General-Purpose Local Government Defaults: Type, Trend, and Impact

Abstract

Local governments default on their bonds when they fail to comply with the monetary and nonmonetary aspects of the debt contracts. Analyses of these defaults have relied on reports from credit rating agencies, which include only rated bonds undergoing monetary defaults. Using a unique dataset of default events, we examine all general-purpose government defaults from 2009 to 2015. After including nonrated bonds and nonmonetary defaults, we find that general-purpose local government defaults are more common than reported by the rating agencies. We present a typology of defaults based on the severity of fiscal distress they represent and tabulate the characteristics of the defaulted bonds. Most defaults occurred among non-general obligation bonds. We test and find evidence for the credit segmentation hypothesis: defaulting on a non-general obligation bond does not significantly affect the yield of future, unrelated credits of the same issuer.