Relationships between Financial Advisors, Issuers, and Underwriters and the Pricing of Municipal Bonds.

Abstract

This study examines how familiarities between the main actors in the underwriting process affected the borrowing costs of municipal bonds in the primary market in California between 2001 and 2006. The author finds that familiarities play an important role in determining the borrowing costs of negotiated sales but not of competitive sales. The familiarity between underwriters and issuers can significantly lower the interest costs of municipal borrowings for negotiated sales; however, the reverse is observed for the familiarity between underwriters and financial advisors. The author explains these findings by exploring the roles of relationship and competition in an imperfect market in which there are potential distortionary forces of information asymmetry and agency problems.