Mobilize Peoples' Resources via Municipal Bonds

For a country or area which still has an underdeveloped financial system, limited experience and knowledge of the financial market and financial services, peoples’ resource, which is plentiful, can prove very effective. Ho Chi Minh City is a typical example in this case.

Peoples’ resource is plentiful 
Currently, most people save their money in bank accounts or in the form of gold and USD kept in safe places in their homes. 

Infrastructure projects like electricity, water, waste treatment, transportation, airports, and seaports require huge capital for many years to come. Payback period for such projects is about 20-30 years and the returns are usually slow. So why not fund through municipal bonds?

We undertook a study based on statistical data and found that people are putting huge amounts of money in savings accounts, foreign currencies and gold. Hence the room for mobilizing peoples’ resources is limitless and ample for developing at least seven key projects in the City.

Ho Chi Minh City should consider issuing of municipal bonds. However, unlike corporate bonds and government bonds, municipal bonds currently lack in compulsory market mechanism and independent credits rating system. 

At present, the role of evaluation and supervision comes under the Ministry of Finance, which ensures the ability to borrow of local authorities as well as play the part of a “tolerant hand”.

Thus, this mechanism denies most responsibilities to local authorities and also ensures completely the debt that local authorities issue to public.

This approach has unintentionally created a security that its return does not reflect its risk. Consequently, it is unlikely to find a method to exactly valuate this financial asset. This is the bottleneck to create a bargaining mechanism for municipal bonds.

Usually, a municipal bond could not compete with other securities if it does not offer a higher interest rate. This premium is issuers loss. In this case the issuers are local authorities. We still do not take into account the loss caused by the low value of the projects which inconsequently could not cover the principal investment, or by the depressed quality of projects that require local authorities to add more money.

Trust required to borrow from people
Since issuing of municipal bonds in 2003, there have been only a few cities allowed to raise funds by this method such as Ha Noi, Ho Chi Minh, Da Nang and Quang Ninh.
Every local body is distinctive in terms of economy, potential, management ability, capital efficiency and credit.

Many big cities in the world have been using this method. Over the last few decades, some cities in developing countries are rebuilding by using this resource.

This is the basis for risk measurement and security valuation. We also need the independent credit rating institutions to do these tasks. 

According to the mechanism that corporate bond is applying, the issuers are evaluated which consequently determines the valuation for issuing securities. 

Following this, to successfully issue municipal bonds to mobilize peoples’ capital, the local authorities should play the role of seller and must show the buyers their products advantages and benefits.

At that time, the reports made by independent credit rating institutions about the projects potential must be transparent, clear and of high quality, making it the basis for peoples’ investment consideration. 

The borrowings from people will only be successful when the City can prove its ability to use the funds effectively as well as its commitment to pay debts on time. 

Furthermore, to gain trust of people in Ho Chi Minh, the City must: provide better transparency in local financial status; focus more on effectiveness of local financial management; effectively prioritize the capital structure of projects; strictly supervise projects construction and operations to ensure its payback ability.

There should be a punishment for local authorities who break either their commitment or default. 

Apply market mechanism 

The purpose of issuing municipal bonds is to raise capital from people. So the government should apply methods and mechanisms which are easy and friendly to the people, and in ways to encourage people to join.

Currently, the office and sales point networks of banks and brokerage companies cover most provinces and cities. These two financial institutions also have a system to connect people and are able to operate online. If the municipal bonds can be traded through these two systems, the probability of success will be higher.

To encourage these two financial institutions to participate in the local authorities capital raising activities, the Ministry of Finance should create a mechanism for trading the municipal bonds in both primary and secondary markets.

Firstly, the interest-cap is a constraint for bond auctions. The real interest rate (after minus inflation) may be negative if government uses interest-cap. This makes the auctions unattractive and hardly successful.

Secondly, municipal bonds are a method to mobilize capital from people. This money amount is planned for use for their families in the future. Hence, the trading liquidity of the bond is very important. If the municipal bond can be easily cashed, it will encourage people to buy more.

To increase trading liquidity for municipal bonds, government should create mechanisms for the operation of market makers and task banks and brokerage companies with taking these market maker roles. The purpose of this is to diversify the basket of market makers, and create liquidity in the market.

Thirdly, government should create a system for depository and listing of municipal bonds. Bonds are among one kind of securities, and if bonds can be easily traded like stocks, they will appear more attractive especially to individual investors. The more investors are interested, the more securities companies will underwrite the municipal bonds and the more capital will be raised for infrastructure projects.