One provision of the American Recovery and Reinvestment Act (enacted February 2009) was the creation of the Build America Bonds program, which provides special incentives for investors to purchase municipal debt. The Tax Credit BAB provides a federal subsidy in the form of tax credits to the bond holders, where as the Direct Payment BAB provides a federal subsidy in the form of a 35% cost sharing with the state or municipal bond issuer on the interest of the debt.
The “big news that didn’t make the news” as of late is that this program appears set to expire at the end of the year with no extension (as some had anticipated as part of the soon to be signed extension of the Bush-era tax cuts). This will result in a fairly immediate increase in the cost of borrowing for states and municipalities. Given the already high cost of borrowing for states such as California and Illinois, this will put substantial pressure on the Federal Reserve to start yet another round of quantitative easing in the form of direct purchases of municipal debt in order to keep the costs of borrowing by these states and municipalities low.