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Illinois Goes Back To The Drawing Board

As a public policy, “Just say no,” didn’t accomplish much when applied to teenage pregnancy or drug abuse. It probably won’t be any more effective as a means of providing public employee pensions.

The Illinois Supreme Court seems willing to give it a try, however. That august body ruled last week that public employee pensions are inviolable, including current workers’ future benefits, under the state’s Constitution. Alternative readings are certainly possible - workers are clearly entitled to what they have already earned, but are they entitled to benefits for which they have not yet performed any service in exchange? But on the whole, the decision falls squarely within the realm of reasonable interpretation for Illinois’ constitutional language.

Now that the court has spoken so clearly, the question is: What next?

There are four possible scenarios. They are not mutually exclusive; in all likelihood we will see varying outcomes across the state that will include some, if not all, of these possibilities.

First, although the Illinois Constitution prohibits state officials from touching pension benefits, this restriction is trumped by federal bankruptcy law - an issue that was squarely decided in the Detroit bankruptcy, and was also a principle at issue in Stockton, California. The bankruptcy code does not, at present, apply to states, but it applies to cities, counties and other government subdivisions, and this is where a large part of the Illinois problem lies. Chicago faces a $550 million increase in pension payments next year to police and fire department employees alone. So the state Supreme Court’s ruling increases the likelihood that municipalities in Illinois, potentially including Chicago, could follow Detroit into bankruptcy.

It is also possible that as pension liabilities catch up with Illinois, and other states, Congress could respond to calls for a “bailout” by simply “bailing in” states and their creditors under the bankruptcy laws. That course of action would protect the national Treasury and force states and their creditors to ultimately face reality together, without the benefit of Washington’s seemingly limitless credit card and currency printing press.

In the second scenario, voters in Illinois could change their Constitution to eliminate the barrier raised by their state’s high court. Gov. Bruce Rauner has already called for this change; in a statement issued by his office after the Supreme Court decision, he said, “What is now clear is that a Constitutional Amendment clarifying the distinction between currently earned benefits and future benefits not yet earned, which would allow the state to move forward on common-sense pension reforms, should be part of any solution.”

This change ought to be a no-brainer. In reality, it will create a coalition of “takers” - people who make their living from the taxes paid by others - against the “makers” who see taxes merely as a financial burden imposed on them by the force of law, ostensibly through a democratic process, but one that, in the case of public elected officials and public employees, has generated a quid pro quo arrangement in which public unions deliver votes and public officials deliver benefits. Even if legislators and voters can mobilize to get this change underway, the next regular chance to consider such an amendment is November 2016, which will not help state or municipal lawmakers handle budget demands in the short term.

Third, there could be massive cuts in government employment at all levels. If this happens, voters will experience reduced service - though not reduced in proportion to the cuts, since greater efficiency is certain to result - without the benefit of reduced taxes, since that tax money will now go to pay for pensions that were earned through services delivered years or decades earlier. At least this would prevent the problem of unfunded liabilities from growing at its current rate, with fewer public employees around to earn benefits due down the road. But it will certainly not make politicians popular with constituents, who will perceive themselves as paying just as much and getting less in return.

Finally, Illinois and its municipalities could massively increase taxes. This scenario is apparently the one that the Illinois Supreme Court sees as both the likeliest and the most legally just answer. But it is only possible up to a certain point. As I have often said, the impossible never happens. There is an upper limit for tax hikes, beyond which those who can get out, will. Raising taxes beyond what the makers will bear can only drive economic activity out of the state, leaving behind just the takers - the public employees who benefit from taxes far more than they pay and the citizens who are so poor or inactive that they scarcely pay taxes anyway, though they often receive services from the aforementioned public employees. This is the Detroit model, writ as large as the Land of Lincoln. It will have similarly sad results.

Now we can only wait and see what happens next. Probably all of the above, in some combination. Whichever scenarios arrive, in whichever order, they are unlikely to be pretty.

Larry M. Elkin is the founder and president of Palisades Hudson, and is based out of Palisades Hudson’s Fort Lauderdale, Florida headquarters. He wrote several of the chapters in the firm’s book, Looking Ahead: Life, Family, Wealth and Business After 55. His contributions include Chapter 1, “Looking Ahead When Youth Is Behind Us” and Chapter 4, “The Family Business."

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