Illinois narrowly avoids downgrade to junk after breaking budget impasse

Illinois avoided being tagged with a junk credit rating from S&P, which on Wednesday affirmed the state's BBB-minus rating, citing eased concerns over a possible liquidity crisis in the wake of last week's budget enactment.

The state, which still faces major financial challenges, would have been the first U.S. state to be rated junk.

"Through a combination of spending cuts and tax increases, the budget package brings the state's revenue and expenditure base much closer to structural alignment and reduces the near-term uncertainty that had come to characterize its financial operations," the credit rating agency said in a statement.

Besides affirming the lowest level investment grade rating for Illinois, S&P also gave the rating a stable outlook. But it warned that outlook could be short-lived if the state does not implement a plan included in the fiscal 2018 budget to begin shrinking a bill backlog that ballooned to $15 billion during the unprecedented two-year political impasse.

"The state will almost certainly suffer an extended fiscal hangover from the impasse, not least from its record level of unpaid bills, which will be a drain on its future resources," S&P noted.

The $36 billion budget for the fiscal year that began July 1 marked the first for Illinois since 2015. The spending plan calls for the issuance of up to $6 billion of 12-year bonds, along with borrowing or tapping money from various state accounts to put an $8 billion dent in the backlog.

Aided by some Republican votes, the Democratic-controlled legislature last Thursday overrode Republican Governor Bruce Rauner's veto of the spending plan and a $5 billion income rate hike.

S&P said the new budget does not comprehensively address Illinois' $130 billion unfunded pension liability but incorporates a $1.4 billion drop in the state's fiscal 2018 pension contributions.

The decrease is mainly due to a new five-year smoothing of higher contributions resulting from actuarial changes by the state's five retirement systems. S&P called that move "a cost deferral more than a genuine expenditure reduction." It also said the budget's banking on $500 million from the creation of a hybrid pension plan for new hires "may prove premature."

S&P affirmed the AA-minus rating on Build Illinois sales tax revenue bonds and BB-plus rating on the state's appropriation-backed debt, which includes Chicago motor fuel tax bonds.

Illinois remains under review by Moody's Investors Service, which rates the state Baa3, one notch above junk, and by Fitch Ratings, which has the state at BBB, two notches above junk.