-This is an in-depth look by Dave McKinney at Crain's Business Chicago at the Illinois pension disaster.
Even though republicans like to blame democrats and visa-verse, it is actually a decades long debacle that was caused equally by polidiots from both sides of the aisle.
There is no easy path to a fix. However, no matter what path is taken, it cannot hurt current or former employees that paid in their fair share and are entitled to their benefits.
The golden parachute loop-holes that were put in place by polidiots for their friends and family need to be removed from the statutes to prevent future atrocities. As a matter of fact, the entire pension law needs to be rewritten.-
There are many paths to failure. But to understand how Illinois' pension system became the worst in the nation, it's instructive to look at what happened 10 years ago in the final, hectic days of the annual state legislative session in Springfield.
A dense, 78-page bill aimed in part at curbing pension abuses in downstate and suburban school systems landed in lawmakers' laps two days before their scheduled May adjournment. One sponsor called it the first “meaningful” reform in 40 years, a reversal of “decades of neglect and bad decisions.” Another predicted that it could save the state up to $35 billion.
But in addition to true reform, the bill later signed by Gov. Rod Blagojevich allowed the state to skip half its pension payments for two years and to stretch out some expenses approved under the previous governor, George Ryan. No one mentioned those could cost $6.8 billion. The math hadn't been done.
In fact, reliable calculations weren't completed for two months. Democrats in the Legislature, eager to pass a budget before their summer began, muzzled debate with a stopwatch, ignored the incomplete calculations and jammed the pension bill through anyway.
In retrospect, Senate Bill 27 was no cure-all. It also was no exception.
For more than a quarter-century, governors and state legislators, Republicans and Democrats alike, made a series of financially toxic moves in the pension systems for state employees and public school teachers. Proposals to fix the perennially underfunded pensions were based on botched calculations—or no calculations at all—and were driven by misguided rationales that weren't fully vetted. Everyone was to blame, yet few accepted responsibility. Even the public-sector unions that stood to lose the most sometimes embraced those choices.
In separate interviews with Crain's, one Illinois governor pointed the finger at his predecessors for bad decisions, while an earlier governor said those who followed him messed things up.
Cumulatively, those poor decisions more than quintupled the $20 billion deficit that existed in 1995 to the current $104.6 billion, leaving a seemingly insurmountable emergency with no fix in sight.
Most charitably, the reason Illinois faces such an unholy mess may be the inability of state leaders to fathom how even slight alterations to state employee retirement plans could carry billion-dollar costs or lead to bond-rating downgrades.
“I sometimes wonder whether people actually understood the math,” says Peter Chan, former head of the U.S. Securities and Exchange Commission's municipal securities and public pensions unit in Chicago.
At worst, policymakers deliberately ignored the warning signs, punted the problem far into the future and habitually enjoyed the short-term gratification of funneling more money into schools and other operational needs instead of pensions.
“They took basically the path of least resistance. If we don't have to pay for it now, let's not,” says Henry Bayer, retired longtime executive director of the American Federation of State County and Municipal Employees Council 31, which represents 36,000 state workers.
The parade of horribles includes:
•Shorting pension payments to buy immediate budgetary relief. The nonpartisan Commission on Government Forecasting and Accountability, the fiscal research arm of the General Assembly, concluded in 2013 that the largest cause of the unfunded pension liabilities was inadequate contributions from the state. Underpayments between 1985 and 2012 totaled $41.2 billion, the agency calculated.
•Enhancing pension benefits. Former GOP Gov. James Thompson agreed in 1989 to establish a compounding, 3 percent cost-of-living increase for retirees. Another round of benefit enhancements followed in the late 1990s. In May, the state Supreme Court ruled that those changes can't ever be revoked for tens of thousands of current and retired government workers.
•Clearing a bloated state payroll by letting workers retire early. A 2002 plan created under Republican Ryan and pushed by Democratic House Speaker Michael Madigan cost the pension systems at least four times more than originally billed and won't be paid off until after 2045, when early-century budgetary ills will be the stuff of history books.
Other factors happened outside policymakers' control. The collapse of the dot-com bubble in the early 2000s and the 2008 stock-market meltdown accounted for a combined $15.9 billion in pension-investment losses, CGFA reported. And an adjustment downward in long-term investment return assumptions in 2011 pushed Illinois' pension systems $9.8 billion deeper into the red.
A RAMP TOWARD DISASTER
But perhaps the most enduring culprit is the “Edgar ramp,” conceived in 1994 by Republican Gov. Jim Edgar as a 50-year program to stabilize the retirement systems.
Edgar set a goal of having the systems 90 percent funded by 2045. For the plan's first 15 years, payment levels were set artificially low—effectively shorting the pension systems each year—and then ramped up significantly in later years. This allowed politicians to comply with the required payments at the start while hoping that future leaders would find billions of dollars down the road.
Now, with the systems still less than 43 percent funded, the state faces a crippling drain on its budget. In 1996, as the ramp required, only $614 million went to the pension systems. The amount due in the state's 2016-17 budget year: a staggering $7.6 billion. That accounts for roughly 1 out of every 4 dollars in the state's general fund, a trend that will continue for the next three decades.
Chan, the former SEC administrator and now a Chicago securities defense lawyer, oversaw an unprecedented cease-and-desist order against the state in 2013 for misleading bondholders about the severity of Illinois' pension debt. He describes the ramp as a “balloon mortgage on steroids.” “You already know you have a hole. But instead of filling it, you decided to make it deeper,” he says.
Edgar continues to believe the law he championed represented an improvement over decades when pension payments chronically were a budgetary afterthought.
The idea materialized in the thick of his 1994 re-election campaign against Dawn Clark Netsch, the Democratic state comptroller, who aimed to use the state's worsening pension picture against him. But Edgar got some unexpected help from Madigan, the top House Democrat.
“Everybody was surprised … because it was an election year. It was something Netsch was going to use in the campaign, and it took the steam out of it for her,” Edgar says.
Today, the former governor acknowledges that the ramp has shortcomings. But he blames subsequent administrations for not recalibrating the payment schedule to account for pension enhancements, the Ryan-era early-retirement scheme and the reduced Blagojevich payments in 2006 and 2007.
“I think '94 was still the right thing to do. I think it was a step in the right direction. We began to deal with the problem. But we unfortunately got derailed in the 2000s,” Edgar says.
Former Gov. Pat Quinn, meanwhile, says those before him bear the most blame for the funding crisis, even though Illinois' pension liability worsened every year but one during his nearly six years in office.
“In fairness, you have to look at Thompson, Edgar, Ryan and Blagojevich,” Quinn, a Democrat, tells Crain's.
The ramp kicked in hard during Quinn's last three years in office.“ Unlike other governors, I paid the full required amount, not some underestimated amount that would later on be back-loaded,” he says.
Illinois' pension woes trace back nearly a century. But Quinn is right in saying today's crisis took root under Thompson. The four-term Republican signed off on a sprawling pension package in 1989 that granted generous cost-of-living increases.
Previously, raises for retired state workers and downstate and suburban teachers had been calculated on a noncompounded basis. Thompson allowed for annual, compounding 3 percent raises for retirees beginning Jan. 1, 1990, after what one lawmaker described during floor debate as a letter-writing campaign from “really underpaid retired teachers.”
A 2013 report by CGFA estimated that move added $1.3 billion to the state's unfunded pension liabilities, though that is based on a 1990 estimate by the five retirement systems. The bill's sponsors, including former Democratic Senate President Emil Jones, never said during floor debate how much that change might cost, once again leaving lawmakers in the dark about what they were voting on. It wound up passing by lopsided margins of 41-12 in the Senate and 108-4 in the House.
In an interview with Crain's, Thompson says he never knew the cost might exceed $1 billion and likely wouldn't have signed it if he had known.
“If anybody had thought that back then, they wouldn't have passed it, or I wouldn't have signed it,” he says.
Among those voting for the change was Madigan, the House speaker who has been involved with every major pension bill of the past 30 years. He helped pass the Edgar ramp and was a chief House sponsor of the 2002 early-retirement incentive. The speaker also voted for the 2005 legislation that authorized skipping full pension payments for two years.
“I know some are keen to point to Madigan as the single common denominator,” says his spokesman, Steve Brown. “But while he accepts his role as a legislative leader, it is also clear that role did not see Madigan sign a single bill, negotiate a contract, issue a (pension-obligation bond), appoint investment advisers or destroy the world economy.”
As Edgar asserts, changes that followed his time in office worsened things, starting with the Ryan early-retirement legislation. In 2002, as it became clear Democrats would retake state government, Ryan signed off on a lucrative exit strategy for thousands of state employees who got their starts under Republican administrations.
Ryan declined an interview request from Crain's. His plan, touted as a way to avoid nearly 7,000 layoffs, gave state workers and downstate and suburban teachers the option of speeding up their retirements by buying age and service credits needed to qualify for a pension
Initial forecasts by the nonpartisan Illinois Pension Laws Commission estimated that 7,365 people would take advantage of the plan at a cost to the pension systems of $543 million over 10 years. The law contained a payback provision requiring the state to compensate the pension systems for that liability—a commitment that lasted just three years before the state extended the debt by 40 years as part of the 2005 pension-holiday law.
The offer of full pension benefits to retirees as young as 50 proved so enticing that some state workers took out home-equity loans to generate enough money to gain eligibility. All told, 11,039 employees took the offer, a CGFA analysis in 2006 showed. That increased the liability to the state pension systems to $2.3 billion.
“It was a stampede toward the exit for anyone in state government who'd come up through the ranks from the Thompson-Edgar years,” says former state Sen. Jeff Schoenberg, an Evanston Democrat and onetime co-chairman of CGFA.
The ink from Ryan's signature was barely dry when Blagojevich, a Democrat, took power in 2003 and signed off on a $10 billion borrowing plan to infuse the state's pension systems with new resources.
Of that, $7.3 billion went to the systems' unfunded liability, with the remainder going toward the state's 2004 and 2005 scheduled payments. That diversion allowed Blagojevich to avoid dipping into general revenue funds to cover pensions for almost two years.
Even though the state owes $15.4 billion in principal and interest on the pension-borrowing plan through 2033, it so far appears to have been an arbitrage winner. In February, CGFA reported that investment returns for the pension-obligation bond for the three largest retirement systems had ranged between 7.25 percent and 8.43 percent since 2004, well above the original borrowing rate of 5.047 percent.
“We had a record Treasury bill rate and a very low stock market. There was an opportunity to stop the bleeding,” says John Filan, Blagojevich's former budget director. “It wasn't a panacea. But if you think about it, the annual contribution was $1.3 billion. We put about five years of contributions in the system all at once, and that was a big deal.”
For one year, 2004, the borrowing plan boosted the systems' cumulative funded ratio to nearly 61 percent from 49 percent. But that showing then was used as the basis to skimp on what was owed in 2006 and 2007, the years of the so-called pension holidays.
“Before you criticize two years in a row of a reduction of $1 billion per year, also count the $8 billion extra as well as the earnings. You can't look at one thing without the other,” Filan says.
Surprisingly, the pension-holiday legislation was backed by the Service Employees International Union, the Illinois Federation of Teachers and the Illinois Education Association. The labor unions persuaded Blagojevich's administration to back off its pursuit of a two-tiered pension system and reductions in cost-of-living increases for retirees. Teachers also salvaged an early-retirement program with several end-of-career incentives intact.
Education Association President Cinda Klickna was not in union leadership in 2005. But she says the union sat between a “rock and a hard place of, do you want to help students or do you want to put your money into the pensions?” The legislation that passed enabled Blagojevich to earmark $300 million more to schools.
When the legislation hit the House and Senate floors two days before the scheduled spring adjournment, CGFA warned that skipping payments could increase contributions required in later years but noted that no calculations had been conducted.
“There's not an actuary in America that could've generated the analysis of what the real cost of that legislation was in one day,” says Laurence Msall, president of the Civic Federation, a Chicago-based government watchdog, which opposed the payment-skipping plan.
That didn't stop Blagojevich, who signed the legislation within a day of it hitting his desk and said it contained the “most significant structural pension reforms in state history.”
Blagojevich claimed the package would save the state pension systems $30 billion over 40 years. The chief House sponsor, former Rep. Robert Molaro, D-Chicago, told colleagues on the House floor that savings could total $35 billion.
Those figures stood until August of that year, when CGFA and the retirement systems had time to study the bill's financial impact. The pension holidays and Ryan-era amortization could force as much as $6.8 billion in higher state pension payments through 2045, the retirement systems calculated. CGFA, in its own analysis, put the increased cost at $4.7 billion. Other reforms in the package, including one aimed at insulating the state from the pension spikes caused by school districts giving their administrators exorbitant end-of-career pay increases, could reduce the net cost of the legislation to “less than $1 billion,” the agency reported.
One drafter of the 2005 law now offers a mea culpa. Schoenberg, the Evanston Democrat, was the chief Senate sponsor of the pension-holiday law and acknowledges that few of his colleagues “fully understood the cumulative impact of deferring financial obligations into the distant future.”
“At the time, it appeared to be a prudent course of action,” he says. “I can't say that I'd recommend going down that path today.”
Madigan minced no words in December 2013 after pension-cutback legislation he helped craft narrowly passed the state Legislature and was signed by Quinn.
“The bill would not have passed without me. I was convinced that standing fast for substantial savings, clear intent and an end to unaffordable annual raises would result in a sound plan that will meet all constitutional challenges,” Madigan said.
The legislation, projected to save $160 billion over 40 years, ended compounding, 3 percent cost-of-living increases for retirees, hiked the retirement age and leveled out the pension-payment ramp established under Edgar, among other things.
Madigan has a reputation around the Statehouse for thinking three steps ahead of everyone else. But he got this one wrong—really wrong.
In May, the Illinois Supreme Court unanimously ruled that the legislation violated the Illinois Constitution. That pushed the effort to winnow the state's worst-in-the-nation pension deficit back to square one, effectively wasting the more than four years Quinn and Democrats in the Legislature had invested in the problem.
And despite the presence of a new governor in Republican Bruce Rauner, little has changed.
In July, Rauner produced a 500-page proposal that he said had potential to save the state a “couple billion dollars per year” by steering existing workers into a less generous pension plan. But Democrats and their labor allies have all but drowned the governor's plan, in part because it contained poison-pill provisions to deprive public-sector unions of established collective-bargaining rights.