BHI offers testimony on debt restructuring bill before Senate committee

At the request of Chairman Mark Montigny, the Beacon Hill Institute at Suffolk University offered testimony on "An act relative to debt restructuring," this morning at 11:30 a.m. in Room A-1 of the State House in Boston.

Good afternoon, I am Paul Bachman and I am the Director of Research at the Beacon Hill Institute at Suffolk University. I would like to thank the members of the Senate Committee on Bonding, Capital Expenditure and State Assets for opportunity to testify today and, in particular, Sen. Mark Montigny, chairman.

House Bill No. 4617 would authorize the state treasurer to restructure some $573.7 million dollars in state bonds. Given the current budget problems facing the legislature, restructuring is an attractive option. While the restructuring may serve the best interest of the Commonwealth in the current fiscal year, the state's outstanding debt obligations could become problematic in the medium and long term, particularly in light of the state's current high debt burden relative to other states.

Massachusetts Current Debt Burden

Massachusetts carries one of the highest government debt burdens of all 50 states. The Patrick administration's "FY 2010 Capital Budget & Investment Plan" includes a debt affordability analysis. The report section titled "Existing Debt Burden" cites a 2007 U.S. Census Bureau study that ranked Massachusetts third in the nation in outstanding debt and first in the nation in debt per capita. The report also cites numerous debt measurements by Moody's Investor Services and Standards & Poor's that ranks Massachusetts first in tax-supported debt per capita; second in net tax-supported debt as a percentage of personal income; fourth in total net tax-supported debt and fifth in total gross tax-supported debt.

The A&F report attempts to mitigate these sobering statistics by noting that these figures include certain debt issued by entities other than the Commonwealth for which the Commonwealth is not liable such as the Massachusetts School Building Authority (MSBA). The report also notes that the numbers exclude local debt, which can be substantial in other states that have "stronger county governments and other political subdivisions that issue debt to finance capital improvements." The report observes that "it is safe to assume that Massachusetts would likely rank lower when measuring debt as a percentage of personal income or per capita if both state and local debt were taken into account."

Unfortunately, the numbers do not support this safe assumption. The Beacon Hill Institute used U.S. Census Bureau data for FY 2007 to compare the debt burden of Massachusetts to other states using data for both state and local government. At $89.6 billion in FY 2007, Massachusetts state and local debt represented 28% of state personal income compared to an average of 20% for all states. Massachusetts ranked third, behind Alaska at 35.6% and New York at 28.4%. This outstanding debt represents $13,792 per capita, nearly double the $7,990 average for all states, putting us in second place, again behind Alaska.

The A & F report is technically correct that the Commonwealth is not liable for a portion of the debt, which is issued by entities, such as the $4.6 billion in MSBA debt. In fact, the newly created Massachusetts Department of Transportation holds a large portion of this debt, including debt from the MBTA and Massachusetts Transportation Authority. Moreover, the MBTA debt of $6.2 billion for FY 2009 is no longer subject to the statutory bond cap.

However, it is naive to suggest that the state would not ultimately bear at least partial responsibility for the debts of the MSBA or other agencies in the event of a change in status. I am reminded of the Special Investment Vehicles, or SIVs used by banks to remove risky assets from their balance sheets, which eventually wound up back on the balance sheets of many banks. More recently, European Union member states joined the International Monetary Fund to bailout Greece in spite of the fact that Germany and other European states were not liable for this debt.

Thus, I do not think we can rest comfortably with the notion that the Commonwealth is "not liable" for the debts of these entities. Moreover, I think the debt of these agencies should be included in any future debt affordability analysis.

The Beacon Hill Institute's Competitive Index includes a subindex that measures the state's bond rating against other states. The index has shown that Massachusetts consistently ranks between 22^nd and 28^th over the past five years. The Commonwealth's middle- of-the-pack bond rating doesn't impinge on the state's ability to remain competitive, that is to say to put in place policies that promote economic growth and sustain high levels of income for its citizens. Massachusetts, thanks to the strength of its high tech, finance and human resources sectors, tops our latest ranking. Nonetheless, our index does show that Massachusetts has room to improve (or stay near the top) and our bond rating is one thing we can control to some extent.

The Economic Impact

In isolation, House No. 4617 would have very little, if any impact on the state's ability to issue bonds or to the state economy. However, the bill would allow the legislature and put off unpleasant budgetary decisions in hopes that the extra time will allow the state budget deficit to shrink with a growing economy. A persistent and large budget deficit may tempt the Legislature to use debt restructuring again and again.

Bear in mind that outside factors come into play: 1) federal fiscal policy and 2) a demographic shift. FY 2012 may prove just as challenging as FY 2011 as federal stimulus money dries up and the 2001 and 2003 federal tax cuts expire. Tighter monetary policy, almost a sure thing given the very loose current policy, could also restrain economic growth.

In the longer term, the state cannot push into the future the payment of its relatively high debts indefinitely. Repeated debt restructuring could risk future downgrades to its bond rating and take place in an environment of higher interest rates in the bond market. Also, debt servicing costs would rise and begin to consume an increasing portion of state resources, inhibiting the state's ability to deliver services in the future.

Notes:
Governor Deval Patrick's Five Year Capital Investment Plan FY2010 - FY2014 "Existing Debt Burden" Administration and Finance (2009) http://www.mass.gov/bb/cap/fy2009/exec/hdebtafford_5.htm (accessed May 3, 2010).
² Massachusetts School Building Authority Annual Report 2008 – 2009 http://www.massschoolbuildings.org/uploadedFiles/Pressroom/Newsletters/2208.2009_Annual_Report.pdf (accessed May 3, 2010).
³ Massachusetts Department of Transportation, "Stakeholder Briefing," (October 2009) http://www.eot.state.ma.us/downloads/90_DayReport/briefing100609.pdf (accessed May 3, 2010).