States of Bankruptcy

Abstract

In the past several years, many states’ financial condition has been so precarious that some observers have predicted that one or more might default. As the crisis persisted, a very unlikely word crept into these conversations: bankruptcy. Should Congress provide a bankruptcy option for states, or would bankruptcy be a mistake? The goal of this Article is to carefully vet this question, using all of the theoretical, empirical and historical tools currently available. The discussion is structured as a “case” for bankruptcy, rather than an “on the one hand, on the other hand” assessment. But it seeks to be scrupulously fair, and reaches several conclusions that veterans of the public and scholarly debate may find surprising.

The Article proceeds as follows. Part I briefly develops the theoretical basis for state bankruptcy. In Part II, I explore each of six key benefits of a state bankruptcy regime. I then turn in Part III to six principal objections, considering each in detail. After analyzing the response to New York City’s 1975 crisis and a number of states’ enactment of municipal oversight boards, Part IV focuses on the possibility of an analogous, federal oversight alternative to a more general bankruptcy statute. Although bankruptcy seems superior overall, the oversight strategy would offer some of the same benefits if Congress failed to enact a bankruptcy law before a state crisis materialized.

Keywords: Framework for bankruptcy provisions for the states, reorganization, state government debt, bonds, markets, legislation

JEL Classification: H74, K39