Detroit’s Bankruptcy Bad News? Not Until You See Who’s Next

 budget deficitDetroit, once the emblem of the growing U.S. economy, had no other options than to file for bankruptcy. Other cities in California, and cities like Jefferson County, Alabama, have done the same for very similar reasons: registering a budget deficit year-after-year as revenues declined and costs rose—especially pension costs.

Municipal bond investors are crushed when cities file for bankruptcy. But that’s old news. Unfortunately, there could be many more bankruptcy situations at the city and municipal level going forward.

Cities across the U.S. economy are experiencing rising budget deficits, and contrary to popular belief, it’s not just smaller cities; major cities are in the same situation. In fact, two major American cities are in big fiscal trouble.

Chicago, the “Windy City,” is expected to incur a budget deficit of $338.7 million next year. By 2015, this budget deficit will increase to $1.0 billion, moving up to $1.15 billion by 2016. The city is in deep trouble as pension liabilities are soaring—police and fire pensions are in a cash crunch. (Source: Chicago Sun Times, August 1, 2013.) The city has received credit rating cuts and warnings from credit rating agencies. It owes billions of dollars to its suppliers and it can’t pay them.

Baltimore is in a similar situation. In February of this year, the city’s long-term budget deficit was projected to be $750 million. In a desperate attempt to fix the issue at hand—to reduce the budget deficit—the city cut about 2,200 dependants from the health insurance plan it provides to its employees. (Source: Baltimore Sun, August 2, 2013.)

When a city is faced with a budget deficit, it usually has to go out and borrow money by issuing municipal bonds; often, the interest rates on those municipal bonds, if they are not insured, need to be bumped higher to attract risk investors.

Rising budget deficits and too much borrowing are a huge burden. We saw what happened in Detroit. Even more problematic, we even saw, not too long ago, what happened to investors who bought Scranton, Pennsylvania’s municipal bonds: the city defaulted on its payments.

In the first six months of this year (January to June), more than $176 billion worth of municipal bonds were issued. (Source: Securities Industry and Financial Markets Association web site, last accessed August 5, 2013.) It is foolish to think investors won’t see some problems with some of these bonds.

Going forward, I will not be surprised to see more cities succumb to the pressures of a negative budget deficit. Chicago and Baltimore are only two cities to keep an eye on.

I am watching how the federal government reacts to cities going bankrupt. Will the government let them or will it bail out the cities with staggering budget deficits? If it follows the latter scenario, the Federal Reserve will have to go on printing money for a long, long time.

Michael’s Personal Notes:

Our in-house gold guru, Robert Appel, BA, BBL, LLB, issued an e-mail alert a few days ago, which I’d like to share with my Profit Confidential family of readers:

“We wish to thank those readers who have commented that our publication has evolved into one of the most informative gold letters they have found. In fact, that was not our original intention.

The rise of gold in an era of unprecedented fiat money printing; massive deficits; loss of manufacturing; stubborn unemployment; diminishing quality of available jobs; un-natural relationships between bankers and politicians; contagion into all developed western nations (including Japan!); the state becoming the final purchaser of its own debt in plain sight—all these events in the normal course should NATURALLY cause gold to rise to a higher level, and bring the mines with it.

What level? For about a century, an ounce of gold purchased one Saville Row suit. Today the cheapest such suit is $3,000 and gold is ‘market priced’ below half that number. Keep this information in mind the next time someone tries to tell you that gold is overpriced.

All the above should have taken place naturally and easily. Our original intention was to have gold be merely one investment option of many. However, as we began to grasp the magnitude and horror and brazen-ness of the state’s intervention in allegedly free markets, the focus of the letter shifted. Our position now is that the excessive force used by the state to stifle these markets will result in an equal and opposite effect over time.

What is happening right now?

For several sessions gold bullion has been struggling in a narrow range between approximately 1290 and 1330 [dollars per ounce]. Similarly the mines have been hanging on for dear life in the area above gap support.

This is called ‘Tension on the Tape’ and shows a major struggle between buyers and sellers. These struggles always break one way or the other. Our view is that, if the break is up, it will scare the shorts and the market will turn bullish. If the break is down, the new short-term damage will need time to heal. Look to post-Labor Day for the next trend change.

Mainstream media will tell you that the gold market is reacting to news (jobs, GDP, etc.). Nonsense. These news reports are used as an excuse to explain the always-strange action in the gold pits. The real explanation—and one that historians of the future will acknowledge when they look back—is the gold wars.”

We’ve arranged for readers of Profit Confidential to get a free issue of the advisory Robert is talking about above. Just click here to see the current issue of Profit Taker. If you like what you see and would like to become a subscriber, just call our customer service department at 1-866-744-3579 between 9 a.m. and 5 p.m. EST.