WASHINGTON — House Financial Services Committee Democrats yesterday harshly criticized the Federal Reserve for its reluctance to intervene in the municipal bond market, arguing that they are holding it to an unfair double standard.
The comments, at a hearing to discuss four muni-related bills drafted by the committee, came as David Wilcox, deputy director of the Fed’s division of research and statistics, testified that the central bank has deep misgivings about one of the bills that would authorize it to provide liquidity facilities for variable-rate demand obligations.
Wilcox said the Fed is reluctant to help unless its intervention meets a “high-bar” threshold, protects its balance sheet and taxpayers from credit losses, and comes with a clear exit strategy. He also said that the Fed is concerned about making what are essentially political decisions in choosing which issuers receive VRDO liquidity.
But Massachusetts Democrat Barney Frank, the committee’s chairman, argued that the Fed is being inconsistent and quipped that its $182.5 billion bailout of insurance giant American International Group Inc. is “an odd definition of a high bar and a good exit strategy.”
Rep. Gerald Connolly, D-Va., who does not sit on the Financial Services Committee but spoke at yesterday’s hearing, was more pointed on the need for federal intervention, though he was responding primarily to Republican assertions that issuers do not need a bailout because they spend more than they collect in revenues.“It is not because of bloated budgets that municipalities are in the quandary in which they find themselves today,” Connolly said. “It is because of the housing bubble, it’s because of statutes and constitutions that require balanced budgets, it’s because safe money after [Lehman’s bankruptcy] fled to Treasuries ... and combined with the double whammy of the loss of private insurance” companies that provided credit enhancement. As a result, he added, the bulk of the 55,000 muni issuers have had trouble accessing credit markets.
While Republicans and the Fed expressed their opposition or reluctance to the VRDO bill, issuers insisted that it is desperately needed, along with three others that would require Securities and Exchange registration of financial advisers, mandate uniform credit rating agency ratings, and authorize a five-year, $250 billion reinsurance program run by the Treasury Department.
Several observers noted, however, that Treasury officials did not testify yesterday, indicating they also are reluctant to intervene.
And at a separate hearing yesterday, Treasury Secretary Timothy Geithner said that the $700 billion Troubled Asset Relief Program cannot be used to aid states and localities, dashing the hopes of some issuers like California that have sought Treasury guarantees on some of its short-term cash-flow notes.
Contending that the muni market has begun to find “new balance and equilibrium,” Geithner told a House Appropriations Committee panel that the legislation authorizing TARP “does not appear to us to provide a viable way” of easing state and local budget crisis, according to news reports.
At the Financial Services Committee hearing, Ben Watkins, director of Florida’s Division of Bond Finance who testified on behalf of the Government Finance Officers Association, said that the $787 billion stimulus package provided a “bridge” for states to plug their respective budget holes, “but there has been nothing to assist with access to the credit markets and the problems with the credit markets persist.”
Dallas Mayor Thomas Leppert, who testified on behalf of the U.S. Conference of Mayors, stressed that Congress must act quickly to help municipalities, specifically noting that the reinsurance and VRDO liquidity programs “need to be put in place today if they’re going to have an impact.”
But Republican members of the committee generally opposed all of the bills, which they characterized as more bailouts that the government can ill afford.
Ranking Republican Rep. Spencer Bachus of Alabama, whose district includes financially troubled Jefferson County, said in opening remarks that the FA bill is the only one of the four that he could support, albeit with some changes. In light of the SEC’s failure to detect the Bernie Madoff ponzi scheme, Bachus said the Financial Industry Regulatory Authority, and not the SEC, should be given oversight of financial advisers. Madoff was an investment adviser, not a municipal FA.
Bachus nonetheless said he plans to soon introduce legislation to give the SEC “real authority to oversee the municipal securities market.” The remark suggests he would propose a repeal of the Tower Amendment, which in 1975 was added to the Securities Exchange Act of 1934 and which prevents the SEC from directly regulating muni issuers. A Bachus spokewoman declined to comment.
Rep. John Campbell, R-Calif., noted that disclosure requirements are different for municipal and corporate issuers and asked Martha Mahan Haines, the SEC’s municipal securities chief, if she would support “equal disclosures for an equal rating.”
Haines said the SEC chairman Mary Schapiro has already indicated that she believes municipal investors are entitled to the same protections as investors in other markets.
But Florida’s Watkins took exception to increasing the disclosure requirements on issuers, which he said would be needlessly burdensome.
“In looking at the regulatory burdens on issuers, the burdens of… compliance with those regulations, would far outweigh the benefits that investors derive from them,” he said. “The reason I say that is because we operate in the sunshine. Everything we do is openly available to investors all of the time.”
The sharpest point in the four-hour hearing came during an exchange between Frank and Laura Levenstein, senior managing director of Moody’s Investors Service. Frank, who insisted that muni issuers are rated on a more rigorous scale than corporate borrowers even though their bonds rarely default, became agitated when Levenstein denied that her testimony indicated that munis generally have lower ratings when compared to corporates even though munis have lower risk.
“They’re not comparable,” she said.
“You’re the one who compared them,” Frank said. “I’m reading your testimony, 'Municipal bonds generally have had lower credit risk when compared to Moody’s corporate and structured finance obligations.’ Is that not an acknowledgment that they are rated lower than bonds that have a higher default risk?”
When Levenstein attempted to dodge the question, Frank shouted for her to answer before she conceded that he was reading the testimony accurately.
Speaking to reporters after the meeting, Frank said that he plans to mark up the bills sometime after lawmakers return from a week-long vacation.
Though none of the measures has been introduced in the Senate, sources have said that Senate Banking Committee chairman Christopher Dodd, D-Conn., is closely watching what happens in the House and may introduce his own legislation.