McConnell’s State Bankruptcy Remarks Signal Growing Tension Over Federal Aid

Senate Majority Leader Mitch McConnell of Ky., speaks with reporters after the Senate approved a nearly $500 billion coronavirus aid bill, Tuesday, April 21, 2020, on Capitol Hill in Washington.

Senate Majority Leader Mitch McConnell of Ky., speaks with reporters after the Senate approved a nearly $500 billion coronavirus aid bill, Tuesday, April 21, 2020, on Capitol Hill in Washington. AP Photo/Patrick Semansky


Connecting state and local government leaders

The Senate majority leader is voicing reluctance about moving quickly to fork over more federal dollars to states as they deal with budget shocks from the coronavirus outbreak.

Senate Majority Leader Mitch McConnell provoked a backlash from governors this week when he said that some states that have seen their financial troubles compounded by the coronavirus pandemic should perhaps declare bankruptcy, as opposed to having Congress bail them out with federal aid.

But what may be more significant about McConnell’s recent comments is the skepticism he's expressed about delivering swift and flexible aid to states and localities as the public health crisis wears on. Tensions are rising between the powerful Republican Senate leader and Democrats over how far the federal government should go to assist states with their budget woes during the pandemic, and what strings should be attached to the relief funding that does flow.

McConnell’s remarks came as governors in both parties, along with others at the state and local level, are calling for hundreds of billions of dollars in additional federal relief to help cover the unplanned costs and lost tax revenues that their jurisdictions are facing due to the virus outbreak and the sharp economic slowdown it has caused.

“I would certainly be in favor of allowing states to use the bankruptcy route,” McConnell said in an interview with radio host Hugh Hewitt, during an exchange that had referenced states with high unfunded liabilities for public employee pension programs. 

“My guess is their first choice would be for the federal government to borrow money from future generations to send it down to them now so they don’t have to do that,” he added. “That’s not something I’m going to be in favor of.”

There is currently no legal pathway for state governments to restructure their debt through bankruptcy proceedings, and it’s questionable to what degree it would make sense for many—or any—states to pursue this option even if it were available to them.

Local governments can, and have, filed for Chapter 9 municipal bankruptcy in some states.

But Daniel Bussel, a law professor at the University of California, Los Angeles, explained in an email that the existing bankruptcy code does not contemplate states as debtors and providing them access to this type of remedy would require Congress to pass a new law. Bussel noted that there are also “lurking constitutional issues associated with a sovereign state seeking federal bankruptcy relief.”

Both Republican and Democratic governors were quick to dismiss the idea that bankruptcy could be a helpful tool for states under the current circumstances.

“The last thing we need in the middle of an economic crisis is to have the states all filing for bankruptcy and not being able to provide services when we need them,” Maryland Gov. Larry Hogan, who is a Republican and the current chairman of the National Governors Association, said during an online interview with Politico on Thursday.

NGA, a bipartisan organization, has urged Congress to provide an additional $500 billion to states and territories to help them with budget shortfalls that have resulted from the pandemic.

New York Gov. Andrew Cuomo, a Democrat, called state bankruptcy “one of the really dumb ideas of all time.”

“States should declare bankruptcy, that is how you should bring this economy back,” he said. “You want to see that market fall through the cellar? Let New York declare bankruptcy, let Michigan declare bankruptcy. Let Illinois declare bankruptcy, let California declare bankruptcy,” Cuomo said during a news conference. 

“You will see a collapse of this national economy,” he added. 

Many state and local leaders have argued that the relief funding federal lawmakers have provided them so far is not only inadequate in scale, but also that it is inflexible and can't be used to backfill tax revenue losses brought on by the virus-induced economic crash.

Senate Minority Leader Chuck Schumer said this week that the Trump administration has promised to give state and local governments more leeway in how they can spend federal aid that’s already been allotted, including money from a $150 billion Coronavirus Relief Fund. 

But guidance the U.S. Treasury Department released on Wednesday specifies that “revenue replacement” is not a permissible use of aid from the fund, and that this money can only go towards certain coronavirus-related expenses outlined in law and the guidance.

Treasury did take a relatively broad view of what qualifies as an eligible “necessary expenditure” with the fund—for example, public hospital costs tied to the virus are okay, but so are expenses for grant programs to help small businesses get through the crisis.  

McConnell seems reluctant to remove too many guardrails from federal aid. “We’re not ready to just send a blank check down to states and local governments to spend any way they choose to,” he told Hewitt. “We’re going to push the pause button here, because I think this whole business of additional assistance for state and local governments needs to be thoroughly evaluated,” he added.

Tom Kozlik, head of municipal strategy and credit with HilltopSecurities, has in recent weeks flagged “political risk” as a key issue to watch as negotiations play out over providing federal aid to states and local governments during the public health crisis.

“The recent statement about state bankruptcy that has been getting the most attention is not the most important takeaway from the last few days,” he wrote in a note on Thursday.

“We believe this statement was political theater,” Kozlik added. “The more important takeaway from McConnell’s recent statements is that he is in favor of delaying, or ‘pushing the pause button’ on additional state and local government relief.”

Matt Fabian, a partner and head of market and credit research at Municipal Market Analytics, offered a similar take.

“The whole thing is a bit of a non sequitur,” he said of McConnell’s bankruptcy comments. But Fabian added that the remarks are a sign, “that additional aid to the states will not be easy and may require concessions to Senate Republicans.”

A twist is that President Trump has voiced support for discussing further state and local aid during negotiations over a relief package that is expected to follow the one that passed the House on Thursday, leaving the president and McConnell potentially out of step.

One point that McConnell has emphasized though is that Republicans are not going to sign off on funding that states would be able to dump into underfunded public employee pension systems. “We’ll certainly insist that anything we’d borrow to send down to the states is not spent on solving problems that they created for themselves over the years with their pension programs,” he said.

“There’s not going to be any desire on the Republican side to bail out state pensions,” McConnell added in his interview with Hewitt.

Incidentally, McConnell’s home state of Kentucky has badly underfunded state pension plans.

The idea of funneling federal relief funds to state pensions became a lightning rod after Illinois state Senate President Don Harmon wrote last week to Sen. Dick Durbin, who represents Illinois in the U.S. Senate, saying the state could use $10 billion in federal cash or in a low-interest loan to bolster its long underfunded retirement system.

This move by Harmon drew backlash from Republicans, including GOP members of Illinois’ congressional delegation. It also helped to fuel a growing narrative among some conservatives that the additional aid that states and localities are seeking would amount to—as McConnell’s office put it in a press release on Wednesday—“Blue State Bailouts.”

Hogan, during the Politico interview, said it was “complete nonsense” to characterize state requests for federal aid as a bailout for Democratic-leaning states. “There are just as many Republicans and Democrats who strongly support this,” the GOP governor said.

In Illinois, which in recent years has had some of the nation’s most severe state financial problems, Gov. JB Pritzker said during a news conference on Wednesday that seeking bankruptcy protection was not an option that he has considered as the state faces added budget challenges due to the virus, the Chicago Tribune reported.

Kozlik stressed in his note that it would be everyday services—trash collection, roadwork, fire protection, health care programs and schools—that would likely suffer most without a further infusion of federal aid at the state and local level. 

He also pointed out that state and local government workers make up about 13% of total U.S. employment—meaning that widespread layoffs in this segment of the economy could drag down whatever recovery eventually materializes.

Others experts and public officials have made similar warnings in the past week or so.

Scott Pattison, who has served previously as the executive director of both the National Governors Association and the National Association of State Budget Officers, said that in his experience there is a misperception among some federal officials that states and local governments are sitting on loads of cash. 

“That’s actually not the case,” he said during an online briefing that the Volcker Alliance and Penn Institute for Urban Research held Thursday.

"What is so important to understand is they have critically important responsibilities," Pattison said of states and localities. “I think we have to be careful about talking about something like bankruptcy."

Staff correspondent Andrea Noble and managing editor Laura Maggi contributed to this report.

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Bill Lucia is a senior reporter for Route Fifty and is based in Olympia, Washington.

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