Greece default and why are US States not seen defaulting?

Question

Reading various articles, it is clear that Greece is in the situation simply due to the fact that they have indulged in overspending on their national budget for over a decade, and with the 2008 financial crisis this have have worsen as they have lost additional revenue.

Every US state and city is also responsible for their own budgets, and making sure that they are kept in balance -- while a handful of US cities have gone bankrupt, there have not been any news about US state getting into a crisis of the same scale as Greece has.

Is there a difference between how a national budget is run in the Euro Zone versus how a US State budget is run with respect to oversight where a US State cannot get insolvent to the same degree as Greece before the US Fed steps in?

What are the lessons from the US model which would need to be implemented in the Euro Zone to prevent another Euro Zone member to end up in a similar situation?

EDIT

Specifically; Are there any specific laws in the US which allows the Feds to step in before a state defaults?

Answer 1

Every of the United States except Vermont is required by law to balance their budgets. 45 states have some sort of constitutional balanced budget provision and another 4 have it by statute. (Source)

According to Inman (2003), such balanced budget provisions were mostly adopted after the state defaults of the 1840s:

Following the defaults of state debts during the 1840s, the European bond market was naturally reluctant to lend to U.S. states. The states responded by agreeing to debt repayment schedules for their outstanding debt and then by promising never to default again.

The promise took the form of a constitutional or statutory commitment to run balanced budgets on the current accounts--that is, not to play the default-bailout game. The nondefaulting states and new states entering the Union after 1850 found it important to signal their commitment to balanced budgets; they too passed balanced budget rules. Today, all U.S. states--except Vermont, whose fiscal prudence is legendary--have either constitutional or statuory balanced budget rules aimed at constraining state and local deficit behaviors.

States have apparently paid some respect to their own balanced budget rules, given that no state has defaulted since the Great Depression: this source lists all state bond defaults.

(I am not aware of any federal legislation requiring states to balance their budgets. I suspect, but am not sure, that it would be difficult if not unconstitutional for the federal government to try to foist some balanced budget requirements on the states.)

Most sovereign states in contrast do not have balanced budget rules, though some European countries have adopted such rules in the past few years (Wikipedia).

P.S. A very similar question was asked over at money.SE a few years ago.

Answer 2

Two reasons:

1. The United States has a capable federal government that takes care of social insurance transfers and countercyclical economic policies. The American states spend less.
2. The American states have stronger anti-tax sentiments, and increasing public spendings face opposition from business and rich people.

Take the 2008 crisis for example.

As for 2008, all developed countries, including Greece, had a lot of bad debt in the private sector and a subsequent recession due to the credit crunch. The United States immediately approved two things in response: a $700 bn stimulus and the Fed's QE programs. They cleared bad debt and supported business in 2009.

These measures was done at the federal level. It's the federal government that took additional debt. And the debt looked like this:

(McKinsey - 2012 - Debt and deleveraging)

The EU was slower. And its recovery fund lent money to European countries (as if the US fed government lent money to the states), so increasing their debt-to-GDP levels. This is how the EU, IMF, ECB happened to be the holders of all Greek bonds and a demanding creditor, as for now.

In short, US states got their federal stimulus for free, while Greece had to buy the stimulus on its own.

Answer 3

Unsustainable is a strong word for describing state budgets. The three worse states going by credit rating are Illinois, California, and New Jersey. Each of them has a better credit rating then Greece. First you need to understand why Greece defaulted and not Spain or Portugal. Greece is a mess (technically speaking). First, Wiki tax evasion and corruption in Greece. The infrastructure for a sustainable tax revenue is just unrealistic. Second; Greece, Spain, and Portugal (and you may even say Iceland, but they are not part of the Euro and had other tools in their belt) were in the same boat after the financial crisis. Spain and Portugal took their medicine. They adopted austerity policies that gave them flexibility. Greece did not. When the Euro experienced a double dip recession, Spain and Portugal's previous reforms gave the markets confidence in them. Greece inspired no confidence.

To compare Greece to the states, Anton's description of the feds fiscal policy is dead on. Instead of trying to generalize all three, I will focus on one, New Jersey. New Jersey has the third worse credit rating for any state. The reason for this is purely political. New Jersey is number 8 in GDP by state (Illinois is 5 and Cali is 1) and 11 in population (Illinois in 5 and Cali is 1). The media in NJ consistently talks about a bloated pension system. While the system may be high, it is not unsuitable. The real problem is the political dead lock between the governor and legislator. With out picking sides, both have failed to finance the budget. Instead they choose to sell assets to fill budget deficits. An example is a lawsuit they won against cigarette companies that pays NJ money every year. NJ sold this to fill a gap in the budget. Actions like these makes the markets lose confidence and pushes NJ closer to default.

That being said, NJ problems and Greece's problems are two different beasts. For all NJ short comings, they have a massive tax base that actually pays taxes, a responsible and effective legal system, the US FED, non-corrupt politicians (but not effective), New York City, and industry. Greece has none of these things ( I am still not sure what Greece exports other than unfinished goods).

The second question was what could be learned.

You should read this paper written in 1999.

is there a point where the Feds will step in and take over all the responsibility of the state, ensure that a state cannot go bankrupt ?

The Federal Bankruptcy law does not allow states to go bankrupt. I am unaware of a time where the Feds had to step in to float a insolvent state. California issued iou's to people in 2009 but received no help. Remember that for most of US history, good practice was considered to have a balanced budget. It was not till the mid 20th century that states started to take on serious debt.

If a state was to be seriously insolvent, the Feds would have to bail them out. Now, the Fed doesn't have to legally, but to save the economy from a dip it would (just how it bails out financial institutions). It would most likely be a buy bonding program and the federal courts and federal administrations would be heavily involved with things such as pension reform or whatever the case may be.

As to what Europe can do from the fed model: Read the paper. A brief explanation is that in America, the citizens consider themselves Americans, not New Jersians or Californians. They are willing to accept the rule of a federal system. In Europe this is not the case. A citizen of Germany considers herself a German, and a person from Italy an Italian. Neither of them would be willing to give up their independence to submit to a federal system the way the states do. For the EU to work, they would need complete separation from the National governments. For example, Merkel would not be involved in the Greek bailout talks (she would be more of a governor), France's legislator would not vote on it (it would be a state legislator), and Greece would have to accept whatever the EU says (because all Federal law trumps State). The people of those countries would have to appoint a leader (the German word is Führer) and Germany would have to accept an almost equal say in things as Malta (just as NY has just as many senators as Alaska). I do not know how realistic that is, and history suggest that it would not be peaceful.

And as a side note, Greece is like Argentina. Every person who bought a bond from Greece knew it would default, it was just a matter of time. This is not the first or last time Greece will fail.

Answer 4

I globally wanted to back @Sha’s answer, providing slightly more details. To me, your question is biased in the sense that you asking to compare a sovereign state as Greece and a state of a federal country. I underline this cause once you accept it, different type of answers come up.

Comparing Greece and US as the whole would be more relevant, and then, the main difference in laws of those two entities is that one controls its currency and this other does not. And Euro is definitely not tailor-made for Greece. EU central bank (ECB) is independent and has officially only one mandate, control inflation. For instance, the talks that went on recently about whether keeping Greece into Euro are just out status, so they can’t really be compared to something like ‘the Fed would intervene’. All is really new and mechanisms are really being tested lately. A Greece with Drachma and its own central bank would have had leverage to get more solvent over the years, or an EU with more transfers between States (See EU shared budget compared to US, 1.10% versus 17.5% 2007 : way less leverage for common policies , wiki) . Also, I do not want to be interpreted as the guy who says ‘Greeks would have done great by themselves’, as I really think that the fact their politicians have been keeping such high deficits for so many years was a really big mistake.

This was concerning the legislation point of view, also a main difference is the greenback power, which as stated by @Sha, permits US to keep getting low rates even if some measure of risk values are really similar between the two. Debt/GDP ratio as of 2008 : Greece 105 % US 80 % .