Chapter 9 of the Federal Bankruptcy Code lets city governments restucture their debt loads within the protections of the Bankruptcy Court. A few members of Congress are cautiously looking at extending the same option to states.

There is concern in Congress that a State might default on its debt, an unprecedented problem.  Of more immediate concern is that a state facing default will come to Congress for a bailout - something this Congress is unlikely to do.  The bankruptcy provision could provide an orderly alternative to a bailout.  A bankruptcy option might also give states more leverage in renegotiating contracts and pensions with state workers.

The idea surfaced in a speech by Newt Gingrich, a former Republican Speaker of the House and rumored presidential candidate in 2012.  Shortly after, David A. Skeel, a law professor at the University of Pennsylvania, published an article about state bankruptcy in The Weekly Standard.  Sen. Jon Cornyn (R-TX) asked Federal Reserve Chairman Ben Bernanke about State Bankruptcy in a hearing earlier this month.

But lawmakers are being very careful about this.  It is not clear what a state bankruptcy provision would do to the municipal bond market.  General Obligation bonds, now considered the safest municipal bond, would be unsecured creditors in a bankruptcy.

The discussions are also said to include a federal oversight panel -- similar to the Municipal Assistance Corporation used to fix New York City finances in 1975 -- instead of or in addition to bankruptcy.

Any proposal has to consider the Constitutinal issues.  Would a state bankruptcy interfere with a state's right to legislate?

Prof. Skeel's November 29, 2010 article is at http://www.weeklystandard.com/articles/give-states-way-go-bankrupt_518378.html.

Current reporting by the New York Times is at http://www.nytimes.com/2011/01/21/business/economy/21bankruptcy.html?pagewanted=1&_r=1&hp