After Chicago Public Schools’ debt rating downgrade on March 20, 2015, district CEO Barbara Byrd-Bennett renewed the call for an overhaul of teacher pensions. CPS “has long faced serious fiscal challenges that are primarily driven by a broken pension system,” she said.

A second major bond rating agency has downgraded Chicago Public Schools’ debt, a move that could cost the district as much as $228 million and is likely to fuel the debate over Mayor Rahm Emanuel‘s financial stewardship in his runoff contest with Jesus “Chuy” Garcia.

The triple downgrade by Fitch Ratings lands the school system at one notch above junk status, which is the same rating Moody’s Investors Service gave the district earlier this month. The move aggravates the already considerable financial problems at the district, which is projecting a $1.14 billion budget deficit next year.

CPS issued a statement in which schools chief Barbara Byrd-Bennett renewed Emanuel’s call for changes to teacher pensions, which are expected to cost the district nearly $700 million next year.

“It is not a secret that Chicago Public Schools has long faced serious fiscal challenges that are primarily driven by a broken pension system,” she said.

The district also said it is negotiating with banks to avoid the $228 million in payments, which are associated with derivative contracts linked to existing debt. The contracts, also called swaps, can last decades but are scheduled to end automatically if the district’s rating drops below agreed-upon thresholds.

Friday’s downgrade, on the heels of Moody’s new rating, could force CPS to pay the full value of the swaps to banks.

The city was able to renegotiate many of its swap contracts when it faced potential terminations earlier this year. But having to pay up on even a few swaps is a frightening prospect for the cash-strapped school district. CPS said in a recent bond filing that it could afford to make the penalty payments if necessary, but Fitch predicted the district would likely need to borrow in order to do so.

“CPS has substantially drawn down its reserves in recent years,” said Richard Ciccarone, president and CEO of the municipal bond analysis firm Merritt Research Services. “It’s problematic for them if they’re forced to pay any penalties.”

Some of the most costly swaps are left over from ill-fated auction-rate securities deals masterminded by school board President David Vitale, who at the time was the district’s chief administration officer. CPS combined auction-rate securities and other variable-rate debt with swaps in an effort to lower borrowing costs — an effort that backfired when interest rates fell, dragging down the value of the swap contracts and driving up the penalties CPS could pay if its rating dropped.

The Fitch downgrade comes less than three weeks before the April 7 runoff election, in which much of the debate has focused on the finances of City Hall and CPS.

Emanuel contends he’s best prepared to guide the city through its financial straits, which primarily result from ballooning pension obligations, while Garcia contends that repeated downgrades of city and CPS debt are a sign of poor financial stewardship.

Garcia, in a written statement, called the downgrade “the latest example of the consequences of Mayor Emanuel’s fiscal mismanagement.”

Emanuel’s campaign spokesman, Steve Mayberry, returned fire at Garcia, saying he had “no plan to bring financial stability to CPS, particularly when he doesn’t support the basic pension reforms Mayor Emanuel has advocated.”

In downgrading CPS, Fitch criticized “the limited progress (the district) has made in addressing a structural budget gap” and predicted that CPS could exhaust its reserve by the end of next year.

Last summer, the CPS board appointed by Emanuel used a one-time accounting gimmick to help overcome an $862 million shortfall: tacking two extra months of property taxes onto the budget. CPS’ ability to raise revenue is severely limited by state-imposed tax caps.

Fitch Ratings also took note of the 2012 Chicago Teachers Union strike that occurred under Emanuel and contended that tense labor relations “may pose challenges for upcoming contract negotiations.” The union backs Garcia.

The ratings statement highlighted the district’s enormous pension obligations, which grew after a so-called pension holiday allowed CPS to defer payments for three years until 2014.

CPS’ statement included a quote from Byrd-Bennett repeating a common refrain of Emanuel’s, that Chicago taxpayers pay twice for pensions — through local CPS property taxes and through state income taxes that help fund pensions in other districts. Republicans in the legislature have noted that CPS gets nearly all of the state money set aside for students who live in poverty and several other special categories.

Emanuel and CPS leaders have been pushing for what they call pension reform — reductions in benefits for retired workers, coupled with higher worker payments into the funds — for the Chicago Teachers’ Pension Fund. Only when those changes come can they then commit to increasing taxpayer payments into the funds, they say.

In its statement, CPS renewed its call for help from Springfield, saying that applying recently passed state measures to the district could save $210 million in next year’s budget and decrease CPS’ unfunded liability by 37 percent.

But changes Emanuel engineered for city worker and laborer retirement funds are being challenged in court, with a pending Illinois Supreme Court case on state pension funds possibly influencing the outcome.

Unions have generally declined to negotiate on pension funds before the Supreme Court case is decided, and CTU leaders have maintained that the city has not kept up its commitments to the teachers fund, which is about $9.5 billion short of what it needs to meet future obligations. CTU leaders say CPS should find ways to make the fund whole, like restoring a separate pension fund property tax.

Fitch examined the school system’s books as CPS prepares to issue about $550 million in bonds to refinance long-term and short-term debt. The school district chose not to obtain a rating from Moody’s after that agency downgraded the district March 6.

Source: Chicago Tribune