Municipal bond issuance is expected to increase next year, but state and local governments will need additional federal support to grow, according to a survey of market participants.

In the survey, conducted by the Bond Dealers of America — formerly known as the Regional Bond Dealers Association — about 63% of 14 firms responding said municipal issuance will increase over the next year compared with 20% who projected a modest issuance decline.

The economy is expected to improve next year and issuers may be “more willing” to take on additional debt, which would lead to an increase in overall issuance, Steve Cochrane, managing director at Moody’s Analytics Inc. and BDA member, said during a press briefing announcing the survey results. Additionally, interest rates are at historic lows, encouraging municipalities to issue debt, he said.

Whether federal support will continue is “a big question,” given the mid-term elections this November, said Mark Vitner, managing director and senior economist at Wells Fargo Securities, who also spoke at the briefing. Vitner chaired the committee of market participants that responded to the survey. If Republicans take control of the House, then additional federal aid to state and local governments might not be approved, he said.

Respondents were split over the future of the municipal-to-Treasury bond ratio, the survey found. About 45% of the firms surveyed expected the ratio to increase modestly over the next six months, while 30% said the ratio would decline.

The municipal bond yield will be 4.13% at the end of the year and 4.87% at the end of 2011, according to the survey’s median estimate. The 10-year Treasury bond yield will be 2.95% at the end of this year and 3.82% at the end of 2011, the survey said. A 30-year triple-A municipal yielded 3.76% on Monday, according to Municipal Market Data, and the 30-year Treasury yielded 3.87%.

Separately, respondents projected state and local government spending to grow 0.2% next year, up from a 1.1% decline estimated for all of 2010. But that growth, they said, “undoubtedly will be dependent on continued federal financial support.”

But Vitner said municipalities could see growth simply based on a rebound from the histrionically deep cuts in spending governments experienced in 2010. “We’re ­growing, but we’re growing very ­sluggishly,” he said. Unemployment remains “frustratingly high” and is the biggest downside to economic growth, he said.

With unemployment so high, the demand for social services will continue to put pressure on state and local governments, Vitner said. This means increased financial pressure on hospital credits, for example, he added.

California and Illinois are among the states with the most difficult budget situations, a majority of respondents said. Midwest states “are doing the best” because they were least affected by the housing bubble, Vitner said. States in the Southeast are expected to rally in the next year, as states in the West and Great Lakes areas will recover slower, he said.

For the national economy, gross domestic product will increase 2.7% for all of 2010 and 2011, according to the median estimate. This is below the Federal Reserve’s GDP estimates released in July. The Fed is expecting 3.0% to 3.5% growth for 2010 and 3.5% to 4.2% growth in 2011.

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