California is facing default. The fiscal year for 46 states closed on June 30. More and more states are running into trouble. They are slashing budgets by cutting jobs and services. Even shortening jail time! How did they get into trouble? Most will agree that it’s-the-economy-stupid, but is there more to it than that?
According to the NASBO (National Association of State Budget Officers) tax revenues are down 6.6% for individuals and 15.2% for corporations. But does this account for the entire shortfall?
State and local governments have a balance sheet of assets and liabilities. Their liabilities are public services and the benefits and retirement plans of their employees. Their assets are tax revenues and employee contributions over time. In order for these assets to grow and cover their liabilities, this money has to be invested.
The investment world is like a circus with no exits – you can go from one ring to another but you can never leave. The “rings” are stocks, bonds, and “other,” which includes real estate. For insulation and “advice”, all of these large institutions use consultants who in turn hire investment mangers for asset allocation. They all attend the same investment conferences and they all run with the herd. When there’s a bull market in stocks, they tilt towards that. If the real estate market is hot, they’re involved there. When stock market returns were flat, they took on more risk. And when hedge fund managers became all the rage, institutional investment participation increased dramatically. Mixed into all this soup were “toxic assets” – those piles of AAA-rated garbage that supposedly insured the large players from their exposure to the imploding housing market.
Only the Elliott Wave model allows you to see social mood for what it is: individuals as a group, driving the stock market in swings between optimism and pessimism. Government entities are comprised of individuals, too. Last year, most state and municipality balance sheets were down 40%, just like everyone else. So when you hear states and municipalities whine about declining tax revenues because of unemployment and property values, that is a part of it -- but not as big a part as their market losses. Aren’t they really saying: “We lost money in the stock market. Can you bail us out, please?”
As Bob Prechter wrote in Chapter 15 of Conquer the Crash:
Don’t think that you will be safe buying bonds rated BBB or above…Many bonds that are currently rated investment grade will be downgraded to junk status and then go into default…Governments have a long record of stiffing their creditors in a crisis, and no government is immune from adopting that solution to is financial problems…Today, millions of individuals and institutions own tax-exempt municipal bonds…In the United States, defaults on municipal bonds could occur at any moment after times get difficult.
To gain a clear understanding of this, the question becomes “where are stock and bond markets headed?” Whether you’re an active trader or a long-term investor, our research can provide you with helpful insight.
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