WASHINGTON — U.S. cities have significant long-term non-pension liabilities such as debt, other-post employment benefits, and infrastructure needs that warrant attention, Merritt Research Services president and chief executive officer Richard Ciccarone warns in a
If these non-pension liabilities are overlooked now, "tomorrow it's going to be more costly and more expensive to fix them," Ciccarone told The Bond Buyer. The Merritt report was published this week on muninetguide.com, for which Ciccarone is co-publisher.
Tom Kozlik, a municipal credit analyst at Janney Capital Markets, said he agrees that non-pension liabilities shouldn't go unnoticed.
"Analysts and investors need to consider the complete picture, and they need to be forward thinking about all these risks and liabilities," he said.
In a recent Janney survey of 162 municipal bond credit analysts, 86% of respondents said that public pensions was one of the five most important issues facing the municipal bond market, and 44% of respondents said that infrastructure was one of the top-5 issues.
One liability that shouldn't be ignored is bonded debt. In his report, Ciccarone called bonded debt and pension liabilities "the two most concrete long-term hard costs related to city finances because the ultimate requirement to pay debt service or pension benefits is expected to be timely and not easily breakable." Higher annual debt service and pension payments weaken the abilities of cities to address their ongoing operations and capital funding for infrastructure, he wrote.
Analysts should pay attention to governments that use derivatives. In recent years, these complex debt instruments have added to governments' debt costs instead of lowering them or acting as a hedge, according to the report.
Ciccarone pointed out that most cities do not frequently use derivatives.
Also, cities' OPEB liabilities should not be overlooked, Ciccarone warned. According to Merritt data, the aggregate actuarial liability for OPEB debt for 1,233 U.S. cities in fiscal 2013 was $116.9 billion.
OPEBs haven't gotten as much media attention as pensions because most governments don't consider their OPEB promises to be as legally protected as pensions. Also, cities generally fund OPEB on a pay-as-you-go basis rather than on a proactive basis. As a result, in fiscal 2013, the median for OPEB expenditures as a percent of the general fund for all cities was 1.5%, while the median for pension contributions as a percent of the general fund was about 10%.
But OPEB liabilities are frequently being deferred and that could cost governments money. "Governments need to step up now and make changes to these programs to reduce the scope of these benefits or they had better start to go beyond the pay-as-you-go approaches to fund them," Ciccarone wrote.
Infrastructure needs are another long-term liability that is often deferred and neglected. Capital improvements tend to be one of the politically easiest things for cities to cut during their lean times, according to the report.
"We consider the backlog of infrastructure rebuilding as a long-term liability because for every year that a road is not repaved, a bridge not fixed, utility pipes not replaced or buildings not repaired, the price tag for the project is susceptible to becoming more costly due to further deterioration, inflation or adverse economic impact to the community," Ciccarone wrote.
According to Merritt's data, the median average age of infrastructure rose to 14.4 years in 2013 from 11.5 years in 2006.
"As long as the age number continues to rise, cities aren't investing enough in their physical plant to keep up with the annual expected depreciation of its infrastructure," Ciccarone wrote. "It becomes inevitable that the delay in funding these improvements will eventually have to be met with capital investments from debt or surplus funds in order to at least maintain the status quo."
Chris Mier, a managing director at Loop Capital Markets, said Ciccarone has "mostly got it right" in his report. However, Mier is not sure he'd consider a lack of infrastructure spending a debt. It can be beneficial for cities and states to have the flexibility to delay infrastructure projects during leaner times, he said.
The report compared cities' spending on debt service, pension contributions and OPEB contributions to three different measures of city expenditures. Those measures are general fund spending; governmental activities spending, which includes spending in all governmental type accounts; and primary government activities spending, which includes governmental activities spending plus spending on municipal enterprises such as city owned water and sewer systems.
In fiscal 2013, the median ratio of cities' spending on these three long-term liabilities to general fund expenditures was 25%, the media ratio of liabilities spending to government activities expenditures was a little more than 17%, and the median ratio of liabilities spending to primary government expenditures was 12.8%, the report said.
"Regardless of which approach you use as to measure the median fiscal squeeze, individual city exposures to severe strain can fall well outside the norm," Ciccarone wrote. Also, the burden of debt service, pensions and OPEB expenses to total governmental spending has been softened by lower interest rates, refundings and restrained new-money bond issuance, he added.
