What's Behind The State's Credit Rating?

Apr 21, 2017

Falling credit ratings for Illinois institutions of higher learning are a trickle-down effect from the Illinois budget impasse that has lasted nearly two years. The state as a whole has found itself under constant scrutiny by the credit-rating agencies.

Ted Hampton is a senior credit officer with Moody's. He says Moody’s tends to look at Illinois more frequently because it is an evolving high-profile situation.

Last June, Moody’s issued a credit change for Illinois — and it was yet another downgrade related to the state's general obligation bonds.

“It’s been the lowest-rated state of all the 50 states since January of 2012, when we downgraded it to A2," Hampton explained. "So it’s been an outlier as we’ve moved the rating lower. From that perspective, the rating is expressing what we view as the state’s extreme challenges in areas like pension funding, the tendency not to have a balanced budget, and the tendency to rely on techniques like deferring payment on bills in lieu of a balanced budget.”

He says there’s no specific timeline when the next outlook for the state would be released.

He says it’s really in response to events or changes, and he says passing a budget won’t guarantee an immediate upgrade.

Moody's 21-step credit-rating scale.

"We would have to look at the budget that gets enacted and assess it and, ideally, we could do that in short order,” Hampton said. "But we would need to make some kind of judgment about whether it had stabilized the state’s situation or improved it, or not had any impact, or allowed things to continue deteriorating."

There’s a lot of discussion about Illinois knocking on the door to achieving so-called “junk-bond" status. Moody’s has a 21-step scale for assigning credit ratings. The Illinois rating has been coming down pretty steadily for the last eight or nine years and now is two notches away from the threshold between investment-grade ratings and the non-investment-grade ratings.

“One of the issues from the state’s point of view is that, once your rating falls below investment grade, there are certain investors that will not or cannot buy bonds anymore. What it means is that the universe of potential buyers for bonds becomes much more limited, and that will further increase the state’s relative borrowing costs."

Illinois State Treasurer Mike Frerichs is keeping close tabs on the credit-ratings process.

“We are in real risk of reaching junk-bond status if we go through May without getting a budget passed," Frerichs said. "That will have real consequences for the people of this state. I hope the Governor and General Assembly can put their differences aside and can focus on passing a budget. That should be the number-one priority in state government right now.”

Illinois State Treasurer Mike Frerichs

The credit rating for the state has been sliding since Frerichs took office. He says he would have changed his approach if there had been a full budget plan each year.

“Most certainly, we would have done things differently," he says. "If the Governor and General Assembly would have been able to pass a budget, then we would have been able to make longer-term plans. We would have been able to invest in longer-term instruments."

Frerichs says his office is designed to generate revenue, but the impasse and knocks on credit from rating firms like Moody’s have had a cumulative effect.

“We brought in tens of millions of dollars in interest last year, but we think we could have brought in an additional $39 million dollars to the state if there had been a budget in place and we could have invested in longer-term instruments.”

Frerichs says there is some relief, since the ratings do not directly affect the Bright Start College Savings program along with some other functions of the office.

“We also make investments on behalf of municipalities in the state through a pooled group called Illinois Funds," he said. "With Illinois Funds, because of our investment approach, we have the highest rating available. The dysfunction at the state level of the Governor not being able to get a state budget passed doesn’t necessary translate to Treasurer’s office programs.”

But when it comes to other checks on state finances, he sums it up as a virtuous cycle versus a vicious one.

“It becomes a virtuous cycle when you pass a budget. You get a better credit rating. You have more money to spend on infrastructure, and the Treasurer’s office brings in more money," Frerichs says.

"When they can’t reach agreement, and when they let their personal issues get in the way of doing their job, that creates a vicious cycle and we get credit downgrades. We pay more in interest, and the Treasurer brings in less money in interest.We want to maximize our return because we know every dollar we bring in is a dollar the Governor and General Assembly don’t need to raise in taxes or dollar in cuts they don’t need to make to our schools.” 

Ted Hampton with Moody’s says, in general, the budget standoff has made an already bad situation even worse. He says there’s a risk in a further drop in the state’s credit standing.

"The immediate pressure from the impasse is a situation that leaders of the state could choose to address and could quickly rectify,” he said, “but their failure to take that step up until now is having real consequences. Paralysis in the weeks ahead could make Illinois even more of an outlier among states than it already is."