Fate of the States: The New Geography of American Prosperity, by Meredith Whitney, Portfolio RRP$27.95/RRP£17.95
Google “Meredith Whitney” and “municipal bonds” and you will find plenty of scorn. Whitney, formerly an analyst at Oppenheimer, won praise for an accurate call on US banks on the eve of the financial crisis. Since starting her eponymous firm, she has been vilified for a prediction that has not played out so well. In 2010, on the US current affairs show 60 Minutes, she warned of 50-100 large defaults as cities and counties grappled with poor finances revealed by the recession. The municipal bond industry – protective of its reputation as a haven for investors – turned on her. Unnerved investors withdrew money from the market. The defaults have not materialised.
In her first book, Fate of the States: The New Geography of American Prosperity, Whitney’s central thesis goes beyond the insular world of munis. She presents a case for how the housing boom and bust and fiscal decisions will drive population shifts in the US for years. Defaults and bankruptcies are “mere symptoms of and sideshows to something much bigger and more important”, she writes. In the next 30 years she expects business and people to migrate from coastal and sunbelt states (such as California, Nevada and Florida) to the central corridor (Texas, Indiana and North Dakota). “The heartland, the Midwest, the one-time flyover states … will be the foundation of economic growth for years to come.”
The book uses a dizzying amount of data – spending cuts, poverty rates, maps of debt ratios and even university tuition fees – to summarise some states’ descent into budgetary stress (and undesirability) in recent years in contrast to others that were able to maintain fiscal health. But there are also plenty of anecdotes and examples, which help make a book about wonky public finance engaging.
Her argument goes like this: when soaring property values inflated revenues in booming areas, officials over-promised on public workers’ wages and benefits, overspent and overborrowed. Now these states and others that mismanaged finances are trapped in a “negative feedback loop from hell”. They must raise taxes and cut services, pushing wealthy people and companies to leave. That, in turn, shrinks the tax base, curbing services further and forcing out more people and businesses. The fall of Detroit, once the sixth most populous city but now teetering on the edge of bankruptcy, is an example of a “self-perpetuating downward spiral”, she writes.
The flyover states, on the other hand, missed out on much of the housing boom and thus escaped the worst of the budget cuts that followed its bust. They now have the flexibility to offer tax incentives and invest in infrastructure and schools, offering a better quality of life and a better place to do business. There are also the benefits of shale oil and growing demand for US agricultural products.
“There may be nothing in Texas comparable to driving the Pacific Coast highway with the top down, but when a California home costs three times as much and the taxes are three times higher, a move to Texas starts looking mighty attractive,” Whitney writes. Maybe so. As cold economic calculus, the argument makes sense. But people base big decisions on a range of factors.
Weather, culture, family and social ties are all in the mixture. And the housing market is recovering, including in some of the most hard-hit areas. Even the financial variables are hard to predict. State finances are improving, but much also depends on the effect of federal budget cuts on states and on trends in interest rates, which have been historically low. Lawmakers in troubled states also could find fiscal religion.
As for the 60 Minutes episode, in the last chapter Whitney writes: “ … for the record, I never said those 50 to 100 defaults would all happen in 2011, which was how my critics spun the story.” Still, a wave of defaults has not arrived. Nonetheless, the book comes as some trends are moving in the direction of more defaults.
All eyes are now on Detroit, the highest profile case to date of a city trying to impose losses on bondholders. The outcome could influence other municipal governments. Stockton, California and Rhode Island are also challenging conventions on paying bonds.
While fiscal conditions have improved, an endemic mismatch between revenues and expenses remains, setting up clashes among taxpayers, unions and bondholders, and interest rates look poised to rise. Other analysts are inching towards the idea that defaults may no longer be as taboo as they once were. But Whitney has not been vindicated yet. She may have intended the book as an apologia, but she is calling attention to yet another bold call. Only this time, in her words, it involves “bigger and more important” issues.
The writer is a New York-based correspondent for the FT’s Lex column