One of the things I admire most about the debate over whether to repay the 38 Studios bonds is the way that we’re supposed to ignore the plain meaning of legal language. On the front page of the prospectus for the 38 Studios bonds, in capital letters, there is a paragraph that reads:
THE 2010 BONDS AND THE INTEREST THEREON DO NOT CONSTITUTE A DEBT, LIABILITY, OBLIGATION OF THE STATE OR ANY POLITICAL SUBDIVISION THEREOF (OTHER THAN A SPECIAL OR LIMITED OBLIGATION OF THE ISSUER) AND NEITHER THE FAITH AND CREDIT NOR THE TAKING AND TAXING POWER OF THE STATE OR ANY POLITICAL SUBDIVISION OR MUNICIPALITY THEREOF IS PLEDGED TO THE PAYMENT OF THE 2010 BONDS OR THE INTEREST THEREON. THE ISSUER HAS NO TAXING POWER. THE OBLIGATION OF THE STATE TO MAKE PAYMENTS FOR DEPOSIT INTO THE CAPITAL RESERVE FUND IS SUBJECT TO ANNUAL APPROPRIATION BY THE STATE GENERAL ASSEMBLY.
As if this isn’t enough, the paragraph is repeated verbatim (also in solid capitals) in the body of the document, on page 2, and again on page 11. And there are other sentences to reinforce it, too. So my question is which other sentences in the prospectus are to be ignored? Is there some secret legal code that says that if it’s repeated three times in all caps it doesn’t count?
If the above paragraph doesn’t mean what it plainly says it means, what about this one (on page 4):
Interest in the 2010 bonds will be payable on May 1, 2011 and semi-annually thereafter…
That one, of course, is not all caps, and it only appears once, so maybe that’s the key difference why this clause is inviolate while the others apparently don’t appear at all in a practical sense.
As you read further, you can see that there was no hiding the nature of the investment from investors. These bonds say “38 Studios LLC” in their title, and Curt Schilling is identified on the third page as chairman, founder, and part of the “visionary team.” His name appears 11 times throughout the document. There is a long description of the company on page 18, that says the company is “developing an original fantasy story” which seems about right, but apparently they aren’t talking about their business plan, but the setting for their video game.
Another thing you can see on the emma.msrb.org site is that some of the fears about damage to the state’s bond ratings are not overblown. A slew of bonds sold by the airport (through EDC, the same as the 38 Studios bonds) last December are already rated “BBB+” by Moody’s and S&P, downgraded from the previous AA rating.
On the other hand, what’s really important is the financial consequences. Not many bonds are sold with that low a rating, so comparisons are a little challenging. But I see that those bonds sold for yields of from 3% (1 year) to 4.375% (15 year), a better rate than similarly rated securities from Missouri and Texas got last fall.
In other words, what damage there will be may already have been done. Not only are we hearing that we will be punished for imagining that words in a bond prospectus should have their plain meaning to bond investors, but we are already being punished for even having the temerity to discuss the proposition. This is nothing more than financiers desperate to be made whole for their own misjudgments, feeling confident they can browbeat the state into doing it, and then doing so.
And it will probably work, too. The threats of the bond rating agencies are very effective, since your governments, at every level, are big borrowers. And because they do this borrowing as mere customers, they have to do whatever the bankers say. Which is strange, because yours is a state with billions of dollars in assets. An individual or company that controlled that much money would reject the kind of treatment our governments think is routine. Indeed, the hold of the financial industry over governments in America is a lasting disgrace, a blot on our nation, and the threats we’re all hearing is only the latest shameful chapter.*
It would be one thing to accommodate the financial industry if it were holding up its end of the bargain, but it does not. Why do agencies like RI Commerce (formerly EDC) and the Providence Economic Development Partnership exist, in virtually every state, county, and city in the nation? It’s because of capital market failures. There are qualified business borrowers all over the country who cannot get access to the capital they need to grow, and their entreaties to governments across the country have conjured into existence agencies like EDC and PEDP. Obviously, these agencies are subject to corruption, but corruption is not why they exist. They exist because of a private market failure to allocate capital in a public-good-maximizing fashion, in city after city and state after state.
The choice ahead is not between go along with the financial industry and remain unharmed or resist and be crushed. The choice is to go along with the financial industry that is already punishing our state — and whose spokesmen cannot promise they will not punish us anyway — and resisting the threats to find a better way. Senators and representatives who choose to resist have a special duty to seek alternatives to the financial industry in its current state. These exist, and are in place in other states and other countries around the world. It’s long past time we learned from those examples, and understood that the public good is not the currency of our nation’s financial markets.
*I wrote a book about this: Checking the Banks.