Why Illinois’ historically low borrowing rates aren’t the sign of confidence you might think

When investors gobbled up $1.8 billion in Illinois bonds this month, the cost of borrowing continued its historic streak—in a good way, according to the state. Ten-year bonds were sold at an interest rate of 3.62 percent; in a March sale, the interest rate on debt maturing in 2022 was 3.56 percent; and in a January sale, it was just 3.10 percent, the lowest figure for comparable Illinois debt on record, state officials said.

And to hear them talk about it, those record-low rates mean record-high confidence in the state and in its future.

Sam Kirkland/MEDILL

“The sale demonstrates continued investor confidence in the Quinn administration to correct decades of fiscal mismanagement,” said David Vaught, office of management and budget director, after a March sale—and that was before pension and Medicaid reform proposals that maybe, just maybe, indicate real change is coming to Springfield.

Yet there’s another explanation for the record-low rates that isn’t mentioned in press releases.

The Federal Reserve’s easy-money policies have made it more affordable for everyone to borrow, including Illinois. The central bank has maintained its zero to 0.25 percent federal range for more than three years—and says those historically low rates are likely to continue through 2014.

Meanwhile, there’s little evidence to equate confidence that Illinois won’t default on its debt—no state ever has, so it’s considered a safe bet even in tough times—with confidence that the state is on the right track. And some evidence suggests things are getting worse.

When Illinois bonds were priced to yield 3.62 percent earlier this month, comparable U.S. Treasuries were yielding 1.94 percent. The difference, called a spread, was 1.68 percentage points, an indication of how much more expensive it is for Illinois to borrow than it is for the U.S. government. At the time of the March sale, by contrast, 10-year Treasuries were yielding 2.13 percent as Illinois bonds were priced to yield 3.56 percent, a spread of 1.43 percent. So while rates went up just 0.06 percentage points in those two months, the spread increased by more than four times that amount.

Demand remains high for Illinois bonds, the Wall Street Journal has reported, despite concerns about the state’s finances. The takeaway? While investors may not be flocking to Illinois paper like they are to the safety and security of U.S. Treasuries (as Bloomberg has reported), the state bond market is still seen as a low-risk alternative to the stock market in an economy that could still be teetering. But the perceived relative risk of investing in Illinois is increasing even as lawmakers say they’re getting things under control.

Moody’s downgraded the state’s bond rating earlier this year to A2—worst in the nation and just the sixth-highest rating Moody’s gives, although it’s still considered investment-grade. This month, the rating agency said another downgrade could happen before the end of 2012, likely a cause for the uptick in the spread seen in May. State income tax collections jumped by more than 30 percent in fiscal year 2011 thanks in part to a “temporary” rate increase from 3 percent to 5 percent, but that wasn’t enough to satisfy rating agencies or watchdogs.

The Civic Federation, a nonpartisan research group, has warned of “financial disaster” in the state if the Medicaid and pension crises are not solved. Unfunded pension liabilities totaled more than $83 billion at the end of fiscal year 2010, and the organization estimates the backlog of unpaid Medicaid bills will exceed $20 billion by the end of fiscal year 2017.

Gov. Pat Quinn proposed major changes to pension funding in April after taking some heat after his February budget address for deferring specifics to a pension working group made up of budget officials and legislators.

“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 at a news conference.

Specific changes to go before the General Assembly include: a 3 percent increase in employee contributions; a reduction in cost-of-living adjustments; and an increase in the retirement age to 67. The reforms are big changes likely to rile those in line for state pensions. Weakened resolve on the part of legislators could be the result, as every member of the General Assembly is up for reelection this year.

Leave a Reply