Revenues down, cities and counties face a choice. Raise taxes, or cut payrolls and services. But if taxes rise or workers are laid off and services decline, Americans in our mobile society move across city and state lines, as they are moving from California to Colorado, Nevada and Arizona.
This does not end the crisis, it exacerbates it.
Bankruptcy not only offers cities relief from paying interest to bondholders, it enables mayors to break contracts with public service unions. Since the recession began, 650,000 government workers, almost all city, county or state employees, have lost their jobs. Millions have seen pay and benefits cut.
The salad days of the public sector are over. From San Joaquin Valley to Spain, its numbers have begun to shrink and its benefits to be cut.
A declaration of bankruptcy by a few cities, however, has an impact upon all -- for it usually involves a default on debts. This terrifies investors, who then demand a higher rate of interest for the increased risk they take when they buy the new municipal bonds that fund the educational and infrastructure projects of the solvent cities.
Cities and counties have no way out of the vicious cycle. Rising deficits and debts force new tax hikes and new cuts in schools, cops and firemen. Residents see the town going down, and pack and leave.
This further reduces the tax base and further enlarges the deficit.
Then the process begins anew.
This is what is happening in Spain and Greece, which have reached the early 1930s stage of rioting and the rise of radical parties.
Since the New Deal, Keynesianism has been our answer to recession. As the private sector shrinks, the public sector expands to fill the void until the private sector returns to health. Only Keynesianism is not working.
Obama gave us an $800 billion stimulus and four deficits totaling $5 trillion. The Fed tripled the money supply and put interest rates at near zero. The banks are flush with cash. But the engine will not turn over.
What about supply-side tax cuts? But with the Bush tax cuts still in place, taxes are generating the smallest share of gross domestic product in decades.
How much bigger a deficit should we run?
Liberal economists are saying, deficits be damned, print money and spend. With Republicans blocking tax hikes and Democrats resisting cuts in Medicare, Medicaid and Social Security, all eyes turn to the Fed.
As Milton Friedman said, "Inflation is the one form of taxation that can be imposed without legislation."