Chicago - the Windy City

July 24, 2019 | Vito Finucci


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Is Chicago running a Ponzi scheme? How some cities and states don't save for retirement.

Finucci Group Financial Planner

Our team recently had the opportunity to attend a conference in the beautiful city of Chicago, the third largest city in the USA with a population of about 2.7 million people. Located on the shores of Lake Michigan, this spectacular architectural wonder was rebuilt after the Great Chicago Fire of 1871, which left over 100,000 people homeless. The city opened its arms to the worlds’ greatest architects to come and strut their stuff, and that they did, creating new construction styles using a complex mix of materials, layouts, design and shapes.



The city of Chicago is known for its architecture, deep dish pizza, music and fervent sports fans whose teams have all had their glory at one time or another. On the notorious side, the Gangster era in 1920’s featured names like Capone, Bugs Moran, O’Banion, and made headlines during prohibition.


Its' native sons and daughters include Frank Lloyd Wright, brilliant economist Milton Friedman, nuclear physicist Enrico Fermi, Capone and Dillinger, and writers Ernest Hemingway and Rad Bradbury. More recently Oprah and President Obama called the city home. Rotary International was founded by Paul Harris in Chicago in 1905.

For much of the last century, the state of Illinois and the city of Chicago have leaned “blue”.  The city of Chicago has not elected a Republican mayor since 1927. The state of Illinois has voted Democrat the last seven Presidential elections back to 1992.

Despite the physical beauty of Chicago, the second most visited city in America with almost 60 million visitors each year (second only to New York), beneath the surface there are some serious fiscal issues which will soon bubble to the surface. The city (and the state) have budget problems so deep, Illinois may soon be the first US state to have its credit rating downgraded to “junk” status. The state is already borrowing to pay its day to day bills, now the cost of borrowing becomes more expensive.
 

“The state can no longer function without a responsible and complete budget without severely impacting our core obligations and decimating services to the state’s most in-need citizens. We must put our fiscal house in order. It is already too late. Action is needed now.”

- Illinois State Comptroller, Susana Mendoza – June 2017

 
The Chicago City Council approved $2.4 billion in tax subsidies for two major developments in early April. Protestors gathered at City Hall to show they were against the deals. And this chart, which shows the making of combined Taxpayer burden for taxpayers living in the largest 10 US cities may explain why:



Forbes reported the city’s taxpayer burden is due to one major primary driver: the state’s pension system. Amassed over the years are $39 billion in retirement benefits that have been promised; $28 billion in pension and $842 million in retiree health benefits that haven’t been funded. Retirees are living longer, and cutting pensions is politically impossible, so the politicians kept kicking the can down the road.

In other words, Illinois hasn’t saved enough for retirement. That kicked can is now hitting a roadblock. That roadblock comes in the form of unwilling lenders, wary of a default, to loan money at low interest rates indefinitely.

For example, the state’s Teachers Retirement System already consumes 10% of the entire state budget. The Chicago Teachers Pension Fund (CTPF) has roughly $10 billion in assets to cover $21 billion in future payment obligations. The fund has to payout roughly $1.4 billion to retirees each year to cover benefits. In 2016, it actually lost $28 million on its $10 billion in assets.

So how did they make up the difference? The CTPF simply took the $700 million that was contributed to the fund in 2016 from the taxpayers and the $192 million contributed by teachers from their paychecks (money intended to be invested for their retirement), and gave it to current retirees. Sounds a bit “Madoff-ish” to me.

Now even if the fund earned the 5.6% annualized return that it averaged the past 10 years for the next 10 years going forward, the CTPF will still have to borrow roughly $850 million from new contributions each year just to cover annual benefit payments.

In other words, this can’t go on much longer.

The state of Illinois is now $14.5 billion arrears in paying its bills, and now it’s losing valuable resources: its businesses and citizens. Over 500,000 more have left Illinois than have moved there over the last decade. Only two states, California and New York, lost more residents than Illinois.

Just a few weeks ago on June 4th, Illinois avoided deterioration in its credit ratings when Moody’s affirmed a Baa3 with a “stable” outlook, based on the city’s latest steps to shore up the state’s shaky finances. And what exactly where those “recent steps”?

A progressive income tax increase on the wealthy which promised $3.4 billion in revenues. The Illinois Policy Institute suggests the revenue from these proposed rates would only bring in $1.4 billion. With $14 to $19 billion in spending promises, Governor JB Pritzker's proposed rate increase will nearly guarantee future tax hikes on the middle class. The tax increases are supposed to apply to those earning of $250,000 or more, but I am pretty sure Gov. Pritzker will find out what his predecessor Gov. Quinn found out in 2013 when he argued the super-rich in Illinois could easily afford to pay a bigger share of the tax load (and assured voters no one would leave). The more Quinn raised taxes, the deeper the budget hole got. As a result, the warmer climates (and lower tax states) of Florida and Arizona have been beneficiaries of moves by former affluent residents of Chicago.

The following chart shows how dire the situation is in Illinois:




Bottom line? It is hard to envision a solution other than benefit cuts, bankruptcy, or more borrowing.

I only reinforce this whole story because I fear we may be looking at a similar situation here in Ontario down the road if some changes (and hard choices) are not made ASAP.

If you haven’t ever been there, Chicago is a beautiful world class city. I hope they can keep it that way, but I worry it’s already past the point of no return.


 

Stay tuned,
Vito

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