CHICAGO – Illinois dodged a rating bullet Wednesday when S&P Global Ratings affirmed its BBB-minus rating and removed it from CreditWatch.
Action by two other rating agencies still looms.
Deep fiscal strains are still pressuring the state’s weak credit profile, but the General Assembly’s passage of a $36.1 billion fiscal 2018 budget with $5 billion of tax increases eases near-term ills, S&P said.
The rating agency affirmed the state’s general obligation rating at the lowest possible investment grade level as well as its junk-rated BB-plus appropriation-backed credits, which include Chicago’s motor fuel bonds, and the BB-minus rating on moral obligation-backed debt. The state’s sales-tax backed Build Illinois bonds were also removed from watch and affirmed at AA-minus.
The ratings were removed from CreditWatch “because we no longer believe the state is at risk of experiencing a liquidity crisis in the near term as it was before,” S&P wrote.
The rating agency assigned a stable outlook.
“Following Illinois' enactment of a fiscal 2018 budget, which required a bipartisan vote of the General Assembly to override the governor's veto, the odds of its GO credit rating falling to below investment grade within the next year has substantially diminished,” S&P wrote.
S&P warned in its June 1 one notch downgrade to BBB-minus that a further cut loomed if the state entered a third fiscal year July 1 without a budget in place that stabilized its fiscal foundation.
“Through a combination of spending cuts and tax increases, the budget package brings the state's revenue and expenditure base much closer to structural alignment and reduces the near-term uncertainty that had come to characterize its financial operations,” S&P wrote.
“Crucially, budget enactment also reasserts state authority over its finances while simultaneously helping preserve and strengthen the adequacy of its resources to reliably cover its priority obligations,” analysts added.
Lawmakers who supported the package embraced the first good credit news in some time. The state has seen eight downgrades since early 2015.
“The point of this balanced budget was to end the chaos and move the state toward the stability it desperately needs,” said John Patterson, spokesman for Senate President John Cullerton, D-Chicago. “Those efforts appear to have been recognized and appreciated. ”
House Speaker Michael Madigan, D-Chicago, said he was pleased.
“S&P’s action today is a strong signal that the balanced budget enacted by Republicans and Democrats is an important step in the right direction," Madigan said in a statement. "There is more work to be done, and it’s clear from S&P’s statement that rating agencies, like all Illinois residents, are hoping Governor Rauner will work in good faith with legislators to address these challenges rather than rejecting compromise by turning further to the extreme right.”
Fitch Ratings has the state’s BBB rating on watch. It offered an initial positive assessment as the budget developments were unfolding last week.
Moody’s Investors Service, however, responded to the budget news by putting the state’s Baa3 rating on review for a downgrade. A one-notch cut would leave it at a speculative grade. The review is expected to be completed in the coming weeks.
S&P’s report echoed the longer-term worries raised by other market participants as the budget does not address the state’s massive $126.5 billion unfunded pension burden and leaves it with a $15 billion delinquent bill backlog that will take years to erase even with borrowing.
“It is largely because of the bill backlog, poorly funded pension systems, and ongoing political dysfunction that the state's rating is well below that of peer-comparison states with similar economic profiles,” S&P's report said.
The new budget relies on about $5 billion of new revenue primarily from higher income tax rates, and $2.5 billion in cuts.
It also tallies $1.4 billion in savings from various pension related changes. A portion will come from a change that allows the state to smooth, over a five-year period, contribution increases related to actuarial assumption changes by the pension plans.
“In our view, this change represents a cost deferral more than a genuine expenditure,” S&P wrote. “More favorably from a credit perspective, the legislation limits end-of-career pay increases (pension spiking).”
Creation of a Tier 3 pension benefit option for newly hired employees at school districts and public universities will produce savings for the state by reducing the growth of its future pension liabilities but the expectation of $500 million in fiscal 2018 savings “may prove premature,” S&P said.
The budget package includes a plan to pay down the state's bill backlog by as much as $8 billion in part with at least $3 billion GO borrowing.
The expected action is factored into the BBB-minus rating and given the expectation that interest costs could be lowered from the current 9% or 12% rate the state pays on its overdue debt, “a debt financing does offers the potential for fiscal savings,” S&P said. “Various provisions included in the budget legislation should alleviate Illinois' near-term liquidity pressure and ensure its ability to fund its core priority payments in the coming weeks.”
The Rauner administration said the rating action means little against the backdrop of the state's fiscal woes that extend beyond its budget. "Illinois still has the lowest credit rating in the nation. The legislature just passed another unbalanced budget that does nothing to address the state's problems but takes more money from working families. This is nothing to be proud of," said Rauner spokeswoman Eleni Demertzis.
