States, big cities deserve upgrades: Moody's

By Joan Gralla

NEW YORK (Reuters) - U.S. states and the top 50 local governments likely will get new ratings that are two notches above current levels, on average, as Moody's Investors Service aligns its municipal and corporate ratings, the credit agency said on Tuesday.

Moody's, which has been blasted by California's treasurer and sued by Connecticut for using tougher ratings standards for tax-free debt, thus driving up public borrowing costs, said its ratings for higher education, health care, infrastructure and housing issuers likely will only rise one notch.

In a statement, the credit agency said its policy change was backed by the vast majority of the more than 200 market participants who said they preferred having just one rating scale that can be easily compared with other sectors.

"Prompted by recent market events and a shift in market sentiment, Moody's reconsidered the use of a differently calibrated rating scale for U.S. municipal ratings," the agency said.

The $2.6 trillion muni sector has a much lower default rate, less than 1 percent, than corporate debt. But municipal bond analysis often put less emphasis on the risk of default -- the main driver of corporate ratings -- than on whether an issuer was financially distressed. The different weighting is now being equalized, which means many municipal issuers to look forward to upgrades.

Both Connecticut and California said the Moody's overhaul fell short.

"Unfortunately, this corrective action by Moody's, and similar plans by other rating agencies, comes far too late," Connecticut Attorney General Richard Blumenthal said in a statement.

He said his office will continue to pursue its law suit against all three major bond rating agencies, saying that "Connecticut municipalities have spent millions of dollars over the years to pay for unnecessary and unconscionable high interest rates as a result of skewed rating scales."

The other two big rating agencies are Standard & Poor's Corp, part of the McGraw-Hill Cos, and Fitch Ratings, part of Fimalac.

A spokesman for California Treasurer Bill Lockyer said Lockyer has had preliminary discussions with the state's attorney general about suing rating agencies to recover monetary damages. The state has lost hundreds of millions of dollars from overly low ratings, the spokesman, Tom Dresslar, estimated.

The global credit crunch that began last summer threw a spotlight on the different rating scales because bond insurance companies were downgraded. That put much more emphasis on how a state, city, hospital or turnpike was rated on its own, because bond insurance no longer boosted these credits.

In October, Moody's expects to release its new state ratings for general obligations and related debt in one day. That will be followed by a single-day release of the top 50 local government credits, which mostly are cities, said Gail Sussman, a Moody's managing director for municipals.

Similarly, all the higher education ratings will be issued on one day, as will all the other revisions for healthcare, infrastructure and housing. But if an issuer depends on a county or city that has not yet been revised, that rating will not be redone until the local government's credit is revised.

Some state credits, for special tax obligations, for example, also will be released more slowly.

"Ratings at or above Aa3 are generally likely to receive less upward movement than those rated below Aa3," Moody's said.