Randomness (r_ness) wrote,

picture of California registered warrant
(Image from http://www.mymoneyblog.com/archives/2009/07/picture-of-california-tax-refund-iou-registered-warrant.html)

From http://www.marketwatch.com/story/ious-could-be-the-future-of-municipal-finance:
It's possible that IOUs could become a way for local and state governments to issue paper direct to the public in creative ways that financial sharpies are only just starting to dream about.

California began issuing what it calls "registered warrants" -- and what the world calls IOUs -- on July 2. The warrants are negotiable -- meaning they can be sold -- and they bear interest (3.75%).

Initially, most financial institutions accepted the warrants and cashed them like checks. The customer got their money, and the bank held the paper, and got any interest due. Last week, however, Wells Fargo, Bank of America and JPMorgan Chase stopped taking the paperwork, and other banks followed suit; while people holding IOUs can still go to most credit unions, this is where the market started getting creative.

Buyers were cropping up on sites like Craigslist offering to buy warrants for 85 cents on the dollar. Holders were looking at putting their warrants up for auction on eBay, hoping to capture at least face value.

This was capitalism and financial markets at their most basic. While no one wants to be extended an IOU instead of cash, a 3.75% interest rate more than doubles the average yield on a one-year certificate of deposit and is far better than the top-yielding money-market funds, which can't even kick out 1%. Yes, there is risk -- California has the lowest credit rating among the states -- but people who see the promise of a quick profit were looking to get the paper from individuals and businesses who never wanted it in the first place.

It was right around that point where the SEC stepped in. First, regulators announced that the warrants are securities and should be treated as such. Then it issued an investor alert about the sale of California paper. The decision means that any individual buying or selling the securities probably should be registered as a broker or municipal securities dealer. The alert was issued because SEC officials were afraid investors would fall for warrant scams and fakes.

Here's where things get really interesting. California's warrants represent low-cost borrowings; the state is able to get financing without necessarily paying the same rates it might owe by issuing standard municipal bonds.

A lot of other states and communities will find that useful.

It's not quite the same as allowing a town or community to issue its own currency -- a power that the Constitution reserves for the federal government -- but it's close.

California's warrants appear to be a "bill of credit," which is a debt obligation that is basically forced on its recipients. Since the banks and credit unions cashed the paper -- at least initially -- one could argue that it's almost like the Golden State had created its own scrip. Make the program voluntary -- where the consumer has the choice to participate in any warrants -- and it would seem to sidestep Constitutional issues.
Tags: money
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