Bankruptcy for States?

Illinois is mentioned prominently in the New York Times article on the prospects for a federal law implementing a method for states to declare bankruptcy:

Policy makers are working behind the scenes to come up with a way to let states declare bankruptcy and get out from under crushing debts, including the pensions they have promised to retired public workers.

Unlike cities, the states are barred from seeking protection in federal bankruptcy court. Any effort to change that status would have to clear high constitutional hurdles because the states are considered sovereign.

But proponents say some states are so burdened that the only feasible way out may be bankruptcy, giving Illinois, for example, the opportunity to do what General Motors did with the federal government’s aid.

without considering whether bankruptcy would actually help Illinois to resolve its problems. I strongly suspect that Illinois’s unique constitutional protections for public employee pensions would cause a bankruptcy that didn’t preserve those pensions to run afoul of the Takings Clause of the Fifth Amendment to the Constitution:

No person shall be held to answer for a capital, or otherwise infamous crime, unless on a presentment or indictment of a Grand Jury, except in cases arising in the land or naval forces, or in the Militia, when in actual service in time of War or public danger; nor shall any person be subject for the same offense to be twice put in jeopardy of life or limb; nor shall be compelled in any criminal case to be a witness against himself, nor be deprived of life, liberty, or property, without due process of law; nor shall private property be taken for public use, without just compensation.

The emphasis is mine. Any bankruptcy for Illinois that did not preserve public employee pensions would undoubtedly be challenged in the courts and the question would be whether Illinois’s constitutional provisions create a property right to those pensions.

I think they do. Public employee pensions are about a fifth of Illinois’s budget; healthcare costs, mostly mandated by the federal government, are about a third. Will an Illinois bankruptcy that preserves half of its budget accomplish much? I don’t see it. Not to mention that many of the state’s creditors are city and local governments. How does pushing the problem down to already over-burdened local governments, restrained from seeking additional revenues by state law, help?

The courts would probably mandate further increases in the state’s income taxes. I’ve already documented that solving Illinois’s fiscal problems without substantial cuts would make Illinois the most highly taxed state bar none. There’s a formula for growth. We could put it on the license plates. From “Land of Lincoln” to “Highest Taxes”.

10 comments… add one
  • Offhand, I’d think employees have a property right in their pensions even absent rent seeking in state constitutions. The expectation of retirement money was a key condition of their working all those years and thus payment in kind (or deferred compensation) rather than a mere benefit.

  • That would seem to put public employee pensions in a unique position compared to, for instance, corporate pensions. I don’t know the legality or constitutionality, and perhaps I’m missing something, but it seems a strange argument to say that monies raised from taxes cannot be subject to bankruptcy because that would be a “taking” but monies raised by individuals and businesses in a defined benefit plan are.

    I suppose the bigger worry I have in all this is that this state financial crisis is likely to further weaken the power of the states in relation to the federal government.

  • That would seem to put public employee pensions in a unique position compared to, for instance, corporate pensions.

    That’s why I mentioned Illinois’s constitutional provision. Illinois’s constitution guarantees public employee pensions. Here’s the wording:

    Membership in any pension or retirement system of the State, any unit of local government or school district, or any agency or instrumentality thereof, shall be an enforceable contractual relationship, the benefits of which shall not be diminished or impaired.

    The emphasis is mine. That’s been fully litigated. I interpret that as creating a special property right.

  • steve Link

    I think James might be mostly right, but reading the wording of the law makes me think twice. Does that mean that unions cannot negotiate away some of the benefits of their retirees as was done with the autos? Where is PD when we need a lawyer?

    Steve

  • Drew Link

    The rights of secured creditors has a rich litigation history as well, but was set aside in GM.

  • PD Shaw Link

    The bankruptcy for the states would most likely simply be adding the word “states” to the list of entities covered by Chapter 9 of the Bankruptcy Code, which covers municipal and local government. It’s worth noting that municipalities are merely subdivisions of states, so the state sovereignty issues have largely already been resolved under Chapter 9. (The one question I would have is who is empowered to waive sovereign immunity on behalf of a state; I’m inclined to think it would have to be a state law and not simply an act of an executive)

    I do not believe that under Chapter 9, the courts can order a tax increase or order the sale of assets, they generally just affirm a workout where debts are adjusted or extended. This might be a way to convert defined benefits pensions to defined contribution pensions.

  • PD Shaw Link

    I still think the soft underbelly of Illinois Constitiutional provision lies in the distinction between rights and remedies. One can have a right, but if the remedy does not exist or is inefficient, the right is hollowed out. There are a number of provisions in the Illinois Constitution which create rights that are for the most part unenforceable. Two that come to mind are the right to a healthful environment and a right for the state to contributate to a majority of school funding.

  • I strongly suspect that Illinois’s unique constitutional protections for public employee pensions would cause a bankruptcy that didn’t preserve those pensions to run afoul of the Takings Clause of the Fifth Amendment to the Constitution:

    […]

    nor shall private property be taken for public use, without just compensation.

    Kelo

    And so what if it runs afoul of the Constitution, it is a meaningless document these days anyways.

    Now, does anyone think Ricky Gervais went too far in his Golden Globes performance?

  • RW Rogers Link

    WRT the Illinois constitutional provisions, IIRC, California has similar verbiage within its own constitution. I wonder just how many other states do as well.

    WRT James Joyners earlier comment:

    The expectation of retirement money was a key condition of their working all those years and thus payment in kind (or deferred compensation) rather than a mere benefit.

    The same can be said of the employees of Bethelehem Steel, United Airlines, Arthur Anderson, Enron, and a host of other companies big and small. They didn’t have the ability to gain special rights for themselves under cover of constitutional reform, however.

  • RW Rogers Link

    And so what if it runs afoul of the Constitution, it is a meaningless document these days anyways.

    So it would appear, and has probably been for most of my lifetime, despite repeated efforts to portray it as living or, failing that, relevant.

    Now, does anyone think Ricky Gervais went too far in his Golden Globes performance?

    Don’t know. Didn’t watch. Don’t really care, but I did run across an article in a Brit newspaper that hit some of the highlights and didn’t find any of it disturbing. Then again, my ox wasn’t being gored. 😉

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