-10 In The absence of credit analysts at investing institutions is one suggestion of the low priority that has been assigned to municipal credit evaluation. house analysis has been largely replaced by ready acceptance of the credit ratings supplied by the independent credit rating agencies. Ironically, these agencies are now castigated for failing to sound the siren loud and strong over the recent New York debacle whereas not so long ago, Congressional hearings and other vociferous complaints were directed at these same agencies for their failures to recognize the unquestioned strengths of municipal credits. lost in the rush to make "whipping boys" of the rating agencies is a more fundamental observation that the inadequacies, if any, of the current rating system may simply be additional examples of the low value assigned to credit analysis by the market as a whole. Somewhat Expressed most simply, in-depth credit analysis costs money and these costs weighed against the benefits that can accrue from the production of information and analysis. For the past three decades, until 1975, municipal securities have been regarded as second in safety only to the securities of the federal government and its agencies. Indeed, defaults were extremely rare and generally confined to the more speculative tax-exempt revenue bonds, used to finance private enterprise-type functions and backed by prospective user charges. As noted in a recent study by the Advisory Commission on Intergovernmental Relations, the total dollar amount of municipal debt that was declared in default over the period from 1945 to early 1970 was only $450 million or 0.4 percent of all taxexempt debt outstanding in 1970. Moreover, only 2 of the 24 major defaults involved general obligation bonds (see City Financial Emergencies, p. 16.) With this record of safety, reinforced by the exhortations of public officials, the value of independent credit analysis-in-depth must have seemed marginal at best. bc p S cast investment-grade municipals (rated BAA by elative to rates on like-rated corporate bonds Award trend over the period 1955-1974. From 1955 to terest rate averaged 86 percent of the corporate band dropped to only 68 percent for the period 1970-1974. , however, this trend has completely reversed. Interest ** investment-grade municipal bonds in particular have risen I be to the corporate bond rate. The ratio of tax-exempt to Ps: rates on BAA-rated bonds climbed from 67 percent in February 1975 November. same period, investors were making equally significant distinctions Differences in là đền delve credit strengths within the municipal market. e municipal bonds carrying the highest credit ratings and those with he lowest investment-grade ratings widened by 50 basis points between January ember. erosion of investor confidence evidenced by the relative changes in rest rates on municipal securities during 1975 and the renewed and heightened veptions of credit risk have been associated with a number of developments, plating: The 1974 abrogation by New York and New Jersey of • The recent passage of municipal bankruptcy legislation -12 The decline and fall of the New York State Urban • The long and tortuous, still-continuing saga of New • And, the moratorium or "de facto" default by New York These events, which must be considered together, have acted to weaken a fundamental underpinning of the municipal market and that is the protection that investors perceived as inherent in the widely used statement that: the full faith and credit of this government are pledged to These recent developments have been interpreted by the market as evidence that issuers, when faced with difficult choices, may be willing to ignore earlier promises to bondholders. The combined effect of these events has been a tremendous shock to the entire capital market, and one fallout has been to dramatically increase the market's demand for information. Although we are just now preparing to collect and subsequently evaluate the offering circulars provided with bond issues sold this spring, our casual observations suggest that this heightened demand for credit information is already being reflected in the prospectuses accompanying new issues. If our survey supports this, then it will be clear that the market can make and may have made extremely rapid adjustments to meet these demands for added disclosure. -13 If this view of the market is correct, then it is not at all clear that imposing federal rules and regulations will add any net new benefits, even though it will almost surely add net new costs. Disclosure rules will not by themselves remove the shortage of trained credit analysts. Moreover, disclosure rules address themselves to a limited body of information; these rules do not ensure that public finance officials develop the management information systems that can improve the decision process in government. Indeed, it should be apparent by now that one of the symptoms of New York City's problems is that the City does not have and has not had the type of internal accounting and information systems that are necessary. But the New York problem is not new or unique. As noted in the Advisory Commission on Intergovernmental Relations study of City Financial Emergencies, in 1973, Improper financial management practices are frequently a In this context, we believe that it makes more sense to allocate resources to the general improvement of all municipal information systems, so that taxpayers as well as bondholders and underwriters can better understand the choices that are available, the funds that are needed and the resources that can be applied. Source of Data · P. 5. 2 3 "A Decard of Municipal Financing," The Daily Bond Buyer, January 7, 1976. All dollar figures are in billions. These figures are taken from "Total Underwritten Public Financing" tables compiled by the Investment Dealers Direst, various issues. Corporate data for 1975 are through November. 69-141 O-76 - 18 |