Municipal Bond Insurance and the U.S. Drinking Water Crisis
62 Pages Posted: 29 Mar 2021 Last revised: 7 Jul 2021
Date Written: July 6, 2021
The alarming rise in drinking water pollution across the U.S. is often attributed to cost cutting pressures faced by local officials. We know little, however, about why these pressures are so severe for some cities compared to others. We present a new theory to argue that an important contributor to recent drinking water emergencies is the collapse of the municipal bond insurance industry. Public water infrastructure has traditionally been financed using municipal debt partly backed by a small number of monoline insurers. Starting in the 90’s, some of these insurers became increasingly involved with structured financial products unrelated to municipal water bonds, such as residential mortgage backed securities. We show that when these products crashed in value in 2007, municipalities that had relied more heavily on these insurers for water infrastructure financing subsequently faced higher borrowing costs. These municipalities then reduced their borrowing and scaled back investments in water infrastructure, which in turn, has led to elevated levels of water contamination. Our findings thus reveal how the U.S drinking water crisis can be partly traced back to financial market failures.
Keywords: Municipal Finance, Insurance, Investment, Public Goods, Drinking Water, Infrastructure
JEL Classification: H00, G00, H40, H74, G18, G30
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