By: Ted Dabrowski and John Klingner
Moody’s recently released what fiscal realists would say is the true estimate of Illinois’ unfunded state pension liability – $234 billion. The rating agency’s calculation dwarfs Illinois’ official shortfall estimate of $134 billion – the amount Illinois politicians say is needed to fully fund its five state-run pension plans.
Moody’s uses more realistic assumptions than the state does to arrive at Illinois’ debt total, resulting in the $100 billion difference.
That’s a huge problem for ordinary residents and pensioners. If Illinois already can’t pay its debts under the state’s rosey assumptions, it will never be solvent under more realistic assumptions.
The problem is even bigger than that. Moody’s numbers for Chicago and the Chicago Public Schools are nearly double what the official numbers say.
Politicians can continue to underreport reality, but they can’t escape what everybody else is saying – from Moody’s to J.P. Morgan to the Hoover Institution – that Illinois has far more debt than the political class says it does.
More realistic assumptions
The biggest driver of the difference between Moody’s calculation and the state’s official numbers is the discount rate – the rate used to determine just how much the state owes in pension benefits. Moody’s most recent analysis used a rate of 4.14 percent – what it says is a far more appropriate measure of Illinois’ risk.
Moody’s methodology is broadly accepted by fiscal realists, including Nobel-winning economists and other pension experts. In contrast, Illinois’ state government uses a rate of about 7 percent to calculate its pension debt.
Not surprisingly, some politicians, the unions and many in the actuarial industry dispute the use of lower rates. They see any attack on assumptions as an attack on pensions themselves. Regardless, the public pension industry is slowly but surely lowering their discount assumptions. The changes reflect the pressure brought on by requirements to more properly report pension debts and by more critical reporting by financial institutions like Moody’s.
The Illinois Auditor General’s recent pension report highlights how rates used by pension funds across the nation are on their way down.
In 2001, more than 100 of the nation’s 128 largest pension plans used discount rates above 8 percent. Today, just six plans use rates above 8 percent.
Illinois is one of those states that’s dropped its rates below 8 percent in more recent years. However, the state’s official rates continue to be far higher than the discount rate used by Moody’s. Hence the $100 billion reporting difference.
Chicago’s pension debt
It’s not just the state debt that’s being underreported. The same goes for municipal pension funds across the state.
Take Chicago, for example. Or more importantly, what a Chicagoan owes. The official burden versus the more truthful burden is dramatic. Under official numbers, Chicagoans’ share of overlapping Illinois retirement debts totals $86 billion.
But under Moody’s pension numbers, the total debt jumps to $145 billion (that number includes Chicago’s share of the state’s $73 billion in retiree health debts, shown below).
Implications for policy
The debt numbers have become so untenable that Illinois politicians and unions are underplaying them. It’s the only way they can peddle the “fixes” they want – like pension obligation bonds, debt reamortizations and tax hikes – rather than policies that actually address the underlying problem of too many promises and too much debt.
Politicians can try and ignore reality, but the rating agencies, the bond market and the stock market won’t let that denial go on forever. Moody’s is just one of what’s becoming an ever-louder chorus.
The bottom line is Illinois has more debt than it can handle. Illinois needs a constitutional amendment to its pension protection clause that will allow those debts to be reduced in an orderly matter. If not, the markets will force chaos, and that won’t be pretty for anybody.
More on Illinois’ pension crisis:
- Illinois’ other debt disaster: $73 billion in unfunded retiree health insurance benefits
- Overpromising has crippled public pensions: A 50-state survey
- IL’s pension shortfall worsens to $134 B despite strong markets, increased contributions
- Special Report: Illinois state pensions: Overpromised, not underfunded
- Wirepoints’ pension page