Stockton, California, is a city of just 300,000, but it has the power to set a nation-wide precedent in the next few months. Like so many cities in California, Stockton is being smothered by debt, but how it proceeds has all eyes set on this West Coast town. At the center of the debate is the CalPERS (California Public Employees' Retirement System), to which Stockton owes $900 million. On Monday a Judge formally granted Chapter 9 protection for the city, but creditors are not going down without a fight [sign up for a free account for exclusive municipal bonds information and analysis].
Federal vs. State
A debate as old as the Constitution itself involves a discrepancy between state and federal statutes. Stockton is bound by state pension obligations, but the result of this case will decide whether or not the 10th Amendment, granting states rights, can override federal bankruptcy policy. While the outcome cannot be predicted, it is almost certain that there will be a lengthy appeal process to determine if the right call was made in the first place.
Many are fixated on this instance, because its outcome will likely dictate how trials of similar cities will end all across the country.
CalPERS in the Crosshairs
CalPERS is the largest financial obligation of the city, and the state of California is on the edge of their seats for the ruling on the system. If Stockton is allowed to only partially pay out their CalPERS obligations, every city in California will want to do the same. Likewise, many feel that if the CalPERS institution is threatened, it could trigger a bank run adding to the drama. "Either the judge will decide that CalPERS obligations must be cut and the state will appeal, or he will say state law forbids CalPERS from negotiating and the creditors likely will appeal" writes Tracie Cone.
It is also important to note that Stockton has made various efforts to try and curtail its debt. The city has slashed employment, renegotiated labor contracts, cut health benefits, halved recreation funding, and scaled back the local police department to only be allowed to respond to emergencies in progress. The city has one of the worst crime rates in the U.S. Stockton has made good on pension payments thus far because it believes that it needs workers to feel that their retirement is safe in order to encourage further employment.
No matter how this case turns out, key implications will be set for the rest of the nation, keeping this small town on the radar for muni analysts and traders everywhere.
