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How tobacco bonds work and what can go wrong.

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Well, this is not good.

After a long fight, states would finally get billions to cover the health costs of smoking, in perpetuity.

But some government officials wanted the money up front, to cover all sorts of budgetary needs. They said it would be better to get cash now in case tobacco companies couldn’t pay later on or if cigarette sales plummeted.

The answer: bonds. A bond is like a loan. Investors buy the bonds, providing states with cash. States repay the bondholders using the tobacco money. The typical bond lasts 30 years or less and pays interest every year.

If tobacco payments fall short, investors have no right – ‘no recourse’ – to be repaid with taxpayer money. But they retain rights to future tobacco payments. Because of the steep payments promised to some bondholders, that could take years or decades in which taxpayers lose out on the tobacco money.

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