Saving Infrastructure and Pensions at Once? That’s Ambitious
(Bloomberg Opinion) -- Every politician in Washington loves infrastructure, in theory. Nancy Pelosi said in October that one of her goals was to “build the infrastructure of America from sea to shining sea.” President Donald Trump has promised to “build gleaming new roads, bridges, highways, railways and waterways all across our land.” Yet time and again, details end up derailing any efforts to fix what’s becoming an unavoidable problem.
So give credit to U.S. Representative John Yarmuth of Kentucky, the Democrat who is set to lead the House Budget Committee, for stepping up with a more concrete proposal to address the lack of public works financing. Under his plan, the federal government would issue up to $300 billion of 40-year bonds to provide capital for a U.S. infrastructure bank, which would then extend loans to fund construction and maintenance projects. The debt would be called “Rebuild America Bonds” — seemingly a nod to the Build America Bonds program that was part of Barack Obama’s American Recovery and Reinvestment Act.
On the surface, it’s just another proposal for an American infrastructure bank. It could follow a similar model as the World Bank’s International Bank for Reconstruction and Development, which issues top-rated bonds and in turn gives loans and guarantees to low- and middle-income countries.
But that’s not all that Yarmuth envisions. His plan is also intriguing because of the following details:
- The ultra-long bonds would have a set interest rate that’s 2 percentage points more than 30-year Treasuries.
- They would be sold exclusively to public and private pension funds.
- They would have to be held for at least 10 years.
Combined, these requirements sound like a crafty way for the federal government to not just jump-start infrastructure spending but also offer an easy and lucrative investment for some of the nation’s underfunded public pension systems (corporate ones are in relatively better shape). For the unfamiliar, these state and local retirement plans have an average assumed nominal rate of return of about 7.5 percent. It’s been nearly impossible to reach that level with safe assets in the post-crisis era, which explains why managers have gravitated toward stocks, hedge funds and private equity — and yet still remain underfunded by some $1.4 trillion. Under this proposal, though, pension managers could potentially lock in long-term returns of more than 5 percent in one shot.
There’s a lot to like about this. For one, the 10-year lockup period means that by the time a manager could first look to sell, the bonds would have a 30-year maturity like the ones currently available at auction every month. Treasury Secretary Steven Mnuchin was looking at issuing ultra-long maturities when he stepped into his current role, but the department’s borrowing advisory panel shot down the idea because of a lack of evidence of “strong and sustainable demand.” These securities, however, would fall within the current U.S. yield curve, broadening the investor base.
And, of course, this looks like a winning proposition for pension plans in need of high-yielding safe assets with long duration to match their liabilities. For some context on the potential yield spread on these infrastructure bonds, the average spread to Treasuries for BBB rated bonds is 1.85 percentage points, according to Bloomberg Barclays Index data. That’s about the widest since August 2016 — it was as little as 1.11 percentage points earlier this year.
Knowing that, is offering U.S. government bonds to pension funds at yields comparable to BBB corporate borrowers a fair deal for taxpayers? California, for instance, issued taxable 20-year general obligation bonds in April at a yield of 3.95 percent, for a spread of 1.02 percentage points, according to data compiled by Bloomberg. New York City’s federally taxable general obligations, priced at the end of November, yielded 3.86 percent, or 0.8 percentage point more than 10-year Treasuries. Among states, only Illinois faces a yield penalty that’s anywhere close to the proposed premium on Rebuild America Bonds.
It’s early yet, of course, and should this plan gain traction, interested parties would most likely step in and make sure it doesn’t greatly benefit one constituency over another. Yarmuth himself told Bloomberg News’s Mark Niquette “we’re going to throw it into the hopper of ideas and see if it’s something that makes sense to the rest of our members.” There’s also the matter of how to raise money to avoid creating an even bigger hole in the U.S. budget. One idea is to raise federal fuel taxes by up to 1.5 cents a gallon a year to back long-term bonds.
Even though infrastructure has been mentioned as one of the likeliest bipartisan efforts, this idea doesn’t seem to be on the radar of any traders in the $15.6 trillion Treasuries market. The hybrid nature of the debt — being effectively non-marketable for a decade — would probably make it more of a novelty than anything else, even if the federal government wound up issuing the full $300 billion. After all, the U.S. auctioned $258 billion in three days in February.
The reason this might stall, though, is because it might be biting off more than it can chew. It’d be surprising if the final proposal limited buyers only to pension funds. While funding public infrastructure is certainly the government’s domain, it feels wrong to shut out potential individual investors, mutual funds or overseas buyers who also want to back the projects and earn a stable income stream. It’s not the federal government’s place to close markets and pick winners, no matter how much some pension funds may need the boost.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Brian Chappatta is a Bloomberg Opinion columnist covering debt markets. He previously covered bonds for Bloomberg News. He is also a CFA charterholder.
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