Two massive pension reform struggles

March 23, 2013

After similar challenges fought in 42 other states, Muniland’s two weakest credits – Illinois and Puerto Rico – are fighting difficult battles over pension reform. The pension struggles will have enormous effects on their creditworthiness.

Puerto Rico’s pension fund, which is dangerously close to insolvency, figured prominently in credit rater Moody’s analysis when it downgraded the commonwealth last December to Baa3, its lowest investment grade rating:

– Economic growth prospects remain weak after six years of recession and could be further dampened by the commonwealth’s efforts to control spending and reform its retirement system, both of which are needed to stabilize the commonwealth’s financial results. The lack of significant economic growth drivers and the commonwealth’s declining population have also reduced prospects for a strong economic recovery.

– Debt levels are very high and continue to grow.

– Lack of meaningful pension reform and no clear timetable to do so. Reform of the commonwealth’s severely underfunded retirement systems is needed to avoid asset depletion and future budget pressure.

Puerto Rico’s official leadership has promised pension reform, but it now appears stalled in the legislative assembly. Twitter is aflame with rumors of short whip counts and meetings at La Fortaleza (The Fortress), the official residence of the governor.

Meanwhile, Dow Jones Newswire reports that Puerto Rico financial officials are promoting a bond offering in New York to investors:

Puerto Rico financial officials told municipal bond investors that a proposal to reform its beleaguered pensions could be passed within weeks, according to people who attended private meetings in New York on Friday with the representatives from the island commonwealth’s new administration.

The officials also told investors it has a goal to balance its budget by fiscal year 2015. The officials, which hailed from the island’s treasury department and the Government Development Bank, its finance arm, also said they were planning a bond sale to help close part of an approximately $2 billion budget deficit for the current fiscal year.

They didn’t provide a firm date for the bond sale, but investors at the meeting said it would likely come after the pension reform was passed. One investor said the officials are aiming to do the deal before the end of this fiscal year, which ends June 30.

Illinois is the other ground zero for pension reform, and like Puerto Rico, the legislature keeps fighting over the issue. From the Chicago Tribune:

After years of debating how to deal with the most underfunded public employee pension system in the nation, the Illinois House voted Thursday to sharply curb automatic cost-of-living increases to retirees that helped drive up the state’s retirement costs.

The House passage, sending the bill to the Senate, marked the most significant action taken by lawmakers to slow the growth in taxpayer-funded pensions for retired state workers, lawmakers, university employees, and suburban and downstate teachers.

The Illinois Senate was not as successful:

Senators a day earlier defeated a comprehensive pension overhaul plan while approving only a more limited proposal affecting teachers outside Chicago. Senate President John Cullerton, D-Chicago, has contended that elements of the House-passed plan are unconstitutional.

Ron Holmes, a Cullerton spokesman, said the Senate vote Wednesday rejecting a large-scale pension reform bill “demonstrated that we simply don’t have the votes for legislation to impose unilateral changes to pension benefits.”

Illinois is planning to bring $800 million of general obligation bonds to market on April 2. Fitch said this after rating the bonds “A”:

RATING WATCH NEGATIVE: The Rating Watch Negative reflects the historical inability of the state to address its large and growing unfunded pension liability. The Rating Watch Negative will be resolved after an assessment of the extent to which the state takes action in the near term that bolsters pension funded levels and reduces the growing impact of pension payments on the budget. Failure to achieve meaningful results would lead to a downgrade of the rating.

Muniland’s weakest players are inordinately burdened by pension obligations. Reforming these liabilities is a complex process fraught with political implications. All eyes are on Springfield and San Juan.

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