Chicago’s financial decline sped up from last year

Jul 14, 2017

Yesterday’s release of the City of Chicago’s annual financial report was notable for a few reasons, including how it arrived 12 days after it was legally required to be published, with introductory letters to Chicago that were nonetheless dated June 30 – the legal due date.  The Chicago Tribune was an interesting dog that didn’t bark; the Tribune didn’t report on it the following day, at least in the print edition.

The Chicago Sun-Times reported on the report, in an article by Fran Spielman headlined “Cash Balance Better, Pension Crisis Worse.”  In the headline, as well as the first paragraph, Spielman’s first point was that the city had more cash on hand at the end of the year than at the beginning of the year.

This is a problematic first item of focus, however, for a few reasons.  For one thing, most of the cash “on hand” isn’t on hand, but in a bank.  That’s nitpicky, compared to a more fundamental concern. Focusing on cash amounts as opposed to accrual accounting for revenue, expenses and debt was part of the long-term prescription for the financial crisis Chicago now faces.

Discussing the $3.6 billion decline in net position in 2016, the city’s report stated that the decline was “primarily as a result of assumption and plan changes impacting the pension liability,” just like it did last year  In turn, reporting on the report’s release, Spielman took the city for granted, stating that it was “… thanks to an increase in pension liability “tied to assumptions and plan changes.” …”

This is curious, for a few reasons.

For one thing, the city’s total pension liability rose by $1.3 billion, only one-third of the reported change in net position. For another thing, the city’s total pension liability may have risen, but its net pension liability (net of assets invested in the pension funds) actually declined.  Other things equal, this would increase, not decrease, the city’s reported net position.  And Chicago’s total reported pension expense actually declined in 2016.

The only assumption changes evident on the CAFR’s “Required Supplementary Information” were in the police retirement fund, which lowered its assumption for future inflation from 3.0% to 2.8% (a marginal change, lowering the liability) and also lowered its assumed investment return from 7.5% to 7.25% (another marginal change, working to increase the liability.)  The table reporting these assumptions included a footnote noting that “There were no benefit changes during the year.”

In other words, why did the City and the Sun-Times emphasize pension assumption and plan changes as the source of the deterioration in 2016 results?  Granted, the pension system is in bad shape, but it can’t explain a significant share of the deterioration in 2016.

More fundamentally, the city continued to spend more than it took in, despite the long-term crisis — and despite the city’s regular claim that it balances the budget, as required under state law.

Within the ‘net position’ section of the city’s balance sheet, changes in unrestricted net position are also interesting and perhaps more important to watch than the net position itself.  The difference between assets and liabilities may yield a ‘net position,’ but some folks (like bondholders) have first dibs on what is left over.  The folks that don’t (the Average Joes) face the ‘unrestricted net position.’

What happened to the unrestricted net position in Chicago in 2016?

The unrestricted net position fell $4.9 billion, significantly more than the change in net position, in part because assets restricted for the likes of debt service (the bondholders) rose significantly.  And this $4.9 billion decline for 2016 accelerated from the decline for 2015, after accounting for the arrival of long-missing net pension liabilities on the balance sheet in 2015.

In other words, 2015 was very bad, and 2016 was even worse.

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