Illinois gets some breathing room from Moody's

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CHICAGO — Illinois’ rating risks eased Thursday as Moody’s Investors Service moved the state’s outlook to stable from negative.

Moody’s also affirmed the rating at Baa3, the lowest investment grade level, which applies to both the state’s $32.4 billion of general obligation bonds and its $2.5 billion of sales tax backed Build Illinois bonds.

About $3 billion of state-supported bonds sold by the Metropolitan Pier and Exposition Authority and by the state under its Civic Center program were affirmed at one notch lower.

“The state's stable outlook is in line with expectations that, despite continued under-funding of pension liabilities, any credit deterioration in the next two years will not affect the state's finances, economy, or overall liabilities to an extent sufficient to warrant a lower rating,” Moody’s wrote. “This view is supported by the continuing budgetary benefits of the state's recent income tax increase, and near-term fiscal risks that remain manageable.”

The outlook time range gets the state past the November elections in which voters will choose a governor, state House members, and one-third of the Senate.

In June, state lawmakers passed and Gov. Bruce Rauner signed the first, full-year, on-time budget of his term that began in 2015.

Moody's was the weakest link in the state's low ratings because of the negative outlook at the lowest investment-grade rating.

S&P also has the state at its lowest investment grade level of BBB-minus, with a stable outlook. Fitch Ratings has it one notch higher at BBB with a negative outlook.

The two-year budget impasse between the Republican governor and Democratic-led General Assembly dragged the state's rating down to the weakest levels among states and its spreads to a high of more than 300 basis point to the Municipal Market Data benchmark.

Spreads on the 10-year were at 167 bp and at 158 bp on the 25 year Thursday, according to MMD.

“The state's GO rating incorporates substantial credit strengths — sovereign capacity to raise revenue and reduce expenditures, and a broad, diversified tax base — as well as increasing challenges from fixed costs attributable to employee pension and retirement health benefits,” Moody’s wrote.

Moody’s holds the sales tax bonds at the GO level despite strong coverage ratios because they are “not sufficiently separated from the state's general operating needs to carry a higher rating than the GO, under the Special Tax methodology.”

The state could win an upgrade if it adopts a comprehensive plan to address pension liabilities, makes progress in lowering the bill backlog that does not depend on long-term borrowing, and undertakes measures to achieve sustainable budget balance.

The state is carrying $129 billion in unfunded pension liabilities as assessed by system actuaries and a $7 billion bill backlog. Moody’s in past reports has put the state’s pension liabilities at $201 billion based on the application of its own assumptions.

Renewed growth in the bill payment backlog that reverses progress achieved through financing, a reduction in pension contributions to provide fiscal relief, and substantial assumption of debt or pension liabilities accrued by local governments could drive a downgrade.

The state’s $38.5 billion fiscal 2019 budget benefits from the 2017 income tax hike but faces some uncertainties including a reliance on $450 million of uncertain pension reform savings and the $250 million sale of the state’s downtown Chicago headquarters, and it doesn’t account for $400 million in overdue employee raises.

“While the emergence of a more collaborative budget process has potentially constructive credit implications, the substance of the package largely represents an extension of the status quo," S&P said in a recent review.

“Getting a budget done and avoiding a political stalemate is a positive and something we were specifically watching for,” Fitch Ratings analyst Eric Kim said recently. “That said, the enacted budget has some risks and it doesn’t make material progress” on the state’s long-term strains.

Illinois has 12.8 million residents and ranks sixth by population among the U.S. states. The state's gross domestic product of $820.4 billion in 2017 ranks fifth.

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