Monday, June 21, 2010

Skull & Bones Bank Warns On Deterioration In State And Local Government Deficits

When Brown Brothers merged with Harriman Brothers and Company, Time Magazine noted that of the company's 16 founding partners a total of 11 were graduates from Yale University. Eight of the ten initial partners  were members of Skull and Bones.

Time wrote back then:
One Brown Bros, partner, Ellery Sedgwick James, was a classmate of Harriman Partners Edward Roland Noel Harriman, Prescott Sheldon Bush and Knight Wooley. And active, well-groomed Brown Bros. Partner Robert Abercrombie Lovett is the son of Judge Robert Scott Lovett, Jongtime personal attorney and close friend of the late Edward Henry Harriman and now chairman of his Union Pacific. Undoubtedly these connections first caused the firms to gravitate toward each other.
In other words, this is as inside as you can get.  Which makes their current views on the financial condition of  state and local governments in the U.S. noteworthy. Here's Marc Chandler, Head of Currency Strategy at BBH in a report on the current situation at the state and local level:
The similarities between Europe and the US, in terms of debt and deficit issues, are much greater than the different political, social and regulatory regimes may suggest. While investors are well acquainted with the US federal deficit, they may be only vaguely aware of the increasingly difficult strait of many US states and local governments...

On 1 July, 46 of the 50 US states will begin a new fiscal year. The cumulative deficit of the 50 states is about $127.5 bln. State and local government borrowing reached a record 22% of US GDP this year, up from about 15% in 2000. Their outstanding debt is about $2.2 trillion, a 57% increase since 2000.

US states and local governments did the same thing that governments around the world have done. There was a general reluctance to tax citizens to fund the various programs that were provided by the state and local governments. Governments responded not by slashing the programs, but by borrowing to fund them. Governments accumulated debts and lengthened maturities.

They seemingly gamed their way around rules, including at times, constitutional requirements for balanced budgets or fiscal responsibility. This left them particularly vulnerable to a decline in revenues.
Stuck in something of a Keynesian time-warp, Chandler thinks that spending cutbacks will damage the economy(They won't. The money is better left in private hands.)But aside from that, his warnings about the problems ahead are very accurate.

That such a warning is coming out of the penultimate insider bank is an indication that the problem is Too Big To Cover-Up.

Be very careful about holding municipal securities in your portfolio. Bankruptcies or Federal bailouts are the only solutions, either way it's not going to be pretty.

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