Special Briefing on the Muni Debt Boom: Record Borrowing Amid Budget Strains

Record Borrowing Amid Fiscal Strains

State and local borrowing is up 20% year-over-year with a record $600 billion in municipal bond issuance estimated by the end of 2025, representing 15% of the $4 trillion muni market. For a discussion of the challenges and trends observed across the demand and supply sides of the muni market during a time of heightened federal uncertainty, Penn IUR and the Volcker Alliance convened a panel of public finance experts for “Special Briefing on Muni Debt Boom: Record Borrowing Amid Budget Strains” on September 11, 2025.

William Glasgall, Penn IUR Fellow and Public Finance Adviser at the Volcker Alliance, and Susan Wachter, Co-Director of Penn IUR and Wharton Professor of Real Estate and Professor of Finance, co-hosted the Special Briefing. The panel included Matt Fabian, President, Municipal Market Analytics; Fitzroy Lee, Deputy Chief Financial Officer and Chief Economist, Office of the Chief Financial Officer, District of Columbia; Vikram Rai, Portfolio Manager and Macro Trader, First New York; Sheila Weinberg, Founder and CEO, Truth in Accounting; and Mark Zandi, Chief Economist, Moody’s Analytics.

Economic Outlook: Policy-Driven Slowdown

Zandi set the stage for a lively discussion with an overview on the current state of the economy: “The U.S. economy broadly is struggling.” While not in recession, metrics including GDP growth, real consumer spending, manufacturing and construction, and job growth signal a significant economic slowdown. “The reason for the economy’s difficulties is economic policy,” said Zandi. “First and foremost would be the tariffs. We started the year with an effective tariff rate across all countries and products of about 2%. We’re now at 10%.” 

Zandi shared a “rule of thumb” for quantifying the effect of tariffs on the macroeconomy: “For every percentage point increase in the effective tariff rate, it adds about 10 basis points to inflation...and reduces GDP by 7-8 basis points.” This is expected to yield a year-over-year inflation rate of 4% by the end of 2025. Zandi also spoke on the impacts of "restrictive immigration policy” on the labor market. “That’s having a big impact on a number of industries where immigrants are critical to the labor force: construction, agriculture, wholesaling, distribution, retailing, manufacturing…” 

Regarding the One Big Beautiful Bill Act specifically, Zandi said “it doesn’t move the dial too much. It adds a little bit of juice to growth in the near term because there are some tax cuts for businesses…there’s some additional spending on defense and homeland security…but it’s relatively small in terms of stimulus. In the longer run, it only becomes more restrictive because of the spending cuts.” Zandi offered three key statistics to measure the country’s fiscal health: publicly traded debt-to-GDP ratio, deficit-to-GDP ratio, and federal government interest payments on the debt relative to GDP or revenue. “This is the first time I can recall where all those indicators are screaming, we’ve got a problem.” Given these risks and uncertainties, Zandi anticipates the 10-year Treasury rate and, as a result, mortgage rates to increase.

The Supply Side: Issuance Could Hit $1 Trillion

Fabian spoke on the “boom” in municipal bond issuance, up approximately 40% over two years. “This is a long-term, sustainable trend in issuance,” said Fabian, “so long as yields are high enough… It’s not unreasonable to expect $800 billion or even $1 trillion a year of issuance within the next 10 years.” Fabian credited this increase in issuance to “delays of capital programs during the pandemic…inflation…long-term challenges over deferred maintenance…and federal retrenchment.” 

Fabian emphasized the particular challenges of “climate change-driven effects” that demand prompt and substantial action from municipalities with limited optionality to defer or mitigate this spending. “On the demand side, the muni market has been functioning fantastically,” said Fabian. “For all of this supply, we have for the most part rotated to a direct retail structure… So long as nominal yields are high enough, individuals will continue to buy the bond.” Despite the overall “pessimistic and worrisome scenario,” Fabian said, “the muni market has a chance to be part of a solution to make it not as bad as it might otherwise be.” 

Federal Policy, Rates, and Market Politics

Rai spoke on the position of the Fed and its impacts on rates and the muni market. “I never really believed the Fed was independent. I think there is an element of politics that goes on there… Once the President has control of the Fed, they can maneuver the yield curve.” Rai described this factor as “the biggest tailwind” of the muni market: “I’m not bearish on long-term yields, even though I think there are a lot of bearish factors that are in effect.” 

Concurring with Zandi and Fabian, Rai said, “the supply side of the equation continues to grow because state and local governments have to rely on their own levers to finance their needs” and “the buyer base remains retail” on the demand side. Contrary to Zandi, however, Rai anticipates that successful intervention by the Fed will yield lower 10-year Treasury and mortgage rates in the short and intermediate run. Rai signaled particular concern over the potential effects of tax increases in blue cities on the muni market: “when they try to raise taxes, they hit the demand base.” These challenges may be further exacerbated by efforts from the federal government “to reduce the flow of funds to states that are not politically aligned with them.” In summary, “this is the time to be slightly careful where munis are concerned,” Rai cautioned.

Washington, D.C.’s Fiscal Crossroads

Lee shared the challenges faced by Washington, D.C. through the unique interaction of the municipal and federal government. “We estimated that executive orders and DOGE action would reduce federal jobs in the District by about 40,000 over 4 years.” Extrapolating the result of reduced income and spending, “we estimated that the downsizing would cost the District about $300 million in revenue losses per year, about 3% of our own source revenue,” said Lee. The bulk of this federal workforce downsizing is expected to take effect in October of this year. 

Beyond job losses, “we also have seen a decline in tourism,” said Lee. These issues have only compounded the existing challenges coming out of the pandemic. “For the last 10-15 years, the District has grown at an annual average of 4-5% in revenue. We’re now looking at something between 2-3% growth in revenue…that’s nominal, basically flat in real terms.” A 12% cap on debt service relative to the District’s budget results in further challenges given the cuts that have resulted from slowed growth.

Transparency Gaps and Risks to Investors

Weinberg said “the surge in the bond markets is astounding to me. Many state and local governments continue to claim balanced budgets or even surpluses, yet they borrow at the same time and routinely have underfunded pensions and other liabilities.” Weinberg noted a concerning lack of transparency resulting from delays in reporting from states and municipalities: “without these timely reports and full disclosure of their obligations, investors and citizens lack the information they need to understand the financial health of their governments.” Illinois, for example, with over $146 billion in pension debt, “continually delays issuance of its financial report and continues to issue bonds…while claiming balanced budgets,” said Weinberg. These bonds remain appealing investments in part as a result of “extraordinary protections” to investors in certain jurisdictions. Under Illinois’ Bond Act, “bonds get paid first out of the tax revenue, so as long as there’s tax revenue coming in…the investors have a buffer, but the citizens of the state do not.” 

Looking forward, “while we found that most states’ financial condition improved in 2024, we’re nervous about the future,” said Weinberg. “If federal government grants revert back to 2019 levels, adjusted for inflation the state primary governments could face a funding shortfall exceeding $300 billion, an average of 10% of projected expenses.” Ending on a note of caution, Weinberg said that “the strength in the bond market is impressive but potentially misleading. Without full transparency and clearly accounting in the budgets for all their debts, this heightens the risk to investors and to taxpayers.” Weinberg called on Congress and the SEC to ensure that states and municipalities are bound to transparency in their reporting. Panelists agree that fiscal transparency, federal funding levels, and climate-driven costs will shape the muni market’s next chapter.

This Special Briefing was the latest in a series of 60-minute online discussions featuring distinguished guests from Penn IUR and Volcker Alliance’s national research networks, along with other leading academics, economists, and federal, state, and local leaders. These convenings are made possible by funding from The Travelers Institute, members of the Penn IUR Advisory Board, and the Volcker Alliance.

Recordings of the entire Special Briefings series are available on the Volcker Alliance or Penn IUR websites. 

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