“If you are withdrawing from your rainy day fund during a down cycle when your revenues are at a temporary low, you’re not necessarily damaging your structural balance,' says Moody's Investors Service analyst Baye Larsen.
“The downgrade to A3 reflects the continued negative impact of significant pension underfunding,” says Moody’s analyst Baye Larsen. Moody's Investors Service

Rising pension liabilities landed New Jersey its second downgrade in less than four months Monday, with Moody's Investors Service dropping the state's general obligation bonds one notch to A3 from A2.

"The downgrade to A3 reflects the continued negative impact of significant pension underfunding, including growth in the state's large long-term liabilities, a persistent structural imbalance, and weak fund balances," Moody's analyst Baye Larsen wrote in a report released late Monday. "Despite the state's significant increases in pension contributions since fiscal 2012, contributions remain well below the actuarial recommended contribution and unfunded pension debt continues to grow."

New Jersey has incurred 11 downgrades since Gov. Chris Christie took office in January 2010, and only Illinois among the U.S. states has lower ratings.

S&P Global Ratings downgraded New Jersey GOs one notch in November to A-minus citing expected budget pressures from increased pension burdens and revenue volatility. The Garden State is rated A by both Fitch Ratings and Kroll Bond Rating Agency.

Willem Rijksen, a spokesman for the New Jersey Department of Treasury, said the latest downgrade bolsters Christie's calls for pension reforms that he has made since taking office. Rijksen noted that Christie proposed in his 2018 budget address transferring the state's lottery revenues to the pension system for a $13 billion infusion. The Republican governor stated in his speech without specifics that this plan would increase the state's pension funded ratio from 49% to 64%.

"The Governor's proposal to transfer the lottery to the pension is but the latest example of his focus on the pension system dating back to his initial campaign for governor," said Rijksen. "He looks forward to the cooperation of the Legislature in passing legislation to allow for the lottery transfer prior to the close of fiscal 2017."

Rijksen added that Christie's previous pension reforms of 2010 and 2011 will save taxpayers nearly $120 billion over 30 years. He also noted that recent legislation signed Christie providing quarterly pension payments at the end of each quarter will help enhance the system's unfunded liability. The assumed rate of return on pension assets has also been cut from 8.25% to 7.65% over the course of Christie's tenure.

"The state's credit rating would be much worse without these efforts, but as the Governor has long said, bold action is necessary now," said Rijksen. "The pension system must be reformed or it will fail and continue to damage the entire state budget."

Moody's also downgraded by one notch New Jersey's appropriation-backed debt, other-GO related debt, moral obligation debt, intercept programs and certain special tax bonds that require state appropriation.

Many New Jersey appropriation-backed bonds and certificates of participation are now rated Baa1, based on a one-notch distinction Moody's maintains between that debt and the GO rating. The one-notch downgrade also sends two local government state aid intercept programs, the New Jersey Municipal Qualified Bond Program and New Jersey Qualified School Bond Program, to Baa1.

New Jersey Sports and Exposition Authority appropriation-backed bonds, with a two notch separation from the state rating, are now Baa2.

The downgrade impacts roughly $37 billion of rated debt. The outlook on the state's ratings was revised to stable at the new, lower rating. It had been negative.

Larsen noted that the downgrade takes into account an expectation that the statutory pension contribution schedule will be increasingly difficult to meet due to a lack of structural budget adjustments to incorporate General Fund tax reductions that took effect in January 2017. She said the state is also relying on "optimistic revenue growth assumptions" for balancing its budget and is facing the prospect of $1.1 billion in revenue reductions by the 2021 fiscal year.

"The stable outlook reflects that the current A3 rating is well positioned for the next 12-18 months due to solid economic performance and the expectation that any fiscal 2017 budget gaps will remain manageable," said Larsen. "However, in the longer term, the state's credit profile will continue to weaken as large long-term liabilities grow and the state's budget is challenged by growing pension contributions in a low revenue growth environment."

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