Lawmakers in Springfield appeared to face up to Illinois’ grim financial realities when they passed the first state budget in three years. The spending plan approved over Gov. Bruce Rauner’s veto does take a few steps to address deepening fiscal woes ignored during years of political stalemate between the governor and Illinois House Speaker Michael Madigan. It brings a measure of relief to state vendors owed $15 billion in unpaid bills, and might stave off a downgrade of Illinois bonds to junk status.
When it comes to the state’s gravest budgetary peril, however, the 2018 budget is another exercise in denial and can-kicking. Legislators did nothing about unfunded state employee pension obligations estimated at $130 billion, an albatross that will surely drag Illinois under unless aggressive action is taken to reduce the shortfall. In fact, the new budget could even enlarge the pension funding sinkhole.
State contributions to pension plans will decline $1.5 billion in fiscal 2018, by far the largest single spending cut in the budget. And some $900 million of that reduction reflects wishful thinking about future investment returns at state employee pension funds.
Last year, overseers of the Teacher’s Retirement System and other large state employee retirement funds joined counterparts at public pension systems around the country in reducing assumed investment returns to around 7 percent from unrealistically high levels that prevailed for several years. It was a prudent step, based on actual long-term investment performance and current economic trends.
But it had the unpleasant effect of revealing that Illinois’ pension gap was even larger than previous estimates. A lower assumed rate of return means the pensions need more money now to generate enough investment earnings to cover future pension payments. And that, in turn, means legislators must allocate more current funds to pension contributions, not less.
Less is what the pension funds will get under the new budget, which delays implementation of the more-realistic investment return assumptions. Rather than impose the new rates of return immediately, as they should, lawmakers are phasing them in over five years. This allows them to contribute less while claiming to meet pension funding obligations.
SHARING THE BLAME
Ironically, this is a rare area of agreement between arch-foes Madigan and Rauner. The governor excoriated Madigan’s 32 percent income tax hike, but uttered not a peep about his pension legerdemain. Perhaps that’s because he proposed “smoothing” in reduced rate-of-return assumptions in his own budget blueprint earlier this year.
Thus, both sides share blame for perpetuating pension funding practices that created the massive shortfall in the first place. For years, Illinois failed to make contributions sufficient to fully fund obligations to future retirees. Only recently did the state step up contributions. But now Illinois is taking a step backward. Even in a best-case scenario, smaller contributions will slow the return to pension solvency. And the enormous pension shortfall will grow larger if the rosy return assumptions embraced by our political leaders don’t come true.
Rather than putting Illinois on course to fiscal stability, reducing pension contributions sets the stage for a deeper budget crisis in the future. Meanwhile, the state’s largest financial obligation remains a source of uncertainty hanging over Illinois businesses and taxpayers.
It also may thwart legislators’ efforts to prevent Illinois debt from dropping to junk status. Rating agency Moody’s Investors Service cited a lack of “concrete measures” to address pension underfunding when it put the state’s credit under review after the budget passed. Moody’s realizes what Illinois politicians would rather not acknowledge—state pension obligations can’t be wished away.