Analyst: Low credit rating leaves state vulnerable if bond holders panic, cash out
State lawmakers and union officials must compromise in light of recent decisions by credit-rating agencies to downgrade Illinois’ bond rating to near-junk status, and they had better do it before another economic downturn, an industry consultant said during a recent interview.
Much of Illinois' future could depend on the whims of holders of the state's very low-rated bonds, TJM Institutional Services Managing Director Jim Iuorio said during a recent edition of Illinois Rising, presented by the Illinois Policy Institute.
"They are in some ways delusional," Iuorio said. "Much like back in 2006 when we thought real estate only goes higher. Sometimes these weird things happen where everybody believes the same thing."
Things could go very bad for Illinois if those bond holders become spooked, Iuorio said.
"If people turn their back on the U.S. bond market, which I don't anticipate happening for a while, but if all of a sudden, this bond bubble that millions of people talk about begins to break, the first thing they're going to ditch is a bond like Illinois," Iuorio said.
Illinois state lawmakers should ditch a few things to keep bond holders, Iuorio said.
"I think they should ditch the notion of trying to extract tons more money from the people of Illinois because they're already beginning to vote with their feet," Iuorio said. "They claim that the 3.75 percent state income tax is fairly benign on a relative basis. Yeah, but now throw in a 2.67 percent real estate tax on average -- twice the national average -- sales tax, building permit taxes and that just scratches the surface."
The steady decline in the state's credit ratings is already enough for would-be investors to take notice. In late September, Moody’s and S&P Global Ratings dropped the state's bond ratings. S&P Global Ratings dropped Illinois' credit rating from BBB+ to from BBB and assigned the state a negative outlook, which means the state can expect further S&P downgrades.
Moody's assigned a rating of Baa2 to Illinois for its General Obligation Refunding Bonds in October 2016. Illinois' negative outlook is consistent with its potential for additional credit weakening from the extended budget impasse that left Illinois increasingly vulnerable to adverse revenue trends and severely underfunded retiree benefit plans, Moody's said in that announcement.
Illinois has for months been on a ratings tumble. In June, before there was even a temporary budget agreement in place, the state's credit rating was so low that it was only two notches above junk status. The stopgap budget, which funded education and a very few essential services through year's end, was passed by legislators last summer but didn't calm the ratings agencies. In early September, Moody's issued warnings that the state's failure to achieve a balanced budget could lead to additional downgrades. At Baa2 with a negative outlook, Illinois has the lowest credit rating of any state in the nation.
Illinois' financial situation is so dire that some are calling for municipalities, and even the state, to declare bankruptcy. That, Iuorio said, would be very bad.
"I think there will be a very real chance that will happen," Iuorio said. "The part that makes me the most sad is that, if I were a pensioner -- and I understand that this is way easier said than done, and I might be mistaken -- I would look at it so much more holistically. If I were a Chicago Teachers Union pensioner, I would want my union to be negotiating in good faith at this time to see how we can get through this together."
Illinois pensioners should bear in mind what happened to pensioners in Detroit when that city declared bankruptcy, Iuorio said. "Remember, in Detroit, the pensioners got 35 cents on the dollar. I think we need to fight against that. These are hard-working teachers who have put in a lot of work. I would take no joy in a bankruptcy where it's renegotiated and they take a massive haircut. So people have to work together on this, and this seems like the union leaders at this point don't really want to work together."
Even if union negotiators are willing to compromise, there's still the other side to consider, Iuorio said. "Remember, too, that in these negotiations, the other person sitting on the other end of the table from the teachers union is playing with yours and my money," he said. "They don't have quite the stake in the game that a private company has when a union comes for negotiations. Many times, that's where things get a little mixed up."
Iuorio said he would like to see those sides work together for the good of Illinois.
"I'm a fiscal conservative, a financial conservative," Iuorio said. "I want everybody to do well because that makes it better for everybody."
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