Assets no more: On racial justice risks in municipal bonds

In 1827, Louisiana agreed to back a series of bank bonds whose proceeds were used to purchase slaves. The state pledged to use its “full faith and credit” to repay bondholders, meaning taxpayers were on the hook in the event of default. The American addiction to slavery saw to it that state-backed slavery bonds spread throughout Mississippi, Alabama, Tennessee, Arkansas and Florida.

Black Americans were an asset class which grew to millions of enslaved people worth billions of dollars. However, by 1830, that “asset” started showing signs of early erosion when public tolerance of slavery started to decline. The Emancipation Proclamation eventually sealed the fate of this immoral market, leaving states like Florida with a debt of nearly $120 per citizen. Those states, crushed under the weight of these liabilities, refused to pay their bondholders and defaulted. Over one hundred years later, as late as the 1930s, investors were still trying to sue Mississippi in the Supreme Court. These bonds, backed by unjust and immoral revenues, became one of our nation’s earliest and most disturbing examples of stranded assets.

Stranded assets are defined as “assets that have suffered from unanticipated or premature write-downs, devaluations or conversion to liabilities.” Most investors are familiar with the concept from the more contemporary examples of physical oil and gas assets, where regulation, extraction costs, carbon taxes, and changing climate priorities have reduced the value of these once commercially valuable assets.

Today, our nation’s bias toward over-policing has led to the killings of Breonna Taylor, George Floyd, Ahmaud Arbery and countless others at the hands of police and law enforcement. These killings and the ensuing nationwide protests also expose a rift in the foundation of the U.S. municipal market that harkens back nearly two centuries to a time when the value of Black lives and the value of municipal bonds were explicitly linked. Today, too many local governments have predicated their financial fortunes on the control and oppression of Black people. As the Movement for Black Lives advances, the assets of the criminal injustice complex — such as jail infrastructure and extractive revenues — will evaporate, leaving behind only liabilities and expenses.

Devalued assets: Jail facilities

Jail facilities stand to be one of the most obsolete assets of the future. Jails are found in each of the nation’s 3,000 counties, and the construction of a jail facility is the single largest expense a county will make. Jail bed expansion is up 276% (243,000 to 915,100) since 1970, while the number of people in jail has declined by 40,300 since peaking in 2008. Jail construction and expansion come at the cost of mental health services, drug treatment, and diversion programs, all of which could undo the need for increased jail beds. People are often brought to jail for minor, nonviolent misdemeanors, such as driving with a suspended license or shoplifting, and stay in jail because they cannot afford bail.

Diminishing revenues: fines and fees

U.S. municipalities generate billions annually from fines, fees, and forfeitures. In many states, offender-funded justice systems are so dependent on these revenues that many couldn’t sustain themselves if people stopped breaking the law. At higher levels, these fees are unsustainable revenue sources with many negative impacts, from drivers license suspension that leaves citizens unable to get to work to fostering social unrest. When coupled with increasing rates of guilty pleas and out-of-court settlements, court and processing fees offer a perverse opportunity for revenues to exceed costs. During the Justice Department’s investigation following Michael Brown’s death at the hands of police in 2014, the City of Ferguson was found to have raised over 20% of its revenue from fines and fees. As recently as 2019, the City of Chicago had 10% of general fund revenue resulting from fines and fees.

Expanding liabilities: police misconduct settlements

Police misconduct is another example of a growing, unmitigated liability. Having a police force whose conduct results in civil settlements is the equivalent of having a city-owned superfund site; an unending source of unknown liability that grows even more expensive as more is discovered. The City of Chicago has paid more than $524 million to settle lawsuits against the police in the past decade. Each year Chicago budgets for a certain amount of misconduct settlements, and every year it exceeds that budget. The result is that the overage comes from the general fund — taxpayer dollars — and continues unabated by qualified immunity.

A call to action

At Activest, we blend economic modeling, financial analysis and social policy research to advance racial justice in municipal finance. We approach our work through the lens of fiscal justice, which we define as the equity of municipal budgets. We believe that communities that treat their residents fairly realize stronger fiscal outcomes.

As a bondholder, you have a fiduciary responsibility to be aware of fiscal justice risks and other risks related to revenue-motivated policing. As a citizen, you have a right to demand justice and equity from your municipality. As a citizen-bondholder, you are in a unique position to demand transparency, disclosure and behavior change around each practice noted above.

This is true whether you’re a socially motivated investor, like foundations and impact investors, or a financially motivated investor, who doesn’t want to take on uncompensated risk. It’s good business, it’s good citizenship, and it will determine whether we’re condemned to repeat the fiscal and moral failures of our past.