Tag Archives: Illinois Fiscal Breaking Points

Proposed changes to Illinois’ pension benefits

Illinois Governor Pat Quinn proposed several changes to the state’s pension plan last week designed to shore up the state’s fund that has one of the nation’s largest unfunded liabilities. The Chicago Tribune summarizes the potential changes:

Illinois’ unfunded pension liability has grown to a huge $83 billion after the state skimped on funding for years. In fiscal 2013, which begins July 1, the state’s payment into the pension system will hit $5.2 billion, or 15 percent of general revenue spending – up substantially from 6 percent in 2008, according to the governor’s office.

Quinn, a Democrat, said his plan would leave the system, which covers state, local school, university and community college employees, 100 percent funded by 2042. Without it, he said Illinois will have expected payments totaling nearly $310 billion between 2012 and 2045, when a $32.7 billion unfunded liability would still remain.

“This plan rescues our pension system and allows public employees who have faithfully contributed to the system to continue to receive pension benefits,” he said.

Under the proposal, workers’ pension contributions would increase by 3 percent, while cost-of-living adjustments would be reduced. A retirement age of 67 would also be phased in.

Governor Quinn says that these changes will save state taxpayers between $65 and $85 billion in the next 30 years. The plan would also take steps to try to reduce abuse of the public sector pension system on the part of union employees that the Tribune exposed this fall.

The reforms are designed to bring the Illinois pension fund in line with the practices that the Governmental Accounting Standards Board advocates. While these reforms are marginal improvements toward putting the pension fund on a sustainable trajectory, they do not address the fundamental problem with the GASB standards. Public pensions are guaranteed benefits, so they should be valued at the risk free discount rate and invested in safe assets like US Treasury bonds. The unfunded liability is, in reality, much larger than what GASB standards suggest because they do not require the use of the risk free discount rate.

Furthermore, the reforms would do nothing to ensure that future politicians do not continue the decades of irresponsible practices that have gotten the state’s fund to where it is today. While the plan says that going forward the state will make the required contributions, we know that current legislators cannot tie the hands of future legislators. Future policymakers could easily return to skipping pension fund payments and painting a rosy picture of the funds assets with accounting gimmicks.

As Eileen and Ben point out in their paper “Illinois’s Fiscal Breaking Points,” the state needs larger institutional reforms to achieve fiscal stability and improve its bond rating. These changes could include a constitutional cap on the unfunded liability, or, better, a transition away from defined benefit public pensions to a defined contribution system.

Illinois’ Fiscal Breaking Points

In a forthcoming paper with Eileen Norcross,“Illinois’ Fiscal Breaking Points,” we un-pack the current crisis in Illinois.

Our review of Illinois’ fiscal and economic indicators shows in addition to a $7.7 billion deficit in the state’s General Fund, Illinois faces $173 billion in unfunded pension liabilities as well as $70 billion in outstanding bonded debt.

To make matters worse the policies currently in place to keep state spending in check are loophole-ridden.  For example, the state has a balanced budget requirement but Section 25 of the State Finance Act allows the legislature to defer Medicaid claims and other payments into the next fiscal year in order to balance the budget.  This budgetary loophole has resulted in over $20 billion in deferred payments since FY 2000. The loophole is slowly being phased out as a budget balancing maneuver.

The recently enacted spending cap limits government spending to 2 percent of year-to-year growth in General Expenditures through FY 2017 and thus for the first time in Illinois’ history places limits on state spending.  However, as research by Mitchell (2010) shows, a TEL that limits budget growth to the sum of inflation plus population growth would be a much better option for the state.

Ultimately, Illinoisans have recognized that their state’s fiscal irresponsibility has resulted in a poor institutional environment and they are voting with their feet by leaving the state. Illinois lost a net of 1,227,347 residents from 1991 to 2009, the city of Chicago has fewer residents than it did in 1920, and the state consistently remains below average in its number of entrepreneurs.

In our paper Eileen and I argue that if the state of Illinois wishes to reverse this resident and business out-migration then the legislature and the Governor must stop focusing on revenue enhancements through increased taxation and borrowing and instead make serious institutional spending reforms.

Strengthen the state’s spending limit and balanced budget requirement, moving the state’s pension system to a defined contribution plan while also removing the constitutional protections to the current plan, and getting rid of tax incentive programs that target individual industries and/or activities.

Illinois is by no means a failed state. If the state continues to promote its growth enhancing policies, such as its flat rate income tax, while also taking the necessary steps towards institutional reform then Illinois’ future may not be as bleak as it currently seems.