Study Says O.C. Default Would Exact Huge Toll : Bankruptcy: Chapman University analysis estimates extra interest costs between $472 million and $766 million.

Orange County would pay up to $766 million in additional interest costs over the next decade if it defaults on bond payments due this summer, according to a study released Wednesday by Chapman University economists.

The analysis found that a default would force county taxpayers to pay a “premium” of $472 million to $766 million in higher borrowing costs than they were paying before the county filed for bankruptcy in December.

The study was released as voters prepare to go to the polls Tuesday to decide whether to enact Measure R, a half-cent sales tax increase that backers say is critical to making sure the county does not default on $1 billion in bond payments.

The study shows that the costs of a default are too high, Chapman President James Doti said.

“When we start adding all these things up, it is higher--far higher--than what Measure R would cost the community,” he said. Doti said that a default would result in a cascade of further costs, like legal fees, for years to come.

The report immediately became fodder for the political debate over Measure R. County Chief Executive Officer William J. Popejoy said that the study supports the need for the ballot measure.

“We said all along if the tax fails, the costs [to the county] are going to go higher,” he said. Measure R opponents, calling the Chapman report a “scare tactic,” contend that the county would be better off taking its chances on a default.

“I don’t believe we’re going to default,” said Fred Whitaker,, treasurer of Citizens Against the Tax Increase. “If worst came to worst and we did default, the premise that we would borrow as much or more as we did in the past is flawed. The problem is no one is treating [the county] like a business.”

Measure R has been a politically charged issue, and Chapman asserts that its study is unbiased.

Chapman economist Esmael Adibi said the research into default costs was independent and untainted and that center has produced reports previously that run counter to the political interests of its trustees.

Chapman’s Board of Trustees is chaired by Orange County developer George Argyros, who, like Doti, is an active Measure R supporter. But the board also includes Doy Henley, president of the Lincoln Club, a Republican activist group that opposes the increase.

Doti said even though Chapman estimates the sales tax would raise $140 million a year, defaulting on the county’s debt would be no panacea. Creditors wouldn’t forgive the debt and ultimately residents would have to make good on their past obligations. On top of that, he said, each county resident on average would have to pay $18 to $29 more in interest annually over 10 years because of the default.

Moreover, higher borrowing costs caused by a default could further reduce county services and halt needed public works projects, Doti argued. “There would be scrimping and putting off what should be done today because of the premium that would have to be paid,” he asserted.

The county owes $975 million in principal and remaining interest on a series of one-year notes that come due between July 10 and Aug. 10, but has set aside less than $600 million to pay it off. The shortfall results from a $1.7-billion loss through risky strategies in the County Investment Pool by former Treasurer Robert L. Citron.

Even if it defaults, the county could get a lower interest rate by buying bond insurance, which guarantees bondholders will be repaid. But Doti said the cost of the insurance would offset interest rate savings, still leaving the county paying substantially more for bond issues.

Last week, the county obtained a lower interest rate by buying bond insurance in a $278-million bond issue, its first since declaring bankruptcy. Still, the offering cost the county $25 million more than it would have paid otherwise, consisting of $9 million for bond insurance, a higher underwriter’s fee and a 0.25% interest rate premium.

Doti said the study’s findings show that the county is going to have to pay for the bond pool losses either through higher taxes or higher interest rates.

“Someone has to pay for this,” Doti said. “It’s there and we need to deal with it and [find] what is the least costly way out of this mess.”

The Chapman study found that the county would pay $472 million more over a decade if the county maintains its present debt level of $8.75 billion. As existing debt matures, the county would be able to borrow $1.75 billion anew each year without increasing the overall level of indebtedness.

But if the county were to grow at a 5% annual rate--with a corresponding increase in county borrowing to build new roads, sheriff’s stations and other public works--excess interest payments would reach $766 million.

The study, conducted by the Center for Economic Research at the private university in Orange, was based on a comparison of the ratings of various general obligation bonds before and after the bankruptcy.

Economists also conducted interviews with bond rating agencies and investment bankers. Many of those interviewed said that the default penalty would be higher than Chapman’s prediction.

But Adibi said the statistics generally were corroborated by historical data and last week’s interest rate penalty. Besides, he said, he “didn’t trust” the rating agencies and investment bankers.

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The Price of Default

Chapman University economists estimate the county could pay $472 million to $766 million in additional interest if it defaults on its debt. Here’s how the additional interest would be paid each year in both the best-case ($472 million) and worst-case ($766 million) scenarios during the next decade; amounts in millions:

Best case Worst case 1996 $20 $32 2000 $77 $124 2005 $24 $39

Source: Center for Economic Research