By: Mark Glennon*
Never mind if the market is already trading Illinois general obligation bonds at junk levels, as The Bond Buyer reported today. I say credit rating agencies should wait until next month to downgrade them to junk because, well, it would be such an appropriate anniversary.
July will be the ten-year anniversary of when credit rating agencies figured it might be wise to downgrade subprime mortgage securities igniting the Great Recession.
The subprime meltdown had already begun by July 2007, but that’s when most rating agencies began their downgrades. Many subprime lenders had already gone bankrupt, including Accredited Home Lenders Holding, New Century Financial, DR Horton and Countrywide Financial. Home prices had begun falling almost a year earlier. AIG had stopped issuing guaranties on subprime securities. Bear Stearns had halted redemption on some of its subprime funds. Freddie Mac had ceased buying subprime mortgages. The list goes on.
So it is with Illinois and many of its municipalities including, most importantly, Chicago: The ratings agencies are telling us what we already saw. That’s not to say Illinois bonds are as risky as subprime securities were. Far from it. It’s the lateness of the call by the credit rating agencies that is comparable.
Rating agencies are hardly alone.
Plenty of others share the blame for why Illinois has slept until the flames are upon us. The press is forever suckered by phony government budgets and gimmick legislation. Ignorance about pensions remains rampant. Quack populists exploit clueless voters with harebrained ideas like the Privilege Tax and a financial transactions tax. Bill after bill is passed into law by innumerate lawmakers willfully ignorant about economics or even what their legislation says.
In the very near term look for two topics to emerge.
Triage is first. Two rulings this week by federal judges basically said “Oh, by the way, the law is the law. Those federal consent decrees mandating Medicaid payments mean what they say.”
In other words, certain Medicaid expenses cannot be shoved off with the rest of Illinois $14 billion of unpaid bills. It doesn’t matter that the legislature passed continuing appropriations for things like bond payments, pension contributions and salaries, which so far have been getting paid first. Some kind of sharing or prioritization for those Medicaid bills now has to be worked out. This will be like a battlefield surgeon who has to decide whom to let bleed out.
Second, the state budget has been consuming headlines, but attention will soon return to Illinois’ countless insolvent municipalities, including Chicago and many school districts. They are looking to the state for help in one form or another, but not much will materialize. The money just isn’t there.
In other words, it will become apparent that drunks are looking to a drunk for help standing up. Illinois’ fiscal crisis has to be seen for what it is — a consolidated crisis of state and local governments. That’s where the numbers are mind-blowing.
In the longer term, our crisis will get worse until we have a five or ten-year, comprehensive, believable plan to turn turn things around. That plan must include pretty much every pro-growth reform ever discussed. To avoid further flight, only sensible, moderate tax increases passed concurrently with the other reforms will help.
That plan must include debt reduction, including pension liabilities, and that requires bankruptcy, which we wrote about last week. Same for Chicago and many other municipalities.
*Mark Glennon is founder of Wirepoints. Opinions expressed are his own.