Cities and School Districts Being Fleeced By Wall Street

June 15, 2010 (LPAC)—A growing number of municipalities and school districts around the United States are being taken to the cleaners by Wall Street sharks, through the manipulation of interest rates swaps, that have been peddled to local governments by such Wall Street pirates as JP Morgan, the former Bear Stearns (now part of JP Morgan Chase) and the Royal Bank of Canada. This looting scheme, in which cities and school districts take out interest rate swap contracts on their debt instruments, as a hedge against future interest rate hikes, has already led to a number of defaults, lawsuits, and a move by the Pennsylvania State Senate to ban the practice altogether.

In Oakland, California, the city is paying out between $10-15 million a year to Wall Street firms, that sold them interest rate swap contracts, that came due when interest rates did not increase. Most of these contracts involve steep default penalties that trigger any time there is a failure to meet a payment. In Pennsylvania, the Bethlehem School District lost $10 million on a swap-deal-gone-sour, and the State Senate Finance Committee is now considering a legislative ban against any swap contracts by municipalities and school districts. The Pennsylvania Auditor General Jack Wagner assailed these swap swindles, which are "lining the pockets of Wall Street." We are assembling a national picture on this scandal.

Under the Blanche Lincoln derivatives ban, written into the Dodd financial reform bill as Title 7, swap dealers "shall have a fiduciary duty to the State, State agency, city, county, municipality, or other political subdivision of a State, or the Federal agency, as appropriate." In other words, the banks peddling interest rate swap contracts would have an obligation to fully inform the purchasing agencies about the risks and potential losses on these instruments, before the sales.

Even more appropriate would be an all-out ban, as proposed by the Pennsylvania State Treasurer, and implicit in the adoption of the Glass-Steagall principle back into national banking law.