MERRILL Lynch & Co agreed to pay Springfield, Massachusetts, US$13.9 million to settle a dispute over collateralized debt obligations it sold the city that plunged in value.

The money will reimburse Springfield for the cost of the so-called CDOs, securities tied to loans, mortgages and other debts that have been battered as more US homeowners failed to make mortgage payments.

According to Bloomberg News, New York-based Merrill said it agreed to refund the money after discovering the purchase was made without the city's express consent.

"My focus all along has been to recoup these funds for the taxpayers of Springfield," Springfield Mayor Domenic Sarno said in a statement. "In my view, Merrill Lynch has now done the right thing."

Local government agencies from Florida to Washington state have been stung by their purchases of CDOs and other complex securities backed by collateral no one wants.

The market for CDOs has frozen up because of surging subprime mortgage defaults that have hurt their credit ratings, making the securities difficult to sell.

Merrill this week said it will cut back on packaging home loans and consumer debts into securities because demand for the products has eroded. Similar securities have also saddled Wall Street banks with losses and threatened to undermine the bond insurance companies that guaranteed the debts would be paid.

Springfield bought its CDOs between April and June of last year from Merrill, according to city records. The value of those securities fell to US$1.3 million in November.