[Chicago mayoral candidate Paul Vallas helped create a financial
disaster as head of Chicago Public Schools, making bond deals worth
$666 million — whose exorbitant interest payments to Wall Street are
now robbing the city’s school system.]
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PAUL VALLAS GAVE WALL STREET MASSIVE AMOUNTS OF MONEY AS CHICAGO
SCHOOLS CEO  
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Matthew Cunningham-Cook
March 24, 2023
Jacobin
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_ Chicago mayoral candidate Paul Vallas helped create a financial
disaster as head of Chicago Public Schools, making bond deals worth
$666 million — whose exorbitant interest payments to Wall Street are
now robbing the city’s school system. _

Paul Vallas, Democratic mayoral candidate for Chicago, during an
interview in Chicago, Illinois, on March 16, 2023., Christopher Dilts
/ Bloomberg via Getty Images

 

When he led the Chicago school system, mayoral candidate Paul Vallas
took actions that resulted in more than $1.5 billion being transferred
out of the city’s budget-strapped public schools and to some of the
wealthiest individuals and banks on the planet, a new report shows.

Now, Vallas is in an election runoff against Cook County
Commissioner Brandon Johnson
[[link removed]] to
lead the city of Chicago, with big support from wealthy investors and
other corporate interests — including from executives at law firms
and banks that benefited from the controversial financing methods
Vallas used as CEO of Chicago Public Schools from 1995 to 2001.

With less than two weeks left before the April 4 election — which
polls show is a tight race — Vallas has faced little scrutiny over
his tenure as the Chicago Public Schools chief, even though he helped
create a slow-moving financial disaster for America’s fourth-largest
school system.

With Vallas at the helm, Chicago Public Schools issued $666 million
worth of so-called payday loan bonds, according to a report
[[link removed]] from
the Action Center on Race and the Economy (ACRE).

Moderator News Flash: 

Bernie Sanders, Chicago Rapper Vic Mensa to Hold Pre-Election Rally
for Brandon Johnson Thursday March 30, 2023 7:00 p.m. UIC Forum, 1213
S Halsted, Chicago, Early Voting Now Open at 52 Sites
[[link removed]]

 

The interest payments on the bonds totaled $1.5 billion. A
2016 analysis
[[link removed]] from
the Texas comptroller’s office found that the type of bonds Vallas
issued can be three times more expensive than traditional bonds —
meaning that Chicago Public Schools could have faced up to $1 billion
in additional interest payments above a normal rate.

That $1 billion is almost exactly the budget shortfall that former
Chicago mayor Rahm Emanuel, the current ambassador to Japan, cited
[[link removed]] as
justification to shutter
[[link removed]] fifty
Chicago public schools a decade ago. Some of Emanuel’s largest
donors, like Citadel hedge fund CEO Ken Griffin and executives at
private equity firm Madison Dearborn Partners, are currently backing
Vallas.

“[Vallas] got Chicago Public Schools into really bad deals that
we’re still paying for a quarter century after he left,” said
Saqib Bhatti, the codirector of ACRE. “And the fact that his
strongest base of support comes from Wall Street should in and of
itself be a big red flag.”

“It Was a Gimmick”

The criticisms of Vallas’s budget management center on two opaque
areas of municipal financing: “capital appreciation bonds” and
“interest-rate swaps
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Cities, states, and school districts routinely issue debt to pay for
new infrastructure projects and to fund ongoing cash needs. For
decades, municipal bonds were considered a plain vanilla sector of
finance: municipalities would issue debt at a twenty- or thirty-year
fixed interest rate, like a traditional mortgage. But starting in the
1990s, more exotic forms of financing came to the fore.

One example of those exotic forms of financing was capital
appreciation bonds. Called
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school district equivalent of a payday loan” by former California
state treasurer Bill Lockyer, these bonds don’t allow borrowers to
make any principal or interest payments for many years — as long as
fourteen years in the case of Chicago Public Schools — allowing
governments to defer payments and investors to compound their interest
and thus earn huge interest rate payments.

The report
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ACRE found that Vallas issued $666 million in capital appreciation
bonds during his tenure at Chicago Public Schools, resulting in $1.5
billion in interest payments — an effective interest rate of 223
percent on bonds issued to fund general operations of the school
district.

Financial firms involved
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the marketing of the capital appreciation bonds included Goldman
Sachs, Bank of America, Lehman Brothers, and the Royal Bank of Canada.

“As a policy, I thought [capital appreciation bonds] was a bad
idea,” Lockyer, who was California’s treasurer from 2007 to 2015,
told us. “Bonds ought to pay for the project that’s contemplated.
. . . Interest charges are fine. But building in capital appreciation
bubbles seemed to me to be a bad idea.”

Capital appreciation bonds were routinely marketed on assumptions of
higher property values in the future due to the improved public
services funded by the bonds. That optimistic modeling, in theory,
justified the years of delayed payments, which allowed the bondholders
to capitalize interest.

“To tie it to some speculative increase in local property values
just doesn’t make sense,” said Lockyer. “I do give [the
municipal finance industry] credit for always figuring out a new
clever scam, but that’s what I thought it was. It was a gimmick that
allowed them to claim that the costs of the bond were going to be
significantly less than the workout justified.”

Citing Lockyer’s concerns, California cracked down on
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appreciation bonds in 2013.

“They’re Unpredictable”

Vallas also oversaw bond deals that led to costly interest-rate swaps.

Interest-rate swaps involve a municipality initially issuing
variable-rate debt, like a variable-rate mortgage, and then
“swapping” the debt for a fixed interest rate in a transaction
with a bank.

Under Vallas in 2000, Chicago Public Schools issued $303 million in
variable-rate debt, some of which was later subject to interest rate
swaps that cost the city’s schools $32 million, according to the
ACRE report.

Interest-rate swaps have been a subject of enormous controversy in
Chicago, with routine
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banks and financial firms that profited from the deals. Those protests
were often led by the Chicago Teachers Union (CTU), which is backing
Johnson, a teacher and former CTU organizer, in the mayoral race. In
total, all of the swap deals initiated by the school district — not
just under Vallas’s watch — have cost the city’s schoolchildren
$508 million, said Bhatti at ACRE.

When Vallas was the superintendent of the School District of
Philadelphia from 2002 until 2007, Vallas made $691 million in swap
deals, with the total cost to the school district being $162 million,
the ACRE report found.

Jack Wagner, a former auditor general of Pennsylvania who routinely
audited swap deals, told us that the swaps were too risky and that
they should be banned.

“With concern in the banking system again, there is greater
potential that certain entities that are involved in interest rate
swaps could be subjected to losses,” Wagner said. “The big issue
there is they’re unpredictable. And unpredictable financial sources
should not be part of public money because obviously you are gambling
with public money. And it’s very difficult to understand swaps, let
alone follow them.”

Those concerns were echoed by Joe Fichera, a former Wall Street
executive who has studied interest-rate swaps.

“Most municipalities don’t have the in-house expertise to evaluate
swaps, so they have a swap advisor who only gets paid if a deal gets
done,” he noted.

“You’re taking on multiple risks that you may not be able to
manage,” Fichera continued. “The unwinding of swaps creates
enormous payments that you have to fund, which shows the kinds of
risks you have. The structure is built for the bank, not the
government, because the banks are smarter.”

Vallas has received $5,000 in campaign cash from Allan Muchin, whose
firm Katten Muchin did legal work
[[link removed]] on some of the
capital appreciation bonds, as well as $5,000 from Paul Crimmins, a
partner at Mayer Brown, which also
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on the bonds.

Additionally, Vallas has received $1,000 from an executive at the
Royal Bank of Canada, the bank that did
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Chicago Public Schools swap deal which emerged from the variable-rate
debt issuance overseen by Vallas.

“The absurdly complicated deals that were so ruinous for Chicago’s
and Philadelphia’s public schools were the emperor’s new clothes
of public finance,” said former Democratic representative Brad
Miller of North Carolina, a critic of Wall Street municipal finance
deals. “Vallas thought he was in the small circle of sophisticates
who understood the deals and the emperor’s new clothes were
beautiful. When the deals went to hell, the Wall Street banks told
everybody that the deals were great but they just got unlucky, and
Vallas believed that too.”

_MATTHEW CUNNINGHAM-COOK has written for Labor Notes, the Public
Employee Press, Al Jazeera America, and the Nation._

_Subscribe to JACOBIN today, get four beautiful editions a year, and
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