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The writer is an FT contributing editor
In early December, the US state of New Hampshire announced what it called the “world’s first bitcoin-backed municipal bond”. Munis — bond issues from American states and cities — are a $4.3tn market. They’re a minor part of a $47.8tn market for bonds in the US, dominated by Treasuries and corporate issues, but munis confer a special blessing. Any interest earned from a muni is exempt from federal income taxes, and some munis even allow the lender to escape state income taxes.
This tax break, $183bn in total over the next four years and long contested in US politics, allows local governments to borrow at lower rates. If a corporation can convince a local government to borrow on its behalf it can enjoy those lower rates, too, sheltered in what’s essentially a federal subsidy for private business.
These “private activity bonds” are a common strategy to encourage companies to invest in infrastructure like hospitals or utilities. States also often have an even broader understanding of what infrastructure is, though — and which companies could use cheaper loans.
The New Hampshire bitcoin muni has cracked open the door to a new idea: companies that hold bitcoin can do something for local economic development. This could lure bitcoin treasury companies or more bitcoin miners up north, at a time when the state legislature is considering a ban on any local restrictions on server farms.
The new muni from New Hampshire stretches the definition of what economic development is. Digital assets are interesting. It’s not clear how they create growth.
Sovereigns have always wanted to spend money they don’t yet have, and have had an interest in creating markets for their debt. In the early American republic, states chartered commercial banks as an economic development strategy. In return for a literal licence to print dollars, the bank would be obliged to dig a canal, for example. That approach fell out of favour with the widespread failure of chartered banks in 1837, and states increasingly turned to the federal practice of issuing bonds.
Congress reconsidered the tax exemption on state bonds several times in the 20th century, particularly when raising revenue for the first and second world wars, but the principle that states could raise money unmolested by Washington endured.
During the Great Depression, states had started offering this shelter as “industrial development bonds,” issues on behalf of local champions. This practice boomed in the middle of the century, growing from $6mn in 1956 to over $500mn just a decade later. In 1968 and again in 1986, Congress finally curbed this practice, more clearly defining what a private activity bond is and limiting issues by state.
In 2022, the latest year for which the IRS offers data, states issued $119bn in private activity bonds. Most of these went to build airports, low-income housing and hospitals, and to support non-profits. New Hampshire’s Business Finance Authority, which issues the state’s private activity bonds, still has about $85mn in capacity under these limits, which means it has room to be creative, just as states feel the pressure to find more creative ways to borrow.
“It’s not getting any easier to be a state anytime soon,” says Matt Fabian of Municipal Market Analytics, a research firm. States are more frequently running deficits and muni issues are growing, he explains, as states take on more obligations such as losses from climate change. This leaves less capacity for economic development.
Normally, private activity bonds are guaranteed by future revenues — from the company and ultimately the state. In New Hampshire’s bond, a company would post its bitcoin as collateral, to be held in trust. The state issues the bonds, essentially converting the private company’s bitcoin into a cash loan.
Bitcoin has lost 14 per cent of its value over the past six months; the head of the state’s business finance authority has said that the private company would have to put up bitcoin worth 150 per cent of the bond issue.
“It seems interesting,” says Daniel Garrett, assistant professor of finance at Wharton, “but it doesn’t make any immediate sense to me as to why it would be necessary.” Garrett, whose research looks into the development returns from municipal bonds, says he can’t figure out the economic or public value the state gets out of it.
New Hampshire, like Arizona and Texas, has approved a crypto reserve fund, which would allow it to hold bitcoin in the state’s rainy day fund, a vehicle some US states maintain for unexpected expenses. Together with the plan for a new bond issue, the reserve fund positions the state as friendly to crypto.
Here again, it’s hard to understand what the state is getting in return for making an alternative currency liquid. It could just as easily hold euro-denominated assets in its rainy day fund or convert euro holdings to cash through a muni issue. Munis can be a creative way to get private companies to do things, but until we can figure out what the private companies will be doing, the question for New Hampshire’s new bond issue is the same as for most innovations around crypto: “Cool. But why?”