36 In early 2020, municipal credit concerns were abundant, and tax revenue plunged due to pandemic shutdowns. Since then, average state and local tax revenue has recovered from those declines and grown significantly. Total state and local tax revenue reported by the U.S. Census Bureau was up 13.9% in the first half of 2022 compared to the first half of 2021 and by over 30% compared to the first half of 2019. Federal stimulus funds, coupled with prudent expense management, also helped to improve municipal finances, all of which led to record budget surpluses and large increases in reserves in many cases. However, current high inflation and increasing interest rates could impact municipal finances in several ways. “First, the cost of supplies and labor is increasing rapidly, in some cases at an even higher rate than the overall inflation By Dana Sparkman, CFA, Senior Vice President/Municipal Analyst, The Baker Group rate. Consequently, operating expenses and the cost of capital projects are climbing. Issuers highly reliant on skilled labor for operating activities, such as hospitals and other healthcarerelated entities, are vulnerable to a tight labor market. Moody reports that personnel costs account for over 50% of expenses for the hospitals they rate. Some issuers have had to pay over eight times as much in 2022 as they did in 2019 for agency labor. Rural hospitals are particularly susceptible as they generally have difficulty with adequate staffing under normal circumstances. Second, not only are capital projects more expensive than what was estimated for current budgets, but borrowing rates have also been rising. This could result in delayed or canceled projects or lead to higher debt levels and increased interest expense if municipalities choose to go ahead with planned projects. According to SIFMA, new money issuance was on track to be higher in 2022 than in 2021 as of August 2022 data. However, September issuance data shows that both new money and refunding issuance dropped dramatically in September. As rates continue to rise, issuers will have to balance their capital needs with how much interest they can afford to pay. Third, inflation and higher interest rates can affect pension Municipal Credit Update: Inflation Effects on Municipal Finances
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