KBRA Releases Research ? Coronavirus (COVID-19): Why Does Federalism Matter to Municipal Credit?

Kroll Bond Rating Agency (KBRA) releases research discussing the importance of state laws and the principle of Federalism in municipal credit analysis.

The economic and credit dislocation created by the coronavirus (COVID-19) pandemic has once again raised questions about bankruptcy and creditors' rights in the municipal market. In April 2019, KBRA commented on the implications of the U.S. Court of Appeals for the First Circuit ruling over the treatment of the Puerto Rico Highway Authority's special revenue bonds (which decision is now final, with the Supreme Court's recent denial of certiorari).

In summary, the Court of Appeals ruled that, during the bankruptcy case, special revenue bond payments are merely optional and not mandatory under the special revenue provisions of Chapter 9 of the Bankruptcy Code. KBRA had noted that some states like California have laws addressing?and restricting use of?specific revenue streams (such as taxes levied for California school districts), and we discussed the significance of those laws as well as how they may inform KBRA's analytic process.

In this report, we provide a deeper examination of the constitutional framework underpinning state powers. We also look at how those powers are (or can be) used to secure particular municipal debt issues and provide protection from the uncertainties created by the First Circuit's decision.

Key Takeaways

• The principle of Federalism establishes the dual sovereignty of state and federal governments in the United States.
• Our federal system of government provides robust powers to the states, including to control how their respective local governments and agencies may raise revenue, what those revenues may be used for, and the basis on which such public entities may secure and issue bonds.
• As this concept of Federalism is foundational in our form of government, where appropriate, KBRA will include state laws in its analysis, including giving consideration to the significance of state law in federal bankruptcy proceedings, in the evaluation of credit and the assignment of public finance debt ratings.
• Broad sweeping rating actions or rating methodology changes that do not consider specific state laws and the principles of our system of jurisprudence are misguided shortcuts to analytical rigor and are, in KBRA's view, a disservice to municipal issuers and their investors.

Click here to view the report.

Related Publications

• Municipal Default History: Rating Ceilings Do Not Hold Up
• First Circuit Follies: Puerto Rico Ruling Slams Municipal Investors ... Again
• Rating Ceilings Subvert Fundamental Municipal Credit Analysis
• Has Special Revenue Bond Protection Been Turned On Its Head?

About KBRA and KBRA Europe

KBRA is a full-service credit rating agency registered with the U.S. Securities and Exchange Commission as an NRSRO. In addition, KBRA is designated as a designated rating organization by the Ontario Securities Commission for issuers of asset-backed securities to file a short form prospectus or shelf prospectus. KBRA is also recognized by the National Association of Insurance Commissioners as a Credit Rating Provider and is a certified Credit Rating Agency (CRA) with the European Securities and Markets Authority (ESMA). Kroll Bond Rating Agency Europe is registered with ESMA as a CRA. Kroll Bond Rating Agency Europe is located at 6-8 College Green, Dublin 2, Ireland.