Could New York Go Bankrupt Again?

Today’s guest is Richard E. Farley, author of Drop Dead, a history of how the richest city in America got addicted to spending, saturated in debt, and crashed the municipal bond market—and then managed to get a federal bailout in the nick of time.

In 1975, New York City almost went bankrupt. Farley argues that the same conditions are reemerging today: runaway budgets, gimmicky accounting, overpromised entitlements, and politicians more interested in ideology than arithmetic. He wrote all this before the rise of mayoral candidate Zohran Mamdani, who promises to blow spending through the roof, enact new taxes, and create masses of new regulations.

If you want to understand what it takes to bankrupt a city, listen up. New York might be sleepwalking into another fiscal disaster, and this time, there might not be a bailout waiting.

 

0:00—Intro

1:24—Mamdani’s agenda and economic collapse

6:03—How New York went broke in 1975

8:21—Budget fraud and political chicanery

12:20—Out of control spending

16:20—Municipal bond market saturation

20:11—Bailout politics of Mayor Abraham Beame, Governor Hugh Carey, and President Gerald Ford

31:47—Who is Felix “the Fixer” Rohatyn?

36:37—Why the budget grew during the austerity era

38:59—How NYC returned to budget normalcy

42:53—Is New York repeating the mistakes of its past?

47:00—Mayor Eric Adams and former Gov. Andrew Cuomo

50:12—Why NYC won’t return to the Bloomberg model

56:32—Generation gaps and voter behavior

__________________________________________________

Transcript

This is an AI-generated, AI-edited transcript. Check all quotes against the audio for accuracy.

Nick Gillespie: Richard E. Farley, thanks for talking to Reason.

Richard Farley: Thank you for having me.

You work in the world of finance and all of this—what is your best estimate of, if Mamdani wins in the fall and he gets his, you know, he runs the table, he gets to do everything he wants. What happens to the population of New York?

Well, let’s talk about what happens to the fiscal situation and the taxes, because that will drive a lot of it. And also, there’s one thing we need to talk about too, which is law and order.

I think that if you increase the budget by $20 to $25 billion—which I think he’s clearly capable of doing—we’re not even talking about the nonsense about grocery stores, although he’s only saying 5 or 6 grocery stores. So that’s probably a sidebar.

If you increase the budget by $20 billion—which I think he’s capable of doing—that’s an increase of 15 to 20 percent in a time when every projection says revenue is going to decrease. If you throw into that taxes that will drive people to New Jersey, Westchester, etc.

Or totally out of the area.

Or totally out of the area. That could create a structural deficit equal to that. That money’s not coming from the federal government as long as Trump’s here, and there’s a Republican Congress—or even one house of Republicans.

And part of what you argue in the book is, the bigger difference too, is New York is still the fourth most populous state, but it is no longer in play.

What’s amazing to be reminded of in reading Drop Dead is that New York would sometimes vote Republican, sometimes vote Democrat. It was a swing state. And now everybody knows—like, Democrats can say “fuck you,” and Republicans can certainly say “fuck you”—right? Because it’s not coming their way.

Correct. Now I think no one will allow New York City to devolve into chaos. There will be a bailout at some point. The issue under consideration are what would those  conditions be?

When you have to worry about winning the nomination in 1976, you have to treat New York with a little bit of kid gloves. If you don’t have to worry about that—because a Democrat couldn’t lose it if he tried or she tried, and a Republican couldn’t win it if he or she tried—you can play politics the other way and be more draconian.

So that’s something to keep an eye on.

But I think the real issue—of whether or not you lose people in New York and degrade the tax base to create a very serious fiscal crisis quickly—is if people feel unsafe in New York City.

And by that, you don’t mean financially. You mean…

It’s partly that, but also physically.

If I have a Marxist in Gracie Mansion—I wonder if the Marxist will live in Gracie Mansion; I don’t know—and I think he is a Marxist. I mean, he says, “I want to seize the means of production.” I think you trust people when they say these things.

Who also says things like “globalize the intifada” and then won’t really back off of that in a way that decries violence. What will the policing policies be? He’s never really backed off of “defund the police” in an aggressive way. He won’t say he’ll keep Keechant as police commissioner who now, I think, may be the most popular political figure in the city, if you want to call the police commissioner a political figure.

You absolutely should. And, you know, there has been—this is also something to think about nationwide—there’s been a decline in violent crime year over year.

People are talking about it’s going to be the biggest single thing. Clearly, policing matters. But it’s not clear exactly how much. But you’re basically saying if we get a guy who is a “defund the police,” romancer of revolutionary violence, things are going to get hairy.

I don’t know. I think there’s a risk of that.

He’s a bit of an empty vessel. He’s 33 years old. He’s a bit of a dilettante, in my judgment. He’s relatively new to city politics. Never really run anything. He is very glib. He’s very handsome. He’s charismatic. But what does he really stand for and mean?

And when you have the executive function of overseeing the largest police force in the country—in a city where there’s a thin veneer of law and order—we saw that in 2020. It doesn’t take much for street gangs to go down and decide they’re going to loot and make a lot of money off of a ineffective law enforcement apparatus.

The book is Drop Dead: How a Coterie of Corrupt Politicians, Bankers, Lawyers, Spinmeisters, and Mobsters Bankrupted New York, Got Bailed Out, Blamed the President, and Went Back to Business as Usual (And It Might Be Happening Again).

I have no responsibility for the subtitles.

But you know what? You’ve got to own it, right? I don’t know that I need to read any more of the book after that. But this is about the fiscal crisis of New York City in 1975.

Correct.

Can you summarize quickly what was happening in New York that brought the biggest city in America to the brink of bankruptcy?

Yeah. I think the larger quantity of factors affected all large industrial Northern and Midwestern cities. Recession of 1973 and of 1974, rising interest rates, the cutback in aid from Washington—LBJ’s poverty programs, et cetera—being scaled back by Nixon. You had a longer-term impact of the hemorrhaging of industrial jobs, really starting in the late ’40s but accelerating.

The peak year for industrial jobs as a percentage of the economy was in the late ’40s.

Correct. I think New York was still the leading industrial state until about ’48, ’49. Even though the low-skilled jobs were moving out, you had an influx of low-skilled workers from the South escaping discrimination. And from Puerto Rico, obviously, looking for a higher standard of living. You had a similar exodus of white ethnic working-class voters. So you had this shift in demographics and economic impact, which would have been a problem no matter what.

But in a lot of ways, I mean, one of the things you’re arguing is that, “Yeah, that’s true, and it was true everywhere in every type of city, but the real problem was what was going…”

Absolutely. You can discuss it a number of different ways, but there were two things unique to New York. One was the chicanery—the accounting shenanigans, the budgetary fraud, the illegal incurrence of debt to mask deficits. So we’ll put that in one bucket.

That’s, of course, the most fun to talk about. If we’re not going to talk about chicanery and characters, we might as well write about librarians in the 1970s.

What was going on in New York City was also mirrored at the state level under Nelson Rockefeller

Correct. Not quite as bad, but on a larger scale.

But basically what we saw—and throughout many states, many cities—there was just a commitment to spend a lot more money than was coming in.

And to use what were previously thought to be unethical, perhaps even illegal, means of doing so. Of course. Nelson Rockefeller—famous for the moral obligation bond. Through John Mitchell…

Yeah, explain that.

Sure. Way back when—when dinosaurs roamed the earth—when a government wanted to issue debt, it issued it under the full faith and credit of the state, the city, what have you, Ok? And all jurisdictions had constitutional limits or legal limits on how much you could incur.

Beginning in the 1920s, because they didn’t want to get the referendum vote—which you needed from the voters to approve that kind of debt, and voters at some point were going to say “no more”—they came up with agency debt.

Which was, the state of New York, for example, forms a subsidiary, calls it the Port Authority. And the Port Authority or the Triborough Authority issues the debt. And the debt is paid by real sources of revenue that have been deferred from the state to that entity—tunnel and bridge tolls, port fees. Those bonds were what they call “self-liquidating,” which means a bond investor looks at the projections of the tolls and other revenue—stadium authorities, ticket sales—and says, “Ok, this will more than repay my debt, I’ll buy the bonds.”

Nelson Rockefeller, starting in the early ’60s, took an idea that a lawyer named John Mitchell came up with for a federal government education program to build schools.

And this is not just any John Mitchell.

Oh no, this is the John Mitchell—Watergate fame, Martha Mitchell fame, and all kinds of fame.

John Mitchell came up with an idea that said, “Even if you want to borrow for programs that won’t repay themselves—like low-income housing—you can get bond buyers to buy it as long as you convince them, with a wink and a nod, that the state will stand behind it.”

Well, responsible people, like the comptroller of the state at that point, Arthur Levitt, said, “Oh, wait a minute. If the state’s going to stand behind it, you have to get a referendum. There’s no winking and nodding here.”

But Nelson Rockefeller loved the wink and the nod. And they came up with something where they explained it to the market by saying, “The state is not legally obligated to repay your debt. But if the program doesn’t generate enough revenue, it’s morally obligated.” And the governor agrees to submit a bill to the legislature to require the state to make good on the debt. And the market bought off on it.

Why did the market do that? Is it because they were like, “Hey, you know what? The economy is booming. There’s some bust, but we’re still…”

There are different theories on that. I think the biggest theory was they were convinced in 1961, I think when it first came in, that the political power of Nelson Rockefeller and his allies in the state of New York would make good on this debt.

1961 was the last year that New York was the most populous state in the country.

Correct.

Right, because by ’62, I believe, California overtook it, which is a big backdrop of what’s happening in New York City.

Just to back up one sec. Of course, the rating agencies are always around.

Yeah.

And the rating agencies bought off on rating these bonds and giving them a decent rating. So you’ve got the sort of creep where the politicians say, “Wink and a nod,” the rating agencies say, “Okay, we’ll take that and give it a good rating,” and then the market says, “Fine.” And once you have a precedent of a bond deal being priced appropriately in the marketplace, then the sky’s the limit.

And starting in the late ’50s, early ’60s, New York City also—again, following different parts of the country—just said, “You know what? Let’s spend more.”

And you write in the book—and this is, you know, I guess it’s not surprising, but it remains shocking—that New York City in the ’70s was spending more per capita than any other city in the country.

Yes.

What was it spending it on?

We talked about two differences between New York and other cities, and of course, other cities didn’t have a fiscal crisis. One was the chicanery. The other was that New York City took on more obligations and responsibilities than any other city in the country.

What are we talking about? Its own university system. Well, you had a state university system—SUNY—which is very large. You had private universities, Catholic universities. Ok. You have a hospital system. Well, that may have made sense before Medicare. But why do you need Medicaid—why do you need a hospital system when you have the federal funding of private hospitals?

They ran the courts. Until ’68, they ran the subways. You may say to someone, “Well, why would a city take on this responsibility given the fiscal issues that that entails?”

Well, it’s very simple. It’s called patronage jobs. They want Democratic politicians in New York to be able to hand out those jobs and those contracts and those goodies—not Democratic politicians at all.

So New York had an incredibly bloated budget.

Correct.

One of the takeaways from the book is that, through the mid-’70s, basically everybody who lived in New York was getting multiple streams of revenue from the city. Either they worked for it. They might have had a no-show job. Or they were benefiting from some other kind of stream.

So there are two things to keep in mind. One is when Mayor Wagner gave the unions the right to collective bargaining, that really transformed the dynamic of the relationship between the city and the unions.

Victor Gotbaum said very bluntly in 1967, “We have the power to elect our own boss.” And over the course of the Wagner administration into the Lindsay administration and into Beame, you saw increased benefits to public employee unions.

This also reflected a national trend, because it was JFK who signed off on collective bargaining for public unions.

If you count the number of votes of public employee union members and their immediate family members who are voting age, that’s enough votes to win just about every Democratic primary for mayor, going back all the way to ’67.

So when you have that sort of power and influence—when you realize that—then your demands become greater and greater, and the pressure to accede to those demands obviously becomes overwhelming.

So you sign off. “You” meaning, you know, Abe Beame and the City Council and everybody in a political job is like, “Okay, yeah, we’re going to give more money to more voters. And then we’re going to use these bullshit techniques to convince them.”

Correct. And the overwhelming political imperative to not take away from the voting citizens is really—if you want to put your finger on one thing—it’s that. It’s easier to never give in the first place than it is to take away.

And once you have this enormous smorgasbord of government-financed programs—which helped the middle class, by the way, much more than the poor.

Yeah, no, no, on both ends, right? Like they’re the ones who use the parks and use CUNY ultimately, or City College. But they’re also the ones getting the jobs—

And working in the hospitals—doctors, nurses, and orderlies…

Well, this is the biggest misconception. Healthcare is a middle—

And the union worker sounds like a very well-paid middle. I come from a family of teachers—union folks.

Although not in the New York area.

No, this is up in Providence. The dynamic wasn’t installed yet.

So then what happened in 1975, where it’s like, suddenly, the mask is off, and it’s like, we’re screwed?

Simply stated, the municipal bond market stopped funding New York City municipal bonds.

Municipal bonds were a great investment when everyone is making money and has taxes to pay because they’re triple tax-free. So it’s a good asset class when you want to not pay a full income tax on the income.

When, after a recession, you have a lot of losses, it becomes a less attractive asset class. Now, because of the chicanery—which we can talk about in a second—New York had saturated the municipal bond market with its debt. It had, I think, over 25 percent of all municipal bonds were New York bonds.

That’s amazing

Given that portfolio diversification says never have more than 10 percent of any issuer in your asset class. And it was over 30 percent of short-term debt.

Now, people would park their money in short-term municipal bonds because they were tax-free and thought to be safe. But when you have such an enormous saturation, you then have a problem—particularly in an asset class that’s no longer as economically attractive.

And one of the smart things Beame had done when he was comptroller in his first stint was diversify the pension portfolios so that not all of their securities are invested in New York City securities. Something like 80 percent of New York’s pension must invest in New Jersey securities. When you divest that, you also saturate the market. So you had that dynamic.

So the municipal bond market collapses for New York. Nobody wants to buy their bonds.

Right. So why was it so saturated? Well, because they were borrowing to do things they shouldn’t be borrowing to do.

Now, you’re not supposed to borrow to fund short-term expenses—ordinary course, annual expenses. You’re only supposed to borro

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