San
Bernadino and Stockton, California, embraced them and fell short on
their payments. Other cities, despite the risk, are embracing them.
They
are called pension obligation bonds; municipalities, short on cash
and long on political promises, issue them to shore up infirm pension
funds for city and school pensioners.
Portsmouth
is a fan.
Many
experts advise caution. But the experts are economists and
financiers; city officials are politicians and civil servants.
In
2013, the city issued $166 million of the quirky bonds to satisfy two underfunded
pension funds, which are now closed. Mayor Kenny Wright noted this
achievement in a state of the city address. The bonds, part of a $209.5 million package, are listed as taxable general oblilgation and refunding bonds, 2013, series B.
If
he remains mayor, he may regret his decision. So might future
residents of Portsmouth (if any are left).
Here's
how they work.
Cities
invest the proceeds of the bond and assume a higher return on the
investments than the debt they pay on the bonds. That is a faulty
assumption.
In
other words, Portsmouth and cities are playing the spread between
what they owe and what they “think” they can reap. They are
gambling with the city's financial future – and many are losing.
For
example, if the bond debt is six percent every year and the
investment return on average is 7 percent, cities stay solvent and
pay their obligations.
Should
the market dip, should the return drop below the debt, cities
scramble for an answer.
Pension
obligation bonds figured prominently in last year’s bankruptcy in
Stockton, which issued $125 million in pension bonds in 2007 –
after it had improved retirement benefits and compensation several
times, according to the Center for Investigative Reporting.
Stockton's
investments lost about a third of their value in the stock market
crash, the article said. Detroit, the largest U.S. city to file for
bankruptcy, failed to realize expected returns after issuing pension
bonds in 2005 and 2006, the article said.
“It’s
the dumbest idea I ever heard,” Jon Corzine told Bloomberg.com in
2008 when he was still governor of New Jersey. “It’s speculating
the way I would have speculated in my bond position at Goldman
Sachs.”
The
Center for Retirement Research at Boston College tracked 270 pension
obligation bonds since 1992. The bonds, they found, had “a negative
average real return from 1992-2009, but show a small gain when the
time period is extended to 2014.”
The
Center said unfunded pension liabilities may be flexible obligations
that can be smoothed over time. Pension obligation bonds, the Center
said, are inflexible obligations with required annual payments.
Pension
obligation bonds can be a useful tool for fiscally sound governments,
the Center said. But evidence shows that financially stressed
municipalities issue these bonds.
Mayor
Kenny Wright said the city must be vigilant and optimistic. They
should be. They should also find a new city manager, city attorney,
finance director, police chief and economic development director.
The
mayor waxes eloquent.
“We
have painfully, yet successfully, weathered the economic storm and
continue to rise from it as a more vibrant City.” the mayor said in
his state of the city speech in April.
That
was before the budget battles, the firing of the city manager and the
city attorney and the departure of the police chief, the finance
director and the economic development director.
That
was before the tax hike and the recall of the mayor.
Be
vigilant, be optimistic, praetripudus, Mayor Wright and Portsmouth
City Council.