NEW YORK - Standard & Poor’s widely anticipated follow-up report on what the United States downgrade means for munis wasn’t as frightening as some had feared.
Rather than listing downgrades by the hundreds, the agency called public finance credits “among the most stable and predictable in the world” and said the decentralized structure of the governmental system allows for state and local government credits to be analyzed independently.
“Compared with many of their peers on a global basis, U.S. state and local governments function with a high level of revenue independence,” the agency said, noting most state revenues do not stem from the federal government, and local government revenues are even less linked.
The agency further highlighted the “distinct credit cultures” of state and local governments, which tend to be backed by well-established legal frameworks.
“We view this to be important in the U.S. public finance setting because we predominantly assign issue ratings as opposed to issuer credit ratings,” the agency said. “Debt issues in the U.S. municipal market tend to be backed by dedicated taxes, revenues, or fees and include specific protections that are legally enforceable in the U.S. context.”
The minority of state and local governments with top ratings “should be able to retain ratings above the U.S. sovereign rating,” Standard & Poor’s said, so long as they have “relatively low levels of funding interdependencies with the federal government” or can “manage declines in federal funding without weakening their credit profile.”
When the economic and credit environments of the U.S. and state and local governments are linked, the agency said “most instances” would call for state and local borrowers to have a credit profile one-notch higher than the U.S.
Standard & Poor’s also noted that some public finance issuers have shown a “greater commitment to fiscal discipline or a more resilient local economy” than the federal government, which further justifies a higher rating than the federal government.
Just less than 4% of U.S. public finance ratings “currently demonstrate” the strongest of credit characteristics consistent with a triple-A rating, the agency said.
“Because we have assigned these ratings based on our view of individual rating factors pursuant to our criteria, we believe these ratings are appropriate notwithstanding the downgrade of the U.S. sovereign debt rating,” the report says.
There are “stress scenarios” in which delayed or reduced federal disbursements could inflict cash flow disruptions, Standard & Poor’s said, but top-rated issuers could still maintain their ratings owing to their strong access to liquidity.
The report is titled “State And Local Government Ratings Are Not Directly Constrained By That Of The U.S. Sovereign.”
In three subsequent reports, Standard & Poor’s downgraded public finance housing credits linked to Fannie Mae, Freddie Mac, or the Federal Housing Administration, whose credit profiles are all directly linked to the sovereign.