- Quick Facts
One would think that Californians would know by now that bonds are nothing more than taxes plus interest. After all, when people were borrowing against their home equity to pay off bills and buy things, didn’t they learn the hard way that the money had to be paid back with interest? Borrowing IS spending. Bonds ARE taxes.
Now a clever way for governments to borrow money has become popular in California that even Democratic Treasurer Bill Lockyer has compared to the deceptive home loans of the last decade. Remember those? The too-good-to-be-true loan packages, where interest payments were deferred for a few years, or “locked in” at lower than market rates until five years into the loan, wherein they would reset at market rates, raising the monthly payment to unsustainable levels? But while consumers started to learn tough financial lessons back in 2008, government is heading for a tough financial lesson today. And the same financial sharks who fled town when the real estate bubble popped five years ago are having a feeding frenzy on the municipal bond market.
We’re talking about Capital Appreciation Bonds. These are loans that, typically, require no payments of principal or interest for between 10 and 20 years, then once this grace period expires, payment of principal plus interest must be paid in full. Other variants of these loans require no payments for the first 10-20 years, then the loan must start getting repaid over the next 10-20 years, with payments based on the new balance which includes compounded interest. What a temptation for politicians who not only can’t raise taxes, but can’t even afford interest payments! Talk about kicking the can down the road.
There is a legitimate justification for issuing bonds that are paid off over decades. It applies when the project that the bond proceeds will fund is a long-term investment in capital and infrastructure that will have a useful life that meets or exceeds the term of the bond. Thus the borrower pays the cost of paying for an asset during the time they are using the asset. But capital appreciation bonds violate this justification, because since they require zero payments during most of the presumed useful life of whatever asset they are financing.
The financial hole that capital appreciations bonds are getting our cities into, as if they didn’t have enough financial challenges meeting current obligations or funding future retirement pension and healthcare obligations for current workers, has been covered fairly well already. On November 29, 2012, the Los Angeles Times published an article by Dan Weikel entitled “Risky bonds tie schools to huge debt,” where they reported on capital appreciation bonds used to finance school construction and maintenance, and had this to say:
“Most school bonds, like home mortgages, require roughly $2 to $3 to be paid back for every $1 borrowed. But CABs compound interest for much longer periods, meaning repayment costs are often many times that of traditional school bonds.
CABs, as the bonds are known, allow schools to borrow large sums without violating state or locally imposed caps on property taxes, at least in the short term. But the lengthy delays in repayment increase interest expenses, in some cases to as much as 10 or 20 times the amount borrowed.”
The LA Times also published a companion article where they provided a spreadsheet that tracked Capital Appreciation Bonds (spreadsheet) just for school districts in California. This spreadsheet showed that $5.6 billion in capital appreciation bonds have been issued to fund education to-date, and that the payments, most of which will not come due for another 20 years, will total $24.0 billion. But the borrowing disclosed on this spreadsheet is just for education, and it is just those borrowings that took the form of capital appreciation bonds. It is only a small portion of the debt.
So how deep is the hole? How much do California’s state and local governments owe? How much of that borrowing is via conventional bond financing, and how much of it is via capital appreciation bonds?
If you think the California State Treasurer’s office would know the answer to this question, you would be wrong. UnionWatch inquiries to that office yielded helpful suggestions to refer to the California Debt and Investment Advisory Commission’s webpage that discloses California Public Debt Issuance – Yearly Totals 1985-2012. From this table you can see both state and local borrowing per year. The biggest borrowing year was 2009, with $95 billion in debt issuance. The average since 2000 is well over $50 billion per year. But how much of this debt was reissuance of old debt? How much of it is new debt? What is the cumulative outstanding debt of state and local governments in California? How much of that outstanding debt takes the form of Capital Appreciation Bonds?
We asked. Nobody knows. They’re working on it. The spokesperson suggested we consult someone with a subscription to Bloomberg online, wherein we suggested they get one for their office. Why isn’t this information a click away, clear for every journalist and policymaker in California to immediately apprehend? The reader may imagine what would happen to any treasurer in any large corporation if their department was unable to instantly produce this data. Such is the state of California’s public finance. This isn’t an unfunded liability for future obligations, such as pensions, where countless variables – including average lifespan, spiking impacts, and rates of return on investments – make precise estimates impossible. This is money borrowed, spent, and owed. It is a number that can be known to the penny. And in California, right now, we don’t know.
If you enjoyed this article, please consider sharing it!
- Lorna on California’s $12.3 Billion in Proposed School Bonds: Borrowing vs. Reform
- Larry Sand on Permanent Disgrace
- Miguel Rivera on Permanent Disgrace
- Project Finder - Construction Projects & Bidding Platform | 7Wins.eu on Union Watch Highlights
- john m. moore on Is Deficient Recruiting the Real Reason for Police Understaffing in San Diego?
- Robert on Is Deficient Recruiting the Real Reason for Police Understaffing in San Diego?
- Ken on Petaluma City Council Ignores Phony Union Environmental Objections
- Rene Diedrich on Life After Deasy
- JRMarks on San Diego Police Losing Officers To Lucrative Retirements, Not Other Departments
- infocyde on Money for Nothing – Public Administrators Have Minimal Authority or Accountability