Debt Crisis in the USA

National Bankruptcy Could Be a Solution

In the USA, bankruptcy of insolvent states is being discussed. Could this be an example for European crisis countries, such as Greece and Ireland?

The European crisis countries — Greece, Ireland, and Portugal — are not the only ones that have to fight against mountains of debt at the moment. In the USA, scores of states are considered to be insolvent — the leading states being California, New York, Illinois and Connecticut.

Now plans are being forged as to how one can make a regulated insolvency possible. And just as well, how can insolvent businesses accomplish this? They enjoy, according to Title 11 of the U.S. bankruptcy law, protection for a time against outstanding debt from their creditors in order to get back on their own two feet. At the same time, there is a clear reduction of arrears being agreed upon with the creditors, so that businesses can carry the lasting burden of debt.

Still, there is no concrete proposal to implement something similar with the federal states. But like The New York Times said, more senators and representatives of both parties have to take up the issue. Among them is Newt Gingrich, who is seen to be a possible Republican presidential candidate.

That the topic is not discussed too loudly comes as no surprise. After all, it could be that those who invested their money in bonds in California or New York must relinquish part of their claims. The worry that federal bonds are not as secure as previously believed may raise interest rates and therefore the overall financing costs of the states.

And there are even more victims — for example, the state employees, whose pensions may be drastically reduced. The mere threat of a corresponding law that would allow bankruptcy procedures for the states might enormously increase the bargaining power of the federal government compared to that of the labor unions of public employees.

In Europe, the debate over possible state bankruptcies has also not yet come to an end. One who sees absolutely no alternative is U.S. economist Barry Eichengreen, as aid credits only toss more and more debt onto the existing pile. There can be only two solutions to this situation: The financially powerful European countries would have to co-finance the weak ones favorably and on a sustained basis. While the Federal Republic of Germany in particular would not want to take part in this, plan B would have to be a state bankruptcy — with a subsequent debt cut. A kind of European “Title 11,” if you will.