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New mayor Lori Lightfoot unveiled $838m shortfall last week
It was Rahm Emanuel, the former Obama White House chief of staff and mayor of Chicago, who said: “You never want a serious crisis to go to waste. And what I mean by that is an opportunity to do things that you think you could not do before.” Lori Lightfoot, who succeeded Mr Emanuel as Chicago mayor in May, must be very grateful for the opportunity she now has. On August 29, she told Chicagoans that the city faced a 2020 budget deficit of $838m, about a third of which is because of higher pension costs.
The news gets worse for subsequent years. Even with highly optimistic assumptions for earnings on investments, the city’s pensions bill will grow by another $200m in 2021 and $400m in 2022. Good-government scolds have been warning for years of a crisis from pension underfunding. It looks as though Chicago is where that starts. There had been leaks about a near billion-dollar deficit for the coming year, but the municipal world was taken aback by the mayor’s estimates.
At the beginning of the year, it was expected that Chicago would need to find no more than $200m extra for 2020 between the sofa cushions or in the bond market. Mr Emanuel had imposed some politically difficult budget reforms, but it is clear that Ms Lightfoot has an even bigger crisis, or “opportunity” to use Mr Emanuel’s language. Chicago would now find it difficult to access the municipal bond market, and its outstanding debt trades at 150 basis points over the muni bond index. The city cannot even seek court protection from its creditors, as Detroit did in 2013. The constitution of the state of Illinois does not provide for municipalities’ filing under Chapter 9 of the federal bankruptcy law. After Detroit filed, it was able to go to the Michigan state government for aid and, eventually, guarantees for new bond issues. The state of Illinois, unfortunately, has its own serious problems with current spending and unfunded pensions. The state government estimated last year that it had about $133.5bn in unfunded pension liabilities. The state’s funding ratio of 40.2 per cent was one of the lowest in the country. That is probably optimistic, since the state assumes a 7 per cent rate of return on its pension funds, about three times its recent earnings. More than a quarter of the state government budget is spent on pension costs.
There have been attempts by elected officials to alleviate the problem, including reductions in inflated “cost of living adjustments” increases or future benefit accruals. However, in 2015, the state’s supreme court ruled that it was unconstitutional to reduce any past or future pension benefits under contracts at the start of a state worker’s employment.
Mr Emanuel, along with other reformers, advocated for a constitutional amendment to allow for pension benefit reductions, to deal with the state and municipal funding shortfall. In her election campaign, Ms Lightfoot denounced Mr Emanuel’s proposed reform as an “attack on working families”. Governor Jay Pritzker has also publicly opposed any changes in constitutional pension protections. The governor does not actually have any authority to initiate or stop constitutional amendments, which require a three-fifths majority of both houses of the Illinois General Assembly and subsequent approval by the voters in a general election. Since the state employee’s unions are vehemently opposed to any benefit cuts and have a strong influence on the legislature, no one expects any constitutional amendments to pass by the 2020 elections.
Before then, the major effort by both the Chicago and Illinois state governments will be to close the funding gap for their current-year budgets. The mayor has not disclosed any details of her budget plan, which will probably require tax increases that need approval by the state legislature before a mid-October deadline. The governor and state legislative leaders are going to try to pass another constitutional amendment allowing for a graduated income tax. Some of that would be allocated to Chicago. The other major fix, so to speak, is a potential agreement on marijuana legalisation, from which the state and city hope to raise between $700m and $1bn in new tax revenue. There is no real hope for constitutional pensions reform for Chicago and the state government before 2022.
The state government can probably squeak by for the next couple of years. It is not entirely clear, though, how Chicago will cover its increasing pensions bill as well as its current spending, given its credibility
problem in the capital markets. Howard Sitzer, a municipal analyst at CreditSights, a research company, says: “Mayor Lightfoot is a fairly steely minded, impressive intellect. I could see where she comes up with something drastic . . . but the city’s disclosure leaves a lot to be desired.” Some tax increases are possible, but as a muni-oriented hedge fund manager adds: “This hole is so big you can’t tax your way out of it. They also have to reduce their pension liabilities and cut current expenses. But at least Lightfoot has come in with a humble and can-do attitude.
Chicago’s deficit heralds US pensions crisis | Financial Times
It was Rahm Emanuel, the former Obama White House chief of staff and mayor of Chicago, who said: “You never want a serious crisis to go to waste. And what I mean by that is an opportunity to do things that you think you could not do before.” Lori Lightfoot, who succeeded Mr Emanuel as Chicago mayor in May, must be very grateful for the opportunity she now has. On August 29, she told Chicagoans that the city faced a 2020 budget deficit of $838m, about a third of which is because of higher pension costs.
The news gets worse for subsequent years. Even with highly optimistic assumptions for earnings on investments, the city’s pensions bill will grow by another $200m in 2021 and $400m in 2022. Good-government scolds have been warning for years of a crisis from pension underfunding. It looks as though Chicago is where that starts. There had been leaks about a near billion-dollar deficit for the coming year, but the municipal world was taken aback by the mayor’s estimates.
At the beginning of the year, it was expected that Chicago would need to find no more than $200m extra for 2020 between the sofa cushions or in the bond market. Mr Emanuel had imposed some politically difficult budget reforms, but it is clear that Ms Lightfoot has an even bigger crisis, or “opportunity” to use Mr Emanuel’s language. Chicago would now find it difficult to access the municipal bond market, and its outstanding debt trades at 150 basis points over the muni bond index. The city cannot even seek court protection from its creditors, as Detroit did in 2013. The constitution of the state of Illinois does not provide for municipalities’ filing under Chapter 9 of the federal bankruptcy law. After Detroit filed, it was able to go to the Michigan state government for aid and, eventually, guarantees for new bond issues. The state of Illinois, unfortunately, has its own serious problems with current spending and unfunded pensions. The state government estimated last year that it had about $133.5bn in unfunded pension liabilities. The state’s funding ratio of 40.2 per cent was one of the lowest in the country. That is probably optimistic, since the state assumes a 7 per cent rate of return on its pension funds, about three times its recent earnings. More than a quarter of the state government budget is spent on pension costs.
There have been attempts by elected officials to alleviate the problem, including reductions in inflated “cost of living adjustments” increases or future benefit accruals. However, in 2015, the state’s supreme court ruled that it was unconstitutional to reduce any past or future pension benefits under contracts at the start of a state worker’s employment.
Mr Emanuel, along with other reformers, advocated for a constitutional amendment to allow for pension benefit reductions, to deal with the state and municipal funding shortfall. In her election campaign, Ms Lightfoot denounced Mr Emanuel’s proposed reform as an “attack on working families”. Governor Jay Pritzker has also publicly opposed any changes in constitutional pension protections. The governor does not actually have any authority to initiate or stop constitutional amendments, which require a three-fifths majority of both houses of the Illinois General Assembly and subsequent approval by the voters in a general election. Since the state employee’s unions are vehemently opposed to any benefit cuts and have a strong influence on the legislature, no one expects any constitutional amendments to pass by the 2020 elections.
Before then, the major effort by both the Chicago and Illinois state governments will be to close the funding gap for their current-year budgets. The mayor has not disclosed any details of her budget plan, which will probably require tax increases that need approval by the state legislature before a mid-October deadline. The governor and state legislative leaders are going to try to pass another constitutional amendment allowing for a graduated income tax. Some of that would be allocated to Chicago. The other major fix, so to speak, is a potential agreement on marijuana legalisation, from which the state and city hope to raise between $700m and $1bn in new tax revenue. There is no real hope for constitutional pensions reform for Chicago and the state government before 2022.
The state government can probably squeak by for the next couple of years. It is not entirely clear, though, how Chicago will cover its increasing pensions bill as well as its current spending, given its credibility
problem in the capital markets. Howard Sitzer, a municipal analyst at CreditSights, a research company, says: “Mayor Lightfoot is a fairly steely minded, impressive intellect. I could see where she comes up with something drastic . . . but the city’s disclosure leaves a lot to be desired.” Some tax increases are possible, but as a muni-oriented hedge fund manager adds: “This hole is so big you can’t tax your way out of it. They also have to reduce their pension liabilities and cut current expenses. But at least Lightfoot has come in with a humble and can-do attitude.
Chicago’s deficit heralds US pensions crisis | Financial Times
