Cities Paying Millions to Get Out of Bad Bank Deals

Chicago is the latest example of the many local and state governments that are haunted by interest rate swap agreements they made before the Great Recession.

When the Great Recession delivered the biggest blow to government budgets this side of World War II, it wasn’t just slashing revenue streams -- it also made certain financing agreements more costly in the long run.

The agreements are called interest rate swaps, a holdover from the years leading up to 2008 when the booming market made even risky investments seem like a good idea. But in reality, these financing agreements with banks have come back to haunt governments following the financial markets crash and severe drop in interest rates. Last week, Chicago became the latest example when a credit rating downgrade by Moody’s Investors Service triggered a potential $58 million penalty for the fiscally beleaguered city.

Penalties related to ratings downgrades are common in swaps, says Municipal Market Analytics Partner Matt Fabian. But typically, the ratings floor is well below the government’s rating at the time of the deal.

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