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The Guardian/UK

$2tn Debt Crisis Threatens to Bring Down 100 US Cities

Overdrawn American cities could face financial collapse in 2011, defaulting on hundreds of billions of dollars of borrowings and derailing the US economic recovery. Nor are European cities safe – Florence, Barcelona, Madrid, Venice: all are in trouble

Elena Moya

Shuttered homes and businesses in downtown Detroit, Michigan. American cities and states have debts that could be as high as $2tn. (Photograph: Spencer Platt/Getty Images)

More than 100 American cities could go bust next year as the debt
crisis that has taken down banks and countries threatens next to spark a
municipal meltdown, a leading analyst has warned.

Meredith Whitney, the US research analyst who correctly predicted the global credit crunch, described local and state debt as the biggest problem facing the US economy, and one that could derail its recovery.

to housing this is the single most important issue in the US and
certainly the biggest threat to the US economy," Whitney told the CBS 60
Minutes programme on Sunday night.

"There's not a doubt on my
mind that you will see a spate of municipal bond defaults. You can see
fifty to a hundred sizeable defaults - more. This will amount to
hundreds of billions of dollars' worth of defaults."

New Jersey
governor Chris Christie summarised the problem succinctly: "We spent too
much on everything. We spent money we didn't have. We borrowed money
just crazily. The credit card's maxed out, and it's over. We now have to
get to the business of climbing out of the hole. We've been digging it
for a decade or more. We've got to climb now, and a climb is harder."

cities and states have debts in total of as much as $2tn. In Europe,
local and regional government borrowing is expected to reach a
historical peak of nearly €1.3tn (£1.1tn) this year.

Cities from
Detroit to Madrid are struggling to pay creditors, including providers
of basic services such as street cleaning. Last week, Moody's ratings
agency warned about a possible downgrade for the cities of Florence and
Barcelona and cut the rating of the Basque country in northern Spain.
Lisbon was downgraded by rival agency Standard & Poor's earlier this
year, while the borrowings of Naples and Budapest are on the brink of
junk status. Istanbul's debt has already been downgraded to junk.

intervention is likely to raise the profile of the issue of municipal
debt. While she was an analyst at Oppenheimer, the New York investment
bank, in October 2007 she wrote a damning report on Citigroup, then the
world's largest bank, predicting it would cut its dividend. She was
criticised for being too pessimistic but was vindicated when the bank
was forced to seek government support a year later. She has since set up
her own advisory firm and is rated one of the most influential women in
American business.

US states have spent nearly half a trillion
dollars more than they have collected in taxes, and face a $1tn hole in
their pension funds, said the CBS programme, apocalyptically titled The
Day of Reckoning.

Detroit is cutting police, lighting, road repairs and cleaning services affecting
as much as 20% of the population. The city, which has been on the skids
for almost two decades with the decline of the US auto industry, does
not generate enough wealth to maintain services for its 900,000

The nearby state of Illinois has spent twice as much
money as it has collected and is about six months behind on creditor
payments. The University of Illinois alone is owed $400m, the CBS
programme said. The state has a 21% chances of default, more than any
other, according to CMA Datavision, a derivatives information provider.

has raised state university tuition fees by 32%. Arizona has sold its
state capitol and supreme court buildings to investors, and leases them

Potential defaults could also hit Florida, whose booming
real estate industry burst two years ago, said Guy J. Benstead, a
partner at Cedar Ridge Partners in San Francisco. "We are not out of the
woods by any stretch yet," he said.

"It's all part of the
same parcel: public sector indebtedness needs to be cut, it needs a lot
of austerity, and it hit the central governments first, and now is
hitting local bodies," said Philip Brown, managing director at Citigroup
in London.

In Europe, where cities have traditionally relied more
on bank loans and state transfers than bonds, financing habits are
changing. The Spanish regions of Catalonia and Valencia have issued debt
to their own citizens after financial markets shut their doors because
of the regions' high deficits. Moody's cut to the rating of the Basque
country on Friday left it still within investment grade but noted "the
rapid deterioration in the region's budgetary performance in recent
years". It said it expected it to continue over the medium term.

Italy, Moody's and S&P have threatened to downgrade Florence, while
Venice has been forced over the past few months to put some of the
palazzi on its canals up for sale to fund the deficit.

"Cities are
on their own. Governments won't come to their rescue as they have
problems of their own," said Andres Rodriguez-Pose, professor of
economic geography at the London School of Economics. "Cities will have
to pay for their debts, and in some cases they will have to carry out
dramatic cuts, such as Detroit's."

California crunch

a former US navy town near San Francisco, is still trying to emerge
from the Chapter Nine bankruptcy protection it entered in 2008.

city, now a symbol of distressed local finances, is still negotiating
with the unions, which refused to accept a salary cut plan two years
ago. Paul Dyson, an analyst with the Standard & Poor's credit
agency, said Vallejo, which is mostly a dormitory town for Oakland or
San Francisco employees, did not have enough local industry to sustain
its finances and property tax - a major source of local income - plunged
with the collapse of the real estate market. The S&P credit-rating
agency has a C rating on the town - the lowest level.

With a
population of about 120,000, Vallejo has $195m (£125m) of unfunded
pension obligations and has to present a bankruptcy-exit plan to a
Sacramento court by 18 January. Since 1937, 619 local US government
bodies, mostly small utilities or districts, have filed for bankruptcy,
Bloomberg News recently reported. US cities tend to default more than
European municipalities as they usually rely on bonds issued to
investors, which enter into a default if the creditor misses payments.
European towns, by contrast, traditionally depend on bank loans and
government bailouts.

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