What do state and local governments in the United States have in common with the Big Three US auto manufacturers? First, both had/have too many workers that are compensated at levels that make them unable to produce goods and services in a cost efficient way. And second, both are plagued by long standing labor and management practices that have not adapted to today’s economic environment.
We all know that to finally reduce the bulk of its onerous labor costs, two of the three major US auto makers stumbled into bankruptcy in 2009, wiping out shareholders, badly hurting bond holders, and restructuring decades-old labor expectations. America’s state and local governments could be headed toward the same debt ridden, labor bloated cliff that the auto companies faced just a few months ago.
That possibility, though not necessarily immediate, is one of the primary reasons we continue to own very little municipal debt in taxable accounts. We believe that the bond market has not adequately priced in the risk of an actual municipal bankruptcy. Until we see municipal yields more accurately reflect the difficult fiscal crises many states and municipalities face over the next eighteen months to two years, we will stay away from debt issued by cash starved state and local government entities.
We are now well aware of the record deficits states and municipalities around the country face. Some state governments have sold off public assets to cover current expenses. While this may be a short term fix, it is somewhat analogous to individuals selling their homes to pay for their profligate lifestyle of the past ten years: not a prudent long term move.
Much of the state and municipal fiscal crisis has been exacerbated by the current difficult economic environment. But the reality of the situation is of more concern: like the auto companies, labor costs have grown too high. As of January of this year 22,500,000 individuals in the US were employed in the public sector, working for some federal, state or local government agency. This is double the number of manufacturing workers in this country! And while the private sector has lost approximately 8,000,000 jobs during this recession, government employment at all levels has barely budged. As the graph below indicates, employment in the public sector is down by fewer than 500,000 jobs.
While the total number of public employees is cause for concern, compensation per employee is even more alarming. For example, in 2008 federal workers’ salaries averaged $79,197 compared to the private sector average of $49,935. This gap has more than doubled since 2000. According to the Boston Globe’s article “Myth of the Underpaid Public Employee” this gap is even more troublesome if we add benefits into the equation: total compensation in the federal public sector averages $119,982 verses $59,908 in the private employment world—the public sector more than double the private! One could argue that job security in the public sector is significantly greater than that in private business. Studies also show that most private sector workers should expect to be unemployed at least once in their careers due to layoffs or downsizing. Given the apparent job security in the public versus the private sector, one could argue that the wage disparity is even more unreasonable.
As states and municipalities wrestle with growing deficits, we hope they also wrestle with an honest appraisal of where they can manage expenses more effectively. Until they do, or until the market pays us enough in the way of higher tax free interest rates to compensate for the risk we see, we will avoid most municipal bonds for the time being.
Muni Bonds – The Unthinkable?
What do state and local governments in the United States have in common with the Big Three US auto manufacturers? First, both had/have too many workers that are compensated at levels that make them unable to produce goods and services in a cost efficient way. And second, both are plagued by long standing labor and management practices that have not adapted to today’s economic environment.
We all know that to finally reduce the bulk of its onerous labor costs, two of the three major US auto makers stumbled into bankruptcy in 2009, wiping out shareholders, badly hurting bond holders, and restructuring decades-old labor expectations. America’s state and local governments could be headed toward the same debt ridden, labor bloated cliff that the auto companies faced just a few months ago.
That possibility, though not necessarily immediate, is one of the primary reasons we continue to own very little municipal debt in taxable accounts. We believe that the bond market has not adequately priced in the risk of an actual municipal bankruptcy. Until we see municipal yields more accurately reflect the difficult fiscal crises many states and municipalities face over the next eighteen months to two years, we will stay away from debt issued by cash starved state and local government entities.
We are now well aware of the record deficits states and municipalities around the country face. Some state governments have sold off public assets to cover current expenses. While this may be a short term fix, it is somewhat analogous to individuals selling their homes to pay for their profligate lifestyle of the past ten years: not a prudent long term move.
Much of the state and municipal fiscal crisis has been exacerbated by the current difficult economic environment. But the reality of the situation is of more concern: like the auto companies, labor costs have grown too high. As of January of this year 22,500,000 individuals in the US were employed in the public sector, working for some federal, state or local government agency. This is double the number of manufacturing workers in this country! And while the private sector has lost approximately 8,000,000 jobs during this recession, government employment at all levels has barely budged. As the graph below indicates, employment in the public sector is down by fewer than 500,000 jobs.
While the total number of public employees is cause for concern, compensation per employee is even more alarming. For example, in 2008 federal workers’ salaries averaged $79,197 compared to the private sector average of $49,935. This gap has more than doubled since 2000. According to the Boston Globe’s article “Myth of the Underpaid Public Employee” this gap is even more troublesome if we add benefits into the equation: total compensation in the federal public sector averages $119,982 verses $59,908 in the private employment world—the public sector more than double the private! One could argue that job security in the public sector is significantly greater than that in private business. Studies also show that most private sector workers should expect to be unemployed at least once in their careers due to layoffs or downsizing. Given the apparent job security in the public versus the private sector, one could argue that the wage disparity is even more unreasonable.
As states and municipalities wrestle with growing deficits, we hope they also wrestle with an honest appraisal of where they can manage expenses more effectively. Until they do, or until the market pays us enough in the way of higher tax free interest rates to compensate for the risk we see, we will avoid most municipal bonds for the time being.
Scott Schermerhorn