Economy hobbles Calif. town

Despite the defaults, Petek observes that most local governments in recent years have adopted strong financial-management practices, such as building up cash reserves that will cushion their municipalities during economic slumps.

Vallejo's $119 million in bonds in the bankruptcy case aren't in danger of defaulting, Lehmann believes. Most of the city's debt is backed by bond insurers or letters of credit, he says.

Even amid harsh economic times, the majority of municipalities manage to avoid bankruptcy, says Chris Hoene, director of policy and research at the National League of Cities.

Typically, states have stepped in to oversee municipalities such as New York City, Detroit and Camden, N.J., that were on the verge of bankruptcy in the past.

"I don't think we're going to see a rash of municipal bankruptcies nationwide," Hoene says.

But Vallejo may be different. California cannot take receivership of its municipalities. The strong anti-tax movement and laws in the Golden State limit local government bodies from raising tax dollars. And Vallejo's high labor costs for its public employees make it tougher to deal with its budget shortfall, Hoene says.

Fading opportunities

Long before its bankruptcy filing, Vallejo had been an economic haven and a thriving bedroom community known as the City of Opportunity.

Through the 1980s, thousands of commuters were enticed by the town's affordable homes, the fresh bay breezes, the nearby wine country of Napa Valley. A Six Flags theme park and the naval shipyard, which built hundreds of warships and nuclear submarines since the 19th century, anchored the local economy.

But after the shipyard closed 10 years ago, the economy sputtered and, some say, never fully recovered.

Then the mortgage crisis struck last year. The weak housing market throttled Vallejo's revenue growth to 3%, while labor costs for the city's police officers and firemen rose 11%.

Vallejo has cut 87 jobs and slashed funding for parks, a library, a senior citizens' center and other public services. City and labor leaders agreed this year to temporarily roll back union salaries 6%, but it wasn't enough to hold off the bankruptcy filing.

Meanwhile, the housing crisis seems to worsen in some regions.

According to RealtyTrac, an online foreclosure research firm, foreclosures in California have doubled to 381,000 this year compared with the same period in 2007. In Vallejo, foreclosures rose 61% to 2,900 in the first six months of this year, compared with the same time in 2007.

Carol Hardy, interim executive director of Vallejo Neighborhood Housing Services, says that phone calls from financially strapped homeowners in Vallejo have poured in by the hundreds recently.

Many have received foreclosure warnings from lenders, or they're having trouble making higher mortgage payments when their adjustable interest rates rise.

"They were refinancing their homes like ATMs," Hardy says. "They weren't thinking two steps ahead, to what happens when their loan readjusts."

While residents wrestle with possible foreclosure, the city and its unions — the Vallejo Police Officers Association, the International Association of Fire Fighters and the International Brotherhood of Electrical Workers — gird for legal battle this week.

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