Growing Epidemic of Failed Municipalities and Struggling Reveals an Ugly Truth

The growing epidemic of failing municipalities and struggling states across the U.S. economy reveals an ugly truth. Cities cannot keep up with their budget deficits and are failing at a staggering rate.

Who are going to be the ultimate victims of these budget deficits and uncontrollable municipal and state government spending? The answer: the pension for public employees and the retirees in the U.S. economy.

Pension funds are emptier than ever, according to Milliman Inc., one of the world’s largest actuarial firms. Milliman says there are unfunded liabilities of $1.2 trillion in the 100 largest pension funds in the U.S. economy—that’s $300 billion higher than previously estimated. (Source: Chicago Tribune, October 15, 2012.)

Yes, $1.2 trillion is certainly a huge number; but the number could be much larger than that if you look at it from my point of view. Many pension funds are basing their calculations on an annual rate of return of eight percent. I really don’t have to go into detail about how, in this low-rate environment when equity markets have gone into a big slump and the yields on government debt are next to nothing, an eight-percent rate of return is far-fetched—and five percent, in my opinion, is still too optimistic.

On the other side, as cities and states across the U.S. economy are facing budget deficits, they are using desperate measures to recover. Cities and states are reducing or completely removing the health-care coverage of retirees. For other public employees, they are cutting coverage of family members or increasing the eligibility age. (Source: Reuters, October 15, 2012).

Since 2009, 45 states have cut back on the health benefits of their police, teachers, firefighters, and other public workers. (Source: Wall Street Journal, September 21, 2012) More of these types of cuts will soon follow, as the budget deficits of cities and states in the U.S. economy continue to increase.

Be careful, dear reader; this is a huge problem in our struggling economy. The U.S. economy has been severely hurt, and we continue to suffer. The budget deficits created by the local and state governments will eventually trickle higher to the federal level. The result of it will simply be more money printing to pay for the liabilities.

The situation with struggling U.S. cities and municipalities is strikingly similar to what happened in Greece. The government there created a huge budget deficit and eventually couldn’t pay its suppliers. Now Greece needs more funds and more austerity measures, and the pension payouts of retirees are one of the main targets.

Where the Market Stands; Where it’s Headed:

On Friday, the Dow Jones Industrial Average fell 1.52%. One popular financial news site ran this headline across their web page: “U.S. stocks hammered on earnings news.”

I’ve been warning my readers for weeks that third-quarter earnings will surprise on the downside. That’s exactly what is happening now. Caterpillar Inc. (NYSE/CAT) announced this morning that its profit for 2012 will be between five percent and six percent below its previous estimates. This is characteristic of many large companies right now: they are pulling back on their earnings projections.

The focus is clearly off of the market’s “win” of getting the Fed to announce the third round of quantitative easing (QE3). Now the focus is back on the earnings of the companies that trade in the market. The reality that corporate earnings and the economy are slowing rapidly is settling in. A drop of 1.52% in one day for the stock market? Investors had better get used to it.

What He Said:

“Bonds could now be a buy: Bonds rise in price when interest rates fall, as their return makes them more valuable. After a bear market in bonds that has lasted for months, the action in the bond market, as I read it, indicates the bear market in bonds could be over. I’ve always preferred quality when buying bonds, going with government bonds over corporate bonds. If you have some cash lying around, bonds could be a great deal.” Michael Lombardi in Profit Confidential, July 24, 2006. The yield on 10-year U.S. Treasuries fell from five percent in the summer of 2006 to 2.4% in October 2011—doubling the price of the bonds Michael recommended.