The Tribune Democrat, Johnstown, PA

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September 14, 2013

Pa. Senate targets risky deals

HARRISBURG — Alarmed at the lax oversight of risky financial deals of school districts and local government, the Senate is considering a bill that would give a state agency greater authority to hit the brakes before such deals are completed.

Currently, the Department of Community and Economic Development’s review largely consists of making sure all of the paperwork has been filed.

Lawmakers were spurred to act after trying to make sense of the financial debacle centered on the Harrisburg incinerator. Mismanaged interest-rate swaps contributed to the problems in Harrisburg, ultimately leaving the city $300 million in debt, said state Sen. Mike Folmer, R-Lancaster, one of the authors of the legislation targeting swaps.

The Pennsylvania Turnpike also got burned, losing $109 million on a swap that tanked.

Former Auditor General Jack Wagner said that his office first began investigating swaps after revelations that the Bethlehem School District had entered into 13 swaps in a three-year period. The auditor general’s office focused on just two of those deals and determined that in those two swaps alone, the district lost more than $10 million.

According to the Department of Community and Economic Development, 108 of 500 school districts, what Wagner described as “a shocking 21 percent,” had engaged in swaps.

In a swap, a municipality and a financial institution agree to exchange cash-flow payments.

Most swaps involve a municipality issuing a variable rate debt and then entering into a swap with a bank, which makes a variable rate payment to the municipality while the municipality makes a fixed-rate payment to the bank.

However, if interest rates fall, the municipality could see losses.

“Swaps are nothing more than a form of gambling with public funds. The party that guesses right wins and gets paid; the party that guesses wrong loses and must pay the other party,” Wagner said.

School officials argue that the swaps are a gamble they can win.

The Central Dauphin School District got $5.6 million from three swaps. Schools don’t want the Legislature to handcuff them in a way that prevents them from trying to generate revenue that is an alternative to raising taxes, said Jay Wenger, vice president of the Central Dauphin School District. Wenger represented the Pennsylvania School Boards Association at a Monday hearing before the Senate Local Government Committee.

Michael Wolf, a public finance banker in Montgomery County, told the Senate committee the time required for the state to review deals might cost schools and local governments if interest rates change while the proposed deal is being scrutinized. Wolf added that the federal government already has protections in place.

Skeptical lawmakers said that if the existing safeguards were adequate, there wouldn’t be so many school districts and governments getting burned.

Senate local government committee chairman John Eichelberger, R-Hollidaysburg, said that without changing the law, there is no reason to believe that the financial advisers who gave bad advice in Harrisburg and other places won’t continue operating with the same sales pitches elsewhere in the commonwealth.

Staff from the Department of Community and Economic Development has endorsed the legislation, according to a letter from the agency to the Senate Local Government Committee.

The department officials say that the information they receive from local governments and schools routinely lacks any meaningful description of what is being done with the money being borrowed. The DCED staff are also lobbying to get the legislation to force school districts and local governments to disclose how much of the borrowing is being used to pay underwriters and financial advisers.

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