Mish's Global Economic Trend Analysis

America's Pension Problem: Gordon Long Interview of Mish
Greece to Seize Local Government Cash; Two Year Bond Yield Tops 28%
Base Case Becomes Grexit; Contagion?
Credit Swap Event Triggers for Chicago Schools: Out of Cash in 30 Days, Cooking the Books to Oblivion:Rauner Ponders Bankruptcy; Emanuel Out to Destroy Middle Class

America's Pension Problem: Gordon Long Interview of Mish

Posted: 20 Apr 2015 08:07 PM PDT

I had the pleasure of being interviewed one again by Gordon Long as part of his financial repression series. The topic of this interview was "America's Pension Problem".

Interview

Synopsis - By Gordon Long - Edited by Me

Mish Shedlock talks about the magnitude of the mounting Pension Problem in America and uses his home state of Illinois as a prime example. According to a State Budget Solutions, last year's state unfunded pensions reached an all-time high of $4.7 trillion. This funding gap state public pension plans are underfunded by $4.7 trillion, up from $4.1 trillion in 2013. Overall, the combined plans' funded status has dipped three percentage points to 36%. Split among all Americans, the unfunded liability is over $15,000 per person.

Pending Pension Crisis

"Illinois Pension's in general are 39% funded. This is after this massive rally we have had since 2009 in financial assets. Some of the worst ones are only about 20% funded."

"Various cities in Illinois have problems, Chicago being one of them. The City of Chicago has a huge pension crisis right now. We have things in Illinois like "Home Rule Taxes" where cities can levy their own taxes in addition to the state. That is why we have varying sales tax that range anywhere from 6.25% to 10%, depending on locality."

"I have been working with the Illinois Policy Institute on pension and bankruptcy issues. There are a number of cities in Illinois that are ready to file bankruptcy. The problem is they can't file bankruptcy because the state doesn't allow it."

"The fundamental problem is they have made more promises than they can possibly keep"

Gaming the System

The problem is "you have police and fire workers who can retire after 20 years and collect up to 70% of their earnings based on the 5 highest years salaries. We see a lot of pension spiking in the last few years where for example police work overtime (which counts towards their best five years) so these workers stand to collect far more in retirement (total years in retirement) than they actually ever made while working (total years worked).

"Tax payers are actually funding the employees portion of the pensions by excessive wages and direct contributions ".

"Chicago floated General Obligation Bonds to fund current expenses. That is illegal. We have bonds here in Illinois that are tax exempt on the basis they are supposed to be funding long term infrastructure expenses that are funding short term needs."

Obscene Property Taxes

"Taxes in Illinois are already obscene. A homeowner on a $600,000 home can expect to pay $14-15,000 per year - every year on property taxes. Do you really own your own home in Illinois?"

"Pensions are so underfunded in Illinois that they are going to go bust in the next slowdown. I believe one (a slowdown) is on the way."

Looming Crisis Globally

Negative interest rates are sweeping the globe. How will states, cities and towns fund themselves and their pension obligations in an era of potential negative nominal bond rates?

Returns on the heavily weighted funds' bond holdings are being potentially destroyed while state bond offerings are likely to face mounting issues such as the monstrous overhang levels of unfunded pension liabilities.

"How will states, cities and towns fund fund long term asset assumptions of 7% given or exceptionally low or year negative yield bonds?"

Repression Series

Gordon's financial repression series is up to about 900,000 video downloads.

Guests include Marc Faber, John Rubino, Paul Craig Roberts, Doug Noland, Chris Martenson, Grant Williams, Doug Casey, Axel Merk, Dave Stockman, Steve Keen, and many others.

My previous interview was Gordon Long Video Interview of Mish: Topic - Financial Repression (and How to Defend Yourself From It).

At the end of the current interview, I briefly mention several trades I am currently in: Russia, Japan, gold and miners.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

Greece to Seize Local Government Cash; Two Year Bond Yield Tops 28%

Posted: 20 Apr 2015 01:17 PM PDT

Greece to Seize Local Government Cash

Robbing Peter to pay Paul took another leap forward in Greece today as Tsipras to Seize Public-Sector Funds to Keep Greece Afloat.

Running out of options to keep his country afloat, Greek Prime Minister Alexis Tsipras ordered local governments to move their funds to the central bank.

"Central government entities are obliged to deposit their cash reserves and transfer their term deposit funds to their accounts at the Bank of Greece," according to the decree issued Monday on a government website. The "regulation is submitted due to extremely urgent and unforeseen needs."

Credit-default swaps suggested about an 81 percent chance of Greece being unable to repay its debt in five years, compared with about 67 percent at the start of March, according to CMA data.

The move is a sign of the "dire liquidity situation for the Greek financial system as the government pools all liquidity available," said Gianluca Ziglio, executive director of fixed-income research at Sunrise Brokers LLP in London. The "next step may be forcing all public-sector entities, including public-sector companies to do the same," he said.

Greek officials, including Deputy Prime Minister Yannis Dragasakis, remained defiant over the weekend, saying the government won't betray its electoral promises and worsen the pain that came from previous austerity measures.

Unforeseen?

Somehow Tsipras labeled this event as "unforeseen" even though it was blatantly obvious the moment the Troika refused to relax terms on Greece back in January.

Stealing money from cities like Athens to pay state workers will ensure city workers don't get paid. Precisely what good will that do but prolong the shell game?

Two Year Bond Yield Tops 28%

The bond market is getting increasingly jittery over the current state of affairs as yield on two-year Greek bonds is now over 28%.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot

Base Case Becomes Grexit; Contagion?

Posted: 20 Apr 2015 11:11 AM PDT

At long last the deniers have thrown in the towel. Grexit is now the base case as Europe Braces for Messy Greek Endgame.

It's still possible that Greece can remain in the eurozone—though that is no longer the base case for many policy makers. At the very least, most fear the situation is going to get much, worse before it gets any better. No one now expects a deal to unlock Greek bailout funding at this week's meeting of eurozone finance ministers in Riga—originally set as the final deadline for a deal. The new final, final deadline is now said to be a summit on May 11.

But among European politicians and officials gathered in Washington DC last week for the International Monetary Fund's Spring Meetings, there was little optimism that a deal will be agreed by then.

The two sides are no closer to an agreement than when the Greek government took office almost three months ago. "Nothing, literally nothing has been achieved," says an official. In fact, it is worse than that: so far, the bulk of Athens's reform plans would actually cost money or reduce government revenues, according to eurozone officials.

They say that when you add up all the government's proposals, the budget surplus required under the current program turns into a 10-15% deficit while debt soars far above the 120% of GDP targeted for 2022. There is no way that the eurozone—let alone the IMF—could disburse funds on the basis of such fantastical numbers.

The bottom line is that Athens won't get any money unless it can reach a deal that satisfies the IMF that Greek debt is on a sustainable path and that it has a medium-term funding plan in place. The eurozone won't disburse its own bailout funds without a deal that carries this IMF seal of approval.

Likely Scenario

The likely scenario is exactly the same as it was in 2010, 2011, 2012, 2013, and 2014: default.

Various can-kicking exercises simply lasted that long.

So why now?

The election of Syriza
ECB belief that Grexit will not cause contagion.

Bear in mind, Grexit could cause a very messy breakup for the eurozone. That doesn't matter. What matters is belief. As long as the ECB thinks it has the "tools" to prevent major problems, then it will be prepared to let Greece go.

Greece's Varoufakis Warns of Grexit Contagion

Reuters reports Greece's Varoufakis Warns of Grexit Contagion.

Greece's Finance Minister Yanis "Some claim that the rest of Europe has been ring-fenced from Greece and that the ECB has tools at its disposal to amputate Greece, if need be, cauterize the wound and allow the rest of euro zone to carry on."

"I very much doubt that that is the case. Not just because of Greece but for any part of the union," he said, speaking in English.

"Once the idea enters peoples' minds that monetary union is not forever, speculation begins ... who's next? That question is the solvent of any monetary union. Sooner or later it's going to start raising interest rates, political tensions, capital flight."

His comments were recorded before those of Mario Draghi, the European Central Bank's president, who this weekend said the euro zone was better equipped than it had been in the past to deal with a new Greek crisis but warned of uncharted waters if the situation deteriorates. said in an interview broadcast on Sunday that if Greece were to leave the euro zone, there would be an inevitable contagion effect.

Contagion?

One problem for Varoufakis is that no one believes him. They believe Draghi.

Will there be contagion? It's not a given but it's likely eventually, arguably later than sooner.

For example, if Greece exits the eurozone, then gets its act together on reforms, its economy will recover much faster than if it stayed in the eurozone. Shedding of debt obligations will do wonders, if handled properly.

In such a scenario, a choir of voices in Spain, in Italy, in Portugal, and perhaps even France will seek the same opportunity.

The eurozone fear should not be that Greece blows up, but rather that it doesn't. That will take some time to sort out. Grexit will be no overnight miracle for Greece, so no exit contagion, but there will be other problems for the eurozone effective immediately, including shared responsibility percentages for Greek debt.

Shared Liabilities in Billions of Euros

click on chart for sharper image

Liabilities from http://www.cesifo-group.de/ifoHome.html

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot

Credit Swap Event Triggers for Chicago Schools: Out of Cash in 30 Days, Cooking the Books to Oblivion:Rauner Ponders Bankruptcy; Emanuel Out to Destroy Middle Class

Posted: 20 Apr 2015 02:38 AM PDT

Bad news on Chicago is deep and broad:

The Chicago Public School System has a $1.1 Billion Budget Hole in $5.9 Billion Budget
A $228 to $263 million derivative time bomb just triggered on the Chicago Board of Education
Chicago Public Schools may be out of cash in 30 days
Corruption investigations plague the school board
Chicago booted Moody's as a bond rater
Roadblocks impair pension reforms by the Illinois legislature
Rauner issued a statement he will not bail out Chicago on the backs of Illinois taxpayers
Chicago teachers threaten strikes demanding more money that isn't there

Let's investigate those ideas starting with the bond rating cuts that triggered the derivatives time bomb.

Bond Rating Cuts

On March 9, Moody's dropped Chicago School bonds two notches to Baa3, that last rank above Junk.

Chicago responded by dumping Moody's in favor of little-known rating agency Kroll, essentially shopping around for better results.

This is the way the system works. Ratings agencies lose business if they do not rate bonds high enough.

On March 20, Fitch downgraded Chicago Board of Education Rating to BBB-, also one step above junk.

Synthetic Swaps

Chicago is involved in ill-advised synthetic fixed-rate interest swaps that have a negative value of $228 million according to Moody's and negative $263 million according to Fitch.

As part of the swap agreement, a forced termination event triggers when rating agencies lower the district's General Obligation bonds to below the mid-triple B level. That happened with Fitch's downgrade.

Swap Termination Triggers

The Bond Buyer reports Chicago Schools Face Swap Termination Events.

Under a termination event, the board would be required to pay any negative valuation on the swap, according to its offering statement. Fitch reported a more current negative valuation of $263 million and raised concerns over the district's ability to cover the payments, given its lean cash reserves on hand.

"Fitch believes the district will have to either renegotiate the terms of the swaps with the counterparties or bond for the funds, as cash balances appear inadequate to cover both termination payments and operations," the report said.

Chicago Public Schools Broke

The Chicago Sun Times commented on the CBOE's fiscal state in CPS' $228 Million Time Bomb.

Even as it confronts a federal investigation that's embroiled its chief executive, Chicago's public school system is facing the prospect of having to make payments to four financial institutions that would largely wipe out its cash reserves.

And they could demand those payments with just 48 hours' notice, records examined by the Chicago Sun-Times show.

That possibility was triggered by the school system being hit with a dramatic downgrade in its credit rating last month.

As a result, the financial institutions can end the deals and demand termination payments within "two business days following notice of the amount payable," the Chicago Board of Education said in a regulatory filing Friday.

If the investment banks decide to terminate the deals, the district "currently has" enough money to pay the termination fees, but the payments would leave CPS virtually broke, records show. They would eat up more than the $227 million projected to be left in the school system's main reserve fund after this school year.

CPS has another $174 million in a "debt-stabilization fund." But without specifying how long that money would last, school officials warned they are on the verge of tapping out their reserves.

"No assurance can be given . . . regarding the board's future liquidity position," school officials said in the filing with regulators.

Chicago School Chief On Leave Amid Federal Probe

The Chicago Tribune reports CPS Chief Barbara Byrd-Bennett on Leave Amid Federal Probe

Chicago Public Schools chief Barbara Byrd-Bennett is taking a paid leave of absence in the face of a federal investigation that subpoenas show is taking a broad approach in its search for information about the district's decision to award a $20.5 million no-bid contract.

Among CPS employees called to appear before a grand jury is James Bebley, the school board's general counsel. Also receiving grand jury subpoenas were Byrd-Bennett's chief of staff, Sherry Ulery, and Rosemary Herpel, a district employee who worked with Byrd-Bennett during her earlier leadership stints in Cleveland and Detroit.

Chicago Public School $1.1 Billion Budget Hole

Tribune writer Eric Zorn discusses the CPS Budget Hole of $1.1 Billion

I ran into Ald. Bob Fioretti, 2nd, at the Hideout on Friday evening and asked him if — come on, honestly, now that his campaign for mayor is over — he had workable, realistic solutions to the financial problems the next mayor of Chicago will confront.

He said, he had no idea how to address the estimated $1.1 billion budget deficit facing the Chicago Public Schools. That problem, he said, kept him lying awake at night.

CPS is out of tricks. For years the system has been relying on a variety of, um, strategies to make it appear that its budget is balanced, as required by law. Pension holidays. Spending down cash reserves. The fiscal 2015 budget incorporated two months of property tax revenue from fiscal 2016, if you can top that.

A property tax increase isn't the answer. The maximum allowable hike under state-imposed caps will only boost the bottom line by $50 million, according to CPS.

Cooking the Books to Oblivion

Got that? Chicago is $1.1 billion in the hole, on a total budget of about $5.9 billion even though it kited two months of property taxes from the fiscal 2016 budget to help balance the budget!

What's next? Four months of kiting? Six?

This isn't legal, and here's another thing that isn't: floating tax-exempt municipal bonds to meet current operating expenses. Chicago did that as well.

And it's not like this is a one-time surprise either. On July 24, 2013, Crain's Chicago Business reported Chicago Schools to Burn reserves to Fill $1 Billion Budget Hole.

Summer 2015 Strike?

The school district faces a pension payment in 2016 of about $700 million. Where is that going to come from?

While pondering that question, please note the Chicago teachers unions want more money, and the contract will expire June 30, 2015.

In May of last year, and in reference to this year's mayoral election the Chicago Teachers Union Chief, Karen Lewis all but promised a strike.

Chicago Teachers Union President Karen Lewis today declared in unmistakable terms that the union will forgo the fourth, optional year of a pact negotiated to end the 2012 strike. That means the current contract will expire on June 30, 2015.

Chicago Teachers Union President Karen Lewis today declared in unmistakable terms that the union will forgo the fourth, optional year of a pact negotiated to end the 2012 strike. That means the current contract will expire on June 30, 2015.

"I'm not looking to make anyone's election easy," Ms. Lewis added in a thinly veiled shot at Mayor Rahm Emanuel. "Particularly," she added, "someone who hasn't made our life easier."

The problem, Ms. Lewis said, is that, instead of asking the 1 percent to pay their fair share, Mr. Emanuel is allied with the rich, even though they're bent on "destroying our city like a swarm of Gucci-winged locusts."

Chicago Pensions $20 Billion in the Hole

It's not just the school district in trouble. The Wall Street Journal reports on Chicago's Multibillion-Dollar Pension-Funding Shortfall.

Four pension funds in the nation's third-largest city are facing a combined funding gap of about $20 billion after years of underfunding and market losses during the recession. In comparison, Chicago has a $3.5 billion annual budget for general operating expenses.

The situation is an example of how municipalities across the country still are struggling to fill gaps in their pensions, which sustained losses on investments during the financial crisis. The troubles are prompting investors to avoid debt from municipalities with large pension-funding gaps, like New Jersey, fearing officials would have to choose between promises made to bondholders and employees.

The pension gap in Chicago has some analysts warning the city could in a decade or more face the same fate as Detroit, which also had pension shortfalls before it filed for bankruptcy protection in 2013. Although Chicago's economy is more robust, some investors said Chicago needs to address its pension situation.

"Chicago is Detroit 10 to 15 years from now, if they do not deal seriously with this pension problem," said Tom Metzold, senior municipal portfolio adviser at Eaton Vance Management, with $28.3 billion of assets under management. Mr. Metzold said his firm has "virtually no holdings" in Chicago debt.

Legislative Roadblocks

Illinois desperately needs pension reform, but a Legislative Roadblock is in the way.

Ill. Gov. Bruce Rauner's proposed $2.2 billion pension reform plan needs a thorough review to determine its long-term impact and whether it runs afoul of federal rules ahead of a legislative vote, two Illinois lawmakers said.

State Rep. Elaine Nekritz, D-Northbrook, and state Sen. Daniel Biss, D-Evanston are sponsoring resolutions that seek a detailed analysis from the pension funds on the potential impact of the proposals and a federal review of their legality.

The two are considered Democratic point persons on pensions in the General Assembly. They helped craft past reform proposals aimed at stabilizing a system saddled with $111 billion of unfunded obligations and a funded ratio of just 39%.

"We need to make decisions on pension reform based on core principles of mathematics, law, and basic fairness," Biss said. "It is unjust to these employees and dangerous for the state to do anything less."

I am wondering what planet Nekritz is on. Since when does any state get a federal review of state pension promises, except in a federal bankruptcy court?

Besides, Illinois does not have time, even if it was possible.

And speaking of "dangerous" what does one call 39% funding of state pensions?

Bond Perusal

On Sunday, I decided to take a look at trade data on EMMA, the Electronic Municipal Market Access site.

Here are four transactions from the first page.

click on chart for sharper image

I did not investigate those deals. Rather, I simply want to point out that A-rated Chicago munis yield as much as 7%. That is in the neighborhood of 300 basis points (3 percentage points) over comparable offerings in other states.

The CBOE is floating two more issues this week, about $89 million or so, each. It will be interesting to see what yield the school district has to pay.

Junk Bonds

Please note that Investors Crazy for High Yield Bonds.

Since general obligation bonds are backed by taxing authority, and since those bonds are A-rated, the Chicago yields are notable given the average junk bond yield is about 6.1%.

Other factors are in play, but the huge penalty Chicago has to pay stands out from more than one angle.

Emanuel a Huge Part of the Problem

The mayor is a huge part of the problem. Emanuel scoffed at Rauner's Suggestion that CPS Consider Bankruptcy, and he also nixed right-to-work.

The mayor was responding to comments Rauner made Tuesday in an interview with Ariel Investments President Mellody Hobson.

"I'm concerned that the Chicago Public Schools could end up needing to go bankrupt," Rauner added.

"That's very possible. We have a mess —" he added, before Hobson cut him off, asking what a CPS bankruptcy would mean. "That they would just have to restructure its debts and its contracts," Rauner said.

Emanuel's dismissal of the CPS bankruptcy idea came on a day that he and Rauner traded some familiar chest-thumping financial rhetoric.

The mayor called for the council to hold hearings and pass a resolution opposing the "right-to-work" zones proposed by Rauner, calling the governor's proposal "a race to the bottom." In right-to-work zones, workers can choose not to join unions or pay related dues in workplaces that have been organized by labor. While the resolution would only be symbolic, it would put aldermen and the mayor on record as firmly against a key piece of Rauner's economic platform.

Prevailing Wages

The right-to-work law is only symbolic because of inane Illinois prevailing wage laws. Together, the current setup 100% guarantees that every project is bid and paid at the highest rate possible. Examples: Road work, school construction and repair.

Prevailing wages laws are also a part of the pension problem given higher salaries and wages contribute to higher pensions.

Emanuel Out to Destroy Middle Class;

"Our goal is to build up the middle class, not to pull a rug from underneath them. Our competition is not Mississippi, Alabama and Kentucky wages. I want to be clear that as long as I'm mayor, Chicago will not be a right-to-work city," Emanuel said.

For starters, Emanuel is making a promise that is not his to make. The legislature could (and should) make that choice for the entire state.

Moreover, overpaying for services and taxing everyone to death to pay for untenable pension promises is precisely the way to destroy the middle class, not save it.

Emanuel is clearly not interested in doing what is best for Chicago. Instead, he is bowing down to the unions even though it's clear the president of the teacher's union can't stand him.

Sensible Statement From Rauner

"The taxpayers of Illinois are not going to bail out the city of Chicago, that ain't happenin'," Rauner said, returning to a note he has hit in recent months. "But there are things we can do to help them restructure and get their government and their schools turned around, and I'd like to help them."

Rauner has the right idea on taxes, on bankruptcy, and on a bailout of Chicago.

Not a penny of taxpayer money should go to fund a lost cause. I find it hard to believe that Emanuel himself does not know the school system is truly bankrupt.

When you are bankrupt, the only sensible thing to do is admit it.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot

Economy News

20.4.15

Mish's Global Economic Trend Analysis

Mish's Global Economic Trend Analysis

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