Podcast Summary
Muni market financing crunch: The economic downturn is causing a significant financing crunch in the municipal market, leading to budget problems and investor exodus, potentially resulting in long-term economic consequences.
The municipal market is facing a significant financing crunch due to the economic downturn. State and local authorities are facing rapid budget problems as costs, particularly on the public health side, are increasing while tax revenue is drying up. This has led to a major investor exodus from muni bond funds, making it difficult for these entities to issue new bonds and finance their operations. The consequences of this financing crunch could be long-lasting, as we saw during the 2008-2009 financial crisis when financing constraints led to significant spending cuts that took years to recover from. This is a major issue that will likely have significant ramifications for the economy in the long term.
States face financial strain due to pandemic: States struggle financially due to pandemic's economic impact, despite past rainy day funds. Federal relief needed to prevent job cuts and budget constraints.
State and local governments are currently facing significant financial strain due to the economic impact of the coronavirus pandemic. This strain is leading to job cuts and budget constraints, despite some states having built up rainy day funds during the past expansion. The scale of the shock is not sustainable, and states are not able to finance their way through it like the US Treasury and federal government can. Our guests on the podcast, Arkanda Amarnath from Employ America, Alex Williams from the Lebby Institute, and Jacob Fagan from the Berggruen Institute, have been writing about potential solutions from the Federal Reserve and Treasury to alleviate this pressure. State governments are on the front line of the pandemic and its economic fallout, and their fragile financial positions could have ripple effects throughout the economy.
Complexities of State and Federal Roles During a Crisis: During a crisis, the role of states as the first responders and the limitations of federal financial control create complexities. While coordination and collective action are centralized, essential services and safety net programs, managed at the state and local levels, lack flexibility, leading to cuts and loss of federal funding.
During a crisis, the role of states as the first line of defense and the limitations of the federal government's centralized financial control create a complex situation. While some coordination and collective action problems, such as procuring necessary equipment, should be centralized, safety net programs and public services, which are typically in higher demand during a crisis and are primarily managed at the state and local levels, lack the necessary flexibility. This mismatch has led to cuts in essential services like Medicaid, which are funded through federal matching grants, resulting in a loss of federal spending for these programs. This system, while allowing for governmental redundancy and regional autonomy, also presents perverse outcomes, such as cuts to essential services leading to a loss of federal funding. The advantages of this system include regional autonomy and flexibility, but its disadvantages are more pronounced during a crisis. The lack of swift federal response and the ability of some states to respond more effectively have been crucial in mitigating the impact of the crisis. However, the system's perverse outcomes can exacerbate the situation.
States' financial dilemma during pandemic: Proposed solution: Autonomous financing facility to transfer tax receipts to states with high unemployment, ensuring financial stability during economic downturns
During the pandemic, states faced a challenging game of chicken when deciding when to enact lockdowns due to a financing crunch in the municipal market and state financial system. This was caused by a disconnect between budgetary and political abilities. The speaker proposed a solution involving an autonomous financing facility that would transfer a portion of the previous year's tax receipts to states experiencing high unemployment rates. This facility would help states during downturns caused by regional, national, and global trends, allowing them to use the funds for general revenue without requiring specific legislative disbursements. The proposal aims to address the short-term elasticity of state tax revenues with respect to unemployment and the long-term shrinking tax base, providing a more stable financial foundation for states during economic downturns.
Emphasizing local insights and global expertise during financial crises: Leading real estate manager Principal Asset Management stresses the importance of local knowledge and global expertise to uncover opportunities during financial crises. Market strains call for intervention from the Federal Reserve, but concerns regarding democratic accountability must be addressed.
During financial crises, aggressive deal making becomes difficult, and a comprehensive policy solution is needed to stop the financial bleeding. Principal Asset Management, as a leading real estate manager, emphasizes the importance of local insights and global expertise to uncover opportunities in the market. From the market perspective, record outflows from municipal bond funds and strains in the market call for intervention from the Federal Reserve. Direct purchases of investment-grade state and local government debt could provide additional freedom to the fiscal solution, but concerns regarding democratic accountability must be addressed. A time-limited proposal, such as the one suggested by Skanda and Yaacov, could provide access to financing while avoiding the pitfall of encouraging austerity and allowing necessary public health spending.
Providing financing to states during crises: During economic crises, providing financing to states can be crucial, but it should be time-limited and carefully calibrated to avoid creating a secret quasi-backstop for off-budget expenses.
During economic crises, providing financing facilities to subnational entities, such as state governments, can be necessary to help them get through difficult times. However, this financing should only be available for a limited time, similar to how the Federal Reserve's commercial paper funding facility was open during the 2008 financial crisis. The difference between the US and the Eurozone is that in the US, balanced budget requirements are enforced at the local level, making it difficult for states to pursue an anticorrelated capital structure and leading them to move expenses off-budget into fragile capital accounts and off-budget enterprises. Backstopping these muni markets can provide a secret quasi-backstop for states trying to relieve themselves of their self-imposed burden. It's important to note that while there are balanced budget laws and rules, there are also exemptions for each state in terms of how to adhere to them. Therefore, during a crisis, providing financing to states can be a crucial measure to help them manage their financial obligations and recover, but it should be done in a way that is time-limited and carefully calibrated.
Misunderstandings of Balanced Budget Laws in States during Economic Crises: The Fed's reluctance to buy municipal debt during the 2008 crisis was due to unfamiliarity, potential moral hazard, and misunderstood roles. States can maneuver around constraints through special districts and legislative sessions. A dedicated Fed facility or program could help, but careful coordination and communication are key.
The complexities and limitations of balanced budget laws in states, particularly during economic crises, are often misunderstood. The Fed's reluctance to buy municipal debt during the 2008 financial crisis was due to several reasons, including unfamiliarity with the municipal bond market, potential moral hazard, and a lack of understanding between the roles of state treasurers and the Federal Reserve. However, there are ways for states to maneuver around these constraints, such as through special districts and legislative sessions. The ideal instrument for the Fed to support the municipal bond market could be a dedicated facility or program, but given the intricacies of the market and the various issuing authorities, careful coordination and communication would be necessary.
Fed could support states through direct loans or purchasing secondary municipal debt: The US Federal Reserve could provide financial support to states during economic crises by making direct loans to investment-grade states and large cities or purchasing secondary municipal debt, with the regionalized Federal Reserve System aiding in coordination efforts.
The ideal solution for the US Federal Reserve to support state and local governments during economic crises would be for the market to resemble Canada's, where provinces issue uniform and standardized general obligation debt. However, since that's not the case, a potential second-best solution is for the Fed to make direct loans to investment-grade states and large cities. This could help catalyze standardization and financial flexibility for states. Coordinating this action with 50 state governments may seem daunting, but the regionalized Federal Reserve System, with its 12 Federal Reserve Banks, could make it more manageable. Additionally, a large proportion of local government revenues come from intergovernmental transfers from states, making it essential for the Fed to work with state treasurers to provide necessary financial support. The Fed could start by purchasing secondary municipal debt, but ultimately, direct loans to states and large cities might be the most effective way to provide financial flexibility during crises.
Local governments face challenges during economic downturns due to property tax delinquencies and inflexible revenue sources: Local governments rely on property taxes and face challenges during economic downturns, but municipal bonds have funded 72% of infrastructure investment since 1996 despite potential distortions in the market
Local governments, which rely heavily on property taxes for revenue, face challenges during economic downturns due to delinquencies and inflexible revenue sources. The intergovernmental transfers in a crisis can lead to a "every man for themselves" situation. However, backing up the states can provide an administrative framework for local governments. Regarding the muni bond market, the moral hazard of bailing out investors is valid, but the investor base tends to be skewed towards wealthier individuals due to tax benefits. This skew is similar to other asset classes and the markets are narrow due to tax exemptions. While there is distortion, it goes both ways as most municipal bonds are bought for tax exemption reasons. These markets have funded 72% of infrastructure investment in the country since 1996.
Unstable market structure in municipal bonds: The federal government's shift of infrastructure funding responsibilities to municipal bond markets has led to a moral hazard issue for states, potentially resulting in a wave of domestic US austerity and hindering economic recovery
The current crisis in the municipal bond market is not primarily a moral hazard problem, but rather a symptom of an unstable market structure. The federal government's displacement of infrastructure funding responsibilities to municipal bond markets has created a moral hazard issue for states, leading to a decline in state-level investment since 2012. If this trend continues, the consequences could be disastrous for economic recovery, as states and local authorities may be forced to implement austerity measures without sufficient federal support. This situation bears similarities to the Eurozone crisis, where authorities lacked the ability to print their own money or conduct countercyclical fiscal policy, leading to austerity measures. The lack of access to these tools in the current crisis could result in a wave of domestic US austerity. The consequences of such austerity could compound the problem, as the demand drop-off from the crisis has been steeper and more tied to physical space and public services than in 2008. Therefore, addressing the crisis in the municipal bond market and providing sufficient relief to states and local authorities is crucial for a swift economic recovery.
Fed's Role in State Fiscal Stimulus Amid Economic Crisis: The Fed's involvement in state debt raises questions about its role and limits, and the friction between state and federal governments could prolong economic pain post-crisis.
The current economic crisis has led to an unusual blend of fiscal and monetary policies, with the Federal Reserve stepping in to support state-level fiscal stimulus. This raises questions about the role and limits of the Federal Reserve, particularly in a system where backing state debt is seen differently than corporate or bank debt. The speakers also highlighted the significant friction between state and federal governments, which could lead to years of austerity measures and economic pain even after the crisis passes. It's crucial to address these issues to prevent unnecessary hardships and ensure a swift economic recovery.
Bloomberg's Joe Weisenthal and Tracy Alloway to Host New Podcast Money Stuff: Bloomberg personalities Joe Weisenthal and Tracy Alloway are starting a new podcast, Money Stuff, in collaboration with Matt Levine and Katie Greifeld. The podcast will discuss finance news and related topics, and is available on major podcast platforms.
Two well-known Bloomberg media personalities, Joe Weisenthal and Tracy Alloway, are announcing a new podcast called Money Stuff. This podcast is an extension of Matt Levine's popular Wall Street finance newsletter. Each Friday, Matt and Katie Greifeld, another Bloomberg TV host, will discuss the finance news and other topics that make Matt's newsletter a hit. Listeners can tune in to Money Stuff on Apple Podcasts, Spotify, or any other podcast platform. This collaboration promises to bring engaging and informative discussions about finance and related topics to a wider audience.
