Last July, Cook County judge Rita Novak dealt Chicago Mayor Rahm Emanuel a bitter blow in his efforts to cut pension expenses.
“A Cook County judge will rule on the legality of a 2014 pension law aimed at reforming two of Chicago’s underfunded city retirement systems,” the Illinois Policy Institute wrote, in the lead up to the crucial ruling. “While the pension law included some much-needed reforms, such as an increase in the retirement age, if upheld the law ultimately would put Chicago residents on the hook for millions of dollars of tax increases.”
Novak’s decision came on the heels of a May ruling by the state Supreme Court which, in a unanimous decision, struck down a pension reform bid as an unconstitutional violation of benefits that are widely seen as sacrosanct. The read through from that ruling prompted Moody’s to downgrade Chicago to junk, giving the Windy City the dubious distinction of being the only major metropolitan area “in recent history” to carry such a low rating other than Detroit.
Two months later, Novak cited the state Supreme Court’s ruling on her way to declaring Emanuel’s plan unconstitutional.
"This principle is particularly compelling where the Supreme Court’s decision is so recent, deals with such closely parallel issues and provides crystal-clear direction on the proper interpretation of the law," Novak wrote. “The Constitution of Illinois provides that public pensions shall not be diminished or impaired."
There you go. As we’ve discussed on a number of occasions, the Illinois Supreme Court’s decision has ramifications far beyond the state’s borders. “My reaction was, ‘Yeah, that’s going to play here,’ " John D. McGinnis, a lawmaker in Pennsylvania told The New York Times last summer. Pennsylvania, The Times continued, “has also been diverting money from its pension system, setting the stage for a crisis as more and more public workers retire.”
Essentially, what Illinois has done is set a precedent whereby efforts to reform pension plans and restore sustainability will everywhere and always be struck down. That leaves lawmakers with few options and may end up forcing officials to extend and pretend with ponzi-like schemes such as pension obligation bonds.
In any event, Chicago made a last ditch effort to salvage the reform effort after Novak’s ruling by appealing Cook County’s decision to the State Supreme court.
Put simply: Emanuel lost. The court deemed his plan unconstitutional.
"These modifications to pension benefits unquestionably diminish the value of the retirement annuities the members of (the city workers and laborers funds) were promised when they joined the pension system. Accordingly, based on the plain language of the act, these annuity reducing provisions contravene the pension protection clause's absolute prohibition against diminishment of pension benefits, and exceed the General Assembly's authority," the justices wrote in their opinion.
“Emanuel tried to require city workers and laborers to increase their retirement contributions by 2.5 percentage points — to 11 percent of their wages — in phases over five years,” The Chicago Tribune writes, adding that “in exchange, the city agreed to increase its annual contributions to the pension funds by hundreds of millions of dollars a year [by] increasing fees on telephone and cellphone bills for emergency dispatch services by $1.40 a month, to $3.90, on every line billed to a city address.”
Stephen Patton, counsel for the city, tried to make an argument that was absurd and yet completely accurate all at the same time. The changes, he said, did not diminish or impair pension benefits, rather the city's plan "preserved and protected" them.
As we wrote immediately after Novak’s ruling last summer, “while we certainly understand the idea that cutting pension benefits amounts a breach of the so-called 'implicit contract' between public sector employees and state and local governments, it seems as though workers and the courts are suffering from an acute case of myopia and denial of economic realities. Put simply: if the pension system isn't reformed, it will run out of money and no one will get anything.”
“A recent analysis by the Municipal Employees' Annuity and Benefit Fund of Chicago concluded its assets would be depleted by 2024 if Emanuel's pension plan failed to pass constitutional muster,” The Tribune continues. So Patton is correct. The reforms would “preserve and protect” benefits but they would of course also diminish them materially from current levels.
The good news for taxpayers is that they'll be off the hook in the short-term. Some $250 million the city had committed to spend to sweeten the deal for pensions that went along with the plan will no longer be needed. But over the long haul, this is a disaster. "The city faces a short-term benefit of about $89 million that’s currently in escrow that can be used to help other areas of the budget. But it will be a very hollow victory for the beneficiaries,” Civic Federation President Laurence Msall said.
“While their contributions will diminish slightly, the condition of the funds will revert back to something that is totally unsustainable and in danger of being completely insolvent within 10 to 15 years,” he continued, before delivering the following rather dire assessment: “Hundreds of millions in savings from rationalized pension benefits will be lost that will either have to be made up from reductions in city services, increased taxes or by allowing these funds to further deteriorate."
Of course it's not that representatives of city employees don't understand what the word "insolvent" means. They just don't think it's workers' responsibility to figure out how to dig out of the hole. "For too long, city workers have been labeled as the problem when, in fact, we are part of the solution.," Jeff Johnson, president of the Municipal Employees’ Society representing city workers, said. "With a modest pension of $34,000 and a high population residing in Chicago, we are the single largest tax base of any group."
AFSCME Council 31, the Chicago Teachers Union, the Il. Nurses Association and Teamsters Local 700 all agree. "Politicians caused the pension debt by failing to adequately fund employee retirement benefits while city employees were faithfully paying their share," they said, in a joint statement. Here's more color from the Chicago Sun Times:
Earlier this week, top mayoral aides said the city’s course of action would depend largely on how Thursday’s Supreme Court ruling is worded.
If the court gives Chicago a road map on how benefit reductions and increased contributions might be negotiated — in exchange for some other benefit chosen by the employee — then Emanuel will bring labor leaders back to the bargaining table to hammer out such an agreement.
If the door is slammed shut and the court says there is nothing the city can do to change the benefits, then the mayor will have no choice but to find a way to pay the added costs.
In that case, he’ll try to negotiate work-rule changes, lower break-in pay for new employees, another round of health care reforms, and other cost-saving concessions, and dedicate those savings to pensions, City Hall sources said.
The remaining shortfall could come from raising the telephone tax. Chicago is legally authorized to raise its telephone tax to the highest rate charged by any municipality in the state. That means there’s room to grow.
More property tax increases are unlikely, considering the fact that Emanuel just raised property taxes by $588 million for police and fire pensions and school construction and has promised to raise them by another $170 million for teacher pensions, whether or not the state does its part to help a nearly bankrupt Chicago Public School System.
“Obviously, we would have preferred a win, but we don’t think the door is completely shut. They left the door open on collective bargaining as a possible,” said a top mayoral aide who asked to remain anonymous.
Emanuel acknowledged that borrowing more money is “not my favorite option.” But it’s a “better option” than asking property owners to pay more at a time when Rauner’s pro-business, anti-union agenda has the state “spinning around and not doing anything,” the mayor said.
What all of the above means is that irrespective of who's ultimately at fault, there will be no legislating away pension benefits - even if doing so is the only realistic way for officials to ensure that state and local governments can continue to pay out any benefits at all going forward. That is, even if long-run insolvency is certain, benefits will be paid out in full up to and until the day of reckoning finally comes and it will be up to lawmakers to figure out how to rescue the system in the meantime. If that means raising taxes and/or going into further debt, then that's what it means.
Obviously, this doesn't bode well for fiscal sustainability and one can't help but think that further downgrades from Moody's are right around the corner. The takeaway for the rest of the country's state and local governments: if you were considering pension reform, don't.
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