Trends and Changes in the Municipal Bond Market as They Relate to Financing State and Local Public Infrastructure

In response to a congressional request, GAO described the significant structural changes that have occurred in the municipal bond market since 1970, related them to the rise in interest rates, and analyzed the effects that higher interest rates have on the financing of State and local infrastructure.

Recent cutbacks in Federal grants for financing State and local infrastructure and the deterioration of State and local fiscal conditions have increased the importance of the municipal bond market as a source of infrastructure finance. While there has been an increased demand for loanable funds, there has been a decrease in the supply of loanable funds by institutional investors. Despite record high interest rates, there has been a sharp rise in the annual volume of long-term municipal bonds over the past 4 years. The most important factor contributing to this increase has been the rapid growth in the use of tax-exempt bonds for nontraditional purposes. Other changes in the market directly related to the increase in the volume of municipal bonds include: (1) changes in the types of governmental units issuing bonds; (2) a shift in the type of bonds being sold from general obligation to revenue bonds; and (3) a shift from the use of competitive bids by issuers to the use of negotiated bonds. Buying patterns in the municipal bond market have shifted from institutional to individual investors because of changes in investment priorities and the tax code. Individual investors have been attracted to the market because of the tax-exempt feature of its securities. Finally, GAO found that the increased volume of delayed and canceled proposed bond sales were directly related to a rise in interest rates and have reduced the amount of borrowed funds available for new capital construction bonds.