After the recent S&P downgrade of the USA (from AAA to AA+) many were wondering what affect that may have on highly rated cities and counties in the United States. Today’s Bond Buyer newspaper summarized S&P’s recent announcement on the linkage (or lack thereof):
Standard & Poor’s widely anticipated follow-up report on what the United States downgrade means for munis wasn’t as frightening as some had feared.
The agency … highlighted the “distinct credit cultures” of state and local governments, which tend to be backed by well-established legal frameworks.
“We view this to be important in the U.S. public finance setting because we predominantly assign issue ratings as opposed to issuer credit ratings,” the agency said. “Debt issues in the U.S. municipal market tend to be backed by dedicated taxes, revenues, or fees and include specific protections that are legally enforceable in the U.S. context.”
The minority of state and local governments with top ratings “should be able to retain ratings above the U.S. sovereign rating,” Standard & Poor’s said, so long as they have “relatively low levels of funding interdependencies with the federal government” or can “manage declines in federal funding without weakening their credit profile.”
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Standard & Poor’s also noted that some public finance issuers have shown a “greater commitment to fiscal discipline or a more resilient local economy” than the federal government, which further justifies a higher rating than the federal government.
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The report is titled “State And Local Government Ratings Are Not Directly Constrained By That Of The U.S. Sovereign.”
The National League of Cities, moments ago released a statement, reiterating the difference between US debt and local government debt:
Standard & Poor’s announcement that cities and states may keep their AAA bond ratings despite the recent downgrade of the US federal government demonstrates the difference between U.S. federal debt and the municipal bond market.
Unlike the federal government, municipal debt is typically not used to finance day-to-day operations. Local and state governments use municipal bonds to finance infrastructure projects. Nearly all local and state borrowing is longer-term (20 or 30 years) and debt service payments are predictable (usually the same amount each year). Additionally, local and state debt levels are low, about 16 percent of GDP, and usually representing a relatively small portion of local and state budgets, about 5 percent on average.
Standard & Poor’s announcement that it was downgrading some municipal bonds – those primarily related to conduit bonds (typically issued, for example, for housing agencies, hospitals, and school construction) – while unfortunate, was not a surprise given the recent decision to downgrade the federal government’s credit rating. But, the overwhelming majority of municipal debt issued by general-purpose local and state governments remains highly rated and secure, as confirmed by S&P’s and Moody’s recent announcements.
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Despite the statements and the downgrades, residents should still be assured that cities will continue to provide the critical services residents demand. The fundamentals of cities haven’t changed. Cities still operate under debt cap limits and must go through exhausting processes prior to any borrowing to ensure their ability to repay. Virtually all state and local governments have balanced budget requirements. Many state and local governments also have provisions that require steps to be taken to address problems before defaults can occur, or prioritize debt payments over spending for other government services.
Read the full NLC press release here.