Demagoguery and deranged shootings in Arizona have diverted national attention from the looming threat of municipal bond defaults. Municipal bond defaults and state and local government bankruptcies go hand-in-hand. This danger was identified months ago, by Meredith Whitney, in a report "Tragedy of the Commons: Launching Ratings on the Top 15 States". The report's premise is that some state governments will soon have difficulty funding transfers to local governments, and, given current out-of-control spending, approximately 100 municipalities will likely default. On a scale of one to ten, we should count this threat as a level 10 problem and start ringing the alarms.
Municipalities rely heavily on property and sales taxes to operate. But, with the currently high unemployment, with the housing market under water and the number of foreclosures continuing to grow, the sources municipal revenue are shrinking while spending continues to grow. Some municipalities and states have conjured up innovative smoke and mirrors strategies to disguise the budget gap by borrowing more and shifting costs forward to disguise the problems from voters. But even the best of jugglers can keep only so many balls in the air simultaneously without crashing.
One solution to resolving escalating municipal budget gaps will require states to immediately implement drastic programmatic changes and government job cuts. Federal, state and local government officials know this, but they also know that budget cutting is hard and usually unpopular. Self-indulgent politicians, over the course of decades, have implemented overly generous increases to pension plans, union labor agreements, Medicare and welfare entitlements, essentially to buy votes.
Payment is now due for that unwise largess. Unfortunately, the states and municipalities facing the most immediate risks of default, such as California, Michigan and Illinois, are home to entrenched Democrat politicians that seem to lack the ability and courage to inform voters that these overly generous benefits are unsustainable.