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Muni Bonds: A Dialogue

Simon Willms | Stone | Getty Images

There's no doubt that states and municipalities have taken on more obligations than they can possibly pay. They can't afford the pensions, medical benefits and debt payments they've already promised to pay. When you add in the costs of basic services, such as education and policing, the situation is very obviously untenable.

So why do muni bond experts continue to assume that everyone except muni bond holders will be forced to deal with this reality by accepting less?

JP Morgan Chase wrote a note in reply to Meredith Whitney—an analyst who has consistently predicted catastrophe for the muni bond market:

"Yes, services will be reduced and pension plans will be renegotiated. [Meredith] Whitney defines these as defaults, but they are not defaults in the way that bondholders define defaults. This is the difference between social contract defaults (less police and libraries for example) and defaults in which bondholders do not receive interest and principle. We continue to maintain that municipalities will make tough choices elsewhere to maintain market access."

I'd love to see the evidence for the forecast that cities and states will always "make tough choices elsewhere." And it would be great to actually get one of the muni bond guys to sit down with members of the firefighters or teachers unions and explain to them that their pensions are now just "tough choices elsewhere."

Bond Guy: "The city has to make tough choices. The burdens are unsustainable."

Firefighter: "It's a sad fact. We'll all have to make mutual sacrifices for the common good."

Bond Guy: "That's right. You will all have to make sacrifices."

Firefighter: "Don't you mean 'we will' all have to sacrifice?"

Bond Guy: "Oh, Hell no. We're bond guys. We don't make sacrifices. We get made whole. Every time."

Firefighter: "But you said we were making tough choices. The burden is unsustainable."

Bond Guy: "You are the tough choice. You are the unsustainable burden."

Firefighter: "I'm a damn burden now. I nearly lost my life several times rescuing people from fires. I lost half my firehouse on 9/11. How the devil do you figure I'm a burden."

Bond Guy: "We're grateful for your services. But the city can't pay you the money it promised. You'll have to renegotiate."

Firefighter: "Explain to me again why I have to renegotiate but you don't."

Bond Guy: "Access to markets. If the city renegotiates with you, it can totally get away with it. If it renegotiates with us bond guys, we'll cut off the city's access to funding."

Firefighter: "So your theory is that you are too rich to make sacrifices. Because the city still needs you but doesn't need a retired old guy like me."

Bond Guy: "I wouldn't put it that way. You see, access to capital is..."

Firefighter: "Look, son, I think you've got this wrong. This city needs firefighters just as much as it needs borrowed money. You figure you can screw over the old firefighters because there will always be new ones. Why doesn't this apply to bondholders? Do you have a union? Or are you all in it for yourselves."

Bond Guy: "Of course we don't have a union."

Firefighter: "Well, I'm willing to bet that when it comes down to it, you're going to be a tough choice too. Elsewhere is moving into your damn boardroom, buddy."

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