Municipal Creditworthiness

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Information about Municipal Creditworthiness

Published on February 12, 2008

Author: jameshoward

Source: slideshare.net

Description

PUAD 702
Public Financial Management
University of Baltimore
Baltimore, Maryland
12 February 2008

Municipal Creditworthiness PUAD 702 Public Financial Management University of Baltimore Baltimore, Maryland 12 February 2008

Ratings Agencies Three major ratings agencies for government Moody's Investors Services Fitch Ratings Standard & Poor's Evaluate creditworthiness Informally establish fiscal guidelines Reduce transaction costs Establish prices for borrowings

Three major ratings agencies for government

Moody's Investors Services

Fitch Ratings

Standard & Poor's

Evaluate creditworthiness

Informally establish fiscal guidelines

Reduce transaction costs

Establish prices for borrowings

Ratio Metrics Ratio metrics are simple ratios that creditors and debtors use to determine ability to repay Some are used by ratings agencies To establish credit worthiness Some are used internally by finance officers For internal analysis Some are imposed through bond covenant agreements Crossing a threshold could signal credit default (Temel 2001, 176)

Ratio metrics are simple ratios that creditors and debtors use to determine ability to repay

Some are used by ratings agencies

To establish credit worthiness

Some are used internally by finance officers

For internal analysis

Some are imposed through bond covenant agreements

Crossing a threshold could signal credit default

total debt / assessed value Total debt means all debt issued by jurisdiction Assessed value is the sum value of all real estate within a jurisdiction Determines the ability of a jurisdiction to assess taxes to fund principal and interest payments Only valid if jurisdiction has power to assess property taxes Unitless ratio, long term, comparable from year to year (Ratchford 1936)

Total debt means all debt issued by jurisdiction

Assessed value is the sum value of all real estate within a jurisdiction

Determines the ability of a jurisdiction to assess taxes to fund principal and interest payments

Only valid if jurisdiction has power to assess property taxes

Unitless ratio, long term, comparable from year to year

total debt / population Total debt means all debt issued by jurisdiction Population is the size of the population domiciled within a jurisdiction Determines the ability of a jurisdiction to assess taxes to fund principal and interest payments Only valid if jurisdiction has power to assess income taxes Measured in dollars, long term, not comparable from year to year, unless inflation is taken into account (Michel 1977)

Total debt means all debt issued by jurisdiction

Population is the size of the population domiciled within a jurisdiction

Determines the ability of a jurisdiction to assess taxes to fund principal and interest payments

Only valid if jurisdiction has power to assess income taxes

Measured in dollars, long term, not comparable from year to year, unless inflation is taken into account

total debt / personal income Total debt means all debt issued by jurisdiction Personal income means the total income of all persons domiciled within a jurisdiction Determines the ability of a jurisdiction to assess taxes to fund principal and interest payments Only valid if jurisdiction has power to assess income taxes Unitless, long term, comparable from year to year Equivalently, per capita debt / per capita income (Temel 2001, 176)

Total debt means all debt issued by jurisdiction

Personal income means the total income of all persons domiciled within a jurisdiction

Determines the ability of a jurisdiction to assess taxes to fund principal and interest payments

Only valid if jurisdiction has power to assess income taxes

Unitless, long term, comparable from year to year

Equivalently, per capita debt / per capita income

debt service / revenues Debt service means principal and interest payments within a fixed time period Revenues means government revenues over same time period Demonstrates the current ability of a jurisdiction to meet its immediate repayment obligations Unitless, short term, comparable from year to year May use components, e.g., debt service / operating revenues (Temel 2001, 176)

Debt service means principal and interest payments within a fixed time period

Revenues means government revenues over same time period

Demonstrates the current ability of a jurisdiction to meet its immediate repayment obligations

Unitless, short term, comparable from year to year

May use components, e.g.,

debt service / operating revenues

operating expenses / revenues Operating expenses means all non-capital expenditures within a fixed time period Revenues means government revenues over same time period Demonstrates the current ability of a jurisdiction to meet its immediate current obligations Unitless ratio, short term, comparable from year to year (Columbia Association Budget Committee 2007)

Operating expenses means all non-capital expenditures within a fixed time period

Revenues means government revenues over same time period

Demonstrates the current ability of a jurisdiction to meet its immediate current obligations

Unitless ratio, short term, comparable from year to year

Other Concerns Constitutional or charter prohibitions Community values may show an inclination to spend more or less out of current revenues that ratios suggest Long term demographic trends, including aging population and high unemployment Reliability of socioeconomic measurements Overlapping debt with subjurisdictions (cities and counties) (Hildreth and Miller 2002)

Constitutional or charter prohibitions

Community values may show an inclination to spend more or less out of current revenues that ratios suggest

Long term demographic trends, including aging population and high unemployment

Reliability of socioeconomic measurements

Overlapping debt with subjurisdictions (cities and counties)

Credit Enhancement Government agencies may have lower ratings Insurance firm may have strong rating Insurance firm can “rent out” strong rating by insuring a bond issuance Will repay principal and interest should issuer default Issuance, though not issuer, receives credit rating of insurance firm Reduces borrowing costs to issuer Insurer may require moderate rating from issuer (Miller and Hildreth 2007)

Government agencies may have lower ratings

Insurance firm may have strong rating

Insurance firm can “rent out” strong rating by insuring a bond issuance

Will repay principal and interest should issuer default

Issuance, though not issuer, receives credit rating of insurance firm

Reduces borrowing costs to issuer

Insurer may require moderate rating from issuer

References Columbia Association Budget Committee (2007, February). Measuring the financial health of the Columbia Association. Committee report, Columbia Association, Inc., Columbia, Maryland. Hildreth, B. W. and G. J. Miller (2002). Debt and the local economy: Problems in benchmarking local government debt affordability. Public Budgeting & Finance 22 (4), 99-113. Michel, A. J. (1977, November). Municipal bond ratings: A discriminant analysis approach. The Journal of Financial and Quantitative Analysis 12 (4), 587-598. Miller, G. J. and B. W. Hildreth (2007). Local debt management. In A. Shah (Ed.), Local Public Financial Management , Public Sector Governance and Accountability Series, Chapter 4, pp. 109-155. Washington, D.C.: The World Bank. Ratchford, B. U. (1936, November). A formula for limiting state and local debts. The Quarterly Journal of Economics 51 (1), 71-89. Temel, J. W. (2001). The Fundamentals of Municipal Bonds (Fifth ed.). New York: John Wiley and Sons.

Columbia Association Budget Committee (2007, February). Measuring the financial health of the Columbia Association. Committee report, Columbia Association, Inc., Columbia, Maryland.

Hildreth, B. W. and G. J. Miller (2002). Debt and the local economy: Problems in benchmarking local government debt affordability. Public Budgeting & Finance 22 (4), 99-113.

Michel, A. J. (1977, November). Municipal bond ratings: A discriminant analysis approach. The Journal of Financial and Quantitative Analysis 12 (4), 587-598.

Miller, G. J. and B. W. Hildreth (2007). Local debt management. In A. Shah (Ed.), Local Public Financial Management , Public Sector Governance and Accountability Series, Chapter 4, pp. 109-155. Washington, D.C.: The World Bank.

Ratchford, B. U. (1936, November). A formula for limiting state and local debts. The Quarterly Journal of Economics 51 (1), 71-89.

Temel, J. W. (2001). The Fundamentals of Municipal Bonds (Fifth ed.). New York: John Wiley and Sons.

 

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