tax revenue that will more than make up for the tax cuts.

In my humble appraisal, dialing back regulations and reforming the tax code will stimulate economic growth, but not by a miraculous amount. The U.S. economy faces strong headwinds of an aging workforce, stagnant productivity, runaway education and health care costs, a spread of social dysfunction from the lower class to the working class, massively underfunded pensions, and fragile overseas economies. The global economy is more heavily leveraged with consumer, business and government debt than at any time in peace-time history and remains extraordinarily vulnerable to black swan events. Boomergeddon is coming. The only question is whether it takes fifteen years or twenty to get here.

Implications for Virginia. The Old Dominion is more dependent upon federal spending than almost any other, and we have more to lose than most from a federal fiscal and monetary meltdown. We need to diversify our economy, we need to bullet-proof the balance sheets of our state and local government, and we need to re-think how we deliver core government services more cost-effectively. Indeed, we should strive to be not merely resilient in the face of federal budgetary disaster, that is, in a position to survive a Boomergeddon scenario, but to be, in the words of Nassim Nicholas Taleb, “anti-fragile,” that is, in a position to actually thrive amidst a federal fiscal crack-up.

How could Virginia prosper while the rest of the country descends into fiscal anarchy? Simple: by preserving the ability to maintain core government services like roads, education, health care and public safety while other states experience fiscal insolvency and disintegrating services. Corporate capital and human capital will flee to the oases of order and sanity. Think of California during the Great Depression. Think of Switzerland today.

I acknowledge that it’s difficult to act upon projections of what might happen 15, 20 or 25 years from now. Indeed, many will accuse me of gloom-mongering. But I have read enough history and experienced enough history to know how rapidly things can change. Everything is fine… until it’s not. And then we’ll wish we’d heeded the warning signs.

The Biggest Lie of All: Government Can Pay Its Pensions

State-local pensions are just one aspect of unsustainable government spending.

State-local pensions are just one aspect of unsustainable government spending.

Many people get infuriated by President Trump’s many inconsequential falsehoods — does it really matter how big his inaugural crowds were? — but they remain sanguine about the trillion-dollar untruths that our public pension system is built upon. The big lie that governments will make good on retirement promises to their employees is not merely mendacious but it is destructive. Millions of Americans have built their retirement plans around a fiction. And when the Ponzi scheme collapses, government workers won’t be the only ones to suffer.

In his latest column, George Will recites some of the more glaring examples of how the big lie is unraveling.

The Dallas police and fire fund recently sought a $1.1 billion transfusion, a sum roughly equal to the city’s entire general fund budget yet still not close to what is needed. Last year Illinois reduced its expected return on its teacher retirement fund portfolio from 7.5% annually to 7% (which is arguably still too optimistic), meaning that the state needs to add $400 million to $500 more to the fund — annually. Last September, the vice chair of the agency in charge of Oregon’s pension system wept when speaking about the state’s unfunded pension promises of $22 billion. Nationally, unfunded liabilities for teachers, not counting other government employees, amount to at least $500 billion.

And don’t get me started on the fact that the Medicare hospital trust fund is expected to run out in only 12 years and Social Security trust fund in 16 years, at which point payroll tax revenues will be insufficient to maintain full benefits… Or the fact that the pensions run by companies in the S&P 1500 Index were unfunded to the tune of $562 billion.

Some of the shortfall can be attributed to absurdly generous provisions of pension plans in particular states and localities, some to fiscal indiscipline by government at all levels, and some to the Fed’s seven years of near-zero interest-rate policies that have depressed returns on bond portfolios and juiced stock market gains that cannot possibly be replicated in the years ahead.

Will concludes with the salient point:

The problems of state and local pensions are cumulatively huge. The problems of Social Security and Medicare are each huge, but in 2016 neither candidate addressed them, and today’s White House chief of staff vows that the administration will not “meddle” with either program. Demography, however, is destiny for entitlements, so arithmetic will do the meddling.

Few elected officials are willing to deal with the issue that offers no immediate political reward. Here in Virginia, one of the few, House Speaker William J. Howell, R-Stafford, has announced that he will not seek re-election.

Thanks in part to Howell’s stewardship, Virginia’s budget, backed by a AAA bond rating, is in better shape than those of many other states. But the U.S. learned after the 2007 real estate crash what AAA bond ratings are worth when the economy shifts from normal conditions to crisis conditions. Boomergeddon is coming. The only question is when.

No Magical Solutions for Trump

Says Rep. Tom Cole, R-Oklahoma: Trump’s numbers don’t add up.

Someone in the national press corps is finally focusing on an issue less ephemeral than Donald Trump’s tweets: the fiscal disaster that looms if all of the president’s programs are enacted. Writes Rachel Blade and Josh Downey in Politico:

“I don’t think you can do infrastructure, raise defense spending, do a tax cut, keep Medicare, Medicaid and Social Security just as they are, and balance the budget. It’s just not possible,” said Rep. Tom Cole (R-Okla.), a senior member of the House Budget Committee. “Sooner or later, they’re going to come to grips with it because the numbers force you to.”

Duh.

If designed properly, tax cuts could be stimulative, but it takes a leap of faith to think that faster economic growth would recoup all the lost revenue. Carefully designed deregulation of the healthcare, banking, telecommunications and energy sectors could promote growth as well, although not without some offsetting risks and costs. Even if economic growth does rebound, it will likely trigger inflation and the Federal Reserve will raise interest rates. There are no magical policy levers that will allow the U.S. to fulfill all of Trump’s promises without running up deficits and the national debt.

My hunch is that the GOPs in Congress can water down the more fiscally irresponsible of Trump’s plans but won’t stop them all. Trump will blame the resulting deficits on Obama, just as Obama blamed his deficits on Bush. Words won’t change anything. Boomergeddon is coming. The only question is when.

More Hidden Deficits: Bad Bridges and Bad Metro

Virginia has its share of bad bridges.

Bad bridges. Image source: USA Today

Update on America’s hidden deficits: Nearly 56,000 bridges across the country are structurally unsound, according to the American Road and Transportation Builders Association (ARTBA), as reported by USA Today.

More than one in four of the bad bridges are at least 50 years old and have never had major reconstruction work, according to the ARTBA analysis. Thirteen thousand are along interstates that need replacement, widening or major reconstruction. Virginia falls in the middle tier of states where the percentage of bad bridges ranges between 5% and 8.9%.

Don’t county on the federal government for help — unless the Trump administration moves ahead on its fiscally unsustainable $1 trillion infrastructure spending plan. The U.S. highway trust fund spends $10 billion a year more than it takes in. The USA Today article did not say how much it would cost the country to remedy the structural deficiencies.

Bacon’s bottom line: Welcome to the American way of building infrastructure. Uncle Sam subsidizes the up-front costs and the fifty states eagerly jump on board. Forty or fifty years later, the bridges wear out. The states haven’t salted away any money to fix them, and the feds say,” So, sorry, we only fund construction, not maintenance and repairs.”

If you want to build roads, bridges, highways, airports, and mass transit, you need a plan for long-term financing. Otherwise, you’re just creating a huge problem for the next generation. Eventually, the bills come due. If we can’t afford to fix what we’ve already built, we have no business building new stuff we can’t afford.

But we build new stuff anyway. A case in point comes from Loudoun Now: New estimates suggest that Loudoun County’s payments to the Washington Metro could run as much as $27.9 million higher than expected — double what was expected. (The number may be somewhat overstated because it includes the cost of a bus service, which Loudoun is already providing.)

Loudoun doesn’t have a station on the Metro Silver Line yet, but it will in a couple of years when Phase 2 is complete, and it will have to start paying its share of operations and capital costs. Unfortunately for Loudoun — and this was entirely predictable because METRO’s fiscal ills have been well known for years — METRO needs much more money than in the past to compensate for decades of under-funding and scrimped maintenance.

METRO’s problem has been brewing for decades. Fiscal conservatives have been sounding the warning for years and years. Government officials been making financial projections that everyone knows, or should know, have no basis in reality. But everyone pretends everything is fine to keep the gravy train rolling.

If it’s any consolation, $28 million is no big deal in a county budget that runs $2.4 billion a year, says county finance committee Chairman Matthew F. Letourneau. who also represents the county on the Metropolitan Washington Council of Governments and the Northern Virginia Transportation Commission. “We’re the jurisdiction that’s building $35 million in elementary schools ever year.”

Hmmm…. I wonder if the county is socking away any money for maintenance, repairs and replacement of all those elementary schools. I would be astonished if it is.

Chesterfield Finds $83 Million Unfunded Liabilities

Somehow Chesterfield County schools missed $83 million in unfunded liabilities until late last year.

Somehow Chesterfield County schools missed $83 million in unfunded liabilities until late last year.

Our society is riddled with unfunded liabilities. Nowhere is the magnitude of short-term thinking more egregious than the federal government. As case in point, the U.S. military has put off maintenance and repairs to the point where we don’t have the money for the military we have, much less the military we would like to have.

“The Department of Defense “has breathtaking liabilities — as much as $88 billion a year — that ought to be addressed before procuring a single additional plane, ship, or tank,” says Tom Spehr, as quoted by Robin Beres in her Richmond Times-Dispatch op-ed today.

But Virginians can’t get sanctimonious. Not only do we have the example of Petersburg to to keep us humble, we now hear of scandalous inattention to hidden liabilities afflicts one of Virginia’s most populous jurisdictions — and one with the reputation, no less, of being exceptionally well run.

In Chesterfield County, school officials are grappling with massive unfunded liabilities for a supplementary teacher retirement benefit. Under the program, teachers can retire then get re-hired under the program working part-time, temporary jobs similar to their pre-retirement work. As incentive, they get a lucrative supplement to their normal Virginia Retirement System benefits.

In 2014, reports the Times-Dispatch, unfunded liabilities were found to be $58.7 million. Now they are $83 million.

Here’s the amazing part. The T-D quotes Donald Wilms, president of the Chesterfield Education Association, as being shocked when he learned of the program’s underfunding for the past five years. “Teachers were continually told that the program isn’t going away. So I think it was natural to assume that the program was healthy,” he said. “Nobody told you it was in danger.”

Nobody, that is, except for MGT America, which provided an efficiency review of Chesterfield schools in 2010 (!!!) and noted that the  supplemental retirement plan faced a large unfunded liability in the next few years as Baby Boomer teachers began retiring. “The increased number of participants will dramatically increase the cost of this program,” warned the report.

Somebody wasn’t paying attention.

Forget the federal government. Let Donald Trump and Congress worry about that. Here in the provinces, we need to worry about how we handle our own business. Do other school systems have supplemental retirement programs like Chesterfield’s? How many other unfunded liabilities, the existence of which lurk deep within Comprehensive Annual Financial Statements, are ticking time bombs? Is anyone paying attention?

Quantitative Squeezing

Bond yields have declined steadily for thirty years. As long-term and mid-term bonds expire and get rolled over at lower yields, pension funds generate much lower returns on their bonds portfolios. State and local funding for public pension funds has not kept pace with this market reality. Graphic credit: Wall Street Journal.

Bond yields have declined steadily for thirty years. As bonds expire and get rolled over at lower yields, pension funds have been generating lower returns on their portfolios. State and local funding for public pension funds has not kept pace with this market reality. Graphic credit: Wall Street Journal.

It’s nice to see mainstream media highlighting an issue that I’ve been hammering here at Bacon’s Rebellion for a couple of years now. A front-page Wall Street Journal article discusses how the zero-interest rate policies of central banks around the world are crippling returns on pension portfolios, making it difficult for nations and municipalities to meet their obligations.

Among the numbers cited in the article… Global pensions on average put roughly 30% of their assets in bonds. Investment-grade bonds that once yielded 7.5% a year now deliver almost no income at all. Low rates helped pull down assets of the world’s 300 largest pension funds by $530 billion in 2015.

The California Public Employees’ Retirement System (CALPERS) posted a 0.6% return in fiscal 2016. Its investment consultant, reports the Journal, recently estimated that annual returns will be closer to 6% over the next decade, shy of its 7.5% annual target.

If CALPERS is ready to admit that investment returns will remain depressed over the decade ahead, maybe it’s time for the Virginia Retirement System to do the same. The VRS assumes a 7% annual return on its portfolio — not as divorced from reality as many states, but significantly more than justified by bond returns. The problem, of course, is that acknowledging reality will expand Virginia’s public pension unfunded liabilities by billions of dollars — and nobody knows where the money will come from. So, we’ll pretend the problem doesn’t exist… until it becomes a crisis.

This Is What a Fiscal Meltdown Looks Like, Part V: Big Legal Fees

quicksandAs creditors close in and the City of Petersburg struggles to avoid default, it is spending large sums on legal and consulting fees. In the latest litigation, the city has hired the Richmond-based law firm Sands Anderson to fight an Oct. 4 order by a Petersburg Circuit Court Judge appointing a special receiver to ensure that city residents’ wastewater payments are forwarded to the regional sewage treatment agency.

In his order, Circuit Court Judge Joseph M. Teefey Jr. appointed an attorney from Richmond-based LeClair Ryan as the receiver. Presumably, the city will be responsible for covering LeClair Ryan’s fees as well.

The city is in more than $1 million in arrears in its payments to the South Central Wastewater Authority because it diverted wastewater revenues to other uses. The appointment of a receiver could trigger a default in other obligations, including more than $10 million in water, sewer and stormwater revenue-backed bonds.

Those debts include clauses specifying that the appointment of a receiver automatically constitutes an “Event of Default,” reports the Progress-Index.

“If the receivership is not vacated and the multitude of bond defaults described herein are triggered, it is expected that any short-term or long-term debt restructuring to facilitate … cash-flow relief for the city … will be extremely difficult to obtain,” states the city’s motion.

Meanwhile, City Council also hired the Robert Bobb Group, a municipal turn-around group, to help the city work through its financial woes. The principal of the group, Robert Bobb, was city manager of Richmond from 1986 to 1997 and was instrumental in rooting out corruption and turning around the deficit-plagued Detroit school system. Sources have told WRIC News that the consulting fees could cost $300,000.

Bacon’s bottom line: It has to be galling for secretaries, police, fire fighters and other city employees to swallow pay cuts while the city is doling out funds for high-priced lawyers and consultants. But what is the alternative? Roll over and play dead? Sadly, the city is caught in legal quicksand now. The harder it struggles to stay afloat, the more it racks up big professional fees that it can’t afford. The moral of the story for everyone else: Don’t let yourself get caught in Petersburg’s situation.

— JAB

No State Bailout for Petersburg

petersburg_city_hallby James A. Bacon

The City of Petersburg is on its own. There appears to be no sentiment in either  the McAuliffe administration or the General Assembly for cutting the fiscally ailing city any slack. Even the city’s own representatives in the legislature aren’t pushing for any special treatment by the Commonwealth.

“There is a feeling that the state doesn’t want to reward poor public performance,” Secretary of Finance Richard D. “Ric” Brown told the Richmond Times-Dispatch in an article appearing today.

A bailout of Petersburg is out of the question, said Del. Steven Landes, R-Augusta, who is heading a subcommittee to study the problem fiscally stressed localities. “I’m not aware where the state has ever stepped in to provide a locality a bailout,” he said. “I don’t see that happening.”

The state requires localities to file Comprehensive Annual Financial Reports (CAFRs) each year with audited financial data. Landes said his committee will look into what the state can do to shorten its response time when a locality is heading toward a fiscal cliff. “We want to make sure that audit information is getting to the money committees and the administration, because we would much rather be kept abreast sooner rather than later.”

Bankruptcy is not an option either. Federal law allows financially distressed localities, public utilities and school districts to see the protection of Chapter 9 bankruptcy court, and more than 50 localities nationwide have sought it over the past seven years. But Chapter 9 refuge requires state approval, and Virginia law does not allow localities to file for bankruptcy.

Bacon’s bottom line: It is reassuring to see the state drawing a cordon around the badly managed city. Citizens have to clean up their own mess. A likely first step is to throw the bums out and replace them with more competent individuals. If the crisis impels a new leadership to re-think how core government services are provided, Petersburg could emerge better and stronger than before.

Moreover, Landes’ subcommittee can play a helpful role in spotting financial warning flags in other localities before they reach crisis dimensions. Citizen leaders of many small localities (and even some large ones) lack the knowledge to read the CAFRs with any discernment. One useful thing that the state can do is to monitor the CAFRs of all jurisdictions and let their elected officials know if their numbers are looking problematic.

An Aging Economy Is a Sluggish Economy

Source:

Source: “The Effect of Population Aging on Economic Growth, the Labor Force and Productivity.” (Click for more legible image.)

by James A. Bacon

Why is U.S. economic growth slowing? Perhaps for the same reason economic growth is slowing in Europe, Japan and other advanced economies — our populations are getting older. That was a major theme of my book “Boomergeddon,” written in 2010, when I accurately predicted that U.S. economic growth would fall short of the optimistic expectations in U.S. eonomic and budget forecasts. I don’t pretend I got everything right — I failed to foresee the fracking boom that ignited the U.S. energy boom, and I did not anticipate how quantitative easing would goose goosing the economy by inflating asset values. But I was pretty certain about one thing — the U.S. population was getting older, and an older population would dampen economic growth.

That’s not a controversial view among the handful of economists who study the impact of aging. It just isn’t appreciated by the broader economic profession, the geniuses who have consistently overshot economic growth forecasts over the past decade, or a political class that has shown no willingness to put entitlements and debt accumulation on an economically sustainable basis.

Now comes a study, “The Effect of Population Aging on Economic Growth, the Labor Force and Productivity,” by Nicole Maestas, Kathleen J. Mullen, and David Powell, and published by the National Bureau of Economic Research. Their disturbing conclusion: “We find that a 10% increase in the fraction of the population ages 60+ decreases the rate of GDP per capita by 5.5%. … Our results imply annual GDP growth will slow by 1.2 percentage points this decade and 0.6 percentage points next decade due to population aging.”

Extrapolating from differential rates of aging and economic growth in the 50 states, the authors see a number of forces at work. Slower growth in the workforce accounts for about one-third of the effect. The rest comes from slower productivity growth from an aging workforce, with possible spillover affects among younger workers.

The fraction of the United States population 60 or older will increase by 21% between 2010 and 2020, and by 39% between 2010 and 2050. This dramatic shift in the age structure of the U.S. population — itself the effect of historical declines in fertility and mortality — has the potential to negatively impact the performance of the economy as well as the sustainability of government entitlement programs.

We can argue over the impact of taxes, regulation, quantitative easing, fiscal policy, and most will retreat into our respective ideological corners, agreeing upon nothing. But the aging of the population is an undeniable phenomenon that transcends partisan analysis. And there is consensus in the economic profession that once a tipping point is reached — as it has in many countries — the economic impact is negative. The U.S. and other aging countries which once had the demographic wind at their back now are leaning into a gale. None are likely to return to the economic growth rates of the early post-World War II era.

Virginia impact. Sadly, the paper did not provide a state-by-state breakdown for aging. However, two maps in the appendix (including the one above) show that Virginia’s population aged more rapidly than that of most other states between 1990 and 2000, and again between 2000 and 2010. One could conjecture that the aging effect has dampened economic growth here somewhat more than the national average. There may be more to blame for Virginia’s economic sluggishness than federal sequestration or flawed public policy.

No one can foresee the future, but if there is one aspect of the future that is predictable with some reliability, it is a nation’s (or state’s) demographic profile. And if there’s one thing we can say with some certainty, it is that economic growth will be slower. Our elected leaders should bear in mind as they discuss expanding entitlements and taking on more debt. No miraculous resurgence of economic growth will make it easier to pay our bills.

When the political class ignores this advice, don’t say I didn’t warn you.