The brave new world of local government debt management

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“How do we use federal money and stay compliant?”

That was Kevin Bain’s reply when our team asked what was top of mind for him. He is the director of strategy for the Detroit treasury department and CFO’s office, where he oversees debt management and strategic projects.

Bain was one of a number of finance leaders we spoke with to examine the role and impact debt managers have in improving local government finances. His response points to a trend that reflects an increasingly complex debt management world and the need for increased fiscal dexterity.

Detroit wants to tap into tax credits for clean-energy investments that are available under the Inflation Reduction Act. This is not a resource that municipalities typically apply for, so the city has no mechanisms in place for it. “We’re building the plane as we fly it,” says Bain.

A More Strategic, Agile Approach

The field of municipal finance is evolving. Market volatility, economic uncertainty and factors like climate change are driving heightened risk, creating a tougher issuing environment and a more complex landscape, such as with federal grant funding compliance.

There are “more and newer expectations foisted on the debt management function,” explains Justin Marlowe, a professor at the Harris School of Public Policy at the University of Chicago. “Whether that is better disclosure or continuing disclosure vis-à-vis the MSRB [Municipal Securities Rulemaking Board] or state authorities … and with pressure to speak to ESG and sustainability concerns, people now are actively scrutinizing when, where and how the quality of your continuing disclosure happens.”

In today’s municipal bond market, persistently high and fluctuating interest rates have increased borrowing costs for issuers and made issuing bonds more difficult. Local governments are beginning to recognize the heightened importance of the debt management role. “It has the potential to generate savings and add financial value,” notes Marlowe.

The Role of Policy Analysts

Given these trends, local government debt management teams are recruiting policy analysts to bring subject matter expertise and analytical horsepower to their bond sales. Like Bain in Detroit, Olyvia Jarmoszka, debt manager for Cook County, Illinois, has a much broader role these days. Now, she says, “I feel like my role is more policy and strategic than it is accounting.” For example, she told us, “Last year we ended the fiscal year with a pretty high fund balance. We’re trying to figure out the best way to allocate those funds. And then … we’ve been presented with this migrant issue and we’re also trying to navigate that in a diplomatic manner, but also trying to do the right thing financially has been a challenge.”

Issuing a bond involves many hours of research and analytics. “But there’s a lot of that kind of work where we’re not just keeping track of principal and interest payments,” Ahmed Abonamah, CFO for the city of Cleveland, told us. “We’re really engaging in some sophisticated analysis with the support of our municipal advisers to understand the broader context of the market and figure out when we should do our deals, in what form we should do them and how can we do it all in a way to insulate the city from risk and provide the capital that we need to get the work done.”

The bottom line: Debt managers who don’t adapt to the market are basically leaving money on the table. If a CFO or debt manager has done their job well, the bonds are priced in line with market expectations, the proceeds are enough to finance necessary projects and the debt service payments are fiscally sustainable.

Communicating with Investors

But how do cities ensure demand for their bonds? Marlowe notes that there’s more to it than the technical aspects and structuring of debt. “There’s now an increased focus on increasing the pool of investors and appealing in some cases to new types of investors, which can be difficult to do through the standard channels.”

For Abonamah, investor relations are a top priority. Before coming to Cleveland, he worked at the Securities and Exchange Commission, where he led its 2018 disclosure drive. He champions the importance of transparency and disclosure and is leading an effort to set up an investor relations website for the city. “It will create a single stop for investors or any market participant to more efficiently get information.”

Efforts like these seem to be paying off. Cleveland’s financial condition is steadily improving, and it was one of the few cities to obtain a positive rating in Truth in Accounting’s recent Financial State of the Cities Report.

In Detroit, mandatory disclosure after the city’s 2013 bankruptcy has promoted a focus on transparency that has aided in the its financial revival. Now sitting at a BB+ bond rating, Detroit has seen five rating bumps since its bankruptcy, with most of the upgrades in just the last few years.

It’s true that requirements to improve financial reporting and keep up with increasing disclosure are regulatory burdens. Rules like GASB 96 and GASB 87 “are extremely complex, very time-consuming,” explains Carol Block, finance director for Larimer County, Colorado. Short-staffed governments may not have the bandwidth, and many are worried about new reporting requirements mandated by the Financial Data Transparency Act. We recently wrote about the tools localities can implement to stay compliant with that law and take charge of their financial future.

Proceeding Strategically

Debt managers need to be more strategic participants in the bond issuing process. This includes getting involved in capital planning, as Kevin Bain’s office is doing in Detroit, as well as coordinating community planning, financial capacity and physical development.

Taking a proactive role, debt managers can help ensure that issuances are aligned with community needs, budget realities and financial goals. Engaging in organization-wide strategic planning efforts is a powerful way to help localities improve coordination across areas like capital planning and debt management and in the process strengthen the vital connection between policy and operational and financial decisions.

Mark Funkhouser, president of Funkhouser & Associates, is a municipal finance expert who has spent decades in government service and is a former mayor of Kansas City. He is an advisor to Route Fifty.