Association for Public Policy Analysis & Management

Existing literature on municipal bond sales demonstrate that there are a number of factors which determine the borrowing cost in the municipal bond markets. Credit outlook, which is assigned by the credit agencies, is provided with the rationale to help resolve information asymmetry problems which arises from information differences and conflicting interests among the active players in the market. Credit outlook functions as a unique market signal in an intermediate term for the default risk as a certification method, and plus, it serves as a monitoring and surveillance tool for the issuers. However, there is very little empirical research testing the credit outlook as a key element in municipal markets, and their role in determining local government borrowing costs. Expanding information asymmetry information theory, this study will examine how the credit outlook affects the true interest costs (TICs). I will use a 2SLS Pooled regression for the covariates of true interest costs with the first-stage regression model using lambda coefficients for multinomial selectivity to address the endogeneity issues in method of sales, using a sample from the municipal bonds issued by local governments in Texas (FY2003-2012). This analysis will help fill the void and encourage further investigation of the role of credit outlook in municipal bond markets. Plus, it will contribute to the bond sales literature by exploring the roles of signals by credit outlooks in the bond markets.