S&P Global Ratings Lowers Credit Outlook for Cook County, Citing Unfunded Pension Liabilities

S&P Global Ratings recently lowered its outlook on Cook County’s General Obligation (GO) bonds from “stable” to “negative.” The reasoning from S&P provides some insights for the broader threat of pension debt: “The negative outlook reflects our view that…the pressures the low pension funding levels put on the county’s operations could negatively affect the rating,” said Lisa Schroeer, a S&P Global Ratings analyst.

This isn’t the first time a ratings agency has cited pension debt as a reason for taking a pessimistic view. Moody’s also recently announced it will assign more weight to underfunded public pensions when determining its ratings.

As we discussed here, Chicago’s public pensions are likely more than $70 billion in the red. Thus, it may not be a complete surprise that Cook County, Illinois—covering Chicago and its suburbs—finds itself in a financial pickle as well. Indeed, the second most populous county in the nation already has about $3 billion in GO debt, $269 million in sales tax debt (issued against future tax revenue), and around $14.1 billion (market value) in unfunded pension liability.

With $23 billion in pension promises (as reported under the Governmental Accounting Standards Board), the bills have been stacking up. From 2007 to 2016, Cook County’s average contributions were just 42 percent of the Actuarially Determined Employer Contribution (ADEC). The unpaid portion for this period amounted to $2.75 billion (out of the total $5.63 billion ADEC). And this past fiscal year, the county only had 39.2 percent of the money it needed to meet its pension promises.

According to actuarial projections, if nothing is done, the pension coffers will eventually get depleted entirely by 2038. 

The county, however, is restrained in how it can counteract this widening gap. As of now, employer contributions to the County Employees’ and Officers’ Annuity and Benefit Fund of Cook County (CEABF) are restricted by statute. CEABF is certainly not alone on this; other public pension plans—the Arkansas Teacher Retirement System, Colorado Public Employees’ Retirement Association, and Maryland State Employees’ Retirement System and Teacher Retirement System, for example—also use statutorily set employer contribution rates.

But, unlike many others, the CEABF is addressing the flaw. In 2015, the plan explicitly tweaked its funding policy to start making contributions above the statutory rates. The CEABF’s revised policy adds an annual 2 percent escalation factor that applies to the amortization payments. And the $414.7 million (or 73.7 percent of ADEC) contribution made in 2016 fiscal year testify to its positive effects.

CEABF, however, can do better. The plan continues utilizing a poor “open amortization” methodology of re-amortizing its total unfunded liability over a 30-year period every year. “Closing” that amortization method by setting a fixed end date to the 30-year period, while making full ADEC contributions, can set CEABF on the path to long-term solvency and lower its chances of severe underfunding.

Notably, S&P Global Ratings did not alter Cook County’s credit rating itself—it simply issued a warning. While the county’s sweetened beverage tax repeal created a sizable $200 million budget hole, the county still attempts to balance its budget through spending cuts. Other factors playing into Cook County’s favor are a strong economy and large reserves.

It is worth noting that pension underfunding can place upward pressure on the cost of long-term borrowing for the public. If pension underfunding was at a level sufficient to trigger lower credit ratings, for example, then taxpayers would pay higher interest rates on GO bond debt issued by their state or municipality, leaving less available for infrastructure and other uses.

Cook County’s pension crisis is an explicit example of how pension underfunding can affect credit outlooks and ratings.  And while CEABF’s move to increase pension contributions is commendable, the plan can do more to counter the growing unfunded liabilities, thereby securing pensions for its public sector employees, and helping Cook County improve its credit rating.