Can government really “finance” a stadium for the Twins without “funding” it? Get outta here. Are you nuts or something?
The idea of financing without funding — a distinction posited by the governor and his finance commissioner — is legally correct, but economically incorrect.
Here are the basics: The Twins owners will “give” $165 million to the city or other government entity that will build a stadium. This unit of government will borrow $330 million by selling revenue bonds.
The gift to government will most likely be invested in bonds. The expected rate of return on this investment is about 2 percentage points higher than the interest due on the bonds.
A portion of each year’s earnings on the invested gift will be used to make annual interest payments on the bonds. The rest will be reinvested.
The compounding of the original principal and reinvested earnings, along with annual payments by the host city and team, will make the investment fund grow so that it will be sufficient to pay off the principal amount of the bonds when they mature after 30 years.
But the gimmickry throughout this plan doesn’t overcome a basic economic reality — there’s no free lunch.
For example, backers of the plan assert that it won’t cost taxpayers, and that Minnesota will benefit from “arbitrage,” or the difference between what the state pays to borrow and what invested cash may earn.
To show why this is faulty economics, let’s take the concept further.
Why don’t state and local governments issue hundreds of billions of such bonds at low interest rates, say the 6.5 percent hypothesized for the stadium bonds? The proceeds could be invested, earning 8.5 percent and the 2-percentage point differential could pay state and local expenses.
You may recognize this as the “reducing to absurdity” technique of argument taught in freshman philosophy classes.
Governments can borrow at lower rates of interest than the returns expected from private sector investments. That’s because lending to governments usually is less risky than lending to private institutions.
But the more any particular government institution borrows, the riskier its bonds become, and the higher the interest that they must bear.
The state of Minnesota — or the eventual “host” municipality — perhaps can borrow money for 6.5 percent, but only because the taxpayers in the state or city bear the risk of the project.
Yes, advocates point out that the stadium plan involves revenue bonds, secured only by income from the project rather than general obligation bonds backed by the “full faith and credit” (and taxpayers) of the government.
But this distinction means less in real life than in law books.
Why? If Minneapolis or St. Paul issues $300 million in revenue bonds and eventually defaults on them, in whole or in part, you can bet that the interest costs on all future borrowing by that city will be higher.
In fact, no default need take place for the government involved to face higher interest rates on all new borrowing.
If issuing $300 million in revenue bonds convinces financial analysts that the city or state is becoming over-leveraged, the ratings on its debt will be lowered, the market value of existing bonds held by the public will drop and new bonds will be sold only at higher rates.
Streets, parks and public buildings will cost more because of the risk taken on by issuing bonds to build a stadium.
Another aspect that needs attention is the whole “gift” component.
Why does the team need to give money to government for government to invest in some fund over which the team retains direction? Why doesn’t the team just invest the money itself and use the proceeds to pay an equivalent portion of the stadium amortization?
The answer is that, if the money is gifted to the state, it will be a business deduction on the Twins’ state and federal income taxes.
Moreover, if title to the invested funds legally remains with government, even if the team’s management controls investment decisions, the annual interest or dividend earnings will not be taxed.
Bingo, Twins earn a double tax dodge, resulting in lower income tax receipts by the state and federal government.
Finally, some analysts argue that the numbers just don’t add up.
A simple spreadsheet prepared by John Rutland and Mike Sher, professors at Montana Tech and Metro State universities, respectively, show that the proposed revenues added to the gift fund don’t result in enough cash to retire the $330 million in bonds 30 years from now.
Look, the plan is probably as good a political and financial compromise as one could hope for. Furthermore, until some federal laws are changed, the deck is stacked in favor of team owners.
So if Minnesota wants to keep the Twins, it will probably have to pay some sort of ransom, much of which will inevitably flow to Carl Pohlad’s bottom line.
But taxpayers will assume risk and face higher borrowing costs generally. And state and federal treasuries will forfeit potential tax revenues from investment earnings.
This is in addition to what the local taxpayers in the eventual host city will pay for the honor of having the team.
Read my lips: There’s no free lunch.
© 2002 Edward Lotterman
Chanarambie Consulting, Inc.