A rating agency message for Chicago mayor finalists

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CHICAGO — Chicago’s next mayor won’t get much of a honeymoon if the city is to preserve its BBB-plus rating from S&P Global Ratings.

“Immediately on taking office, the next mayor will need to address an unfunded increase in pension contributions, yet-to-be-negotiated police and fire contracts and related back pay, rising debt service, and projected slower economic growth,” S&P said in a special commentary published Wednesday after Tuesday’s election produced the two finalists in an April 2 runoff.

Attorney Lori Lightfoot and Cook County Board President Toni Preckwinkle emerged as the two top vote-getters from the field of 14 candidates in the Feb. 26 race. Both were far short of 50%, putting them into the runoff.

S&P warned it could “take a negative rating action” if action is not timely or the city backslides on its progress toward structural alignment on full actuarial pension funding. It currently assigns a stable outlook.

The commentary offers a roadmap of sorts for the victor on what action is needed and what should be avoided. The city will be pressured to come up new revenue to meet escalating pension contributions of about $600 million over the next four years and address a possible $200 million budget gap in the next budget.

“Property tax fatigue from five years of tax increases tied to the pension contribution ramp-up period will make structurally closing the fiscal 2020 budget gap even more challenging,” S&P said.

Various revenue options on the table like taxes on sports betting, recreational cannabis, and a possible Chicago casino may not be in place in time to benefit the 2020 budget because they depend on state action. They are also uncertain and volatile, S&P warned.

An increase to the real estate transfer tax might prove a good option for the 2020 budget but that too is volatile because collections depend on the health of the real estate market.

The city’s $28 billion of unfunded pension liabilities pose a long term burden and S&P underscored the risks associated with Mayor Rahm Emanuel’s proposed $10 billion pension obligation bond issue that’s now on hold.

“Should the new mayor resurrect the current administration's plans for pension obligation bonds, it could provide near-term budget relief but at the expense of potentially greater long-term expenses because investment returns could likely fall short of debt service,” S&P warned.

Both candidates have voiced skepticism over POB borrowing and said they don’t favor it due to the risks.

Any move to restructure Emanuel’s pension funding overhaul to ease rising contributions “could be a short-term fix, but at the expense of an already extremely underfunded pension system that likely would face near-term liquidity constraints if the current pension contribution ramp-up is not met, which could have a direct effect on the rating,” S&P warned.

Crime and schools also pose challenges and a fiscal burden. “These policy issues are not just important from a social perspective; they also affect the city's tax base and trust in government — both components of any sustainable fiscal plan,” S&P said.

The assessment isn’t all negative. The new mayor may face fiscal headwinds, but the economy remains strong, the city should benefit from the new Democratic administration at the state level, and Chicago Public Schools’ fiscal pressures have eased. “The upcoming challenges could turn into an opportunity for the city to improve its credit profile,” S&P said.

Moody’s Investors Service rates the city at the junk level of Ba1. Fitch Ratings has the city at BBB-minus with a stable outlook and Kroll Bond Rating Agency rates the city A with a stable outlook.

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Budgets Ratings Public pensions City of Chicago, IL Illinois