What’s a junk bond and why Illinois will be America’s first “junk” state
Illinois’ bonds are currently priced like they are junk-rated.
The political impasse between Republican Gov. Bruce Rauner and Democrat House Speaker Mike Madigan is a colossal clash of personalities and resources. But the political clash masks an underlying reality.
Illinois is facing a reckoning for decades of foolish decisions.
The Land of Lincoln has flouted the basics of good governance for more than a generation. Long-term planning was set aside in favor of short-term political escapes. Politicians ignored and then denied the impossible math associated with out-of-control debt and spending promises.
Now the reckoning has come. Illinois is set to be America’s first junk-rated state on or after July 1 because its debts are too large and it is increasingly unlikely that these debts can ever be repaid.
Illinois’ finances and pension promises are full of bad math, which makes investors nervous. Illinois’ government bonds were once seen as a decent return backed by the taxpayer resources of the state of Illinois.
But now, Illinois’ bonds are starting to turn sour.
Honest investors are like a mother who purchased a nice-looking piece of fruit in the local grocery store. She brought it home for her family, cut it open, and realized that the inside was rotten. The internal rot had been building for a long time, and was hidden under an external sheen.
She learned the reality when she dug under the surface. The fruit she bought was junk.
That mother feels cheated. She feels lied to. She feels like she wasted an honest buck on a fraud.
She will never shop at that grocery store again. That’s exactly how the municipal bond market – full of investors in government securities – is beginning to feel about Illinois. And that’s why Illinois bonds are headed to junk-rated status, because in reality the state’s debt math has already made it junk.
Illinois’ bonds are currently priced like they are junk-rated. It’s only a matter of time before the rating agencies make it official by declaring Illinois to be America’s first junk-rated state.
As the governor and House speaker clash in the media, the fruit continues to rot under the surface. It will not be fixed by a tax hike – which will worsen the rot under the surface.
Illinois’ long-term politicians, and House Speaker Mike Madigan in particular, have turned a fruitful land rotten. They have promised results and produced tragedies. The new governor has yet to produce a clear solution – nor does he have the legislative backing to fix the problem.
And so fewer and fewer outsiders want anything to do with Illinois.
No one shops at a store once word gets out that the fruit is rotten.
That mother dug under the surface. She saw what was in the guts of the fruit, and she will tell her friends. The word will spread, customers will leave, and the store will close until competent management gets full control of the business.
Expect the same for Illinois government. Humble investors will stop shopping for Illinois bonds, and the market will be taken over by high-risk players who are looking for leverage and think they can score big on the wild ride that awaits Illinois.
Illinois’ political gridlock is a natural consequence of Illinois’ bad debt math. There has not been a political agreement because there are no easy decisions left – there is only a choice between tax hikes and painful medicine.
Illinoisans need a leader to present a clear vision for the future, because they do not support more tax increases that will further rot the state.
Illinoisans need to demand the painful but necessary medicine that will cut the debt and remove the rot from the system.
There are no easy decisions left, but the choice should be clear. The state needs competent management and a program of tough medicine and debt reduction.