By: Ted Dabrowski and John Klingner

Financial markets react to news – good and bad – far faster than the credit rating agencies do. If that holds true today, then expect Illinois to be junk rated soon. The bond markets are already pricing Illinois bonds at interest rates that amount to junk-level yields.

Illinois 10-year bonds traded 3.81 percentage points over what AAA-rated states like Indiana’s traded at. That penalty – the 3.81 percentage points – is a record high for Illinois, reflecting how risky the state’s credit has become.

A simple example looks like this: If Indiana, Iowa or Missouri, three of Illinois’ neighboring states with AAA ratings, were to borrow money today from the bond market for ten years, they would have to pay an yearly interest rate of around, let’s guesstimate, 2 percent.

For that same money, Illinois would have to pay a 5.81 percent interest rate. It’s a massive penalty for a U.S. state to pay.

The graphic below shows how that penalty spread has spiked to 3.8 percentage points in recent weeks. The penalty is now above the previous high of 3.37 percentage points, which occurred during the budget impasse of 2017.

Even before the COVID-19 crisis hit, Illinois’ credit rating had collapsed to just one notch above junk. The state’s $241 billion in pension debts, its chronic budget deficits, billions in unpaid bills and its failed governance were the key reasons why Illinois was already the nation’s worst-rated state.

The bond markets are now pricing in billions more in Illinois budget deficits as revenues dry up and spending increases as a result of the economic shutdown and stay-at-home orders. Pension debts, already the highest in the country, will jump due to the stock market meltdown and collapse in interest rates. Illinois is also being punished because it had no rainy-day funds to weather the storm. It was the least prepared state in the country for a recession.

Moody’s and S&P both recently revised their outlook to “negative” for Illinois (See Appendix for their commentary). If either ratings agency follows through, Illinois would be the first state in the nation to ever be rated junk.

The situation for Illinois’ politicians today is particularly difficult. The typical gimmicks that they’ve long used to avoid reforms – the same ones that landed Illinois with a near-junk rating in the first place – are no longer available to them. Borrowing any meaningful amount (without some sort of federal backing) will be extremely difficult. Shorting the pension funds will trigger even more punishment from the rating agencies. And reamortizing pension debts further into the future – can kicking – won’t be accepted either.

Look for House Speaker Mike Madigan, Gov. J.B. Pritzker and Mayor Lori Lightfoot – who continue to categorically reject reform after reform, including an amendment to the pension protection clause – to ask for a federal bailout. They’ll try to blame the Coronavirus for all of Illinois’ woes.

Here’s Gov. Pritzker just last week: “I think a lot of it is going to depend upon the federal government. I mean there’s just no one else who can step in the, you know, to help our state finances, the way that the federal government can.

So far, the bond market isn’t buying it, as it prices in a junk rating for Illinois. Let’s see how long it takes for the rating agencies to catch up.

Read more about Illinois’ financial crisis:

 

Appendix

Moody’s rating outlook

Revision of the state’s outlook to negative from stable aligns with our view of the likely effects of the coronavirus pandemic, which will reduce tax collections and likely cause substantial current-year pension investment losses, both of which will weigh more heavily on Illinois, given its existing weaknesses relative to other states. Federal government support will mitigate some of the direct budgetary burden, but the state will face liquidity pressures that may lead it to near-term actions such as adding to its balance of unpaid bills. The state is also more likely to take actions that add to long-term liabilities, in view of impending revenue shortfalls, growing health and social burdens and pension fund investment losses.

Moody’s warned of the factor that could take Illinois into junk:

  • Fiscal measures that greatly add to the state’s near- or long-term liabilities
  • Large or persistent structural imbalance that leads to significant increase in the state’s unpaid bills or other liabilities
  • Reduction in pension contributions to provide fiscal relief
  • Substantial assumption of debt or pension liabilities accrued by local governments

S&P’s rating outlook

“The negative outlook reflects our anticipation that there is at least a one-in-three chance that economic conditions worsen to a degree that affects the state’s ability to maintain credit characteristics in line with the investment-grade rating level,” said S&P Global Ratings credit analyst Geoffrey Buswick.

We will be watching to see if the stimulus as currently allocated is sufficient for Illinois to fight the COVID-19 pandemic; if the anticipated growth in the bill backlog does not create service delivery problems; and if the current market volatility worsens the funding status of the already poorly funded pension plans. Over the intermediate term, we believe that the state will need to take further action to achieve sustainable structural balance and address its pension liabilities to maintain an investment-grade rating.

In addition, the rating reflects our view of governance risks that we view as being above the sector norms due to the constitutional limits the state faces to modify its growing pension costs, and that the state is not contributing to meet static funding, limiting current and future budgetary flexibility. However, we view the state’s environmental risks as in-line with our view of the sector. Our outlook revision also reflects our view that the COVID-19 pandemic’s impact on the state’s economy, budget, and forecast is a social rating factor elevating the public health and safety issues. If economic activity resumes, however, and credit metrics are upheld, we could revise the outlook to stable.

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Poor Taxpayer
7 months ago

No Surprise, Illinois does not pay its bills.
Cops, Teachers, and firemen are living the life of luxury in Florida on the honest hard working taxpayer.
Feel like you are being screwed?
It is because you are.
If you do not like it you can leave (just like all the retired pensioners).
Sunny Florida living the life of luxury, no state income taxes.

Deep in the Heart
7 months ago
Reply to  Poor Taxpayer

While the greed of firemen is remarkable, I’ll put California firemen up against them anytime. https://www.latimes.com/california/story/2019-11-06/lapd-lafd-audit-overtime-city-controller Yes, you read that right. $360,000 IN OVERTIME ALONE. Don’t forget to add in the six-figure base. In case you’re wondering what the city leaders think about that, the answer lies here – https://www.dailynews.com/2020/01/14/union-rules-not-wildfires-the-root-of-high-firefighter-overtime-costs/ As indicated in the last sentence, it’s been going on for over 25 years. So here’s what the city leaders think, “Just keep the votes and bribes… errrrr… campaign contributions coming, Mr. Union Master.” Retired California firefighters don’t make it to Florida, instead preferring Lake Tahoe. The Nevada side, of… Read more »

Freddy
7 months ago

Correct me if I’m wrong. I read a while back that firemen in CA could retire at age 45 with many getting $120K in pensions and only 20 years of service. It may have been in Sacramento. Are you familiar with that? Thanks

Deep in the Heart
7 months ago
Reply to  Freddy

Freddy, I’d say that it’s more like retirement in the early 50’s. Under the “3% 50” program the firefighter earns a pension of 3% of his earnings per year up to a maximum of 30 years credit (90% of the highest year) at a minimum age of 50. So it’s more like retirement in the early fifties which isn’t bad when the rest of us have to work another 15 or so years before enjoying retirement. Public service workers are special and more equal than taxpayers. As for the pensions, this is from TRANSPARENT CALIFORNIA website for LA County Average… Read more »

Rick
7 months ago

What will happen is investors will flock to this high yield, because they know that Illinois leadership will sell its citizens into servitude. Starting with the progressive tax which will affect everyone not just the rich. “Just above junk” is the longtime mantra, it will stay there simply because Moodys is in total collusion with leadership here to soak us more.

Susan
7 months ago

As property tax rates rise to pay public benefits entitlements to teachers and political bureaucrats, home values will fall further. As home values fall further, property tax rates will climb higher. As tax rates rise, the amount of money taken by TIF rises as a function of tax rates. The big winner in this scenario are TIF district show runners: aldermen and city councils with power to dole out TIF windfall profits to those toward whom they are kindly disposed. Oversight? No, not unless you (yes you, the reader) are overseeing expenditures as a private citizen watchdog. Solution? Place every… Read more »

Douglas
7 months ago
Reply to  Susan

I’m sorry, I’m not trying to be pessimistic, but it’s time to start looking at reality. I wanted my family (including my widowed Mother), out of this corrupt thieving state a while ago. We had a bit of a family argument about this last night, because things are NOT going to change, they will only get much, much, much worse and if you choose to stay, you have no one to blame (myself and family included). You’re up against a state that doesn’t respect individual liberty or private property. It’s backed by large special interests that use state government for… Read more »

Mike Williams
7 months ago

The information/data posted here on Wirepoints won’t save the state, but it can save you. Most of Illinois is living in ignorance. You are not. Don’t waste this chance. Just keep in mind things are going to get worse for Illinois, probably a lot worse. After that maybe they will improve, but there’s no guarantee of that, or when that will happen, or by how much. If the current virus situation causes you to be unemployed, you might want to consider this your opportunity to build a life someplace where the future isn’t so risky.

debtsor
7 months ago
Reply to  Mike Williams

The solution is a Republican supermajority legislature in Springfield, followed by a special election constitutional amendment to reduce pensions, followed by severe cuts to pensions.

But ain’t never gonna happen in Illinois because orange man bad, and, the right to kill unborn babies on demand is paramount to all other rights.

Mike Williams
7 months ago
Reply to  debtsor

Sad but true.

Susan
7 months ago
Reply to  Mike Williams

I think medical professionals will certainly want to.leave Illinois at first opportunity.
They pay high income and property taxes, and see their homes relatively devalued significantly each year, for benefit of teachers and political bureaucrats having luxury retirements beginning ~55.
Even when stock market crashes, and medical professionals see their own retirement ~67 looking grim.

DantheMan
7 months ago
Reply to  Susan

I can’t imagine why someone with a skill that is easily transferable and in demand would stay. I know leaving means adding distance between family members, but at some point the financial cost and the overall stress of Illinois life is overwhelming and just emotionally unhealthy. Being angry all the time is a lousy way to live. Illinois is a lousy place to live.

mqyl
7 months ago
Reply to  DantheMan

Mark, Dan’s comment above is a keeper.

Admin
7 months ago
Reply to  mqyl

Agreed. That’s a big proviso in there though.

Doc in the Box
7 months ago
Reply to  DantheMan

I am in medicine and I have always planned to leave by 2022. That was always my predicted date of calamity, and this situation has been even more than what I thought would be necessary, already. I am fortunate, unlike colleagues of mine, that I never bought a place here, and for good/obvious reason. I bet you can guess where I’m going, or at least somewhere very similar (-;

DantheMan
7 months ago

As long as taxpayers are reluctant to leave the state, the solution for Springfield is more of the same. Borrowing may dry up but residents can still be taxed. People have to leave in greater numbers before anything significant will change. Not to worry though, they will leave in greater numbers as taxes go up. Both are inevitable.

Tom Paine's Ghost
7 months ago

Reforms will never happen. Reforms will never come from the corrupt politicians and their public sector union masters. Their co-dependent criminal cabal requires that this financial racketeering continue forever. If it ends then both the corrupt politicians and the criminal public sector unions will perish.

Reforms will only come from an outside body like a Federal Bankruptcy Board.

Gary
7 months ago

As Wirepoints and few others have stated, once we can’t borrow, this could be the trigger. Please! We need reforms now. Let’s just get it over with and start fixing the damn state.

Doc in the Box
7 months ago
Reply to  Gary

Yes, the question is, at what point does the bond market collapse/will people finally decide that Chicago/Cook County/IL bonds aren’t worth it? I can see it coming soon. Let’s see if I’m right that it’ll be 2022.