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Municipal Bond Issuance Down By Half This Year

Municipal Bonds

First Posted: 06/03/11 06:20 PM ET Updated: 08/03/11 06:12 AM ET

NEW YORK -- As cities and states struggle with historic budget shortfalls, governments have put one item squarely in the cross-hairs: their debt.

Restricting the debt burden has proven to be a politically feasible way for a local government to address its larger fiscal problems -- or at least to give the impression it's doing so. While local politicians clash over pension reform, tax increases and other divisive issues, debt-reduction has emerged as a relatively popular measure. Issuance of long-term municipal bonds dropped by 51 percent during the first five months of the year, compared to the same period a year ago, the Bond Buyer reported, citing data from Thomson Reuters.

Limiting bond sales constricts governments' ability to pave roads, repair bridges and build hospitals and parks. And while the budget relief won from this austerity isn't large, even for the governments that pay the most interest to bondholders, it sends a message to taxpayers and investors that a government is at least attempting to get its house in order.

"I just don't think people are in the mood to have governments issuing debt at this time, when they're making service cuts," said Howard Cure, director of municipal research at Evercore Wealth Management. "The optics of issuing debt," he said, do not "play very well."

The first five months of the year saw about $83.7 billion of new municipal debt, less than half of the $170 billion that came to market during the same period last year, the Bond Buyer noted, adding that the volume so far this year is the lowest it's been since 2000.

This restricted supply has helped boost the value of bonds. It's been a difficult several months for municipal bonds, as predictions of widespread defaults have roiled markets, and investors have steadily pulled money from municipal mutual funds. But limited issuance has helped curb adverse effects, the Wall Street Journal reported last month.

Municipal yields have fallen this year as the value of bonds has risen, making it cheaper for governments borrow money. The difference, or spread, between yields on an index of municipal bonds and equivalent Treasury bonds was 0.85 of a percentage point at Thursday's close, down from a January high of 1.04 percentage points, data from Bloomberg show.

The states with the most bond issuance saw dramatic year-over-year drops. Issuance in New York, California and Illinois -- the top three states for issuance this year and last -- dropped, respectively, 38 percent, 70 percent and 48 percent, the Bond Buyer noted.

In Illinois, the state legislature voted down a sale of more than $6 billion in bonds on Sunday, and there's no new bond issuance planned for the coming fiscal year, said Illinois Treasury spokesman Matt Butterfield. For the state that bears the second-lowest credit rating of all 50 states from Standard & Poor's, borrowing is costly.

"Any bonding that is not done here, it's because it's expensive," Butterfield said. "We're paying a premium because of the credit rating we're suffering from."

In Illinois, as elsewhere, debt has been painted as an enemy.

"Some policy makers want to continue to spend more dollars than the state brings in. Some are advocating long-term, significant borrowing which will spread the state's challenges into the future. I respectfully disagree," Illinois Treasurer Dan Rutherford said in a recent release entitled "NO MORE DEBT."

In California, the strategy is similar. S&P has given California the single lowest rating of all 50 states, prompting investors to demand higher yield from the state and also from its local governments. No bonds have been sold at the state level so far this year, when typically there would have been a spring sale, said Tom Dresslar, a California Treasury spokesman.

As a portion of the budget, debt payments are dwarfed by spending on services such as education, corrections and health care. But debt has nevertheless been targeted for reduction.

"It's not the biggest by any means, but it's been growing," Dresslar said. "Every dollar that you have to pay in debt service is a dollar that you cannot spend on schools, public safety, health care -- the whole gamut of public services."

Yields on the state's debt have indeed fallen. As of May 27, California's 10-year paper was yielding 3.60 percent in the secondary market, compared to 4.01 percent that time last year, according to data provided by the state Treasury.

Restricting bond issuance, though, limits a government's ability to spend. California will not be able to start some new infrastructure projects it had planned for this year, Dresslar said. But as long as the state sells bonds this fall, the projects that are already in the works will be funded, and new ones will eventually commence, he added.

"Whenever you defer capital improvements you're going to have a bigger problem later on," said Cure, of Evercore. "Inevitably [bond] issuance will bounce back because infrastructure is in bad shape in this country, but right now the more immediate issue is balancing the budget."

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