Detroit’s problems unlikely to spread to other cities, experts say

Detroit’s historic bankruptcy filing Thursday could raise anxiety levels and interest rates for cities that depend on the nearly $4 trillion municipal bond market to fund critical projects, financial officials and experts said.

Detroit owed creditors about $19 billion, some experts said, and its bankruptcy could make investors more hesitant to put money in municipal bonds, especially for localities that are struggling financially. Other experts, how­ever, said that they think the effect will be fairly muted and that Detroit’s problems are specific to the city and unlikely to spread.

“Detroit’s been under distress for quite some time, and its credit condition has been pretty well understood by the municipal market,” said Jeffrey Previdi, managing director and head of local government ratings for the eastern United States at Standard & Poor’s. “The ultimate conclusion is not something that is going to be a surprise to the municipal market.”

The municipal bond market already has been under pressure as speculation that the Federal Reserve could begin scaling back its bond-buying program this year has increased interest rates. Also, the Securities and Exchange Commission has been cracking down on municipalities that it suspects of hiding information from investors when they sell bonds to them.

“I expect that people are going to think harder about investments in municipal bonds going forward,” said David D. Tawil, co-founder of Maglan Capital, a New York investment firm that specializes in distressed assets. “I think rates will generally rise.”

The way the bankruptcy is handled could have a lasting effect on the municipal bond market, particularly for other Michigan cities, experts said.

“We are concerned that this development could raise borrowing costs for the city of Detroit and other municipalities in the state of Michigan over a long period because investors could perceive Michigan local government bonds as considerably less secure going forward,” said Ira Hammerman, senior managing director at the Securities Industry and Financial Markets Association, a financial industry trade group.

Hammerman said he is particularly concerned about Detroit’s general obligation bonds, which are funded by city tax revenue. Usually, he said, these are treated as the most senior debt that is repaid, but if that does not happen, it could affect the market.

“The treatment of those bonds by the bankruptcy court could affect how investors’ view those types of securities issued by all Michigan municipalities and potentially could have nationwide implications.”

In the Washington area, finance officials said they do not anticipate any significant impact on their jurisdictions’ borrowing. The regional economy is stronger than that of Detroit, which has experienced a five-decade-long slide, local officials said.

Aides to Maryland Gov. Martin O’Malley (D) and Prince George’s County Executive Rushern L. Baker III (D) cited the vastly different circumstances in the financial health of Detroit and Maryland’s state and local governments.

“The bond markets will understand the difference between the better choices we’ve made that have put us in a strong fiscal position and earned the state a AAA rating from all three bond-rating agencies and the unfortunate circumstances that have befallen the city of Detroit,” O’Malley spokeswoman Takirra Winfield said.

Bradford L. Seamon, Prince George’s County’s chief administrative officer, said the Detroit crisis could even redound to the benefit of more financially sound jurisdictions.

“It is possible that you might get more interest in the higher-rated localities,” he said. “But we don’t have any fantasy that [Wall Street] won’t raise an eye.”

Natalie Wilson, a spokeswoman for D.C. Chief Financial Officer Natwar M. Gandhi, said the bankruptcy is “ very specific to Detroit and its fiscal problems” and will not become a “contagion” in the municipal bond market.

“Bond markets, like the stock market, tend to be forward-looking, and it has been known for a while that Detroit was likely to file for bankruptcy,” she said. “Whatever effects this might have on the muni bond market, if any, would have already been priced into muni bonds weeks ago.”

Paige Pierce, chief executive of RW Smith, a municipal bond broker, said she does not expect Detroit’s problems to lead other financially strapped cities to consider filing for bankruptcy.

“I don’t know this moves the ball forward for any other municipalities to flow in this direction,” she said. “Detroit is a unique situation, and they’re taking the time to make the right moves for their city.”

Jeremy Borden, Miranda S. Spivack, Patricia Sullivan and John Wagner contributed to this report.

Zachary A. Goldfarb is a staff writer covering the White House, focusing on President Obama’s economic, financial and fiscal policy.
Mike DeBonis covers local politics and government for The Washington Post. He also writes a blog and a political analysis column that runs on Fridays.
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