Should the Federal Government Award Bankruptcy Rights to States?

The last time a state went bankrupt was 1933 when at the peak of the Great Depression, Arkansas defaulted on its debts with the federal government. Today, almost a dozen states are in serious financial trouble, the state of Illinois with its $212.8 billion in debt being the frontrunner. While federal laws say a state government cannot declare bankruptcy, many economic and legal experts think it a wise move to allow states to do so. They believe a well-planned bankruptcy would be a much more efficient and beneficial solution than a bailout by taxpayers or the federal government. The dozen or so states with big budget issues and poorly funded pension problems would be able to get ahead of the problem with federal bankruptcy protection, but until such legislation is proposed and passed, states like Illinois are out of luck.

Illinois is now the only state to have operated with an unbalanced and incomplete budget for over 700 days. The state, with its Republican governor and Democrat-dominated legislature, is perpetually locked in series of budget failures in a race to the bottom. Earlier this month, major conflict again arose as Gov. Bruce Rauner threatened to veto a $7 billion revenue shortfall passed by the Illinois House. Governor Rauner, elected three years ago on a platform of running the government like a business, is beginning to be very flustered with a lack of movement from the state, internal fighting, and disagreement plaguing any movement on budget issues. He has related the state finances to a banana republic many times, saying they simply cannot manage their money.

The idea of any state going bankrupt, not just Illinois, comes with both positives and negatives. While it saves the people from having to bail out their own state, those same people who are on pension plans from the state could go years without seeing their money as the government tries to get back on their feet. Bond holders would also be stuck in a tough spot if their state went bankrupt. While their money would eventually come back to them, it could come back as mere cents on the dollar or even as new obligations, as it did to those in Arkansas in 1933. For state officials, it seems like an obvious choice that the federal government bails them out, but the root of the issue runs deeper than that. For a state like Illinois, their $212.8 billion in debt could disappear, or at least be refinanced, but its state constitution prohibits reductions in pension payments. So with the state rebuilding its own economy, there would be no money remaining to pay those former employees, let alone at their full pension. 

While states like Texas and Illinois may be economically challenged, the possibility of filing for bankruptcy is beginning to look like a better and better option. Unfortunately for them, the federal government has no regulations in place that allow for a state government to file for bankruptcy. While the idea seems good in theory, the states basically just getting a fresh start, there are many more hidden negatives that could severely impact those on pension plans and those given state health insurance. Either way, it doesn't look like any states will be going bankrupt anytime soon. But until a solution is implemented, that $212.8 billion in Illinois debt is just going to continue to grow.