(Bloomberg News) Seven months after Hurricane Katrina ripped holes in the Superdome's roof in 2005, Louisiana State Bond Commission members made what they were told would be "the best of a bad situation" in financing the stadium's renovation.
Acting against the recommendation of their staff, the commissioners voted for a Merrill Lynch & Co. plan to use debt and interest-rate swaps to pay for the job. While the deal helped keep the National Football League's New Orleans Saints from leaving town -- and the arena got new scoreboards while 12,000 seats were converted to luxury class -- taxpayers became the losers for supporting a winning team.
The cost of financing the work has reached $42 million, almost a quarter of the $187 million spent on Katrina-related repairs and enhancements and three times as much as expected. The deal became so expensive that the state repurchased the debt sold by the New York investment bank to stop the bleeding.
"It was a flawed idea out of the gate," said Robert Brooks, who teaches financial management at the University of Alabama in Tuscaloosa.
Scores of public officials, including Michael Bennet, now a U.S. senator from Colorado, and Jon Corzine, the former governor of New Jersey, bought the same Wall Street pitch: So-called auction-rate bonds would lower financing costs by allowing them to pay short-term rates, and interest-rate swaps would protect them if markets moved in the wrong direction. Corzine didn't respond to a request for comment. A Denver schools spokesman, where Bennet was superintendent at the time, defended the move.
"It's no surprise that the leaders went for something with that level of complexity," Brooks said. "An auction-rate security with a swap is much more exciting for the officials, but it's terribly expensive for taxpayers."
Government overseers often didn't understand that the market was controlled by the banks that sold the derivatives they claimed would minimize risk, and that could impose penalties when deals unraveled.
From Portland to Puerto Rico, officials gambled with sewer, road, school, pension and stadium financing. Municipal securities made up about half of the $330 billion auction-rate market when it collapsed in February 2008, data compiled by Bloomberg show. Taxpayers have forked over $20 billion in fees for swap agreements in the past five years, according to Andrew Kalotay, chief executive officer of the debt-management firm Andrew Kalotay Associates Inc. in New York.
Public officials, Kalotay said, "think they know what they're doing, and they screw up." Few have acknowledged their mistakes. "No one wants to say out loud they're unsophisticated," said Marcus Stanley, policy director of the Washington-based nonprofit Americans For Financial Reform, a coalition of unions and civil rights and consumer advocates.
"In most cases, the elected political leadership are part-time amateurs," said Roger Noll, professor emeritus of economics at Stanford University near Palo Alto, California. "They get a noisy political grassroots movement that wants to subsidize a team, and then they get sold a bill of goods."