The Bond Buyer

Experts Weigh In On Fixing Illinois

Wednesday, June 30, 2010

CHICAGO — With Illinois Gov. Pat Quinn poised to sign the fiscal 2011 budget today amid a drumbeat of negative financial news, experts recently offered suggestions for tackling the state’s budget crisis that range from expanding the sales tax base to creating a ­fiscal watchdog commission.

Quinn is expected to sign the budget by midnight today ahead of the Thursday start of the new fiscal year, but yesterday said he might not announce cuts until Thursday.

“There are some tough decisions, and there will be cuts and there are serious cuts in the bureaucracy of state government,” the Democratic governor said this week. He has said he would try to keep cuts to education and human services programs to a minimum.

Officials decided to put off a $900 million taxable general obligation Build America Bond sale originally scheduled for today until after Quinn acts. The new sale date is July 14, according to state debt manager John Sinsheimer. Citi is the lead manager.

“Gov. Quinn will be ­making announcements on the fiscal 2011 budget on Wednesday and we felt the market should be given time to digest those ­announcements. Given the holiday coming up next week, our lead bank Citi recommended that we wait until the following week,” Sinsheimer said.

Quinn is expected to make steep spending cuts in the plan. Lawmakers — who along with the governor must face voters in November — left those ­decisions to him when they ­approved the budget last month. The $52 billion spending plan for fiscal 2011 includes a general fund of $26.2 billion, down slightly from the current fiscal year.

Fitch Ratings and Moody’s Investors Service recently downgraded the state’s $25.7 billion of GO debt. Fitch lowered Illinois’ rating to A from A-plus and assigned a negative outlook. Moody’s downgraded the credit to A1 from Aa3 and assigned a stable outlook. Standard & Poor’s affirmed the state’s A-plus, which is on negative watch.

Analysts blamed the downgrades on lawmakers’ refusal to tackle Illinois’ fiscal and liquidity crisis. The state turned to one-shots to deal with a $13 billion deficit, leaving $6.4 billion in bills unpaid going into the new fiscal year and a $3.7 billion revenue hole tied to the 2011 pension payment.

A planned competitive sale of $1.3 billion of certificates the week of July 21 should help ease some payment delays. Sinsheimer said the certificates would be sold in three to four maturities staggered over dates next spring.

State Comptroller Dan Hynes and Treasurer Alexi Giannoulias, whose approval is needed on short-term borrowing, have signed off on the transaction. Sinsheimer also hopes by mid-summer to issue a request for proposals for a finance team to handle a $1.4 billion tobacco bond sale approved by lawmakers.

Recently, fiscal experts gathered at a conference called “Charting Illinois’ Fiscal Future” that was sponsored by the Federal Reserve Bank of Chicago and the Institute of Government and Public Affairs at the University of Illinois.

One veteran who helped steer New York City through its financial crisis in the mid-1970s — Allen Proctor of Allen Proctor Consultng LLC — suggested Illinois could benefit from the creation of a third party, nonpartisan budget commission or board, possibly funded by the business community, to closely follow state fiscal actions.

“You need to have some group that cannot be intimidated and that can bring nonpartisan credibility,” he said. “You cannot underestimate the power of transparency and disclosure.”

Such boards are especially good at guarding against what Proctor called the “real stinkers” — one-time maneuvers to ease an immediate cash crunch that add to a structural imbalance where recurring revenue fails to keep pace with ongoing expenses. Illinois has relied heavily on one-shots over the last several budgets.

Illinois has two business groups that monitor state finances and have issued critical reports and recommendations — the Civic Federation of Chicago and the Civic Committee of the Commercial Club of Chicago — but lawmakers have ignored them.

Proctor recommended the state follow other sound practices like multi-year financial planning and the use of generally accepted accounting principles in budgeting to restore fiscal stability. Bond covenants can also prove a powerful tool and serve as “fiscal monitors.” Restrictions built into bond covenants can prove “more powerful than statute in maintaining fiscal discipline,” he said, citing fiscal measurements for New York City required in bond covenants under New York State’s Financial Emergency Act.

To achieve a structurally balanced budget, panelists said Illinois needs to limit spending growth, but the imposition of a policy tying spending to revenue growth only works if it is binding. Both near-term and long-term service cuts are needed, and the tax structure must be reviewed to bring in new revenue, according to Matthew Murray, a professor at the University of Tennessee, Knoxville.

The sales tax imposed by the state and local governments is high compared to the state’s counterparts, but the base is narrow, excluding most services, several panelists noted. Taxes as a share of personal income in Illinois are not considered high, based on a comparative analysis, so there’s room to raise more revenue, Murray said.

Quinn pressed for an increase in the flat 3% income tax rate during the spring legislative session, but lawmakers refused. One alternative is taxing retirement income. Illinois is just one of a few states that don’t tax such income.

University of Illinois professors Richard Dye, David Merriman and Nancy Hudspeth called for a shift in budgeting policy to a consolidated one that would cover all 380 state funds rather than just focusing on general fund spending. The shift would make the budgeting process more transparent and allow for an improved assessment of overall state revenue and spending.

The fiscal crisis is exacerbated by the state’s mammoth unfunded pension liability of $62 billion, based on fiscal 2009 results, but there’s little will to address the problem, members of a panel on pension liabilities said.
The funded ratio of just 38.5% is at the bottom of state rankings. Illinois in 1995 adopted a plan to reach a 90% funded ratio by 2045, but to do so payments will have to dramatically ramp up from nearly $4 billion in fiscal 2011 to more than $17 billion in fiscal 2045. Prior to reforms approved in the most recent legislative session, the 2045 payment was estimated at $25 billion.

Some believe that the state has underestimated the size of its funding problems, using an optimistic investment growth rate. To panelist Lance Weiss, a senior consultant at Gabriel, Roeder, Smith & Co., the state’s number is sufficient. “That’s dramatic,” he said, questioning the state’s ability to cover the escalating payments.
While Illinois moved to cut benefits for new employees, such a measure doesn’t bring down the current liability, it just lowers the future liability.

Benefits for current employees and retirees are protected under the state constitution as a contract that cannot be “diminished or impaired,” hampering the state’s ability to take dramatic action, assuming the political will exists for such measures.

J. Fred Giertz, a professor at the University of Illinois, suggested that solutions lie in a review followed by painful action on both the revenue and benefit side of pension funding and benefits.

He suggested the state could tax a portion of current retiree benefits to raise new revenues, and impose restraints on wage growth for current employees and tax some of their retirement benefits.

Another panelist, Jim Spiotto, a bankruptcy specialist at the law firm of Chapman and Cutler LLP, pushed the creation of a special pension authority to manage the restructuring of state and municipal pension debt.

A special authority would provide independent analysis on a government’s ability to pay, set minimum funding levels, and provide oversight, removing some of the politics that affect pension funding decisions.