The Phaserl


Why Bankruptcy is Not a Magic Wand for Illinois

from The Daily Bell:

What if everyone declared bankruptcy, would that solve all financial woes? Or rather, would it be the ultimate debt bubble burst? Bankruptcy is a “solution” that would become disastrous if everyone were to use it. So can it truly be considered a solution at all? It just shifts the financial burden to someone else.

Most people just don’t care though, because usually, it is the big bad credit card companies or debt collectors who seem to be getting screwed. People with mountains of debt are told that they were preyed on by lending companies. Look at this excerpt from an article by a law firm about the myths of bankruptcy.

We are all so programmed all our lives to pay our bills and to think we have to that it’s just hard to believe that…if we file bankruptcy…we may NOT have to.  The law says that you have to pay all your bills all the time, but the law also says: “except if you file bankruptcy”.  If it helps, think of filing bankruptcy as something that works like magic. “Now you owe…POOF!…now, you don’t“.   Why?  Because that’s just how it works.

That’s just how it works. But how does it work when we are not talking about an individual declaring bankruptcy?

Whispers are starting among debt-laden states, and Illinois is starting to talk bankruptcy.

So can they just wave a magic wand and, poof, all their worries go away? No, but they can transfer all their worries onto the lenders.

Chapter 9 bankruptcy protection could be extended to states if Congress took up the issue, although Stanford Law School professor Michael McConnell noted in an article last year that he believed the precedents are iffy for extending the option to states. Nevertheless, Illinois is in a serious financial pickle, which is why radical options such as bankruptcy are being floated as potential solutions.

Ratings agency Moody’s Investor Service earlier this month downgraded Illinois’ general obligation bonds to its lowest investment grade rating, citing the state’s growing pile of unpaid bills and its mounting pension deficit. Illinois, by the way, has the lowest credit rating of any state. Lower ratings mean higher borrowing costs, since lenders view such borrowers as riskier bets.

And indeed Illinois is quite the risky bet for lenders. Lenders may have assumed that since states could not go bankrupt, they would eventually be paid back, with massive interest rates added on. This means the state would either have to substantially cut its spending or raise taxes.

In a state with such robust unions, who arguably helped drive the debt crisis when it comes to unfunded pensions for state employees, it is unlikely that spending could be seriously curtailed. The Illinois Supreme Court overturned a law that would have reduced pensions because it violated the Illinois Constitution which says the state cannot change what they agreed to for retirement benefits.

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