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Dear Mr.
Bacon,
In
my recently published op ed “How
to Lose a AAA Bond Rating” (February 15,
2004), I made an error. The
cities of Bristol, Franklin, and Pulaski and counties of Lunenburg, Prince George, and
Warren
are not in default on their bonds, as I
incorrectly stated. I apologize to
the residents of those communities, your readers,
and you for my error. I am solely
responsible and take full responsibility for it.
I understand that the Commonwealth’s Deputy
Secretary of Finance, Pamela A. Currey, brought my
error to your attention. She has done
a public service in doing so. Unfortunately,
I did not receive a full copy of Ms. Currey’s
remarks. I do feel the need to
respond to the sections I have seen, as they bear
on the matter of the Commonwealth’s bond rating,
how the actions of subordinate jurisdictions
affect it, and how those actions constrain
legislative options.
In the fragment of her remarks I have seen, Ms.
Currey is quoted as having said that my “entire
assertion is false”. The
implication being that my entire paper is in
error. That is definitely not the
case, as I’m sure Ms. Currey knows. Given Ms.
Currey’s long experience with government debt
issuance, I must assume that she was quoted out of
context.
Specifically,
Ms. Currey only disputes the smallest obligation
example I mentioned - the $29 million default
claim. I incorrectly stated that
these bonds were currently in default. Ms.
Currey does not, indeed cannot dispute, the
Commonwealth’s exposures arising from the "moral
obligation" $61.9 million VRA deal or
"partnership" in the $355 million
Pocahontas bonds, the latter now carrying a junk
bond rating. I assume that their
influence on the Commonwealth’s bond rating is
not in dispute.
With respect to the issues I wrongly identified as
in default, Ms. Currey appears to be gilding the
lily. The issuers in question may not
be in default, but the market must view them as
poor credit risks. According to Ms.
Currey, these issuers “rely solely on the state
aid intercept provision to achieve their
investment grade ratings”. Said
another way, the investors rely on the
Commonwealth’s resources, rather than the
issuer’s, as security for these bonds. When
investors rely on a private company in this way,
it is called ‘bond insurance’.
Ms. Currey goes on to say the Intercept “is not
a guarantee of the use of other state funds --
only those funds that the locality would receive
from the state in the normal course of business --
K-12 funding, motor vehicle carrier taxes, sales
taxes, any state aid to the locality”. I
never said the Intercept was anything else. I
agree with Ms. Currey, rating agencies
specifically note the Commonwealth is not
obligated to pay beyond the amount appropriated as
state aid for the issuer.
My point, with respect to all these obligations
and the Intercept in particular, is that they
restrict the legislature’s options but are not
controlled by the legislature. Ms.
Currey strengthens that argument, pointing out
that investors specifically rely on the Intercept
as security for the bonds. Individual
jurisdictions that make the decision to issue
bonds, creating individual obligations. The
Commonwealth must deal with the aggregate impact
of these individual, uncoordinated decisions on
its resources.
The legislature is constrained because investor
reliance on the Intercept restricts their ability
to make budgetary decisions. If the
legislature were to act in ways inconsistent with
the bond security agreement (i.e. reduce state
aid), local government issuers would be legally
required to report this "material event"
– formally advise rating agencies and investors
that their security had been compromised.
The bond market would react negatively, as
it has in the past to such situations, and the
impact reflected in the Commonwealth’s own
rating, among other places.
In summary, I think my original argument
concerning the inter-relationship between
subordinate jurisdictions bond issuance activity,
including but not limited to issues tied to the
Intercept, and the Commonwealth’s credit rating
remains valid. If anything, it is
strengthened. I again take full
responsibility for my error and apologize for it.
I continue to believe that it is
disingenuous of the governor to mischaracterize
the Commonwealth’s rating situation in the
service of his tax increase plans.
William P. Kittredge, Ph.D.
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