Chattanooga’s credit downgrade fueled by local inequality

Fitch downgraded Chattanooga’s rating from the highest AAA to AA+. Here’s what the drop means for taxpayers, and what it says about them.

By William Newlin

The major credit rating agency Fitch Ratings downgraded Chattanooga’s credit score this month from the highest tier AAA rating to the second-highest AA+.

Credit ratings describe how well governments and private companies are expected to repay their debts. A downgraded credit rating can make it more expensive for cities to borrow money by selling municipal bonds. It’s similar to the way a low credit score can lead to higher interest on personal loans.

Why the downgrade?

In April, Fitch changed the criteria it uses to rate local governments. That means every municipality in its portfolio, from Washington, D.C., to Coralville, Iowa, to Chattanooga, is getting a new evaluation. While nothing notable has changed about Chattanooga’s finances, the rating criteria puts Chattanooga at a lower grade.

“We've also had plenty of credits that we've upgraded as well,” Michael Rinaldi, Fitch senior director, said in an interview. “So it does cut both ways.”

The agency’s new rating model places greater emphasis on demographic and economic data, said Arthur Tildesley, Chattanooga’s primary analyst at Fitch. Data included median household income among Chattanooga residents, the unemployment rate, and median population growth over the past 10 years.

“The change in the rating was just driven by this new criteria,” Tildesley said. “And not anything that, you know, management has done or that has happened in Chattanooga.”

Indeed, Fitch still gave the city a AAA mark for its financial resilience, including its ability to balance the budget and move around funds. But Chattanooga’s community metrics fell short.

Missing the mark

Chattanooga ranked in the bottom fourth of Fitch’s local government portfolio in terms of median income, according to the agency’s report on the downgrade. Local population growth, as calculated by Fitch, received a “weak” rating, though city officials found fault with that assessment.

“Strangely enough, they actually think our population isn't growing fast enough,” said City of Chattanooga spokesperson Eric Holl. “We think maybe they're looking at the wrong numbers. That’s contrary to how a lot of people feel around here.”

Still, Holl said some of Fitch’s metrics reflect shortcomings targeted by Mayor Tim Kelly’s economic agenda. He cited the mayor’s aim of making Chattanooga more competitive in the region and “catalyzing economic vitality in the Black community.”

So, what’s the connection between economics and demographics and a city’s credit rating? A city’s ability to manage debt relies on what revenues the government can extract from residents, Tildesley said.

Population increases point to a growing property and sales tax base. High household incomes mean families can better weather tax hikes if a city has to raise income due to economic shifts.

“There could be pressure on residents to pay that,” Tildesley said. “And either they find somewhere else to live, or they don't pay their taxes, or they pay late, and then you have a potential pressure on your government.”

What’s the impact on Chattanooga’s finances?

Fitch not only downgraded the city’s overall credit score, but it also dinged the rating of Chattanooga’s municipal bonds. Bonds essentially function as loans — cities issue them to raise revenue for major projects and government operations. Whoever buys bonds, often big banks, get paid back over time with interest through tax dollars.

A lower credit rating can lead to higher interest rates in future bond sales, making it more expensive for the city to borrow money. However, dropping from AAA to AA+ was not a significant drop, Holl said, and another rating agency, S&P Global Ratings, retained Chattanooga’s AAA standing last month.

“We really expect our strong reputation for responsible financial management to continue and make us a very attractive prospect for folks who are looking to buy government debt,” Holl said.

That optimism extends to a major bond issuance the city plans to announce in the coming weeks — $80 million to help pay for the new Lookouts stadium. Those bonds have a AAA rating from S&P and are tied to the credit of both the city and Hamilton County.

Back on top?

Fitch annually reassess the credit ratings of local governments in its portfolio. But given that Chattanooga’s credit downgrade was tied to more entrenched factors, like local income and employment levels, Holl doesn’t expect a swift jump back to AAA.

“Hopefully, as the years go on and some of the hard work we're doing to close some of the income, health, and achievement gaps in our community starts to really take root … those factors will improve,” Holl said. “But it'll probably take a little bit of concerted work.”