US cities destroyed by Hurricane Katrina last year have avoided defaulting on their municipal debt because the US federal government serviced their loans for the first time.

The government had never before paid a municipality's debt, according to Robert Kurtter, senior vice-president for state ratings at Moody's Investor Service. In 1975 the government offered guarantees to New York City, which was then teetering on the brink of bankruptcy, but the city did not use the loans. A Moody's report showed that 51 municipalities in Hurricane Katrina's path in Mississippi and Louisiana – including New Orleans – managed to keep up with their debt obligations despite losing almost all their tax base. In some cases, cities lost half their population and the businesses that paid commercial taxes. Moody's placed 51 cities and towns that held a collective $9.5bn (€7.4bn) of debt in Katrina's path on ratings watch for possible downgrades last September. In December the agency downgraded 29 but last month reduced the number of negative outlooks from 32 to 14 and gave positive outlooks to four cities. Kurtter said: "We would have expected to see more distressed entities at this stage of the game." However, the debt of 11 of the 52 cities is rated below investment grade, whereas none had debt rated below investment grade before Katrina. Kurtter said the municipalities avoided default because the federal government took on expensive tasks, including rebuilding infrastructure and providing aid and assistance to residents. Charities also provided money and the year-long rebuilding created a construction boom. The federal government has proposed a record $123bn in aid over five years to the areas affected by Katrina – about $100bn more than the government provided in response to the September 11 terrorist attacks, said Moody's.
In several cases, the financial aid meant cities earned more than they did in the years before Katrina, according to Kurtter.