A Requiem for the Build America Bond

BABs, TxDOT and the $1.4 Billion in Federal Stimulus Subsidies
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If you’ve been watching the municipal bond market, you might have noticed something interesting recently: The issuance of municipal bonds – debt used to finance local government projects – dropped to an eleven-year low. While most might be tempted to chalk it up to current economic conditions, there’s another, slightly less obvious reason. The Build America Bond (BAB) program – part of the Obama “stimulus” package – fueled much of the past year’s bond activity, and when the program ended last year, the municipal bond market took a nosedive. More important, Texas lost a big pot of money for building transportation projects at a time when financing for roads and other mobility ventures is in real trouble.

“The muni market is dependent on a precariously thin base of demand in the aftermath of the demise of Build America Bonds,” wrote one analyst recently.

The BAB program was part of the American Recovery and Reinvestment Act of 2009, the stimulus package designed to create and retain jobs in the wake of the Great Recession. For Texas, that piece is $1.4 billion.

“We’ve been able to push a lot of really good transportation projects out the door,” said Kelli Petras, a spokesperson for TxDOT, to Bloomberg in December. Petras explained that BABs helped finance refurbishing projects on I-35 between Austin and San Antonio, and that it offered TxDOT greater flexibility in funding infrastructure projects. But what was so attractive about BABs in the first place?

If you’re a state or local government agency, you could issue debt while collecting a subsidy from the federal government at the rate of 35 percent of the interest. That effectively lowers the government’s borrowing costs, which means cheaper, albeit subsidized money. It’s just like agricultural subsidies for corn growers. (Of course, debt is always in season.)

If you were an investor, you might be tempted by the relatively high 6 percent return rate, which made BABs competitive even with corporate bonds. Sure, unlike regular general obligation or revenue bonds, these aren’t tax-exempt. But Anytown USA’s chances of being the next Enron are slim, as municipalities have a much lower chance of defaulting on the bond. Just ask China.

Since the subsidy is “free money” from the government, some would call it a bailout. And Texans hate bailout, right? But Texas made headlines in July 2010, when the Texas Transportation Commission announced the sale of $1.38 billion in BABs, which was larger than any other previous sale in the nation. And that’s just one issuance; the Texas Department of Transportation issued more than $3.5 billion in BABs through the life of the program. As those bonds mature, TxDOT is projecting a return of $1.4 billion in federal subsidies.

“What the BAB did for us is it allowed us to not have to pull from the Texas Mobility Fund,” Petras said. The Texas Mobility Fund gets its money from the fees pegged to your driver’s license or vehicle inspection. In fact, the subsidies from BABs are counted in the fund’s revenue, which you can find in TxDOT’s TMF reports here.

So what will become of the program, and the subsidies that go with it? Virginia Congressman Gerald Connolly recently introduced a bill to revive them for two more years, with slightly declining subsidy rates of 32 percent and 31 percent over the next two years. Others, including some Republicans, claim that the subsidy was too high to begin with. Others take issue with the fact that there was a subsidy in the first place.

In the meantime, TxDOT and other government institutions throughout the nation will collect subsidies. And while TxDOT says that the majority of their investors are in the US, one can’t help but think of the novelty of foreign investors like Credit Foncier de France and Banco Santander having a tangible impact on Texas’ infrastructure.