Construct America Bonds could possibly be key to funding Biden’s infrastructure plans

Republicans and Democrats agree that the US desperately needs a major infrastructure overhaul and that Congress should at least approve significant repairs to roads and bridges.

The violent disagreement between the two parties begins with which provisions are worth adding to the federal deficit and how such a massive enterprise can be funded.

And while Wall Street worries about potential increases in corporate and individual income tax rates, Democrats could soon turn to an Obama-era tool to fund their infrastructure plans: Build America Bonds.

BABs are special municipal bonds that enable states and counties to pay off debts with interest costs subsidized by the federal government. This underwriting not only helped to relieve nervous investors after the financial crisis, but also made municipal debt even more attractive, with interest rates sometimes exceeding 7%.

This approach could be especially helpful as President Joe Biden is pushing his infrastructure forward, especially after the high price of his $ 1.9 trillion Covid-19 aid package. Even the most modest estimates put the cost of repairing the country’s infrastructure in the trillions of dollars.

According to a report released by the American Society of Civil Engineers in early March, the country’s total infrastructure needs will be nearly $ 6 trillion over the next 10 years. It is said there is a $ 125 billion backlog on bridge repairs, a $ 435 billion backlog for roads, and a $ 176 billion backlog for transit systems.

Those amounts, just for repairs already deemed necessary, come before the expansive and innovative technology that the Democrats are looking to include in Biden’s upcoming bill. The White House is expected to come up with a bill worth at least $ 3 trillion and include a litany of infrastructure and welfare programs.

Biden for BABs?

Vikram Rai, head of Citi’s municipal bond strategy, believes Build America Bonds are the answer.

Build America Bonds entered US markets more than a decade ago when the Obama administration was looking for ways to fund capital projects across the country and stimulate the economy after the great recession.

CNBC policy

Read more about CNBC’s political coverage:

The beauty of subsidizing the interest associated with Muni bonds, Rai says, is that every dollar the federal government spends helps strengthen the integrity of larger spending projects that legally only states and communities can operate.

The federal government owns less than 10% of the national infrastructure, while the rest is run by states, cities, and the private sector.

“That $ 2 trillion, $ 3 trillion price tag – that’s not really accurate because the only way the price is that high is when the federal government grants state and local governments,” Rai said in a phone interview in early March.

If the federal government subscribes to BABs, states and cities can issue far more debt than investors would otherwise accept, with no astronomical interest costs and doubts as to whether they could repay.

“What a lot of people don’t realize is that just a few tax increases – like increasing the corporate tax rate or introducing a carbon tax – even those very minor tax increases are more than enough to fund the initial outlay on infrastructure projects,” Rai said.

“These projects are ultimately self-sustaining,” he added. “There is a magnifying glass effect, a stimulating effect: it creates employment, it creates tax revenue. So it’s child’s play.”

Rai added at the time that it is almost certain that the White House is considering BABs among a variety of funding options.

Transportation Secretary Pete Buttigieg later confirmed Friday, after this story was originally published, that the administration is considering the bonds among other funding options.

“I hear a lot of appetite that there are sustainable flows of funding,” said Buttigieg. Build America Bonds “show promise in terms of the way we use this type of funding. There have also been ideas about things like a national infrastructure bank.”

A critical characteristic of BABs is that, unlike 83% of the municipal bond market, they are taxed by the federal government.

Most of the bonds issued by state and local governments under “normal” terms are attractive to investors because the interest is generally exempt from federal income tax. As a result, US investors are willing to accept a lower interest rate than they would otherwise charge.

However, for overseas investors, US municipal bond rates are still taxable from their home country, so they are typically apathetic, low-yielding debt issued in the US

By making BABs subject to federal taxes, state and local governments are forced to offer higher interest rates on their bonds in order to guarantee investors the same effective return.

Given that overseas investors, with their multi-trillion dollar demand base, have shown an unwavering interest in investing in US infrastructure, they would be keen to see a taxable structure. This is because, according to Rai, from her point of view, BABs are indistinguishable from a conventional taxable bond.

Political dangers

The downside to BABs, while they may be more effective than grants made for that amount, is that the federal government is still paying billions of dollars in interest costs by the time the BABs mature.

The Obama-era program, which had no annual caps and subsidized interest costs of 35%, expired in late 2010 after states and communities sold more than $ 180 billion of the bonds, far more than the federal government originally expected.

Some lawmakers, such as Senator Ron Wyden, D-Ore, continue to support the program and are open to the possibility that they could play a role again in future infrastructure initiatives.

“Build America Bonds were an overwhelming success on the Recovery Act,” Wyden, chairman of the Senate Finance Committee, told CNBC on Wednesday. “I’m incredibly proud of this program and a similar funding structure will be part of the conversation as we move forward.”

Leading Republicans, on the other hand, were fed up with the costs associated with BABs by 2011. GOP lawmakers said the federal government’s pledge to subsidize 35% of interest payments on local bonds was too high.

Former Senator Orrin Hatch, then the senior Republican on the Senate Banking Committee, said in February 2011 that the bonds were “simply a disguised government bailout” that had helped New York and California disproportionately.

“These bonds rightly expired in late 2010, and I hope the Obama administration does not try to revive such a nonsensical provision in its upcoming budget,” he said at the time.

Senator Pat Toomey, R-Penn., A member of the Senate Finance Committee, is a “no” to the bond revival.

“State and local governments have never been more cashless. In addition to the record tax rallies last year, Congress sent them $ 500 billion. Despite all of this, Congress sent them another $ 350 billion that they didn’t need two weeks ago.” he told CNBC on Friday. “So no, I don’t support misallocating billions of dollars more to incentivize potentially unworthy projects and to encourage bankrupt or irresponsible state and local governments to take on even more debt.”

Rai acknowledged that appetites for BABs can vary depending on the creditworthiness of each state. States like New York with stronger balance sheets may be more attractive than Illinois.

He countered, however, that even cities in Illinois could see significant revenue generation from BABs if the state works to stop local municipal borrowing. The federal government’s pledge to subsidize interest costs could be cut from 35% to 30% or even 28%, as the Democrats proposed in 2011, Rai said.

Given the plight of national infrastructure, some Republicans may see BABs as a compelling option for funding infrastructure projects that will ultimately pay for themselves in job creation and tax revenue over time.

Mississippi Senator Roger Wicker, the highest ranking GOP member on the Commerce Committee, co-sponsored a bill in 2020 with Senator Michael Bennet, D-Colo., Calling for a revival of the BABs with certain improvements.

As with BABs, their so-called American Infrastructure Bonds program would create a class of taxable “direct-pay” municipal bonds to help troubled governments fund critical public projects.

The Wicker and Bennet bonds would be exempt from seizure, the process by which Congress has gradually undermined the level of its payments to fund the original class of BABs.

“Enabling our local executives to launch critical infrastructure projects is a proven and cost-effective way to help our communities get out of severe financial difficulties with assets that will add value to the region over the years,” Wicker said in a press release dated July.

You might also like

Comments are closed.