A Public Infrastructure Bank for Massachusetts: Frequently Asked Questions
Are there any public banks in the US? What programs do they fund?
Currently, the only public bank in the US is Bank of North Dakota. Established in 1919 it offers business loans, agriculture loans, student loans, home mortgages, infrastructure loans, disaster recovery loans and participation loans with local banks. It has neither branches nor ATM services It is not a member of the Federal Deposit Insurance Corp (FDIC), but does buy transfer services (check cashing) through the Minneapolis Federal Reserve Bank. It is consistently profitable, and has avoided all the problem loans and foreclosures rampant in other states.
Where else are public banks being proposed? What programs are proposed?
In addition to Massachusetts, legislation to establish publicly owned banks has or will be filed in Alaska, Michigan, California, Washington and New Jersey. Feasibility studies have begun in St Louis, Philadelphia, Los Angeles, San Francisco, Washington DC, Berkeley and Seattle. Other locales such as Santa Fe, Baltimore, and Chicago are engaged in discussions as to how to proceed.
Proposed missions differ, but they typically include affordable housing, small business lending, environmental programs, infrastructure financing and student loan programs.
What makes the Massachusetts bank different from existing state funding sources?
Massachusetts quasi-publics are essentially revolving loan funds, which, from time to time, require an additional state appropriation. Those such as Business Development Corp. require new capital notes from their bank sponsors or additional capital from the insurance industry, for entities funded by it.
H935/S579 authorizes a bank, which as a depository (initially only accepting state deposits) will not need any additional state appropriation after the initial equity.
The bank will, unlike any of the quasi’s, have an initial program focus on infrastructure financing for Mass cities and towns. The quasi market is comprised of small businesses, new businesses, commercial developers, housing developers, non- profits and community development entities, but not municipalities.
How risky is this investment for the state?
Loan Risk: The evidence is that financing to municipalities is dramatically less risky than business loans. Most banks experience loan defaults or criticized loans many times every year. By comparison, Moody’s Investor Services reports the last three defaults in Massachusetts were:
- In 2011, Boston floated a bond to develop a parking garage adjacent to the new Cross town hotel that did not meet occupancy expectations. Payment terms have been restructured.
- Prior to that, there was a default in 1999, nineteen years ago. The merger of Boston City Hospital and BU Medical Center was underfunded and the new entity fell behind in bond payments. Bond payments were made on a revised schedule.
- In 1990, twenty eight years ago, a hospital merger on the North Shore did not break even as quickly as expected and it fell behind in payments. Bond payments were made on a revised schedule.
Deposit Risk: Another factor, generally not well understood, is the lack of risk for state deposits. As every other bank does, the Mass Infrastructure Bank will establish loan loss reserves. Any loss would be charged off against those reserves and against retained earning.
Loan losses therefore do not affect deposits, unless, of course, a bank’s losses are so excessive as to exceed its reserves, its retained earnings and its equity. That was the inevitable result, in 2007 – 2008, when too many banks knowingly made loans that had a low probability of being repaid.
In summary the risk factor for a Mass infrastructure bank lending to municipalities is significantly lower than for commercial banks making business loans. Cities and towns do not go out of business and go away, or start up again under new ownership or a new name.
If certain municipalities don’t have good enough credit for traditional lenders, should the state be lending to them?
The Mass Infrastructure Bank should not make loans to any municipalities that do not have a quantifiable cash flow that allows them to service existing debt, any new debt, as well as basic operating services.
To ensure that is how the bank operates, each loan officer will be paired with a skilled credit analyst who can evaluate budgets and cash flow projections for accuracy, from each applicant.
The difference with the private bond market is the 7% ceiling – if a municipality has total debt service greater than 7% of their operating budget, bond financing will not be provided. This artificial ceiling clearly serves the interests of bondholders by shrinking risks. On the other hand it limits the scope and number of needed projects that can be undertaken in most communities.
This need to defer priority projects due to financing issues was mentioned by 54% of the mayors and town managers surveyed last year.
The Massachusetts Department of Revenue has calculated that a clear majority of Massachusetts cities and towns could handle up to a 14% debt service ratio and maintain financial health.
No one would advise a municipality to go to the maximum, but each loan application must be individually evaluated for ability to repay.
In short, in financing, one-size-fits-all doesn’t fit all. A program is needed that prudently manages risks while aiding the financial health of municipalities, as opposed to artificial ratios intended primarily for the financial safety and gain of bondholders.