Why Hedge? Extent, Nature and Determinants of Derivative Usage in U.S. Municipalities

• In Event: Governmental Financial Reporting

Abstract

Using a hand-collected data set of over 300 observations of large US cities and counties, this paper investigates the extent, nature and determinants of derivatives usage in the municipal sector. Over half of our sample entities engage in derivative transactions and a vast majority of these are aimed at managing interest rate risk. Swaps are the most popular derivative instrument. In terms of the determinants of derivative usage, we find that the propensity to use derivatives as well as the extent of derivative usage is higher for municipalities that are more financially constrained and are larger. We do not find growth to be related to municipal derivative usage. Contrary to suggestions made in the popular press, we fail to find managerial opportunism or ignorance to be a significant factor that drives municipal derivative usage.

Authors

• Saleha B Khumawala, University of Houston-Houston

• Tharindra S Ranasinghe, Singapore Management University

• Jinqiu Yan, University of Houston-Houston