Credit Risk, Credit Ratings, and Municipal Bond Yields: A Panel Study

This paper uses a panel data set of general obligation bond issues to examine the channels through which a municipality's credit quality affects its borrowing rate. The paper considers both the direct effect of changes in credit quality on changes in borrowing rates and the indirect effect that operates through changes in credit ratings. Both credit ratings and borrowing rates respond to fiscal indicators in ways that are consistent with the view that credit markets can impose some discipline on municipal fiscal behavior. The estimated effects of rating changes are large in magnitude, but statistically insignificant.