CN May 28, 2015

 

It all just seems so hopeless. Unfunded pensions are everywhere. A billion dollar hole here, a half-billion one there.  A hundred-billion shortfall in Springfield.  Junk bond ratings. There doesn’t seem any way out of it without giving up hard-earned pensions, imposing draconian tax increases or just declaring bankruptcy and trying to start over.

But all is not lost. There are rational approaches that, while difficult, can help us find a logical pathway out of this mess if we’re all willing to be adults about it and accept some pain in return for future calm.

That seems to be the message from Ralph Martire, Executive Director of the Center for Tax and Budget Accountability. He’s been on the show before and we invited him back because we needed an antidote to all of the fiscal doom and gloom.

So, first things first. What’s all the noise about Moody’s and junk bond ratings?

“A number of the debt instruments that the City got into in the early 2000’s under Mayor Daley,” Martire begins, “Were variable rate debt instruments that were supported by letters of credit by banks that basically said if your bond rating status dips below a certain level, into junk area, (which, of course, will never happen) – once that happens it triggers a “call” on the letter of credit, so the letter of credit gets funded, the bond holders get paid, and the City then has to reimburse the banks.”

That’s why Mayor Emanuel this week had to seek refinancing of that debt, and while he succeeded, the financing costs were about an extra $70 million.

In a way, the City was just as vulnerable as innocent homeowners who fell for adjustable-rate mortgages. The “experts” were pushing these flawed products, and the City’s financial people went for them, too.

“At the time everyone was saying, why doesn’t the City take advantage of these things?” Martine explains. “You could lower your current interest rates. It’s very funny, the short memory the talking heads have about positions that they encouraged the City to take. So at the time it was very much supported by the private sector, saying you’re gonna save the taxpayer money. And no one ever believed that the City of Chicago would drop to junk bond status. Well, reality is a brutal thing.”

And the rating houses were justified in their lowering of the ratings, Martire says.

“The bond rating went down for good reasons. There never has been a rational plan at the City level to deal with its unfunded liability, particularly with their fire and police pension systems, and in fact the City’s unfunded liability for its police and fire pension systems is actually harder to resolve than the State’s unfunded liability…first and foremost, the City of Chicago has far fewer revenue tools in the kit to resolve its liabilities than the State does. The State has far broader taxing authority and can do many more things.”

So, says Martire, the City is looking at a very significant crunch on its revenues. “Everyone now knows that the balloon payment due this year on the pension systems is north of $550 million more than what went to the pension systems last year.  When you consider the City’s general operating budget is only about 3.2 billion, finding another $550 million just out of the blue is a significant challenge, especially when the City’s running a deficit north of $300 million already.”

But that doesn’t mean the City was exactly prompt about confronting the issue.

“The City’s known about it – Mayor Emanuel’s known about it – since he’s taken office. This bump in funding s part of a 2010 law. It’s been on the books since he’s been Mayor. No incremental steps have been taken to get the taxpayers used to paying a little bit more to fund these obligations.”

What Martire proposes, and some political leaders seem to be paying attention, is a dose of very tough medicine. But it’s process that eases with time. Mayor Emanuel has proposed ramping up the payments needed to make solvent the police and fire pension systems. Martine agrees, but foresees a differently-shaped ramp.

“If you’re gonna have a ramp at all it has to be very short – two or three years to get to a level dollar.” he explains. “And then that level dollar has to be consistently funded, and it needs to be a mandatory payment that they can’t cheat. Now that could extend beyond the current payment period because frankly the significant size of the debt load the City’s carrying toward its pension systems is gonna require the re-financing to go out a few more years.”

If Rahm Emanuel adopts, and passes into law, a plan something like this, says Martire, “The emanuel administration would be pursuing good public policy.”

So, how would it work?

“The ramp has to be very short to get to this level dollar amount.” he tells us. “The level dollar amount has to be set so that it is sufficient to grow the funded ratio of the systems every single year, and to grow that funded ratio while accounting for the system’s obligation to pay benefits to both current and future retirees during the payment period. And it has to grow that funded ratio significantly enough so that the systems get healthy sometime in the next 40 to 50 years.”

Sounds pretty good, right? Well, there’s always some bad news…

“We’ve run some tentative numbers on this, and we think that the level dollar amount needed to get these systems to healthy is north of  $450 million a year. So they need significant revenue. And they need to have a rational plan for getting to that revenue, and the payment obligation has to be absolute with no ability for future administrations to renege on it.”

And remember, it has to reach full funding in 2 to 3 years.

“The problem with the plan as it is now is it doesn’t just ramp up next year. It ramps up the next year and the year after that. It’s one of these “ski-slope-looking” repayment plans. Well, you’re never gonna fund that. It’s irrational to think you will, and tax systems don’t operate that way.”

What Martire proposes is a fixed payment that (albeit large) remains stable for 30 or 40 years, just like a home mortgage.

“Because it’s no longer ramping up, because it’s flat, after inflation, in real terms, it becomes a diminishing obligation. So it’s very difficult to get to in the first 3 or 4 years, and probably difficult to fund for 4 or 5 or 6. But by year 7, 8 and 9, and down the road, it becomes something that the fiscal system can handle.”

The Mayor has proposed building a land-based casino, and funneling the proceeds into this pension fund. Nobody seems to believe that its revenues will come anywhere close to $450 million annually, though. But, says Martire, that’s no reason not to do it.

“Whatever it’s gonna generate, it’s gonna generate, and that will be a plus.  But in the interim you need a solid revenue strategy…then if the casinos come on line, you could reduce your current tax levies that have gone to fund the pensions to accommodate this money coming in from the casinos or divert that revenue to funding current services.”

So there’s at least a rational path that could lead to a solution for the police and fire pensions. But what about that billion-plus hole in the upcoming CPS budget, and the related massive shortfall in the Teachers Pension fund?

“Two things you have to understand about the Teacher’s Pension fund,” asserts Martire. “Number one, when the City of Chicago got control over the pension fund from the State as part of the deal for giving Mayor Daley control over the CPS Board, the systems were 90 to 100 percent funded. And in fact, they got north of 100% funded in the early 2000s, and the intentional policy decision was made to stop funding them. So literally the contribution from CPS – from the City – went down to zero. It flattened out, and then they magically got an unfunded liability. I don’t know why this surprised anyone. It was an intentional policy decision. So I think someone needs to step to the plate and say that was a bad decision. And we need to make amends for that and fix it.”

But it’s not just the bad-old City that’s to blame for the mess.

“Second, I think if you look at one of the driving reasons policymakers made that decision was to put more money into current operations – funding the delivery of  education to children in the City of Chicago. And the reason they were looking for new revenue to do that is that the State was dropping the ball on funding schools. So a real reason that contributed to the decision-makers’ under-funding their pensions was the lack of adequate financing from the State. So you can’t really resolve the City of Chicago’s unfunded liability for its teachers without the State really stepping  up to the plate with enhanced revenue and enhanced investments. And the State should, because the State is very much complicit in the policy decision to under-fund the pensions by its under-funding pf operational costs for schools.”

So, new taxes will be needed. “New revenue” is the more politically acceptable term, we should acknowledge. And if you’re looking to the taxpayer for that “revenue”, remember that, as Martire said, the state has more taxing options than the city. And one creative idea, tacitly accepted by even the Governor, is the “modernization” of sales taxes to include some additional consumer-service taxes.

“You can’t ignore the largest and fastest-growing segment of the Illinois economy with your tax system and expect that your revenue will be adequate to balance your budget from year to year,” he explains. And that’s precisely what our current policy on the sales tax does. So our sales tax, of the 45 states with a sales tax, is the 45th most narrow. We only include 5 class categories of services. There are 168 you could go after. We go after 5.”

“What we focus our sales tax on is pretty much the sale of products – hard physical things you can touch. That doesn’t work, because right now, in our economy, the sale of products is only roughly 17% of all economic activity. And what we don’t tax – services – are 72% of the economy.”

We asked Martire abut the often-discussed “Transaction Tax”. The CTU and others have frequently raised the idea of a penny-or-so tax on every transaction at Chicago’s stock exchanges. Proponents say it could raise billions a year, and opponents say it will drive out of Chicago’s central business district one of the most thriving and energetic economic engines it has.  Turns out, Martire doesn’t think much of the idea, either.

It’s got no political viability whatever,” he claims. “It would be very difficult to enforce. It would be great policy at the federal level. And the federal government really ought to look at that. But you’re diverting attention from the primary areas people should devote their time and efforts to. Those are the main taxes that feed state governments across the nation, the income and sales taxes. And our income and sales tax policies are very poor. If we fixed them, if we modernized them, if we made them work in the current economy, we wouldn’t need to even discuss a financial transactions tax.”

Also making the tax almost impossible to consider, he says, is the fact that no other state has one.

So,in 30 minutes, Ralph Martire makes the argument that there is a “rational” way out of this mess. And before you throw up your hands to exclaim that the Illinois political class will never settle anything, Martire begs to differ. “There are a number of elected officials who are very tired of going from crisis to crisis. And that’s no way to govern,” He says.

“We’ve run the numbers,” he proclaims. “The math works. It’s just the political will to make the tax policy reforms and the re-amortization of the pension debt law.”

 

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About Ken

Ken's the host of Chicago Newsroom. A former news director, reporter and radio program host, he's also a past Vice President of the Chicago Headline Club.
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