State and Local Corruption

There has long been an unhealthy partnership between Wall Street and state and local governments. Governments use Wall Street to sell their bonds and to invest their worker pension plan money. Corruption takes the form of "pay to play" schemes whereby Wall Street firms bribe public officials in order to get a slice of the government's financial business.

The Wall Street Journal today [$] summarizes alleged corruption surrounding former New York State Comptroller Alen Hevesi:

California money manager Elliott Broidy on Thursday admitted to making nearly $1 million in gifts to benefit four former top officials in the office that oversees New York state's pension fund, including onetime state comptroller Alan Hevesi.

...New York Attorney General Andrew Cuomo on Thursday said Mr. Broidy acknowledged that he paid at least $75,000 for first-class airfare, luxury hotel suites, a helicopter tour, a car and driver and a security detail on foreign trips. Those trips included a high-ranking official of the comptroller's office and sometimes the official's relatives, Mr. Cuomo said. ...Mr. Broidy also tried to conceal the money he spent on the trips abroad with Mr. Hevesi and Mr. Hevesi's relatives, Mr. Cuomo's office said.

...Mr. Cuomo's multiyear probe into the $116.5 billion pension fund has focused on whether decisions about how to invest retirees' money were wrongly influenced by bribes and politics. Until now, charges have largely focused on the role of placement agents, or financial middlemen that help money managers obtain contracts to manage pension investments. But Mr. Cuomo said Mr. Broidy's payoffs to benefit state officials were less complicated. "This is an old-fashioned case of payoff to state officials," Mr. Cuomo said. "This case is effectively bribery."

...Connections between Messrs. Hevesi and Broidy date back to earlier this decade, records show. A prominent political fund-raiser, the Los Angeles-based Mr. Broidy and his family donated $83,400 to Mr. Hevesi's campaigns since 2002.

Meanwhile, the New York state pension made $250 million in investments with Mr. Broidy's firm, Markstone Capital Group LLC. The state's initial $200 million investment in Markstone was approved in 2003. The move made New York state the largest investor in the fledgling Markstone fund, which focuses on Israeli companies.

This sort of stuff is sickening. But fortunately there is an easy solution to these problems: cap state and local government debt at very low levels and eliminate state and local defined-benefit pension plans.

Regarding the first point, state and local debt has exploded over the last decade. The insatiable thirst for spending by politicians has greatly enriched Wall Street. But I've argued that governments ought to mainly finance their capital investments on a pay-as-you-go basis -- in other words, out of current revenues. We don't need a giant muni-bond business and all the problems that go with it.

Regarding the second point, state and local governments should ditch their defined-benefit pension plans and instead offer all new hires defined-contribution plans. That would drain the swamp, the vast pools of cash that government pension funds currently control. After all, many state and local governments have shown that they are incapable of running pension plans with any degree of prudence. A recent academic study estimated that state and local pension funds are underfunded (or overpromised) by an astounding $3 trillion.