State and Local Governments: Unbreakable Bonds

By IRIS J. LAV
NYT

Washington

LATE last year a well-known financial analyst, Meredith Whitney, predicted that “50 to 100 sizable defaults” by state and local governments, amounting to hundreds of billions of dollars, were just around the corner. Since then that fear has produced a near-panic, with municipal bond markets down significantly and some even calling for a law to let states declare bankruptcy.

But this fear of an imminent bond crisis reflects a profound misunderstanding of the differences between the short- and long-term challenges facing state and local governments, and what these governments can do to address them. Indeed, such talk hurts those governments in the long run by undermining investor confidence and raising their borrowing costs.

Municipal bond default is actually quite rare: no state has defaulted on a bond since the Depression, and only four cities or counties have defaulted on a guaranteed bond in the last 40 years. A few minor bond defaults do occur each year, usually on debt issued by quasi-governmental entities for projects that didn’t pan out, like sewers for housing developments that never were occupied.

Indeed, last year’s total defaults amounted to just $2.8 billion — a drop in the bucket compared to the nearly $3 trillion in outstanding municipal bonds. The leading rating agencies estimate the default rate on rated municipal bonds of any kind at less than one-third of 1 percent; in contrast, the default rate on corporate bonds reached nearly 14 percent during the recession and hovers around 3 percent in good times.

(More here.)