April 20, 2011
I am writing to inform you about an important issue for cities that has escaped the attention of both policy makers and the media, namely, redlining by the municipal bond rating agencies. More specifically, a recent peer-reviewed article of mine in the American Law and Economics Review shows that recent ratings for general obligation (GO) municipal bonds by all three major ratings agencies discriminate against cities with relatively high African American or Hispanic populations. Lower ratings lead to higher interest rates, and my estimates indicate that these cities face a substantial interest-rate penalty when they issue GO bonds.
My article also develops a regulatory framework that would make it possible to detect this type of discrimination in all types of municipal bonds without undermining the credit agencies' legitimate business interests or the proprietary nature of their rating schemes. A copy of the article is attached to this message.
As I understand it, the recent financial reform bill gives the SEC the authority to examine and, if appropriate, to fine credit rating agencies, including the agencies that rate municipal bonds. These reforms make it possible for the SEC to implement the regulatory scheme developed in my article and thereby to identify redlining in municipal bond ratings, both for GO bonds and for municipal bonds of other types. I urge you to look into redlining in municipal bond ratings and to enforce rules that prohibit it. The credit rating agencies should be required to issue municipal bond ratings that meet basic standards of fairness.
Trustee Professor of Public Administration and Economics
Center for Policy Research, Eggers Hall
Copyrighted material redacted. Author cites Yinger, John. "Municipal Bond Ratings and Citizensí Rights." American Law and Economics Review. Oxford University Press, 20 Oct. 2009. Web. 20 Apr. 2011. http://aler.oxfordjournals.org/content/12/1/1.short?rss=1