Federal officials examine state and local government investment practices.

• Author: Dotson, Betsy

As state and local government officials tried to make sense of events following the revelations that Orange, County, California, had pursued a risky investment strategy and suffered huge investment losses, federal officials also became curious. The combination of a well-publicized financial debacle and the arrival of the new, aggressive 104th Congress suddenly focused attention, like a laser beam, on state and local government investment practices.

Congress

Congress already had been involved in many of the issues that arose from the Orange County experience. In response to a congressional request, the U.S. General Accounting Office (GAO) had issued a report in May 1994 detailing the use of derivative products by state and local governments as well as other entities. A series of hearings was held on the need for regulation of the emerging derivatives market, and in October 1994, GFOA testified at a hearing held by the House of Representatives Committee on Banking, Finance, and Urban Affairs to examine state and local government use of derivatives. Several pieces of legislation were introduced during the 103rd Congress that were designed to further regulate the derivatives market and tighten up financial institutions' use of derivative products, although none of these bills passed.

Orange County, however, ignited new interest not only in the use of derivatives, which were a part of the county's investment strategy, but in the entire issue of state and local government investment practices, a subject of much mystery and misunderstanding on the part of many in Congress. Any Senate and House committees that could claim a piece of the jurisdictional pie summoned GFOA staff and that of many public interest groups to assist congressional staff and members in sorting out how state and local governments invest their taxpayer and public employee pension funds. Some members of Congress eagerly sought a role for the federal government in this investment process, while others vowed to maintain a watchful eye but were properly wary of federal involvement.

The 104th Congress scarcely had been sworn in when two committees held hearings that focused on the role of the state and local government finance function. GFOA President Bonnie Ridley Kraft testified before the Senate Committee on Banking, Housing, and Urban Affairs about prudent cash management practices for state and local governments. President Kraft outlined GFOA's role in the cash management area and discussed the recommended practices and policy statement on derivatives passed at the last GFOA annual conference. GFOA's strong support for enforcement of suitability rules for brokers and dealers authorized under the Government Securities Act Amendments of 1993 was expressed. President Kraft emphasized that the Constitution reserves to the states the public finance functions of state and local governments...