"INJUDICIOUS ASSET ALLOCATION"
By Bob Schulz* July 1998
New York’s highest court, the Court of Appeals, in June once again rejected an
attempt by citizens to challenge a state bond issue on grounds that it violates the State
Constitution. The case was argued by myself and involved the $1.75 billion environmental
bond act of 1996. It was the latest in a succession of four bond debt cases I have filed
to reach the high court in the last five years. Other cases are on the way.
One previous case concerned the state’s 1990 scheme to "buy" Attica
prison from itself as a pretext for issuing $200M in bond debt through its Urban
Development Corporation. Another case concerned the creation in 1990 of a Local Government
Assistance Corporation and its authorization to issue $4.7 billion in bonds.
Constitutional violations at issue in these two cases were: public debt without voter
approval, use of public money to service debt of a public corporation, and lending of the
public’s credit to a public corporation.
These two cases were heard together, and Judge Bellacosa wrote the decision in 1993. He
dismissed the LGAC case for a "lack of standing." In the Attica matter, he
granted standing in only one of the three constitutional issues involved, and said the
court normally would then proceed to judge the merits of the issue. However, even though
there are no time limits on issues of constitutionality, Bellacosa wrote that to nullify
such a massive bond issue after bonds had been sold could cause a "traumatic
disturbance" to public finances, and that therefore the case was filed too late, and
it was dismissed. He likened it to "the impossibilities of putting genies back in
their bottles."
Bellacosa emphasized in his ruling that the merits of the case remained untouched. So
the constitutional issue of New Yorkers having these enormous debts heaped upon them
without voter approval was dismissed in favor of not upsetting the bond market and bond
holders! Our constitutional rights were less important than the interests of the bond
holders, underwriters, and brokers.
Judge Smith, writing a strong minority dissent, wrote that the question of timing
should not bar a determination on the merits, that the magnitude of the financial burden
and the issue of constitutionality far outweighed any timeliness question, and that
"What this court should not do is fail to allow the merits of these constitutional
issues to be addressed."
The U.S. Supreme Court did not find it difficult to deal with the genies and their
bottles. They ruled that state or public corporation bonds are indeed in jeopardy if they
have been issued unconstitutionally, and the bond holders must bear the risk. "A
finding of unconstitutionality renders invalid all debt incurred...Purchasers of bonds,
before purchasing them, must inform themselves at their peril with respect to the power of
the public body to issue the bonds." Those who issue unconstitutional bonds are seen
as "...having as little regard for the investor as their whole program has for the
State Constitution and the taxpayer."
From Bellacosa’s decision, the state and its public entities learned that their
unconstitutional bond issues should be massive, not modest, and that the bonds should be
ready to sell immediately upon "authorization," so that any challenge can be
rejected as coming too late. The recent $8 billion Long Island Power Authority (LIPA) bond
issue shows they learned the lesson well, having marketed these bonds within thirty days
after authorization.
Another prior case involved the Transportation Bond Act of 1993, which authorized the
Metropolitan Transit Authority and Thruway Authority to issue $6 billion in bonds to be
paid off from taxes, a clear violation of the State Constitution, in addition to the
violations of lending the state’s credit to a public corporation and of not putting
the matter before the voters. Judge Kaye wrote the decision in 1994, denying standing on
two of the three constitutional claims and ruling on the third that this was not state
debt! She also recommended that if state borrowing "gimmickry" has
"stretched the words of the Constitution beyond the point of prudence," then
voters should consider amending the Constitution! She was referring to the specific
constitutional amendment then being proposed by the legislature that would legalize all
the unconstitutional financing schemes the state was engaged in, including back door
borrowing. The voters indeed considered that proposal and resoundingly rejected it in
1995. Her own words acknowledge that the gimmickry does indeed involve state debt.
In the case recently concluded, Chief Judge Kaye wrote the decision, again denying
standing to pursue a key constitutional claim. She cited concerns similar to those in
Bellacosa’s 1993 decision - that such lawsuits "increase the cost of raising the
revenue by creating uncertainty in the minds of potential investors." The
Constitution and the right of citizens to petition the government for redress of
grievances lost out again to the interests of the bond sellers, bond holders, and bond
counsels.
The matter of standing, in fact, has itself been a key constitutional issue in these
cases. It stems largely from State Finance Law 123-b of 1975, which bars citizens from
challenging state borrowing practices. The unconstitutionality of trying to overrule the
Constitution with a mere statute has been argued in these cases, but ignored by the court,
and it is not addressed in the decisions. Bellacosa’s 1993 decision affirmed
"the People as the source of all governmental power" under our principles of
checks-and-balances, that voters are the ultimate check against imprudent government
financing schemes, that citizens must have standing as voters or taxpayers to sue over
financing schemes that are subject to voter approval, and that "it must be considered
unlikely that the officials of state government who would otherwise be the only ones
having standing to seek review would vigorously attack legislation under which each is or
may be a personal beneficiary." As we shall see, the same principle has implications
for judges.
Are the bond markets and bond holders really so much more important that the
constitutional rights of the state’s citizens? Perhaps it depends on who issues and
holds the bonds. Financial disclosure statements on file at the court ethics commission
reveal that Judges Kay and Bellacosa both have deep financial interests in bonds issued by
the state and by New York’s numerous public corporations and authorities. These
entitles are often used to try to get around the state’s constitutional restrictions
on public debt, of which there are several, particularly in Articles VII, VIII and X.
Certainly one of the greatest causes of New York’s runaway debt, poor credit rating,
economic decline, and exodus of business, industry, and jobs is the use of public
corporations and authorities to issue tax-supported bond debt, especially without voter
approval.
Judge Kaye’s husband is a partner in a New York City law firm that provides
services to a long list of bond-issuing public entities, including the City of New York
and its Housing, Transit, Economic Development, School Construction, and Port authorities,
the Metropolitan Transit Authority (yes, the same MTA that issued the bonds in the $6
billion Transportation Bond Act noted above, and for which his wife purportedly wrote the
decision dismissing the legal challenge and recommending the Constitution be amended!),
Tri-Borough Bridge and Tunnel Authority, Yonkers Municipal Housing Authority, NY Public
Library, Long Island RR, Metro-North Commuter RR, and so on. Since this information began
to be collected in 1990, her financial disclosure forms list financial holdings of NYC
bonds, government securities, and various other bonds held in accounts with commercial
brokerage firms.
Judge Bellacosa’s financial disclosure shows that he owns bonds issued by the
above clients of the law firm in which Kaye’s husband is a partner, as well as a long
list of other New York municipal bonds, including New York municipal bond mutual funds. He
is, in fact, very heavily invested in New York bonds. New York’s huge debt, highest
in the nation by far, and its poor credit rating, lowest in the nation, result in high
bond yields. That’s a disincentive for someone who holds New York bonds to change the
situation. So it’s not just a question of whether a judge owns a particular bond that’s
being challenged in a case. A threat to one muni-bond is a threat to all of those that
have been issued on dubious constitutional grounds. Pandora’s box could be opened by
any of these cases, affecting the value of all New York’s bonds. And investor’s
could be scared away from future bond issues.
It’s no wonder that Judge Bellacosa and Chief Judge Kaye have written decisions
that give higher priority to the stability of the bond markets and the interests of bond
investors than to the interests of taxpayers and enforcement of the State Constitution, or
advising that voters should change their Constitution so the court won’t have to
stretch it beyond prudence to avoid overturning clearly illegal bond issues! And it’s
no wonder they resort to dismissing these bond cases by denying standing or by other games
of changing definitions, rather than face key issues on their merits. Imagine the
consequences for a law firm if it’s clients’ bonds were ruled unconstitutional!
Keep in mind the courts have never ruled that the bonds in question passed constitutional
muster. Its obvious that these two judges will continue to play a shell game in order to
evade the ultimate questions of constitutionality.
It is apparent that both Kaye and Bellacosa have severe conflicts of interest and
should have recused themselves from any participation in cases involving bond issues. That’s
what Judge Levine did in these cases, and properly so, since he also has considerable New
York municipal bond holdings. One must suppose that the reason the ethics commission
collects financial information from judges is that they’re not assumed to be immune
to financial influence, and it’s necessary to be able to ascertain if conflict
exists. If much of one’s life savings is invested in New York bonds, or if a
significant amount of one’s family income depends on bond issues, it’s
inconceivable that one can be objective about cases that could affect such financial
interests. Other judges on the Court of Appeals are invested in CDs of U.S. Savings Bonds
or equity funds that appear to offer little conflict with these bond cases. While CDs and
Savings Bonds don’t have after-tax returns as exciting as New York bonds, they are
more consistent with service to justice. Yet, the two most conflicted judges have been the
ones writing the decisions.
Another bond case currently working its way towards the Court of Appeals is the NYC
Transitional Finance Authority (TFA) case, in which the state in 1997 authorized the TFA
to issue up to $12 billion in bonds for New York City, while at the same time
acknowledging in the law itself that it is unconstitutional! It not only exceeds the
constitutional limits on debt for New York City, but is to be paid off from income and
sales taxes. The preamble to the bill says these bonds will continue to be issued until
the "outdated" State Constitution is changed to allow higher debt for NYC!
(Hence, the term "transitional.") Many of the bonds have already been purchased
by major tax-free-bond mutual funds and individual investors. As noted above, Bellacosa is
one investor in New York municipal bond mutual funds. An article in "The Bond
Buyer" on August 25, 1997, discussed whether the TFA bonds would be upheld against
the legal challenge. It quoted one attorney, former governor Mario Cuomo, as saying that
"the court will find a way." Another said, "If this is upheld, the
constitution will have been trashed."
With so much of the government’s bond debt being issued for the benefit of New
York City, it is interesting to note that, with Levine from Schenectady recusing himself,
five of the remaining six Court of Appeals judges are from New York City. That’s
quite a geographical imbalance. The TFA case just mentioned is now at the Appellate
Division in Albany awaiting decision. It’ll be interesting to see how the appeals
courts handle this one.
This degree of conflict of interest and geographical imbalance is one result of our
Appellate Division and Court of Appeals judges being appointed rather than elected.
Opponents in an election bring public attention to each other’s vulnerabilities. Not
so when governors nominate and the senate approves appointees to our higher courts. They
are willing enough to look the other way rather than scrutinize a conflicted judge who
they hope will not overturn bond debt they legislate for their projects. Judges in lower
courts could be mindful that they may not get promoted if they should rule against bond
issues. There is also a lack of scrutiny by the press, which gives little attention to the
courts anyway, focusing instead on the legislative and executive branches.
Judges are expected to abide by a higher standard than we expect from other officials.
They are the arbiters of our ethics and even our morals. They must be above reproach.
Legal and judicial ethics require that they avoid conflict or even the appearance of
conflict. That principle has been seriously violated.
To summarize: the two most conflicted judges on the Court of Appeals, including the
state’s Chief Judge, have repeatedly not only participated in, but actually written
the opinions for, cases in which they had direct, indirect, and substantial personal
financial interests -- conflicts that defy judicial standards. They have used a semantics
shell game to reject the cases and evade key constitutional issues that could result in
nullification of bonds and disturbance in the bond markets, thereby sacrificing our
constitutional rights to the interests of the bond markets. We shouldn’t have
important decisions in New York’s financial cases being influenced or made on the
basis of judges’ financial self-interest and pillow talk. These are decisions that
will cost New Yorkers scores of billions of dollars for decades to come. These cases
should be re-tried and the offending judges should resign. In joining the feeding frenzy
at New York’s public trough, they have made a mockery of the State Constitution and
the legal process. They can no longer have any credibility, and this will result in a more
cynical perception of the court.
Did I mention that Kaye’s decision assigned costs to me even though defendant didn’t
ask for it? That’s punishment for exercising a citizen’s right to redress of
grievances. Once again, and true to form, the thinking was in terms of money, not
principle. |