Market turbulence in the wake of S&P’s downgrade of the U.S. federal government could significantly weaken state and local governments, Moody’s Investor’s Service said today.
While Moody’s affirmed S&P’s assessment that most municipal issuers are sufficiently insulated from the effects of the downgrade, the ratings agency said that hostile market conditions could put additional pressures on already-strained local governments.
“Most municipal issuers are somewhat weaker than they were prior to the last major market disruption,” said Moody’s Managing Director Timothy Blake in a statement, obtained via Reuters. “This is why some may face significant stress if hostile market conditions emerge.
The agency said it expects most muni issuers to be able to cope through periods of tight liquidity and diminished access, although state and local governments that issue debt to fund operating deficits or rely on short-term notes for seasonal cash flow may be more vulnerable.
These issuers — including California and Illinois — would be at risk of a downgrade in the event that a slowdown resulted in a budget deficit, or if they could not operate without borrowing.
There is evidence that this is already happening. WPRI reports that Rhode Island’s $6.5 billion state investment portfolio lost about $200 million, or about 3% of its value, when the market crashed Monday.
Even before Monday’s crash, California faced a $11.1 billion cash deficit that it covered with internal borrowing and a bridge loan. Another slump would put additional pressure on state revenues, as well as the state’s investment portfolio and enormous pension funds.