Blame Bank Scams for Chicago Public School Crisis

Nov 24, 2014

Chicago Mayor Rahm Emmanuel’s appointed school board has slashed budgets, laid off teachers, and closed more than 50 schools since 2011, due to what it calls budget shortfalls. It claims there is a money shortage. In fact, it owes as much as 100 million dollars. This is the result of financial scams carried out against the schools by the big banks with the help of their friends running the school board and its financial advisors.

The Chicago Public School system started on a campaign of school construction in the mid-1990s. Initially, it borrowed money to pay for the construction by issuing bonds at fixed interest rates. Around 2003, however, a new Chief Administrative Officer named David Vitale, began pushing for the CPS to enter into what he called “more creative” borrowing methods involving floating, rather than fixed, interest rate bonds and interest rate swaps.

It’s no wonder Vitale was so keen on these slick arrangements. He came straight out of the banking world as a former vice chairman and director of Bank One Corp.

The big banks were mounting a widespread campaign to draw municipalities and school districts into such schemes. They sent roaming salesman around the country to give presentations on how governments could benefit financially from these new methods.

Vitale and CPS undertook to issue a specific type of floating rate bond called “auction rate” bonds, whose rates were determined by bond auctions. CPS also entered into interest rate swap agreements with the banks. The banks made this combination of floating rate bonds with interest rate swaps attractive by including large upfront payments to the cash-strapped district. Under the arrangement, if the banks set the swaps in motion, CPS would issue new floating rate bonds to pay off old fixed rate debts. CPS would pay the banks the old fixed interest rates and receive in exchange a floating rate from the banks based on a common floating rate called the Libor. Assuming that the floating rate on the new bonds was close to the Libor rate, all CPS would have to pay would be the fixed rate payments.

Unfortunately for the CPS, in late 2007 the auction bond market collapsed, causing bond interest rates to skyrocket. The auction bond rate went to 9 per cent, while the Libor remained low.

CPS decided to terminate the swap agreement and go back to fixed rate financing. Unfortunately, the agreements came tied to huge termination costs, which are now expected to go as high as 100 million dollars for two of the swaps.

This financial boondoggle was no accident, and certainly not unique to the Chicago Public Schools. A similar floating rate bond-interest rate swap agreement contributed to the city of Detroit’s financial crisis that led to its bankruptcy.

These types of agreements were not even legal in the state of Illinois, when Vitale and CPS first considered them. Illinois state lawmakers passed a bill to legalize them just months before the CPS issue its first auction rate bond.

Internal memos from Bank of America show the bank knew the auction bond market was going to collapse in late 2007. The banks had for years propped up the auction bond market by buying bonds themselves. In late 2007, Goldman Sachs pulled out of the market, starting its collapse.

Despite its knowledge of the coming collapse, Bank of America still entered into a 30-year floating rate bond-rate swap agreement with CPS.

Rahm Emmanuel says the agreements CPS agreed to were a “contract” and says it should simply deal with it. He recently claimed those types of agreements all occurred before he took office, yet the Chicago Tribune recently showed that he, in fact, had entered into new agreements himself.

The Chicago Public Schools “debts” are the result of a huge scam by the banks. Emanuel and other Democratic and Republican politicians view the public schools as a way to make more profit for the banks, not as a means to educate children. This is where their society is taking us.