By: Ted Dabrowski and John Klingner
Illinois’ battered finances took a hit of sorts recently when an appeals court ruling allowed a challenge to the validity of $14 billion in outstanding Illinois general obligation bonds to continue. John Tillman, CEO of the Illinois Policy Institute, is the plaintiff in the lawsuit that seeks to block the repayment of billions of dollars that remain outstanding on the bonds.
What’s being litigated is whether the bonds conflict with Illinois’ constitutional requirement that general obligation bonds be issued only for “specific purposes.” If the lawsuit is successful, it could hurt Illinois’ ability to borrow its way out of the current crisis. But even if it fails, the fact that it’s moving forward could cause problems for the state.
In question are the $10 billion in bonds issued in 2003 to fund a portion of the state’s pension shortfall and another $6 billion issued in 2017 to pay down some of Illinois’ unpaid bills. For details on the lawsuit, read Wirepoints’ analysis:
- Is the Lawsuit To Invalidate Certain Illinois Bonds Frivolous? An Education is at Hand
- To Bar Lawsuit Over Bond Issuance, Court Defies Law’s Most Fundamental Principle
- Tillman v. Pritzker Lawsuit Allowed To Proceed
Moody’s Investors Services commented on the recent court ruling, saying the news is credit negative. Their comment does not imply a downgrade, just that everything else equal, the resumption of the suit is a negative for Illinois’ finances: “The ruling is credit negative because it prolongs a legal challenge that, while unlikely to prevail, carries severe risk and could limit the government’s financial options at a time when the coronavirus pandemic is weighing on revenue.”
That’s a problem considering Gov. J.B. Pritzker plans a $1.3 billion bond issuance if his progressive tax hike referendum fails.
Moody’s further warned: “The existence of litigation against the backlog bonds would likely keep the state from using this option [the $1.3 billion bond] even if voters in November defeat a proposal to allow the state to raise revenue by imposing a progressive income tax.”
The second and larger problem is that lawmakers plan to borrow $5 billion to “balance” the 2021 budget, officially projected to be more than $6 billion in the hole. We covered the budget release and that deficit here.
The $5 billion will come from a three-year loan under the Federal Reserve’s new Municipal Liquidity Facility, a new program that provides loans to governments negatively impacted by the coronavirus. Pritzker’s expectation is that the HEROES act will give Illinois enough federal aid to immediately pay down the $5 billion MLF loan.
But Congress has just recessed with no assurance that a package for state and cities will be passed. If aid never materializes, then Illinois will be stuck with the short-term $5 billion loan and no easy way to repay it.
The situation is even more complicated because if the lawsuit is successful, the $5 billion borrowing would be constitutionally limited to one year (see Appendix, Subsections (c) and (d) of Article 9, Section 9). Rolling over such large amounts of debt for one-year periods would create liquidity issues the state can ill afford.
The big three ratings agencies already rate Illinois’ credit one notch above junk. One more downgrade and Illinois will be in unprecedented financial territory. No state has ever been rated junk before.
That’s a major reason why Illinois’ options are so limited. Earlier this year Illinois had to abandon the financial markets and borrow $1.2 billion from the Fed’s MLF. So far, Illinois is the only municipal government in the country to have tapped the MLF.
As we’ve stated before, we don’t expect the lawsuit to ultimately succeed – see our reasons why here – but it’s worth keeping an eye on.
Read more from Wirepoints on Illinois’ financial crisis:
- Illinois, Get Real If You Truly Want The Federal Money You Banked On
- Mendoza, Pritzker warn of budget cuts without federal money
- No, Illinois Does Not Send More To Federal Government Than It Gets Back
- No cuts, record spending, and hoping for a bailout. Eight things you need to know about Illinois’ 2021 budget.
From Article IX of the Illinois Constitution:
SECTION 9. STATE DEBT
(a) No State debt shall be incurred except as provided in this Section. For the purpose of this Section, “State debt” means bonds or other evidences of indebtedness which are secured by the full faith and credit of the State or are required to be repaid, directly or indirectly, from tax revenue and which are incurred by the State, any department, authority, public corporation or quasi-public corporation of the State, any State college or university, or any other public agency created by the State, but not by units of local government, or school districts.
(b) State debt for specific purposes may be incurred or the payment of State or other debt guaranteed in such amounts as may be provided either in a law passed by the vote of three-fifths of the members elected to each house of the General Assembly or in a law approved by a majority of the electors voting on the question at the next general election following passage. Any law providing for the incurring or guaranteeing of debt shall set forth the specific purposes and the manner of repayment.
(c) State debt in anticipation of revenues to be collected in a fiscal year may be incurred by law in an amount not exceeding 5% of the State’s appropriations for that fiscal year. Such debt shall be retired from the revenues realized in that fiscal year.
(d) State debt may be incurred by law in an amount not exceeding 15% of the State’s appropriations for that fiscal year to meet deficits caused by emergencies or failures of revenue. Such law shall provide that the debt be repaid within one year of the date it is incurred.
(e) State debt may be incurred by law to refund outstanding State debt if the refunding debt matures within the term of the outstanding State debt.
(f) The State, departments, authorities, public corporations and quasi-public corporations of the State, the State colleges and universities and other public agencies created by the State, may issue bonds or other evidences of indebtedness which are not secured by the full faith and credit or tax revenue of the State nor required to be repaid, directly or indirectly, from tax revenue, for such purposes and in such amounts as may be authorized by law. (Source: Illinois Constitution.)