Despite recessions and economic downturns, New Jersey has for decades been able to maintain an “A” grade on its general-obligation bonds, helping to net favorable terms for taxpayers for its long-term borrowing issues.
But the state is now as close as it’s ever been to falling out of A-grade territory thanks to a series of recent revisions by credit rating firms amid the ongoing coronavirus pandemic.
In fact, state Department of Treasury records indicate that for the first time ever New Jersey’s bonds are one step away from that tumble with all three of the “Big 3” Wall Street credit-rating firms, Fitch Ratings, Moody’s Investors Service and S&P Global Ratings.
In addition, in recent weeks all three firms have moved the state’s outlook for general-obligation bonds — which are the most secure the state can offer because they are backed with taxes and not appropriations — into “negative” territory. A negative outlook can foreshadow future rating downgrades to investors.
Reacting to the spate of revisions, Treasury officials have suggested they do not come as a surprise given how the pandemic has impacted the broader economy. They have also pointed to fiscal measures the state has taken in response to the economic upheaval, including spending and hiring freezes and a lengthening of the state fiscal “year.”
Small budget reserves
But even as the new rating actions by the Big 3 firms have all come during the pandemic, they’ve also highlighted how New Jersey policymakers left the state in a precarious position heading into the health crisis, including by running up significant debt, regularly underfunding the public-worker pension system, and maintaining only meager budget reserves.
How Gov. Phil Murphy and lawmakers handle those perennial budget issues while also dealing with the pandemic-related turbulence will now determine whether New Jersey can stave off a tumble into B-grade territory.
New Jersey maintained a prestigious, triple-A bond rating up until the early 1990s, according to Treasury’s records. But a series of downgrades during the tenures of former Govs. Jim McGreevey, a Democrat, and Chris Christie, a Republican, helped to knock the rating down to single-A territory by the time Murphy, a Democrat, took office in early 2018. (The bond ratings inherited by Murphy were an “A” from Fitch, an “A-” from S&P, and an “A3” from Moody’s, which is its equivalent of an “A- “.)
During his tenure, Murphy has attempted to address some of the state’s long-standing budget issues, including by boosting reserves and continuing to ramp up public pension funds, an effort that began under Christie. The state has also seen its total bonded debt drop slightly in recent years as Murphy has slowed the pace of new borrowing.
But Murphy’s efforts never netted a rating upgrade from any of the Big 3 firms as budget reserves remained only a small percentage of total spending, and as annual pension funding was never increased enough to match what actuaries would consider a “full” payment.
Still, when Fitch lowered New Jersey’s bond grade to “A-“ last month as the effects of the coronavirus took hold, the firm’s analysis did highlight “progress made under the current administration.”
Moody’s had a similar message when lowering the state’s bond outlook to negative last month.
NJ has ‘less flexibility’ than other states
“New Jersey’s finances have improved notably in the past two fiscal years, but remain weak compared to peers with low fund balances and high fixed costs,” Moody’s said. “As a result, the state has less flexibility to manage the current coronavirus-related economic disruption.”
In a similar outlook downgrade by S&P last week, the firm said: “New Jersey’s economy and high income could support a higher rating, but high debt, high other postemployment benefit (costs), and the nation’s worst funded pension system are reflected in a rating well below the median for the state sector.”
As a result of those three revisions, last month marked the first in New Jersey’s history when all three of the Big 3 firms had New Jersey’s bond rating just one notch above “B” territory — and all with a negative outlook.
Among U.S. states, only Illinois has general obligation bonds that are currently sold without an “A” rating.
While still investment grade, the next step down grade is a sign of trouble to investors, and it would likely heap on additional borrowing costs that are ultimately covered by taxpayers whenever the state has to issue long-term bonds to finance capital projects and other expenditures that can’t be funded in a single fiscal year.
State Treasurer Elizabeth Maher Muoio, in a statement issued on Friday, said her agency has found a “sliver of encouragement” from the rating firms since they’ve recognized some of the progress that the Murphy administration was making in recent years.
Forecasts being revised
“While disappointing, these changes are not surprising because New Jersey, like nearly every other state and local government across the country, is facing unprecedented budget challenges right now,” Muoio said.
The treasurer also pointed to ongoing efforts within her department to revise forecasts, both for the current fiscal year, which has been extended to Sept. 30, and for fiscal year 2021.
“Ultimately we look forward to getting back on a fiscally responsible and sustainable path that will allow us to start saving for a rainy day again,” she said.
A significant infusion of cash from the federal government could go a long way toward easing the state’s budget challenges, which is something that former Democratic Gov. Jon Corzine was able to use during the 2007-2009 recession. In fact, Murphy went to the White House and made an in-person pitch for such aid to President Donald Trump last week. But the potential for a significant federal bailout remains in doubt in the politically divided Congress.
New budget cuts could also come into play, and last week’s analysis from S&P pointed to the state Constitution giving New Jersey’s governor “strong powers to hold back current year spending to keep an adopted budget in balance.”
Treasury spokeswoman Jennifer Sciortino said a full $1 billion in FY2020 spending has now been put in reserve by the Murphy administration, up from an initial $920 million that was announced in late March. All hiring not related to the pandemic is also frozen, and all procurements are now under a tight review, Sciortino said.
“We will pursue any de-appropriations necessary to support required supplemental appropriations through June 30 and to ensure an adequate fund balance,” she said.
Some lawmakers want state workers furloughed
Some lawmakers have been pushing Murphy to cut even more, including by furloughing groups of workers who make less than $76,500 annually. They would essentially be held harmless under increased jobless benefits that are being funded by the federal government, the lawmakers maintain, but so far, Murphy has not signed on.
Meanwhile, Murphy and other administration officials have been urging lawmakers to authorize the issuance of long-term general-obligation bonds to help raise cash to keep the state budget solvent. They note trouble is projected not only for the remainder of FY2020, but into FY2021 as well.
“Swift passage of the Emergency General Obligation Bond Act is crucial to helping us meet many critical obligations while also enabling the state and many of our municipalities to take advantage of the federal lending facility,” Muoio said in the statement issued on Friday.
But several lawmakers have also raised concerns that the state Constitution forbids using bond proceeds as general revenue to plug budget holes. They also point to a state Supreme Court ruling issued in 2004 that backed up that principle, suggesting it would take approval of a new constitutional amendment to make Murphy’s borrowing plan work.
Looking ahead, last week’s outlook downgrade from S&P said New Jersey has “at least a one-out-of-three chance” of seeing another rating cut “within the next year.” And Fitch said its recent outlook and rating actions indicate “the direction the rating is likely to move over a one- to two-year period.”
“However, it does not imply that a rating change is inevitable,” Fitch said.
The firm’s analysis went on to highlight what would make it consider issuing another rating reduction.
“Actions with long-term consequences that retreat on the significant progress the state has made in addressing its long-term liability position or weaken improved budgetary management practices could lead to a downgrade,” Fitch said.