Guess who wants to borrow money?
Not just home owners, but also governments like CA.
THE SUBPRIME mortgage crisis that pushed homeowners into foreclosure and forced the Federal Reserve to bail out investment banker Bear Stearns has also sent state and local governments across the country scrambling to refinance municipal bonds before they are hit with exorbitant interest rates.
At the center of the storm are long-term variable-interest bonds known as "auction-rate securities." Unlike traditional fixed-rate bonds, the interest rates on these securities are reset every 7, 28 or 35 days through an auction process.
Historically, the rate paid has been less than on traditional bonds, making the national $160-billion auction-rate market a reliable source of cheap financing.
But that market has collapsed in the past two months, sending interest rates climbing. As a result, California, Richmond, the Bay Area Toll Authority, the East Bay Municipal Utility District and Sacramento County are among countless government agencies forced to restructure their bond debts.
For some agencies, the transition will be exceptionally painful if they can’t move quickly. For many, the collapse of the auction-rate securities market cost millions of dollars more in interest payments. The public will feel the squeeze through tax increases down the line or less money for much-needed public services and facilities.
That’s not to say that issuing auction-rate securities was a bad move by state and local governments. In fact, they have proven very beneficial to taxpayers over many years. And the government agencies did nothing to cause the market collapse. But the days of cheap money are over for many local governments already strapped for dollars.
After refinancing, Richmond, for example, will be forced to pay about $5 million more during the next two years for interest on about $167 million in bonds issued to fund redevelopment projects and renovate the city center.
The state of California is about to refinance about $400 million in auction-rate securities because rising interest rates have cost taxpayers about $1.5 million extra in the past six weeks. For similar reasons, the state earlier this month refinanced about $500 million in securities that were originally issued to purchase electricity during the energy crisis.
The auction-rate market collapse stems in part from the travails of the insurance companies that promised investors they would cover the principal and interest on the bonds if the government agencies failed to pay. Those insurers are some of the same companies that guaranteed subprime mortgages. When the subprime market imploded, rating agencies downgraded the insurers. That had never happened before. The downgrade, in turn, spooked auction-rate bond buyers because their investments were no longer protected by top-rated insurers.