Bankruptcy for States

Bankruptcy law professor David Skeel, whose new book The New Financial Deal is one I admire a great deal, has a new op-ed in the Wall Street Journal today urging a bankruptcy regime for the states.  Among his most important points is that bankruptcy for states offers the most likely means that states can address the arguably most important long-term problem – the deals set with public employee unions for retirement benefits that are already crowding out the provision of services to the public.  States cannot afford to maintain current staff – teachers or whatever job category – given the obligations to retired employees, even if one assumes that those services, requiring whatever levels of staffing, at whatever levels of current pay, are prudent.  As he says:

[S]tate bankruptcy could even permit a restructuring of the Cadillac pension benefits that states have promised to public employees. These are often “vested” under state law, and in some states, like California, are protected by the state constitution. Under state law, little can be done to adjust them to more reasonable amounts.

Although the law is somewhat murky, there is a strong argument that bankruptcy could provide for an adjustment of these obligations. Unless the state’s “guarantees” were construed as a property right protected by the Takings Clause of the Constitution (which is doubtful if there is no collateral or other indicia of a property right), the federal bankruptcy law would trump contrary state law under the Constitution’s Supremacy Clause.

A central feature of these promises in many states and municipalities is the capture of both sides of the bargaining table by public employee unions.  It is a classic process described by public choice theory, through which the campaign contributions of a highly motivated subset of voters capture the political offices that negotiate economic terms with that same set of voters-as-employees.  I have sometimes wondered whether a legal theory – far fetched in court, of course, but not so very far from the situation in economic terms – of fraudulent conveyance could be raised against these kinds of negotiations, as a basis for being overturned in bankruptcy.

But of course Skeel’s basic point is that you don’t need recourse to a legal rationale like this if you have an explicit bankruptcy-for-states regime.  Conceptually, though not as a doctrinal legal matter, I think that capture of both sides of the bargaining table is pretty well described as conceptually fraudulent conveyance.  Skeel, to be clear, is not making anything like this argument and as a bona fide bankruptcy expert might easily say it is not even plausible as pure concept.

But for my part, query whether the US needs to evolve legal doctrines that would address the problem of the capture of political office by representatives of those who will ostensibly bargain at arms length.  Of course, the simplest answer would be to get public employee unions out of the campaign contributions business, if not out of the striking business and, perhaps, go all the back to FDR’s original, negative view of public employee unions being established at all.

Update: A last question, to Co-Conspirator Todd or other bankruptcy law specialists … does the Anna Nicole Smith case have any bearing on this?  Not my field, so I wouldn’t venture a guess (well, venturing one anyway, probably not), but am curious after reading the post below.