Saturday, October 15, 2011

Not a Typical Municipal Bankruptcy

Harrisburg, the state capital of Pennsylvania, is in bankruptcy. It is perhaps not the city you would expect to lead the new wave of U.S. municipal bankruptcies, but creditors took a tough negotiating position against Harrisburg. They worried, perhaps, that showing a willingness to make even the slightest concession could set the wrong precedent. But as with an individual or business in financial distress, any single large creditor that insists on preferential treatment can force a bankruptcy filing, and that is what appears to have happened in Harrisburg. The court can then step in to ensure that the other creditors are treated fairly, which is the whole idea of bankruptcy.

What makes this case more sensational is that the state legislature got involved, passing a law a few weeks ago that appeared to be intended to favor some of the city’s creditors, those with ties to the governor’s office, over others. The state and mayor have filed motions opposing the bankruptcy, moves that lend more credence to the allegations of corruption in the state legislature. The court will start to sort all this out Monday morning. Realistically, though, regardless of legal theories or legislative creativity, the state cannot prevent a city that is insolvent from having some kind of orderly process for sorting out its obligations; if the bankruptcy court can be bypassed, a substitute administrative process will have to be put in place to do the same thing.

Harrisburg’s financial problems resemble those of a business bankruptcy, with an investment, in this case for an incinerator, that ran into difficulties at the same time that revenue was declining. A city has advantages in bankruptcy that businesses do not have, however. The court is not likely to auction off city hall the way the headquarters and other core assets of a business might be sold off to pay business debts.

If Harrisburg gets through bankruptcy with its public assets relatively intact, it may set a pattern for other municipal bankruptcies across the United States over the next five to ten years — exactly the precedent that the creditors were trying to avoid.