Essay on the Orange County California Bankruptcy: Cause and Effect

The Orange County California is one of the largest municipalities in the US. On the 6th day of December 1994 it filed for bankruptcy, therefore, became the first county in the history in the US to be declared bankrupt. The county Treasurer Bob Citron a financial manager who had served this municipality for 24 years could be capable of the bankruptcy. One of the factors that lead to this situation was related to his actions three years before as he embarked on investment strategies that fewer people could understand and even be aware. Citron enormously gambled with the public funds though the investments he chose which were considered to be under-qualified. By the year 1994, the county treasurer had a pool of investment amounting to $ 7.6 billion deposits. This amount of money had come from local agencies such as special districts, school districts, orange county cities and the county government. These agencies were supposed to contribute funds to through investments to the investment pool. The high- interest rates and aggressive advertisements by Citron attracted several agencies which joined voluntarily.

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The county treasurers strategy focused on borrowing money by the use of the funds on deposit to invest in an inverse floater, derivatives, and bonds that were for long term hence generation of high yields. Citron went further to borrowed a lot of money and use the same funds as collateral. For instance, the original investments of 194 agencies amounted to $7.6 billion and $ 13 billion amounted to the investments bought with the borrowed money hence leading to a 37% and 63% respectively of the $ 20.6 billion which formed the total investment (California State Auditor, 1995). Compared to other counties in the US, the Orange County relied on the States interest incomes. For instance, during the financial year 1994, the interest of the county amounted to 12% of its total revenue compared to 3% of the other county. The tax allocations of the county had been cut by the state therefore, the motivation of Citron was to pull together more interest income for his local units.

For the financial year95, Citron had promised 35% of the general fund to come from the interest earnings, therefore taking, even more risks. In 1994, he went on and borrowed $2 for every $1 deposited hence increasing the pool to $ 20.6 billion. Frederick and Stacy (1998) notes that Citron borrowed short to go for long while investing in securities that were exotic whose benefits were inversely related to the interest rate. However, the same year saw the Federal Reserve Board started to continuously raise the interest rates, however, due to the desperate that the skyrocketing interests will come down, the County Treasurer continued to buy the securities. The county went ended up losing $ 1.6 billion hence it could no longer be able on the local government deposits and the wall street lenders hence being declared bankrupt on December 6, 1994. The county government had borrowed $600 million more and continued to buy throughout summer hence making it more vulnerable to the threats.

The effects of the Orange County bankruptcy were felt severely at every Conner of this municipality. For instance, the county was unsuccessful when it tried to sell off securities that were considered risky, moreover, the county could lose its pool of securities which had been held as collateral as lenders had posed a threat of recovering their money. A total of $ 7.6 billion got frozen money for the local public agencies as the sanitation, water, transport agencies, school districts, two Orange county cities and the county government had a large amount of money on deposit. The above issues lead to the call for Citron's resignation as the countys treasurer despite the early warnings that the Orange County would later face financial problems. There were some indications from Citrons opponent in the treasurers race, but no one could believe that this could happen. The Wall Street lenders sold off billions of dollars they held as collateral and the rating of the county credit lending dropped significantly. However, the Orange County recovered its financial status after several breakdowns and false starts.

Works cited

California State Adutior, 1995 audit report on the Orange County.1995

Frederick, Stacy K. Orange County Recovers From 1994 Financial Fiasco. 1998

Michel, Dan Galai, Robert Mark, Risk Management, McGraw-Hill. 2001

Philippe, Robert R., Big Bets Gone Bad: Derivatives and Bankruptcy in Orange County,

Academic Press.1995

Russ Banham, Local Hero, Treasury and Risk Management Magazine. October 1998