As reported in Governing, a new federal rule excludes municipal bonds from the liquid assets that banks must hold in case of an emergency, a move that could decrease the popularity of investing in this important local government infrastructure financing tool.  Municipal bond financing supports county schools, hospitals, water, sewer facilities, public power utilities, roads and mass transit. As describe in Governing, the new rule excludes municipal bonds from consideration as high quality liquid assets,

A big reason is that the blanket exclusion of munis “would have negative long-term implications for the municipal market, potentially dampening demand and liquidity,” according to RBC Capital Markets’ Chris Mauro. An assessment by Fitch Ratings in January noted that if banks weren’t allowed to count municipal bonds as liquid assets, it would be more expensive for banks to hold the bonds on their balance sheets and, as a result, could lead to banks reducing their muni bond portfolios.

Governing also reports that as a result of advocacy on the part of public finance officials, the Federal Reserve has recommend that some municipal bonds eventually be included as high quality liquid assets.  Also, according to Governing, as long as interest rates remain low, municipal bonds will remain an attractive option for banks, mitigating the effect of the rule on local government finances.

To provide some perspective on municipal bonds, based on 2013 data, state and local governments financed more than $1.65 trillion of infrastructure investment over the last decade through the tax-exempt bond market. In Maryland, the State and local governments used $19.2 billion in municipal bonds for infrastructure investment from 2003-2013.

For more information, see the full story from Governing and other news on Conduit Street relating to municipal bonds: Municipal Bond Rating Changes Raising Questions; Resources Offered to Evaluate Municipal Finance Options.