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Does Bankruptcy Really Matter? The Solvency of Municipal Governments in the Chicago Metropolitan Region

Author: REBECCA HENDRICK and ANDREW CROSBY
Published in PFM, Vol. 14 No. 1

As specified by Chapter 9 of the U.S. Bankruptcy Code, local governments that are granted bankruptcy protection must be insolvent, but not all insolvent local governments file for bankruptcy. Almost half of the local governments in the US are not permitted by state law to file for bankruptcy, and many governments with authorization to file may not pursue it because its outcomes are uncertain and often undesirable for both the government and creditors. Thus, one should study insolvent governments more generally rather than only bankrupt governments to obtain an accurate and complete understanding of the fiscal crises that produce bankruptcies. This paper examines different dimensions of solvency for 265 municipal governments in suburban Chicago from 1998 to 2010 to determine the relationship between the dimensions and the likelihood of insolvency among these governments. We find that these indices are related but there is also much variation in the joint distributions of the dimensions, suggesting that Chapter 9 as currently structured has critical flaws in its narrow definition of solvency. We use this variation to deduce the likely causes of poor financial condition in the governments at the extremes of the joint distributions and suggest future avenues of study.

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