Econintersect: The Chicago Fed has concluded that there is little historical evidence that bankruptcy is a likely path for local (city) governments in duress. The primary reason is that local governments must file for bankruptcy under Chapter 9 of the Federal statutes – and that the local government loses control until it emerges.
Vallejo, CA which filed for bankruptcy in 2008 has filed a five-year fiscal plan with a bankruptcy judge, awaiting resolution. The study concludes:
There is little disagreement that 2011 will be a tough year in local government finance. Minimal growth or outright declines in property tax revenues, reduced assistance from state governments, and requirements to make larger payments to underfunded public pension funds will loom large for many local governments. However, if history is any guide, few local governments will either default on their debt or end up in bankruptcy. The aftermaths of actual local government bankruptcies—such as that of Vallejo, CA, in 2008—suggest that governments are hurt badly when they emerge from bankruptcy, particularly in their ability to issue debt. And so, in all but the most dire cases, local governments under stress are likely to take alternative steps to shore up their fiscal positions.