Leasing Through the Back Door: The Private Financing of Public Prisons

Via Nation of Change

Nearly 130,000 bodies are currently caged in for-profit or privately managed “correctional” facilities in the United States, a figure that accounts for 16.4% of federal and 6.8% of state populations.

Since 2000, moreover, the number of extant for-profit and privately contracted penal institutions has skyrocketed by approximately 120% during a time in which the population of “public” federal and state facilities has grown four times as slowly. And although federal and state expenditures on prisons have mushroomed by72% over the last decade and now cost taxpayers $74 billion per annum, the two largest private prison companies, Corrections Corporation of America and GEO Group (formerly Wackenhut Corrections Corporation), have together “earned” over $2.9 billion in profits since 2000.

While in recent years much public attention has rightly been devoted to illuminating the “industrial” operations associated with the proliferation of private prison facilities—from the tumesced pocketbooks of private prison operators to the profits generated by telecommunications companies by way of no-bid phone contracts—surprisingly scant attention has been paid to the private financiers of “public” prison projects who earn a profit each time a prison is built. And unlike those who collect revenue on prison operations, firms that purchase bonds for prison construction needn’t have a personal stake in the eventual utility or solvency of any given facility. Their coffers will grow whether or not prison beds are occupied.

But a two-decade long declension in public support for prison expansion has thwarted traditional options for financing new prison construction and has resulted (as it usually does) in new opportunities for cadres of investment bankers, building contractors, and consultants to realize indulgent returns-on-investment with abidingly anti-democratic financing schemes. I call it “leasing through the back-door.”

Even a cursory review of prison, jail, and detention expansion initiatives demonstrates that federal, state, and municipal governments are using “back door” financing instruments that allow them to borrow billions of dollars to build facilities that the public does not want nor can afford. The State of California provides a superlative case study for the examination of “back door” prison financing.

Simply stated, California voters have overwhelmingly rejected the issuance of prison construction bonds the last two times the issue went to referendum. And according to a 2011 poll jointly commissioned by the University of Southern California and Los Angeles Times, nearly three-out-of-four California voters currently oppose tax increases for the purpose of building new prisons. Perhaps the recent voter disinclination for prison construction is a result of the passage of California’s AB900 in 2007. AB900 allows the California Department of Corrections and Rehabilitation (CDCR) to authorize $7.8 billion in lease-revenue bonds to fund the addition of 53,000 new prison and jail beds while bypassing the electorate. To date, the CDCR has packaged and sold $2.1 billion in lease-revenue bonds.  Approximately $900 million of that debt was sold in 2011 alone.

Many anti-prison activists have cogently argued that AB900 was drafted to circumvent the “will of the people” who previously defeated two propositions placed on the ballot by the state legislature to appropriate money from general obligation bonds to pay for more prisons. When voters began rejecting general obligation bonds for prison construction, state treasurers, corporate lawyers, and investment bankers began underwriting lease-revenue bonds for the purpose of avoiding constitutional and statutory restrictions on such debt guarded by voter approved bonds.Of course, prison finance policy is far from immutable and often reflects political-economic trends, exigencies, and anxieties. In fact, prior to the mid-1980s, prisons were generally financed in one of two ways. State officials either adopted a “pay-as-you-go” approach by funding new construction out of general revenues or they borrowed  money through the sale of general obligation bonds. A general obligation bond is simply a repayment pledge that is guaranteed by the “full faith and credit” – including the taxing power – of the issuer, in this case, the state. Failure to pay debt service on a general obligation is exceedingly rare among large government entities and typically only occurs under conditions of bankruptcy. Most crucially, the issuance of general obligation bonds requires approval by taxpayers in the form of a bond referendum.

As correctional populations and costs mounted in the 1980s and 1990s, however, California and other states found it increasingly difficult 1) to fund prison expansion vis-à-vis annual operating budgets and 2) to secure public approval for new debt. Through the collusion of the public and private sectors (scarcely distinguishable these days…) state officials responded by issuing another type of debt to finance prison construction: lease revenue bonds. Elected officials can circumvent citizen lead socio-political obstacles by issuing lease-revenue bonds, a type of debt that allows agencies created by the government to finance a prison facility by issuing tax-exempt bonds and then leasing the right to use the facility back to the state. The state, which generally gains ownership of the project at the end of the lease period, uses funds appropriated by the legislature (and the governor, typically) to make lease payments. Lease-revenue bonds do not require voter approval.

Lease-revenue bonds are often extraordinarily costly because they carry high interest rates resulting from the lease agreement that guarantees the loan. Even by the CDCR’s own admission, “from a standpoint of costs alone, general obligation bonds are preferable to lease-revenue bonds.”

Wait, what?

They continue, “General obligation bonds typically carry an interest rate 0.2 to 0.5 percentage points below the interest rate on lease-revenue bonds. [General obligation bonds issued by the state of California carry an average interest rate of 5.5% and a service life of 25 years.] In addition, lease-revenue bonds have slightly higher issuance costs (due to the need to purchase commercial insurance) than do general obligation bonds and require a higher value of bonds to be issued to produce the same net proceeds generated by general obligation bonds.”

The higher risk and cost associated with lease-revenue bonds doesn’t seem to concern Bank of America, Goldman Sachs, and Morgan Stanley – three of the largest six U.S. financial institutions—that have underwritten and purchased over $2 billion in lease-revenue bonds for prison construction in California from 1991-2007. The public must be made to know that although financial institutions like Bank of America, Goldman Sachs, and Morgan Stanley do not profit directly by exploiting prison labor or by operating private penal facilities, they nonetheless realize exorbitant annual revenues by propping up a “prison industrial complex” by way of “leasing through the back door.” And to paraphrase 16th century Dutch polymath Balthazar Gerbier, too many back doors make thieves.

California residents interested in eradicating the “prison industrial complex” and restoring socially responsible, sustainable, and humane budget priorities are encouraged to join CURB (Californians United for a Responsible Budget). More information is available at http://curbprisonspending.org/

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