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Feb 12 2008 2:52PM EST

The Muni Insurance Racket

In the March issue of Portfolio, Jesse Eisinger says that the municipal bond-insurance business is a racket. Back in December I noted that US municipalities pay $2 billion a year to the monolines for the dubious privilege of receiving a triple-A credit rating which most of them should properly have in the first place anyway. Jesse moves the story forwards by noting that this isn't only a racket for the monolines (who insure something which really needn't be insured in the first place) but also a racket for the ratings agencies. They do much less work rating wrapped bonds, but get the same fee; they also charge clients for what Jesse calls the "secret decoder ring" which converts muni ratings into the equivalent corporate rating.

Right now, Warren Buffett is making a concerted attempt to muscle in on the muni-insurance racket, both by setting up shop as an insurer himself, and also by trying to reinsure the obligations of the existing municipal monolines. That's great for Warren Buffett, but it's not particularly great for the system as a whole, which would be much better off if credit ratings were genuinely horizontally comparable, and a double-A issuer had the same creditworthiness whether it was a sovereign, a muni, a corporate, or a structured product.

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