Municipal Credit Enhancement: Does It Survive in Chapter 9?

Municipal and other governmental entities and instrumentalities, like cities and counties, generally borrow money through the issuance of public debt in the capital market.¹ The proceeds of these borrowings are used to finance the construction and improvement of libraries, police stations and other public works, including bridges, roads and water and sewer systems, or to provide cost-effective working capital. The market for this type of debt is very large, with over $2.8 trillion in outstanding borrowings by municipalities as of Dec. 31, 2009.² State credit enhancement programs open doors to municipalities and other government borrowers by reducing the costs of borrowing, as debt issued with credit enhancement typically enjoys higher credit ratings and lower interest rates. These programs provide debt holders with an independent payment source in the event an issuer is unable to meet its obligations.

While the rash of municipal bankruptcy filings predicted by famed analyst and prognosticator Meredith Whitney has yet to arrive, the recent high-profile bankruptcies of Jefferson County, Ala., and Harrisburg, Pa., are reminders that municipalities are under substantial stress in the United States. Like corporate debt, municipal debt is subject to restructuring (called “adjustment”) under federal bankruptcy laws. Unlike corporate debt, the ‘rules of the road’ for municipal bankruptcies under Chapter 9 of the Bankruptcy Code are neither well developed nor very clear. This is particularly true for municipal credit enhancement in the context of Chapter 9 proceedings.

State Programs