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August 18th, 2012 at 9:33 pm
Moody’s Warns It May Downgrade California Municipal Debt

The Huffington Post summarizes a new Moody’s Investor Service report that could significantly alter municipal California’s fiscal future:

Moody’s reports that some cities are turning bankruptcy as a new strategy to take on budget deficits and avoid obligations to bondholders, an emerging dynamic that could have ripple effects throughout the investment community.

The municipal bond market has long been characterized by low default rates and relatively stable finances, Moody’s said, but that outlook is beginning to change as bankruptcy becomes a tool for cash-strapped cities.

Already three California cities – Stockton, San Bernardino, and Mammoth Lakes – have filed for bankruptcy.  HuffPo quotes Moody’s as saying that of California’s 482 cities, more than 10 percent have declared a fiscal crisis.

Historically, municipal bonds have been some of the safest investments on the market because cities are presumed by analysts to want to pay back their debt in order to maintain access to public bonds.  (Bonds pay for things like school buildings, roads, sewage systems, etc.)

Since California is responsible for 20 percent of the nationwide muni bonds in circulation, a downgrade by a ratings agency like Moody’s would have a significant negative effect on the value of heretofore safe investments.  If investors see California as an unsafe bet – and why wouldn’t they – expect to see the muni bond market dry up and even more cities opting for bankruptcy.

In other words, this is very bad.