Monday, September 28, 2009

Remember Every Dollar the Government Borrows is One Less Available for Private Investors

States Counting on Low Interest Rates to Avoid Spending Cuts

State governments are rushing to borrow money to take advantage of cheap and plentiful credit at a time when tax collections are tumbling.

Investors, lured by the safety of taxpayer-guaranteed debt, are lending states money at the lowest interest rates in decades.

The borrowing has helped governments increase spending during the recession and avoid some painful spending cuts. Lower interest rates will save governments several billion dollars annually during the life of the debt.

Even financially troubled states are getting large amounts of cash at bargain prices. California borrowed $8.8 billion last week at interest rates of 1.25% to 1.5% for debt due by June 30. That's about one-third the interest rate it paid a year ago.

"It's a good time to go out and borrow money," Utah Treasurer Richard Ellis says.

State and local governments had added $217 billion in new debt this year through last Thursday, up 5% from a year earlier, reports Thomson Reuters. That doesn't include California's $8.8 billion debt issue, which closed Friday.

Governments are borrowing more while consumers and business have less access to credit.

Miami-Dade schools. The district will make a profit on $150 million borrowed last week to tide it over until property tax collections arrive in December. The district borrowed money at 0.37% and will invest the money, until it is spent, at 0.80%. "We'll make a little money on our debt," Chief Financial Officer Richard Hinds says.

Ohio. The state planned to borrow $252 million last week. Instead, it borrowed $544 million to take advantage of low rates and refinance old debt.

Utah. The state borrowed $1 billion for highway projects Sept. 16. As one of seven states with the top AAA bond rating, Utah sold 15-year bonds for 2.72%. "We caught the market at a phenomenal time," Ellis says.

Short-term interest rates for governments hit a record low of 0.56% last week for debt due in 13 months or less, reports The Bond Buyer, a newspaper that tracks public finance. Rates on 20-year bonds fell to 3.79%, the lowest level since 1967.

Not all governments can get low rates, Bond Buyer editor Amy Resnick says. Some small governments or programs backed by a specific revenue source, such as tolls, have a hard time borrowing cheaply because investors don't want to take risks.

States and cities borrow at lower rates than businesses because interest paid to investors is generally exempt from federal income taxes. Risk is low, too. No state has defaulted since the 1930s.

State and local governments increased borrowing at an 8.3% annual rate in the second quarter, the most recent figures available, the Federal Reserve reports. Federal borrowing rose 28%. By contrast, household and business debt shrank.