Federal Regulation of the Municipal Bond Market
Spain, Cathy, Wallick, Ruth, Government Finance Review
Over the past several years, municipal market participants, federal regulators, Congress and representatives of self-regulatory organizations have been giving thought to the adequacy of the current system of regulation in the municipal market and whether additional regulatory measures are needed to provide full investor protection. Among the concerns that have arisen have been the changing composition of purchasers of municipal securities, the adequacy of disclosure in the primary and secondary markets, the appropriateness of suitability rules as they pertain to brokers and dealers of municipal securities, the need for restrictions on political contributions, and on the distribution and review of disclosure documents.
Recently, a few reports have appeared in the press of individual cases of alleged abusive practices involving the selection of underwriters in connection with state and local government bond sales. In response to the alleged abuses, market observers and some members of Congress have called for a review of the municipal bond market's regulatory structure, and others have proposed changes in that structure.
Oversight hearings on the adequacy of the current regulatory structure are expected later this year in the U.S. House of Representatives. In addition, a bill, H.R. 2464, has been introduced that would repeal the so-called "Tower Amendment" and require certain municipal market participants to disclose to the Securities and Exchange Commission (SEC) their political contributions to elected officials. The Tower Amendment is a provision in the securities laws that prohibits the SEC and the Municipal Securities Rulemaking Board (MSRB) from requiring issuers of municipal securities, either directly or indirectly through their underwriters, to file any document prior to the sale of securities by the issuers. It also prohibits the MSRB from directly or indirectly requiring any document or information to be furnished by an issuer to prospective purchasers after the securities have been sold.
Current Regulatory Structure
While issuers of municipal securities are exempt from federal disclosure requirements, the market is not an unregulated one. It is a highly regulated and secure market that is characterized by a low level of defaults. According to J.J. Kenny, less than one-tenth of one percent of rated municipal bonds issued between 1980 and 1991 defaulted, representing 0.27 percent of total dollar volume. For nonrated bonds, 2.12 percent of the issues sold during the same time period defaulted, representing 1.93 percent of the volume.
Principal authority for federal regulation of all securities markets rests with the SEC. Unlike the corporate securities market, however, the municipal market has traditionally been self-regulating. The MSRB, an industry self-regulatory body, was established in 1975 to provide rules for underwriters, brokers and dealers dealing in municipal securities. MSRB rules must be approved by the SEC, and their enforcement is carried out by the SEC, the bank regulatory authorities and the National Association of Securities Dealers (NASD). State and local governments, while exempt from SEC and MSRB disclosure requirements, do provide information to purchasers of their securities on a voluntary basis. In addition, they are subject, as are all securities market participants, to the general anti-fraud provisions of the federal securities laws. The municipal market also is subject to state constitutional limitations and laws governing the issuance of debt.
Several changes in the regulatory structure of the municipal market have been recommended to respond to concerns about recent alleged abuses. An analysis is provided of the following general areas:
* regulation of state and local government issuers under the federal securities laws through the repeal of the Tower Amendment,
* limitations on negotiated bond sales and
* controls on political contributions. …