Pennsylvania's auditor general urges General Assembly to ban municipal authority use of swaps

By Marisa Wong

Milwaukee, March 3 - Pennsylvania auditor general Jack Wagner urged the General Assembly to ban municipal authorities in the state, including school districts and local governments, from attaching risky interest-rate swaps to new debt financed by bond issues, according to a news release.

At a hearing before the House Finance Committee, Wagner said that the Municipality Authorities Act should be amended to expressly prohibit authorities from entering into swaps.

"Most Pennsylvanians would be upset if members of their school board or municipal government gambled away their hard-earned tax dollars at the local slots casino. They should be just as upset if their school district or council has tied up local funds in interest-rate swaps, because these exotic financial instruments are tantamount to gambling with public money," Wagner said to the committee.

According to the release, a recent investigation by the Department of the Auditor General found that 107 of 500 school districts and 86 municipal governments had almost $15 billion in public debt tied to interest-rate swaps with at least 13 investment banks between October 2003 and June 2009.

The Philadelphia School District had the most debt tied to swaps contracts, in excess of $1 billion. According to Wagner's Office of Special Investigations, the Bethlehem Area School District lost at least $10.2 million in interest-rate swaps when the banking industry collapsed in the fall of 2008.

The Delaware River Port Authority is facing $240 million in liabilities on its swaps contracts. The authority's board members recently voted unanimously against entering into future swaps agreements, at the insistence of the auditor general.

Wagner implored the finance committee to ban municipal authorities from entering into swaps agreements in part because the Bethlehem Area School District used a local municipal authority as a go-between in a swap agreement before the General Assembly gave school districts permission to enter into such transactions in a bill passed in 2003.

Wagner said that provisions to prohibit local governments and authorities from entering into swaps, either directly or indirectly, should be added to the Local Government Unit Debt Act and the Municipality Authorities Act.

In addition to banning future swaps agreements, Wagner also recommended that school districts, local governments and municipal authorities:

• Terminate any active swaps as soon as possible and refinance with conventional debt instruments;

• Assess the financial consequences if they were to suffer the same negative experience with their active swaps as discussed in the auditor general's report; and

• Hire financial advisers through a competitive selection process and periodically evaluate the quality, cost and independence of the services provided.

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