What is the Role of Public Information in the Assignment of Local and Regional Governments’ (LRGs’) Ratings? - An Analysis of the Determinants of LRGs on a Post-Decentralization Period in Western Europe

Abstract:     
The financial dilemmas faced by local and regional governments (LRGs) in Western Europe in the post-decentralization period have intensified the need for the use of ratings, even if banks provide the major source of financing. This paper first offers a quantitative analysis of ratings focused on European LRGs in the immediate post-decentralization period. Contrary to previous studies, we do not rely upon official criteria published by rating agencies. Similar to a credit analyst in a bank, we use publicly available data (financial statements published by LRGs and economic fundamentals) to build our own indicators, and then, we try to predict the ratings. Thus, we attempt to answer the following question: what is the role of private information collected by rating agencies and the magnitude of information asymmetry between rating agencies and banks? We also compare the driving factors of the LRG ratings for Moody’s and Standard and Poor’s. The results of linear discriminant analysis (LDA) suggest that a small subset of financial and economic variables provides useful information for the LRG or its creditors in its rating assessment. The rating’s main determinants are regional GDP (gross domestic product), local unemployment rate, debt indicators, and fiscal performance ratios (tax revenues as well as gross operating margin ratios).

Number of Pages in PDF File: 30

Keywords: municipal bonds, local and regional governments, default risk, rating

JEL Classification: G15, G32, H72

working papers series