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going research which the public is entitled to have in the rating of its securities. A little simple arithmetic would illustrate the point.

Out of the 16,000 municipal securities in the Moody's manual, about 12,000 are rated. With 12 principal analysts assigned to this rating task, you will readily see, if we consider there is about a 250-day work year, that each analyst can only devote somewhere between 15 and 30 minutes to each municipality, assuming a minimum of a quarterly review. And it shocks me to think that certain municipalities have the whole matter of their interest rate, which will cost them thousands or even millions of dollars a year in interest, related to the 15- or 30-minute review, if that, which an analyst can give.

It also rather shocks me that analysts only visit on an average each municipality once about every 5 years.

I think it fair to suggest that within a period of 5 months there might be significant changes in a municipality affecting its physical viability. But the thought of having a visit only once every 5 years is patently preposterous. And for the rating services to have to rely upon solely questionnaire data, which it has substantial difficulty in equating and in evaluating properly, leaves a gigantic and abysmal void of knowledge which is working to the detriment of cities all around the country.

Now, the fact of the unprofitability of the services brings the point to the fore that we are not, alas, able to pay going competitive wages to their analysts that the downtown Wall Street firms, for example, can pay to the analysts of their securities. And hence there is very rapid employee turnover. With that kind of turnover, it is self-evident that in the critical-and the critical desks of analysts, you have men who in many cases are tyros, and have not had an opportunity, fully, to acquaint themselves with the vast complexities of the economics of our American cities.

My seventh point is that the present systems were set up in the 1930's and forties principally designed to solve the problems of the big depression with the tools that were then available. Since that time, there have been modifications in these tools, but certainly an insufficient amount to gear in with the problems of today's age.

To sum up this point, I would say that we are attempting in a jet age to use horse and buggy methods for the rating of municipal securities.

Now, that may sound harsh. I do not mean it to be. And I certainly do not wish to criticize private agencies performing what their clients believe to be an adequate private service. But as a physical officer in the Nation's largest city, I am shocked and very deeply concerned about the implications of this for the present and future of New York.

For example, there is no use of computer technology for the amassing and evaluation of data relating to the cities. No one is here to suggest for a moment that computers can think, and that computers can assign the rate. But there is no question from the experience we have had directly in New York in the use of the most advanced computer hardware that the utilization of this kind of equipment would greatly assist the rating agencies in the screening which they must do, and the classification which they must do of no less than 16,000 municipalities around the Nation.

I have developed a set of recommendations to which I invite your attention, and which I submit to you most respectfully. They appear in my formal testimony.

First, I would urge you to consider the feasibility of arranging or encouraging a searching study to be undertaken by a leading and objective research institution, such as the Brookings Institution or the National Bureau for Economic Research, which would have as its purpose generating answers to the following kinds of questions.

How can bond rating services be adequately financed without either involving them in conflicts of interest or subjecting them to political pressure? How can staffing inadequacies be overcome to deal with the gigantic statistical analytical workloads occasioned by the twelvefold increase in municipal finance since 1946? How can fact-gathering techniques be improved through the use of computer technology? How can a rating scale be devised to more sensitively reflect whether a credit is improving or deteriorating, and which will also take into account the vital question of maturity which I touched upon? And what can be done to develop more explicit rating criteria, rather than the present system in which no one, including the analyists themselves, can be quite sure what a rating is based upon?

Those are questions which I believe The Brookings Institution or some other institution of its high caliber above the smoke of battle could consider dispassionately, and could answer with a degree of clarity which would be most helpful.

Secondly, I propose that interested parties, such as municipal finance officers, institutional investors, municipal bond dealers, the three Government regulatory agencies concerned with bank regulation and inspection, specifically the Federal Deposit Insurance Corporation, the Federal Reserve Board, and the Comptroller of the Currency, as well as representatives of the rating services themselves, should form and ad hoc committee to activate the findings of The Brookings Institution or whatever the research institution is that takes a careful look at this problem.

Third, it seems to me that the bond rating service or services, in whatever form emerges from the study and appraisal by this ad hoc committee, should be financed from contributions to be made by municipalities, which are after all at the basis of this problem, the banks, institutional investors, and municipal securities dealers themselves. The individual subscriptions could be in modest amounts, if this were spread across the spectrum I have mentioned. The form of financing would fully insulate the rating agencies from any possibility of political interference or conflicts of interest. It could permit a staff large enough to make continuing on-the-spot inspections and use computerized techniques of fact gathering.

Now, with that very rapid summary, I will pass on, if I may, to the second part of my observations this morning, which will be briefer than the first, but I think possibly of far greater moment in the long


Mr. Chairman, and Representative Brock, the problem of industrial revenue financing threatens over a period of time-and I do not I think have to have on a pair of binoculars to see this-it threatens to undermine the vary basis of our existing municipal securities market as we know it.

S8-649-68-vol. 1-2

May I respectfully invite your attention to a statistical exhibit, marked "Exhibit 1" at the back of this report, which is a table of comparative statistics and a graph of interest rates. I don't want to involve you in a detailed statistical consideration, but I think two points jump off this page, and are worthy of consideration.

First of all, may I ask you to look at the graph at the bottom of the page I mention. It is a graph of interest rates, and the heavy black line, as you can see, within the last decade, has tended to show-or in fact indeed over a longer period of time, starting in long-term trend definition-from 1946 onward, if you take a pencil and place it over the trend line, which could be fitted by the statistical method of the least squares-merely by inspection we see the increment and continuing increase in interest rates and decline in bond prices. You will note this is an inverse scale, typically used by the investing industry, to reflect bond price. On the right-hand side you will see yield percentage. Gentlemen, may I point out on November 30, the 20 bond index showed a 33-year high in interest rates and how this bond rises at 4.42 percent.

Now, what this means is that the cities as of this month, regardless of the influence of bond ratings, and regardless of industrial revenue financing's choking effects on this market, are already in grave trouble when it comes to raising money.

I cite to you the examples of New York City, which at the moment, I am informed, probably could not float a long-term issue for less than something in the area of 5.20 percent, and I city to you the case of Jersey City, N. J., which just a short while ago had to pay 5.4 percent or more for its money, an unparalleled state of affairs within the recent history of the entire bond market.

Now, the point about industrial revenue financing will be seen to be an aggravating fact, for if you will note in the column on this exhibit called Industrial-it would actually be eight columns over from the far left-hand column, or two over from the right in the first major block of statistics-you will note that in 1967-this is at June 30-the issues had amounted to $697 million. But far more important, the total amount of industrial revenue bonds which will be issued this year will exceed $1 billion, which will be about one-thirteenth of the total business done in the entire municipal bond field.

The implications of this, and coupled with the fact that other experts have predicted this volume will probably double in the very near future, is perfectly plain.

What is happening is that a new form of corporate tax exempt security is creeping into this market, and threatens to choke it.

Now, the point to be stressed is that there are only limited resources to take up municipal bonds when they are offered into this market; this is a sponge, and it can only hold so much of the fluid of municipal financial offerings each year. In the current year there will have been about $13 billion of offerings.

The sad fact is that with the additional burden which is being posed by the industrial revenue bond, this market may fall of its own weight. Now, the specific situation which confronts us is essentially this: Expert estimates have indicated to me that New York City is probably having to pay at this very moment, along with all the other cities of the Nation, approximately three-eighths to maybe even 40 basis

points, or four-tenths of 1 percent of annual interest rate because of the extra burden being placed upon it by this billion dollar flood of tax exempt corporate securities.

Taken together with the problems of bond ratings which I have pointed out earlier, this will amount to an extra tab for a city like New York of $30 million to $40 million a year alone in interest.

My recommendation as to what ought to be done about this is relatively simple.

The solution to this problem is congressional action to deny the corporations the deductibility of lease rental payments which support tax-exempt debt. In one stroke I believe the Congress with such action could remedy this grave problem.

Now, the industrial revenue bond proceeds, I would remind you, are used to build an industrial facility, usually a single factory, for the private corporation which leases this facility under a long-term contract with rental payments pledged to amortize and pay interest on the bonds. Without getting into a technical dissertation of how these contracts are written, suffice to say that the practical effect of this is to permit a private corporation, on far more favorable terms than heretofore undertaken, to build a gigantic new plant.

Let me just conclude by giving you a little recent history of what these issues have looked like. It is rather shocking to one who has followed the bond market for a number of years, and who has rarely found such towns as Middletown, Ohio, or Madison, Iowa, or Grossett, Ark., or Cheyenne, Wyo., in the bond market. And now what do we see? Just in 1967 alone-in February-$8212 million Armco Steel issue, from Middletown, Ohio. In May, a $60 million Sinclair Petrochemical issue, for Madison, Iowa. We go on to June, $30 million for Firestone Tire, $80 million for West Virginia Pulp & Paper, $75 million for Georgia Pacific, $130 million for Lytton Industries in Mississippi, $53 million for Firestone Tire, and $83 million for U.S. Plywood Champion Paper.

What is happening is that America's corporations, at first the very small ones, only in some of our rural areas, but now an increasing flood, some of the blue chip giants, are stepping in to avail themselves of this new technique, and it is going to deal a very direct blow to the cities all around the Nation who must compete in that market, and who cannot do it at a time when interest rates are already at an extraordinarily high level.

We even have the phenomenon that certain foreign corporations are availing themselves of this market, in partnership with American corporations. I cite to you a $140 million issue pending of the Northwest Aluminum Co., which is a subsidiary of Bell Intercontinental, and the Yawata Iron & Steel Co. of Japan. I further cite to you an issue involving Farbenwerke Hoechst which is a German company, that will be undertaking some financing in connection with another American company.

Now, this is well and good if you take it strictly within a closed container and say we want to encourage industrial development. But if the encouragement of industrial development in a few isolated areas is going to place a noose around the neck of the entire American municipal bond market already struggling to keep up on the swelling

seas of all-time-high interest rates, then I submit to you there is something wrong and deserving of your most critical examination.

I would like to conclude my testimony, or the formal part of it, by showing you an advertisement which was placed in a New York financial newspaper not long ago when New York City's rating was dropped from AA to a BAA. The caption is "BAA, Bah!"

It reflects the ire which a municipal bond expert felt at seeing such a city as New York downgraded to a classification which in his opinion grossly disregarded its posture as America's major commercial center, which has had more new office building construction since the end of World War II than has occurred in all the rest of the Nation put together.

I have tried to outline here, and will not elaborate at this time, on the impressive financial strengths of the city of New York. These are enumerated in some detail in the first portion of this report.

Suffice to say that the combination of municipal bonds rating inadequacies, and industrial revenue financing are a one-two punch which we believe threatens to knock out cities such as ours, and others all around the country. And it is for that reason I was particularly gratified at an opportunity to come here this morning, Mr. Chairman, to share with you my thoughts on this vital question.

Chairman PATMAN. Thank you very much, sir. Your statement is very interesting. It will all be inserted in the record, including the tables and charts and so forth.

(The prepared statement of Mr. Goodman follows:)


Chairman Patman and distinguished members of the Joint Economic Committee's Subcommittee on Economic Progress:

I have become increasingly concerned about the inadequacies of the private bond-rating system and the incursions of industrial revenue financing during the two years since Mayor John V. Lindsay appointed me Commissioner of Finance (Treasurer and Tax Administrator) of New York City; but I speak to you today not merely on behalf of my home city but of all the cities and towns around the country which are being dreadfully buffeted as they try to float their bonds on the increasingly stormy seas of fast rising interest rates which have just reached a 33-year high.


Last April 20th, speaking before an audience of 600 leading municipal officials and institutional investors in Hartford, Connecticut, I touched off a national debate on bond rating when I called for a comprehensive overhaul of the private municipal credit-rating system. I had become convinced that it was causing leading cities to be shortchanged out of hundreds of millions of dollars in unwarranted interest charges vitally needed for basic services. Since then, much has been written about bond rating and a thorough examination of the subject would obviously require a dissertation beyond the scope of this testimony. I shall limit myself to a concise summary of the problem and a set of specific recommendations as to what I think should be done about it.


As of June 30, 1966, there was $104.8 billion of tax-exempt State and municipal debt outstanding. There has been a steady upward trend in the offering of new state and municipal bond issues. Offerings of such issues will exceed $12 billion in 1967, a twelvefold increase in 20 years. Exhibit I, a table of comparative statistics, taken from the November 28, 1967 issue of "The Bond Buyer" shows that the two key trends over the last decade have been increasing volume of municipal financing and steadily rising interest rates.

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