The Municipal Market Advisors research shop says today that recent court decisions in Minnesota and Colorado upholding states’ rights to reduce cost-of-living pension increases for current retirees could affect municipal credit quality.

Writes MMA:

Also likely to help [municipal bonds] is news of favorable court rulings in CO and MN, where judges threw out retiree lawsuits contesting those state pension plans’ reductions to [cost of living allowance] payments. While still subject to appeal, and of limited precedent outside of those states, these developments are highly constructive for long term credit quality: COLAs present a huge share of total unfunded future liabilities for state pension systems.

COLAs are important, because they cut off, or at least curtail, inflation as an avenue through which state and local governments can pare down their liabilities. Without COLAs, future pension obligations look more like fixed-rate bond obligations. Inflation could nibble — or chomp — away at them.

So, good news in that state and local governments may have a bit more flexibility — and that could be true, someday, too, for states like New York, with supposedly ironclad constitutional guarantees against any reduction in pension value (the state constitution is not made of money).

But, bad in that Washington now has one more incentive to neglect inflation, the debtor nation’s pernicious problem solver.