Illinois Rushes to Enact Budget to Avoid Junk Rating

  • House passed tax hike over weekend that governor plans to veto
  • State is now in its third straight year without spending plan

John Miller, Nuveen Investments co-head of fixed income, discusses the Illinois budget impasse. He speaks with Bloomberg's Vonnie Quinn on 'Bloomberg Markets.' (Source: Bloomberg)

Illinois lawmakers are racing to push through legislation to end a record-long budget impasse and avoid becoming the only U.S. state with a junk credit rating.

Lawmakers are in session Monday after the Democrat-run House of Representatives approved an income-tax increase with 15 Republican votes on Sunday, signaling bipartisan will to end the stalemate even though Governor Bruce Rauner vowed to veto it if the measure clears the Senate. The House also sent a $36 billion spending plan to the Senate amid concern that credit-rating companies will pull Illinois’s investment-grade rating if a budget isn’t enacted.

S&P Global Ratings called the weekend developments a “crucial step” toward ending the stalemate.

“It’s been a political crisis, an unprecedented stalemate for over two years now and yesterday’s action was really the first break in that stalemate,” John Miller, co-head of fixed income at Nuveen Asset Management, said in an interview on Bloomberg Television. “We think they keep their investment grade ratings even though there’s still a lot of work to be done.”

Illinois has entered its third year without a budget because of a clash between the Republican governor and lawmakers over how to close the government’s chronic deficits. Unpaid bills have soared to a record $15 billion, and by August the state is set to run out of money for key expenses for the first time since the stalemate began, according to Comptroller Susana Mendoza, a Democrat. That means school funding, state payroll and pension payments could be affected.

On June 1, S&P and Moody’s Investors Service both dropped the state’s rating to one level above junk. S&P has said that without a spending plan that addresses the deficit around July 1 -- the start of the new budget year -- Illinois would get downgraded again.

The legislation passed by the House “could represent the first step in a stabilization of Illinois’ fiscal outlook and may lead to an easing of pressure on the state’s credit quality,” S&P said in an emailed statement on Monday. If budget progress stalls, Illinois has “minimal margin” at its current rating, according to S&P.

If Illinois is downgraded, that would make it the first state on record to lose investment-grade status. On Monday, Fitch Ratings called the weekend developments “concrete progress,” noting that it appears the legislature may have enough votes to override Rauner’s planned veto of the tax hike.

Yields on the state’s 10-year bonds have soared to 4.8 percent, 2.8 percentage points more than those of benchmark debt. That’s the highest yield of all 22 states that Bloomberg tracks.

In his statement announcing his planned veto of the tax increase, Rauner criticized lawmakers for continuing “out of balance budgets with no real reform,” blaming House Speaker Michael Madigan, a Democrat who controls much of the legislative agenda. The House bill would raise individual income taxes from 3.75 percent to 4.95 percent and corporate levies from 5.25 percent to 7 percent.

Rauner, who in 2015 became the first Republican to lead the state in more than a decade, wants any spending plan to include some of the agenda that he says he was elected to enact: a property-tax freeze, legislative term limits and changes to the workers’ compensation insurance system to cut costs for businesses. Democrats, led by Madigan, have resisted, saying those changes would hurt the middle class. While those legislators say they’ve passed some of Rauner’s items, the governor says they haven’t gone far enough.

The fiscal pressure intensified on Friday after a U.S. federal judge ruled that the state must boost its Medicaid-related payments to chip away at the backlog of unpaid bills.

Comptroller Mendoza said the ruling brings Illinois’s finances “from horrific to catastrophic.” She said while bond payments will continue “uninterrupted,” payments to pensions, state payroll, schools and local governments will likely have to be reduced.

— With assistance by Vonnie Quinn

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