Bad reputation costs state $80 million more

SPRINGFIELD - Illinois wears a "scarlet letter" when it borrows money, denoting a woeful fiscal reputation that cost at least $80 million in additional interest charges over a five-year period, a study released Monday found.

The University of Illinois' Institute of Government and Public Affairs compared the state's sales of general obligation bonds against other states from 2005 to 2010 and found Illinois paid a "risk premium" based solely on buyers' perception of its credit stability. The credit rating has worsened since then.

"Investors in the municipal secondary markets demand a risk premium for Illinois' general obligation debt that is greater than the financial, economic, and fiscal conditions warrant," the study's authors wrote, suggesting it's because investors see Illinois' debt as "toxic" despite constitutional guarantees that state debt will be paid.

It's well known that taxpayers pay higher interest rates on money Illinois borrows because it has the worst credit rating of any state, driven by the state's inability to keep up with obligations to its state pension accounts. The debt in five retirement systems had grown to $100 billion by the time lawmakers and Gov. Pat Quinn devised a plan last fall to erase that deficit over the next three decades - a plan whose future is uncertain because of court challenges.

The study, conducted by DePaul University professor Martin Luby, a visiting researcher at the U of I institute, and Tima Moldogaziev of the University of South Carolina, set out to determine whether interest rates were even higher than other states' rates in similar situations. They used a "'scarlet letter' metaphor to note the hypothesized incremental risk premium demanded by investors on bonds that carry the name 'Illinois."'

Comparing all state bond sales for those five years, the researchers controlled for market conditions, interest rates and types of bond issues, plus they added a final, "Illinois Reputation" variable.

The analysis found the "Illinois Reputation" variable added to the interest rate paid by as much as two-tenths of 1 percent - at least $80 million during the period.

"That's above what the state should have been paying based on our worst-in-the-nation credit rating," Luby said. "That's one expensive reputation."

The study notes that since 2010, the state's fiscal situation has further deteriorated and rating agencies have downgraded it further, leading the authors to suspect the risk premium has continued to grow since then.

What's more, the study said it's possible that state workers and suppliers of goods and services demand a similar risk premium that's many times higher than the analyzed debt risk. This adds to the cost of government borne by taxpayers.

The report did note that while the pension overhaul has not been tested in court, it helped Illinois' reputation almost immediately. A general obligation bond issue in December - shortly after Quinn signed the pension legislation - saved $20 million in interest-rate costs compared to one in April 2013.