By: Mark Glennon*

Michael Cembalest is Chairman of Market and Investment Strategy at J.P. Morgan Asset Management.

His report released yesterday, The ARC and the Covenants, updates his earlier research comparing the percentage of state revenues needed to pay interest on general obligation debt, and meet all future pension and retiree healthcare obligations. [The link to the report appears to be working sporadically, so copy and past this if necessary: https://www.jpmorgan.com/directdoc/ARC4_ES.pdf]

Most states, he concludes, have manageable burdens (which he defines as 15% or less).

Not Illinois, which is far worst among the states. By his calculations, 51% of state revenue would have to go towards debt, pensions and retiree healthcare to reach full funding, and that would take 30 years. He assumes all pensions will earn 6% per year on invested assets. His comparison chart is below.

For the worst off states, particularly Illinois and New Jersey, Cembalest says a solution based on tax increases or higher employee contributions is probably neither economically or politically viable.

Hence, the bankruptcy option:

I participated in a seminar at Harvard’s Kennedy School last year, and there was a sense that the US should use the Promesa legislation for Puerto Rico as a dry run for creating  state-level bankruptcy rules, just in case. I think the expansion of Chapter 9 legislation for states makes sense, and I’m not the only one.

He cites former FDIC Chairman William M. Isaac, who earlier wrote:

The city of Chicago and the state of Illinois should act now to restructure their liabilities and put the fiscal mess behind them. This can be accomplished by utilizing Chapter 9 and other tools Congress just gave Puerto Rico. The process would entail about two years of unpleasant headlines, but the city and the state will rebound far sooner and less painfully than if t hey stay on their current paths. (Our article on those comments by Isaac is linked here.)

The analysis states that it represents the views and estimates of the author, Michael Cembalest, only, and should not be treated as J.P. Morgan Research. Note, however, that the chart above showing the 51% and comparison to other states is from J.P. Morgan Asset Management.

Cembalest concludes with this:

Public sector workers form a critical part of our civil society. They risk their lives to protect us when we’re in danger; they make our lives safer, cleaner and more efficient; they educate our children; they enforce the rule of law and provide remedies when laws are broken; they ensure access to clean air, water and food; and they heal us when we’re sick. The legal, medical, environmental and educational problems sometimes found in other countries are a reminder of what life might be like without them. They have earned the benefits they accrued and which were granted by state legislatures, and have the right to expect them to be paid

*Mark Glennon is founder and executive editor of Wirepoints.

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Travis Bickle
1 year ago

So what?

Honestly, I’ve read so many articles like this, everyone knows how crooked, broke, etc it is here. But Illinois never changes. People here vote the same bums in election after election. We get the government (and crappy economy, crappy housing market ) we deserve. BK might help for awhile, but ultimately we have a cultural problem not a financial problem.

P M
1 year ago
Reply to  Travis Bickle

Yep, you have it. The voters in Illinois are a disease that is rapidly going infect the states they migrate to.

Bob
1 year ago
Reply to  Travis Bickle

TO: TRAVIS BICKLE – so since the state has been a mess for a long time, you conclude we do NOT have a financial problem? What rock do you live under?

BillD
1 year ago

The moralizing of the final paragraph should make everyone want to tear their hair out. Government employees haven’t done any more (or less) than any employee of any other firm to earn their pensions. Bankrupt private firm pensions get picked up by the PBGC and the employees get less than they were promised. It’s not fair. It’s reality. It’s what happens when the banks turn off the money. Life goes on even if it doesn’t match previous expectations. The only reason that government employees are any viewed any differently is due to the fact that the government is a monopoly… Read more »

Bob Out of Here
1 year ago
Reply to  BillD

“It would be nice to be able to choose from any of 50 state governments by subscription.” That’s an option that is becoming popular, as the moving companies can attest to.

NB-Chicago
1 year ago

this has to be what dem. state workers & pols have to be most terrified about w kavanaugh getting appointed–a state bankrucy ruling and shooting down all the salt workarounds. and i’m no fan of the t.

S and P 500
1 year ago

Adding to Rex and PM’s positions that public workers really didn’t earn squat, I am not entirely opposed to somebody getting a pension. What I do oppose is the book-cooking that pension funds use to cover the real costs of pensions, with the full consent of unions. They use 8% discount rates, invest in junk like private equity and hedge funds, and have only recently started to report their unfunded balances on city and state balance sheets (GASB 68). So if the pension fund blows up and retirees get screwed should we give them any more empathy than somebody who… Read more »

P M
1 year ago
Reply to  S and P 500

A few comments. Traditional defined benefit pension plan (phrased that way to avoid the nuances of cash-balance plans) are a very bad idea. Simply put, they are extremely risky and that risk can translate into unbearable costs. The only plans that make financial sense are defined contribution plans which is what the majority of the private sector has. Additionally, and even more importantly, it makes for a very poor public policy to have a segment of the population (the public sector) who are totally insulated from the vagaries of the economy and the investment markets. Essentially it comes down to… Read more »

P M
1 year ago
Reply to  P M

I’ll give you one, rather obscure example to highlight the point. Currently, due to a ridiculous slip, ROTH 401K plans are subject to Required Minimum Distributions (RMDs), although this was never the intention. This is asinine because the law is designed to allow you to roll your ROTH 401K plan into a ROTH IRA which of course does not require a RMD but the legislature was lazy an did not want to deal with altering the RMD provisions of pension plans to exempt the ROTH 401K . So you have a ridiculous situation where the lazy out was to allow… Read more »

1 year ago

Public sector workers form a critical part of our civil society. They risk their lives to protect us when we’re in danger; they make our lives safer, cleaner and more efficient; they educate our children; they enforce the rule of law and…They have earned the benefits they accrued and which were granted by state legislatures, and have the right to expect them to be paid.” I HATE reading nonsense like this. Public employees are no better than anyone else in the workforce, in many cases they are far less competent. SO WHY do some people sugar coat the need to… Read more »

Larry Littlefield
1 year ago

You realize as a result of the screw the newbie deal new teachers not only will not get Social Security but also will have near zero taxpayer contributions to their own pensions, don’t you?

The problem is retired and soon to retire public employees. And retired and soon to retire private sector workers, whose income is also exempt from state income taxes in Illinois. And the generations born between 1930 and 1957 or so in general. Public employee pensions are a small part of the damage they have done.

Joseph Hillström
1 year ago

You are all to correct and the myth of solidarity is at fault. There is little community of interest between working teachers and those now enjoying early retirement paid for by past and future generations.

P M
1 year ago

quote: You realize as a result of the screw the newbie deal new teachers not only will not get Social Security but also will have near zero taxpayer contributions to their own pensions, don’t you? ++++++++++++++++++++++++++++++++++++++++++++ Who cares? Teachers are obsolete they can easily be replaced for most subject matter with virtual instruction. It is cheaper and superior allowing each child to develop and thrive at their own natural rate of progression without being held back by the progress of their age based peers. In other words it treats each child as an individual. Virtual classroom instruction can also allow… Read more »

Rick
1 year ago

Nice analysis backed up with sound numbers and solutions. But Because the very people given these pensions are the same people responsible for cutting them, a sound fix will never happen. All the fixes require a haircut and that is conveniently unconstitutional. The Fox is guarding the hen house. I suspect taxing retiree income in Illinois is next, then elimination of spousal death benefit to the pension, maybe some 401k considerations, all coming long before bankruptcy is ever considered. Each election they will tinker on the edges. The madness doesn’t end until Moody’s stops colluding as well. Moodys needs to… Read more »

1 year ago

What happened to my comment?

Byron
1 year ago

Reality begins when the money runs out. Until then expect bandaids stretching out the timeline into some other elected officials tenure. Inevitably there will be a “liquidity event”. Just prior to that, beneficiaries, sensing doom, will retire early demanding lump sum payouts. Hoping to get ahead of the last dollar available. That act will greatly accelerate the depletion of funds more quickly than anticipated. “How did you go bankrupt? Slowly at first, then suddenly.” This is a math problem. That accountants, actuaries, bond attorneys and public officials attest to the soundness of Illinois bonds is a mystery, a lapse in… Read more »

Connie Cain
1 year ago

Cannot find JP Morgan report 4.0 on the internet. Message says page not found.

P M
1 year ago

+++++++++++++++++++++++++++++++++++ They have earned the benefits they accrued and which were granted by state legislatures, and have the right to expect them to be paid +++++++++++++++++++++++++++++++++++ Says who? They did not earn total compensation packages that are greater than what they could get in the private sector. This is simply legalized generational theft. I reject the general premise including the part that they provide valuable and needed services. IL has more units of Government per citizen than any other state. While there may be some value is some of the services government provides clearly the vast majority are simply duplicate… Read more »

Joseph Hillström
1 year ago
Reply to  P M

One culprit is the seniority system which includes pay raises based on experience — on the theory that the longer one works at it, the better he gets at the job and the more valuable he is to the employer. When a job requires minimum skills and training, the rationale for longevity pay increases goes away. How much can a grocery bagger be worth? So bureaucrats contrive titles that add a pretense of more responsibility: SENIOR file clerk; EXECUTIVE assistant clerk, etc. Then they pay more bureaucrats to develop gussied up job descriptions. They add privileges like parking and longer… Read more »

1 year ago

Old teachers should be paid the least.They are technologically stuck in the past,for the most part anyway.That,and their health insurance is the costliest.Private sector ejects anyone lower than the C-Suite once they become quinquagenarians.

1 year ago
Reply to  P M

Wow PM, I wrote essentially the exact same comment just 30 seconds ago, BEFORE I even came across your comment. I said basically the same thing. Well, you did a better job, but the theme is identical.

P M
1 year ago

Rex, we angry taxpayers think alike. ; )

Tough Love
1 year ago

Quoting …………… “They have earned the benefits they accrued and which were granted by state legislatures, and have the right to expect them to be paid” —————————————————— No. The undeniably LUDICROUS level of pensions & benefits promised Public Sector workers (which when added to “wages” most often results in “Total Compensation” MUCH greater than that of comparable Private Sector workers) should NOT be paid “as promised” There never WAS, is not NOW, and NEVER WILL BE justification for this. Those Ludicrous pensions (AND benefits) ROUTINELY have a “value upon retirement” that is 3 to 6 times greater than the retirement… Read more »

steve-oh
1 year ago
Reply to  Tough Love

BRAVO…….tour-de-force comment and 100% RIGHT-ON !

P M
1 year ago
Reply to  Tough Love

Amen brother.

1 year ago
Reply to  Tough Love

PM, now TL, plus my comment- all three of us take issue with the allegation these Benefits/Pensions were “earned”.

Ron Sandack
1 year ago

Wait. The primary purpose of state government isn’t providing for retiree benefits and repayment of debt?

Michael
1 year ago

Illinois has a balanced budget requirement in the State constitution. Problem solved.

1 year ago
Reply to  Michael

TY Michael, I needed that laugh to lift my spirits up today 🙂

Larry Littlefield
1 year ago

Sounds like older generations are being cheated. They clearly felt entitled to 100 percent of future state and local government revenues, paid by those who don’t matter.

“I don’t know why so many people still think we can have free healthcare and free college in the USA.”

Perhaps because some people got free college in the 1960s. And those same people are getting free health care now. Paid for by less well off people that they demand cuts in services and benefits for, while demanding more tax cuts for themselves.

Think about it. Generation Greed.

Actuary
1 year ago

…. expect them to be paid by the PEOPLE WHO RECEIVED THE SERVICES THEY PROVIDED. I live in NY and we have already paid dearly for the pensions for our own workers. There is NO case for handing the bill for the Illinois benefits to us. That is income redistribution plain and simple. The Illinois pensioners freely chose to make a loan to their state (choosing deferred compensation in lieu of salary) and if those loans go bad it is NOT my responsibility to pay them off.

Larry Littlefield
1 year ago
Reply to  Actuary

“I live in NY and we have already paid dearly for the pensions for our own workers.he discussion.” If you live in NYC, despite paying far more than those in the rest of the state, and in fact more than anywhere else in the country, the public pension funds are nearly as underfunded as those in Illinois. Due to one retroactive pension increases after another, right up to the present day, all done in the dark. Whether it’s retroactive pension increases, or past taxpayers’ failure to fund the pensions public workers were promised to begin with, Generation Greed has robbed… Read more »

Steve-Oh
1 year ago

LL: Exactly RIGHT !! NYPD has 20 & out, start at 22, retire at 42 w/ full pension for life and full health insurance until age 65. Finish the so-called ‘career’ at age 42 with $100k pay, and retire w/ 75k that gets COLA. Along w/ health insurance, those post-retmt bfts are worth about $3MILLION, just for working 20 years. INSANE.

Larry Littlefield
1 year ago
Reply to  Steve-Oh

It would have been costly, but even that could have been funded if it was left alone. But many long retired police officers etc. got a huge unfunded retroactive increase in their pension benefits in 2000, and also get a $15,000 unfunded “Christmas bonus” every year. NYC has a police, fire, teacher and general pension fund. So does New York State, which covers not only state workers but also local workers in the rest of the state. The NY State plan is among the best funded in the country, and NYC is among the worst funded in the country, even… Read more »

Tough Love
1 year ago
Reply to  Actuary

Quoting …………… “The Illinois pensioners freely chose to make a loan to their state (choosing deferred compensation in lieu of salary) and if those loans go bad it is NOT my responsibility to pay them off.” Ad more the specifically, the words ………… “choosing deferred compensation in lieu of salary” ——————————————————————– No, it was NOT deferred compensation “instead of” salary. In the VAST majority of States and Cities with Public Sector Final Average Salary DB Pensions, the pensions & beneifts are so ludicrosuly excessive that when added to Public Sector “wages”, the resultant “Total Compension” of PUBLIC Sector workers FAR… Read more »

S and P 500
1 year ago

I don’t know why so many people still think we can have free healthcare and free college in the USA. Get real. It’s not going to happen. States are in too much debt. Healthcare is not a basic human right in the USA–it’s something you have to pay for. Even the Dems in Calif. say the state can’t afford SB562, the single-payer health care bill.

Joseph Hillström
1 year ago

“… have the right to expect them to be paid.” I suppose we all have a right to have an expectation. In legal terms, an expectation can be the basis of “reliance” and in some situations, reliance can “estop” someone … meaning, essentially, that the person or entity must do what he/she/it said would be done. Illinois and other states have gone one step further and “decreed’ that pension promises are “contract rights” and that those rights can’t be “impaired.” This means that cutbacks might violate the state or federal constitution. The question is “so what?” … that is, what… Read more »

S and P 500
1 year ago

Some people think if they are state employees their pensions are safe because states can’t declare bankruptcy. Well guess what, Calif. has already defaulted on some of the pension checks.

https://www.sgvtribune.com/2017/08/18/la-works-retirees-pensions-are-slashed-state-must-act-editorial/

P M
1 year ago
Reply to  S and P 500

I read the article. If to be believed it is a story of human tragedy to people who worked for Government entities…to me it is a beautiful story and fitting end for those who worked for the enemy – the state. I live to read of the suffering of those in government, I thrive on the tears of government pensioners who find the cupboard bare. The government is our enemy, it always has been and always will be. At best it is necessary evil. But Government is the enemy of freedom. We are now being enslave by growth of Government… Read more »

Patrick Pender
1 year ago
Reply to  P M

Go fuck yourself

1 year ago
Reply to  Mark Glennon

Goes to show just how emotional this issue really is.

1 year ago
Reply to  P M

“If to be believed it is a story of human tragedy to people who worked for Government entities…to me it is a beautiful story and fitting end for those who worked for the enemy – the state. I live to read of the suffering of those in government, I thrive on the tears of government pensioners who find the cupboard bare.” Actually, if you saw the pensions from this consortium, there were like 43 employees, as I recall by memory, and 40 of them were receiving pensions of less than $25K/year. They were really the exception, anomaly, to the typical… Read more »

1 year ago
Reply to  S and P 500

“Some people think if they are state employees their pensions are safe because states can’t declare bankruptcy. Well guess what, Calif. has already defaulted on some of the pension checks.” As I have told Mark here many times, because he is a lawyer, states don’t need to declare BK, they are immune from lawsuits in both state and federal court under the 11th Amendment. States can repudiate, cancel, refuse to pay their debts- if they so choose- and there is not a thing anyone can do to them. As for the CA pension cuts you linked to, those were NOT… Read more »

S and P 500
1 year ago

Rex Reason, yes you are absolutely right when you point out that “LA Works” is a municipal and not a state organization. However the news media all reported that it was CalPERS defaulting for the first time on its pensions when those 4 employees of Loyalton had their pensions cut in half. Like the video says, CalPERS has hundreds of participants but CalPERS is still known as the biggest state pension fund in the country.

https://www.youtube.com/watch?v=n35u6Ca1T0E

Mark M
1 year ago

Rex – I understand your point about a State’s ability to invoke sovereign immunity. But I think we have to examine the second order effects of doing so. Years ago, I had a private discussion with an Assistant AG in a state who thought that an entity was acting completely unreasonably in a dispute and proposed that rather than continue to work to resolve the dispute, to instead jinvoke the 11th Amendment as a means to indicate that being unreasonable has consequences. We then had a discussion over the second order impacts, not just in the marketplace relevant to the… Read more »