By: Mark Glennon*
– Chicago is negotiating to undue a key part of its 2014 pension reform, even while it fights in court to uphold the law.
– The law it’s attempting to save in court is the very one that contributed to the credit downgrades and liquidity panic of the past few weeks.
– Now, Chicago has concluded that it’s not liable for pension obligations after all. It might be right, but the argument is being squandered.
That’s only part of the craziness into which the city’s pension crisis has deteriorated, and it’s likely a preview of what many Illinois municipalities will face shortly.
Just eleven months ago, high-fives abounded when Governor Quinn signed a pension reform law for Chicago, passed by the General Assembly with substantial bipartisan votes and approval of key elements in the business community. The law promised to put two of Chicago’s pensions on a path to full funding by 2055, through two very distinct means. First, it included elements of actual reform — lower benefits and higher contributions from employees. Second, and far more impactful, it scheduled a ramp-up of much larger annual contributions by the city to those pensions, including an enforcement mechanism with teeth that allows tax money to be intercepted and deposited into pensions.
You may recall the fretting at the time about an additional $50 million needed to fund the schedule for last year, which was addressed with a special surtax on phone services. How silly. Chump change. Much higher charges to the city were about to ensue, and, sure enough, fear over how the city can make those big contributions has been part of the credit downgrades and liquidity concerns that have captured headlines in the past few weeks. Yes, a possible $2.2 billion obligation on swap contracts has been the bigger concern, but rating agencies and municipal market participants, unquestionably, are also spooked by the pension payments coming up soon.
On the right is a segment of the schedule of those annual payments required from taxpayers under last year’s law, taken from the disclosure documents for the city’s bond sale scheduled for this week. It shows aggregate contributions for the four pensions of the city itself. (The disclosure documents can be downloaded at Munios.com.) The back-loading is readily apparent, especially for a city with no population growth. It was a kick of the can. (Those contributions are for the total of all four of the city’s pensions. The two not covered by the 2014 law are subject to a similar ramp-up under a 2010 law.)
Note the jump coming just for next year, which is part of what rattled the bond markets and rating agencies recently — over $1.1 billion for 2016. And it will get much worse with each future year, jumping to over $2 billion in twelve years.
Mayor Emanuel’s response, predictably, has been to ask Springfield to relax the schedule, and the bond offering documents say expressly that the city is negotiating with unions for that. “Please,” in other words, “let us kick the can a little longer.”
Well, kicking evidently doesn’t get the can to fly any longer. The muni bond market got tired of it, and the near term ramp-up is especially worrying. The kick was duffed, in other words — too short to ignore.
So, what’s the city doing in court? Fighting to uphold the very law from which the city wants relief. But if the law is invalidated, as was the state pension reform law, then the funding schedule will revert to lower contributions required under prior law. You figure out what the end result is supposed to be.
The good news is that the city has a new, intriguing argument, which is that it’s not liable for the direct obligations to pensioners. It’s only obligated, as the city sees it, for whatever annual payments the legislature sets. The argument appears to have merit, which we wrote about in detail last week, and it may apply to other municipal pensions as well.
The problem, however, is that the city is misusing that argument in an attempt to uphold the reform law and its unaffordable new schedule of contributions. It’s claiming that its immunity from liability to pensioners distinguishes its case from the state, which recently had its pension reform law invalidated. But the actual reforms would reduce the city’s total unfunded pension liability by only about 10%, about $2 billion, according to an earlier estimate. That’s not enough, the market’s recent response has told us, which sent yields to junk status. The payment schedule, which already incorporates those savings, remains unaffordable.
Keep in mind that the real numbers are much worse than what’s above. The official numbers above supposedly set what are called “ARC” payments — actuarially required contributions. In fact, they are not actuarially sound. Also, Springfield’s methods result in far lower contributions than would be required under new governmental accounting standards or under those used by Moody’s, the rating agency. The bond disclosure documents warn expressly about just that.
There are also the pensions of overlapping layers of government. Just the five that are supported by property taxes on Chicagoans, according to the bond documents, have another $35 billion of unfunded liabilities, in addition to Chicago’s $20 billion. Like Chicago, they cannot be expected to get away with can kicking much longer.
With Chicago already facing a liquidity crisis from the start of the payment ramp-up, you’d think that real reform might be under consideration. Real reform perhaps could be based on the city’s argument that it’s not liable to pensioners. If that argument is valid — and we should have a lower court ruling on it within a few months — real reform could proceed as follows: Springfield could rescind all annual payment requirements to existing pensions. The city would, instead, begin funding an alternative plan with annual payments affordable for the city, to partially replace what pensioners lose from wind-down of the old ones.
No political will for anything remotely like that exists in Illinois. To the contrary, the majority of the General Assembly has, as its core notion of reform, forcing more money into pensions. “Chicago ain’t ready for reform,” an alderman once famously said, and it’s true today about pensions.
And it’s not just for Chicago. Pursuant to the 2010 statewide reform law, starting next year, all underfunded Illinois municipal pensions will begin intercepting tax money, depositing it into pensions in increasing amounts designed to “hit the ARC” in a way similar to Chicago. Most won’t be able to afford it. The onset of that intercept law is a hugely untold story. What’s happening to Chicago is a precursor.
When Illinois congratulated itself last year for passing Chicago’s reform bill, we wrote, The headlines should have been “Bill OKs More Taxpayer Debt to Chicago Pensions.” Real pension reform was then, and remains today, of no interest to the majority in the Illinois’ General Assembly.
*Mark Glennon is founder of WirePoints. Opinions expressed are his own.
Updated 5/25/15 to clarify that the chart is for the aggregate of the four city pensions.