Insurers of municipal bonds got tired of their sleepy little domain and decided to try and make a quick buck by insuring subprime mortgage securities instead. It really came back to bite them. MBIA lost $2.3 billion in the last quarter alone, and now admits it’s “in the doghouse” and that other municipal bond insurers are in even worse shape, putting them “in the outhouse.”
The funny thing about this is that the municipalities whose bonds they purport to “insure” are in way better shape than they are financially. Sad to say, even the most poorly-run local government is unlikely to default on its debts because it can tax the heck out of its citizens — a prerogative that commercial enterprises, thankfully, lack. Why would you want to buy insurance from someone “in the doghouse”?
The bond-rating agencies like Moody’s and Standard & Poor’s have been very slow to downgrade municipal bond insurers from their ridiculously-high AAA ratings (higher than the single A rating enjoyed by some states with virtually no risk of defaulting) because doing so would be an admission that subprime mortgage securities are junky — something that would lead to unpleasant questions about why the bond-rating agencies gave those securities high ratings (and maybe why they have been effectively shielded from competition by government regulations for so many years).