In case you missed it, earlier this year, hell froze over. More specifically, the United States Senate passed legislation on a bi-partisan basis. The Infrastructure Investment and Jobs Act, or IIJA, passed August 10 by a vote of 69-30.
This funds a package of physical or “hard” infrastructure that includes approximately $550 billion for capital projects including roads and bridges, public transit, airports, ports and waterways, clean drinking water, power infrastructure, environmental remediation, electric vehicle infrastructure and broadband. It provides a total of $110 billion for road and bridges including a $67.7 billion multi-year reauthorization of the very popular Fixing America’s Surface Transportation Act. The legislation also includes $55 billion for water infrastructure.
The Senate’s bi-partisan support is noteworthy given current divisions in our government. While there were concerns about deficit spending and taxes and inclusion of specific projects, it became clear that physical infrastructure funding – like transportation and clean water – was viewed by many on Capitol Hill as an urgent priority. This is especially true as the memory of the I35W Bridge collapse in Minneapolis in 2007 and the more recent tragedy of undrinkable, lead-poisoned tap water in Flint, Michigan is not easily forgotten.
Congressional Roadblocks?
As the legislation moved to the House of Representatives it was clear some members have in mind a broader infrastructure agenda for which they assign a higher priority. This broader agenda is outlined in the Build Back Better Act.
The Build Back Better agenda has been described as a social infrastructure funding plan which includes funding for universal pre-school, free community college, expanded home care for the elderly and disabled, lower prescription drug costs, expanded Medicare benefits and programs to enhance workforce training. Importantly, Build Back Better also included provisions designed to address climate change and help transform the electricity sector to clean energy. Funding costs for items included in the initial version of the Build Back Better Act totaled approximately $3.5 trillion. However, as of October 28, the proposal being put forward had been reduced to $1.75 trillion.
It is unfortunate that the IIJA did not move forward independent of the Build Back Better negotiations and has effectively been held hostage. Delays in implementing this physical infrastructure legislation impose a burden of uncertainty on state and local governments and contractors, suppliers and workers.
Physical infrastructure like roads and bridges and water treatment plants are generally financed with a combination of federal and state funds. Local governments may also contribute certain revenues or land. Over the past several years, important infrastructure projects, such as electronically tolled express lane projects designed to relieve traffic congestion, have been financed through “public-private-partnerships.” These are financed with state transportation funds, federal funds, tax-exempt bond proceeds and private developer equity. These public-private-partnerships enable access to the capital markets and effectively help leverage federal and state transportation funds – that is, make them go farther.
The legislative impasse has imposed a level of uncertainty on the municipal market as well – for both issuers and investors. Discussions on how to fund components of the Build Back Better agenda lead to items of importance to municipal market issuers. Issuers are anxious to know if the ability to advance refund outstanding bonds on a tax-exempt basis will be restored. They also want to know if a new version of Build America Bonds, or BABS, will be implemented. This structure essentially enables issuers to sell taxable bonds and receive an interest subsidy from the federal government, or “BABS 2.0”. Issuers carefully analyze financing alternatives – tax-exempt or taxable with a subsidy – to determine the most cost-effective approach. Knowing what is available and what the rules are sooner rather than later helps them design and execute their financing needs. Many issuers are on hold right now awaiting the outcome of the federal legislative negotiations.
Municipal Market Investors Are Also Coping with Uncertainty
Tax-exempt investors pay close attention to the technical aspects of the municipal bond market – new issue supply and investor demand. Until we know where discussions regarding the re-instatement of tax-exempt refunding ability and/or BABS 2.0 end up, it is more difficult to project new issue supply – specifically how much is likely to be tax-exempt or taxable. In addition, discussions about how to pay for the Build Back Better agenda involve potential changes to individual and corporate tax rates, capital gains rates, limits on state and local tax deductions and other items that can directly affect the demand for tax-exempt bonds. Uncertainty about these important considerations make investment decisions more difficult for both individual and institutional investors.
There are certainly worthwhile initiatives in the Build Back Better Act that all merit important consideration. But it is also critical to consider the importance and urgency of many of the physical infrastructure components contained in IIJA – which the Senate supported on a bi-partisan basis nearly three months ago – as well as the uncertainty placed upon municipal market participants by the extended debate over the Build Back Better Act. It would be most prudent to move forward with IIJA on its own and follow up with Build Back Better separately. After all, they say “a bird in the hand ….”
David Falk is a portfolio manager at Shelton Capital Management.
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