The Misunderstood Municipal Market: Why Predictions For Mass Municipal Defaults Are Incorrect

Open Access
Zurad, Noah Joseph
Area of Honors:
Bachelor of Science
Document Type:
Thesis Supervisors:
  • James Alan Miles, Thesis Supervisor
  • James Alan Miles, Honors Advisor
  • Joseph Randall Woolridge, Faculty Reader
  • Municipal
  • Debt
  • States
  • Fiscal
  • Pensions
  • Debt Market
  • Default
  • Bankruptcy
  • Tax-Exempt
  • Harrisburg
  • Balanced Budget
The municipal bond market has long been considered unexciting and virtually risk-free. Following the recession that began in 2008, several high profile analysts questioned the stability of the asset class. Despite extremely low historical default levels, there was a reaction in the market. Although municipal bonds are tax-exempt, yields on municipal debt traded in excess of 100% of comparable Treasuries, and remained there through 2011 as investors pulled more than $40 billion out of municipal bond funds. Although there was only $2.1 billion in defaults in 2011 out of $3.7 trillion in outstanding debt, concerns remain about the state of the market. This thesis evaluated the state of the municipal market from several angles. In addition, the study reviews the Harrisburg, PA fiscal crisis which received a lot of attention in 2011 and into 2012. The study found that municipal issues and concerns for mass defaults are overstated. Municipal debt levels, both relative and nominal, have risen at a consistent pace since the market originated with only slight jumps during economic slowdowns. Pensions should continue to be monitored, but since they are long-term promises and many of the funding problems are a result of the recession, a return to normal economic conditions should fix the issue. State budgets were affected by a loss of revenue during the financial crisis and spending was limited by balanced budget restrictions. Federal stimulus helped them get through 2009 and 2010 and revenues are now on par with 2007. Finally, the study shows that Harrisburg is not a representative case in terms of its fiscal challenges, but it does display that even under intense financial distress, it is unlikely for a municipality to default on general obligation debt. In conclusion, this paper states that analysts have overstressed the challenges facing the municipal market and that mass municipal defaults during this recession are unlikely.