Simeon Brown finally relents and replaces 3 Waters with new debt structure that will downgrade sovereign credit

National finally bit the bullet and agreed to new debt ratios for their version of 3 Waters, the problem is you will still see the pain in your rates, and ultimately create a credit rating downgrade.

So to stop Māori having any co-management in Water, we will get sky rocketing water rates  and eventual credit downgrades because the debt levels will demand them.

Bernard Hickey is scathing…

Finally, Govt turns to borrowing to try to solve our infrastructure deficit

After years of trying to avoid borrowing with Crown or council guarantees to keep pristine credit ratings, the Govt will quietly allow 500% debt-to-revenue for still-on-balance-sheet water entities

…Bernard notes we’ve wasted a lot of time with magical thinking…

One reason Labour, National and the councils flirted desperately and pointlessly for so long with full separation was they wanted to avoid the ratings agencies grouping the new water debts with existing Crown and council debts, potentially lowering credit ratings for councils at least, and only slightly possibly the Crown itself.3

Long story short? Officials and the new Government have finally given up on the idea that both the Government as the Crown and Councils could somehow carve off the water assets into independent ‘off-balance-sheet’ entities that could borrow in their own right without the need for either Crown or Council guarantees. Labour was thinking just as magically as National on this issue, proposing fully ‘carved off’ water entities that could charge for water and not need Crown bailouts, and not risk any sovereign or council downgrades. See more on that magical thinking from my piece in February.

…so what will the Credit Agencies think of this new debt situation, will they downgrade us?

S&P replied to my queries with an emailed response below from analyst Martin Foo, including the following comments (bolding mine):

“The credit implications for councils may be mixed. If newly-formed water CCOs are highly leveraged (with the ability to borrow up to 500% of operating revenues) and retain some sort of financial support or backstop from parent councils, they could drag on the credit profiles of those parent councils. This will be true even if the CCOs are deconsolidated from council balance sheets in an accounting sense.On the other hand, the economic regulation regime could ensure that water charges generate more revenue than could be achieved under the status quo, where water delivery is controlled by councils and their elected councillors.

“We understand the government and LGFA are exploring whether debt limits for high-growth councils can be increased to up to 350% of revenues (from 285%). This will generally be negative for credit quality, as it will give councils that are already highly leveraged by international standards even more headroom to borrow. It may precipitate some council downgrades and further weigh on our “institutional framework assessment” for the council sector, which we already consider to be weakening. We note that LGFA’s leverage-related financial covenant limits were already lifted in 2020, to give councils buffer to deal with the COVID-19 pandemic.

“The implications for LGFA’s own credit quality are also uncertain at present.LGFA’s strong credit rating (AA+ foreign currency, AAA local currency) derives support from its high-quality loan book and wide base of council guarantors. LGFA’s loan asset quality might diminish if it lends to water CCOs that are much more highly indebted than councils and which lack the secure taxation power of councils. Again, the nature of linkages between councils and water CCOs matters. Closer linkages imply potentially stronger credit quality for water CCOs, while looser linkages (as suggested by the announcement that LGFA lending to water council-controlled organisations which are not supported by their parent councils is also being explored”) imply potentially weaker credit quality.

“The recent increase in LGFA’s borrower loan margins and borrower note subscription rates may help to gradually boost its capital ratio over time. Its recent forays into the Australian dollar market may also help to diversify funding sources.” S&P Analyst Martin Foo

My reading of those comments is that council downgrades are more likely than suggested by the ministers and LGFA, and that the Government may have to contribute more capital to LGFA to keep its own rating pristine. But the odd notch or two downgrade for councils is not the end of the world. The extra borrowing costs are minimal.

…rather than an adult discussion about how we fund our water infrastructure, the debate was taken over by corporate interests using dark money to fund racist garbage about da Maaoris stealing da water…

In my view, we’ve just wasted four years going down the dead-end of trying to make the magical thinking work of having off-balance-sheet vehicles, cheap borrowing costs and no credit ratings downgrades.

It is entirely right and good that these sorts of assets are paid for with long-run bonds at sovereign interest rates, with the debt serviced by water charges. It’s where we ended up anyway.

In my view, all the sturm und drang about iwi involvement and Te Mana o te Wai was a red herring. It wouldn’t have changed the way the entities were managed financially and it was not some sort of secret asset grab. The then-Opposition parties simply jumped on it as a racist dogwhistle that worked perfectly in the sort of meme-ified and culture-war-driven politics that the coalition chose, egged on by their social media advisors Topham Guerin. It worked because these sorts of campaigns trigger a fundamentally racist streak in a big-enough chunk of the median voting block to change enough votes, at least to ACT and NZ First, if not National.

Regardless, I was never comfortable with Three Waters or a fan because of all the balance sheet subterfuge to try to achieve the impossible. It was always going to waste time and risk being distracted and pulled apart, which is what happened.

We all just lost at least four years and we still haven’t debated or agreed on the essential issues: our population has grown and is growing way too fast for the infrastructure investment possible with a Government + Council share of GDP at or below GDP. Either we increase taxes outright or create new ‘taxes’ in the form of water and congestion charging, or we act to stop the very fast population growth.

…Bernard was right, the Māori co-management was never the real issue, how we were going to fund seriously underfunded water infrastructure was always the issue, and this debt structure will only generate more questions than answers…

The settlement reached here and now is effectively a decision to create new ‘taxes’ in the form of water charges at least, although ratepayers still haven’t been told or understood that properly yet. Someone will have to tell them.4

…instead of a debate about water pipes, 3 Waters was turned into an existential race war by the Right.

We are such an early led nation of muppets.