As if Louisiana’s governments, certainly state and many local, waste enough money through inefficiency and ill-advised priorities, now potentially more can be wasted through taking on – with little oversight – riskier investments. Both a “low-tech” and “high-tech” version made news recently.
The “low-tech” version involved an old-fashioned loan guarantee made by a state agency, the State Market Commission, controlled by Agriculture Secretary Bob Odom, to help private interests buy the Lacassine sugar mill. The facility, recently completed costing the state $45 million despite financial projections showing it to be dubious, is supposed to be bought from the state for $45-60 million (the actual price depending upon what Odom feels like telling people at any given moment) by something (the actual buyer depending upon what Odom feels like telling people at any given moment) between now and who knows when (the date depending upon what Odom feels like telling people at any given moment).
But it turns out that a group who may be the buyer has gotten a loan guarantee of $7 million from the Commission. This means if it defaults on that loan, which goes towards making the mill operational (the actual date of operation depending upon what Odom feels like telling people at any given moment), the state is on the hook for it. And given the projections, default would not be surprising.
Treasurer John Kennedy asserts that since the state has been forced, in essence, to take on more debt, the State Bond Commission that he heads he argues must review the deal before it can go into effect. He’s probably right, but he better not ask for Atty. Gen. Charles Foti for an opinion on that because he’ll probably lose.
That’s solid conjecture because Foti also ruled, to Kennedy’s chagrin, that local governments were free to pursue intricate interest rate swaps, a “high-tech” financing scenario, saying that they were not creating additional debt to the state, but merely were contractual. That’s not entirely true; some kinds of these deals could restructure debt potentially where more is paid out by the state as a result. Sometimes it’s obvious, as when an entity in does what is akin to a reverse mortgage on its debt, but other times it becomes apparent only after time has passed and it becomes clear that, because interest rates moved in the opposite way of what planners predicted, the entity will pay out more than it would have had it not (so to speak) refinanced the debt.
Thus, Bond Commission oversight, because of the potential of taking on greater debt, is justified. That doesn’t mean the Commission wouldn’t just rubber-stamp the proposed deal, but because of the inherent riskiness of these investments, more review is better.
Louisiana governments years ago showed what happens when these instruments are used in a risky way. Without going into detail, these things called derivatives have value based upon the value of a secondary instrument and usually have a time element involved. In other words, they are not in and of themselves an asset such as equity, debt, property, or even a revenue stream, but are based upon the performance of those assets and are “wasting” because they expire at a certain point.
When used as a hedge (that is, a form of insurance that recoups money lost as the value of an asset decreases), they can be valuable instruments for governments who should be in the business of exposing taxpayers’ resources to as little risk as possible. But when used solely as investment instruments, the results can be disastrous. Just ask the Bossier Parish School Board when it was revealed that it had authorized investments in such, interest rates went the wrong way, and the taxpayers had to make up a $1.08 million loss by 1994.
Overeager politicians, few with any training in advanced financial matters, should not be allowed to think they can create money from nothing in low-risk fashion. Louisiana needs to put into place procedures to prevent this, and Kennedy’s suggestion of more review is vastly preferable to Foti’s acquiescence and acceptance and Odom’s abuse.
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