A recent study by the investment firm Eaton Vance found North Carolina’s creditworthiness fell from fourth place among the 50 states a year ago to 13th this year — but the change was related to new methods of weighting data rather than any drop in the state’s ability to meet its debt obligations.
Eaton Vance performs the study each year for the Barron’s financial newspaper’s “State of the States” report.
“North Carolina is definitely in our mind a very solid, stable credit [state],” said Bill Delahunty, the Eaton Vance researcher who conducted the study. Even though North Dakota is No. 1 and North Carolina is 13, Delahunty said the two states are much closer than the rankings indicate.
“Overall, North Carolina is in better shape than most states,” said Joe Luppino-Esposito of State Budget Solutions, a free-market group that studies state fiscal policy. “Recent changes and reforms to government spending have made it clear that the state is improving.”
Citing the state’s pension liability, Luppino-Esposito said, “North Carolina has the third-best funded system when you look at fair market valuation of the state’s assets. The problem is that North Carolina’s pension system is only 50 percent funded,” using the ratio of the current valuation of the pension fund’s holdings to its liabilities, or the total amount it owes in benefits.
Ideally, a state’s pension system should be funded at 100 percent, with the understanding that there will be some minor fluctuations from year to year, Luppino-Esposito said. However, he said that the “magic number” for state pension funding ratio is around 80 percent, although there is some disagreement among experts in the field on that number.
In State Budget Solutions’ ranking of states based on the funding percentage of pension plans, only Wisconsin (67 percent) and South Dakota (52 percent) have a higher funding percentage than North Carolina. Illinois has the lowest funding ratio at 22 percent.
North Carolina’s unfunded liability as a percentage of gross state product is 17 percent (along with South Dakota’s). Only six states have an unfunded liability percentage lower: Delaware at 16 percent, North Dakota at 16 percent, Indiana at 15 percent, Tennessee at 15 percent, Nebraska at 14 percent, and Wisconsin at 14 percent. Mississippi has the highest unfunded liability as a percentage of gross state product at 58 percent.
Delahunty explained why Eaton Vance decided to change the way it ranked states’ creditworthiness.
“For the two years prior to this year, what we really focused on was unfunded pensions and unfunded retiree healthcare burdens,” Delahunty said.
Now that the analytical community and rating agencies are taking a closer look at pensions, Delahunty said his office decided to shift from pensions to overall credit quality.
“This year we looked at many more metrics,” Delahunty said. “We incorporated debt and pensions into it, but we also looked at state liquidity, their general fund balances. We looked at the economics in the state, economic growth, state population growth, how much flexibility do they have to raise taxes, median household income. There’s a number of factors that go into our credit analysis to really get a holistic view of state credit quality as opposed to just looking debt and unfunded liabilities.”
State Treasurer Janet Cowell’s office listed other metrics in response to the Eaton Vance report. “The Department of State Treasurer is pleased that the [state’s] top AAA bond rating was recently re-affirmed by all three ratings agencies. We are one of only 10 states with this distinction,” said Schorr Johnson, a spokesman for Cowell.
The Barron’s/Eaton Vance report cites North Dakota’s booming economy driven by fracking as a factor in its high ranking. The report cited “well-funded pension plans” as a factor in North Carolina’s ranking.
Rounding out the top five (with the reasons for the ranking) are: Wyoming (strong finances driven by mining); Utah (strong population growth, low debt); Nebraska (no general obligation debt, well-funded pensions); and Iowa (good reserves, very low debt). The sixth through 10th spots go to Alaska (economy driven by natural resources); Virginia (strong, broad-based economy); Missouri (good budget management, below-average growth); Vermont (strong fiscal management and moderate debt); and Idaho (years of surpluses).
Virginia is the only state bordering North Carolina ranked higher than the Tar Heel State. Tennessee is ranked just below North Carolina at No. 14, Georgia is No. 21, and South Carolina is No. 24.
Illinois received the lowest ranking. The Eaton Vance report cited Illinois’ structural fiscal imbalance — which is expected to increase. Next-to-worst was New Jersey, followed by Connecticut, Pennsylvania, Kentucky, Rhode Island, Maine, Louisana, Hawaii, and Arizona.
If Puerto Rico were the 51st state, it would have ranked 51st. The report cites the commonwealth’s weak economy, high debt, and pensions as factors in its ranking.
Barry Smith (@Barry_Smith) is an associate editor of Carolina Journal.