Municipal Finance Expert Calls Borrowing to Fill Providence Pension Hole a “Riverboat Gamble”

Municipal Finance Expert Calls Borrowing to Fill Providence Pension Hole a “Riverboat Gamble”

On Monday, Providence Mayor Jorge Elorza announced the release of a report issued by the Providence Pension Working Group recommending that the state pass legislation authorizing the Elorza administration to be able to move forward with $500 million in borrowing to make payments to address the unfunded pension obligation.

Providence currently has one of the lowest-funded pension plans in the nation. The report from the Working Group states in the last twenty years, the City’s unfunded liability increased by nearly $810 million.

But local and national municipal financial officers are warning about the dangers of this form of financing.

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"Pension Obligation Bonds carry significant risks, that is why the Government Finance Officers Association recommends state and local governments exercise caution before authorizing them," said Gary Sasse, the former head of the Rhode Island Public Expenditure Council and founding director of the Hassenfeld Institute at Bryant University.

"It is my understanding that Providence pension obligation bonds [POBs] are being proposed because the City has no politically viable option. This does not make them any less than a riverboat gamble," added Sasse.

Even more critical is the guidance of the Government Finance Officers Association (GFOA), which has issued an alert recommending that state and local governments do not issue POBs for the following reasons:

- The invested POB proceeds might fail to earn more than the interest rate owed over the term of the bonds, leading to increased overall liabilities for the government.

- POBs are complex instruments that carry considerable risk. POB structures may incorporate the use of guaranteed investment contracts, swaps, or derivatives, which must be intensively scrutinized as these embedded products can introduce counterparty risk, credit risk and interest rate risk.

- Issuing taxable debt to fund the pension liability increases the jurisdiction’s bonded debt burden and potentially uses up debt capacity that could be used for other purposes.  

- In addition, taxable debt is typically issued without call options or with "make-whole" calls, which can make it more difficult and costly to refund or restructure than traditional tax-exempt debt.

- POBs are frequently structured in a manner that defers the principal payments or extends repayment over a period longer than the actuarial amortization period, thereby increasing the sponsor’s overall costs.

- Rating agencies may not view the proposed issuance of POBs as credit positive, particularly if the issuance is not part of a more comprehensive plan to address pension funding shortfalls.

City Council President John Igliozzi is pushing the pension obligation plan.

“I appreciate the efforts of the pension working group to explore options to reduce the City's unfunded pension liability. The City Council will accept their report on Wednesday during a special Council meeting and hear a presentation on recommendations to help solve our pension problems. The numbers don’t lie, and the hole will only get deeper with time if we do not take action. When considering a $500 million pension obligation bond, I would stress the importance of a fixed interest rate and consistent payments equal to what the city currently pays to accelerate debt reduction. Any new strategy we explore should include placing financial governors (or guardrails) on future City Councils and administrations to keep the payments steady throughout the years,” said Igliozzi, who represents Ward 7. 

According to Elorza's press release, "The Working Group also found that not taking action is not an option, as doing so would jeopardize the retirement security of plan members as well as the City’s ability to provide City services in the future. A recommendation to highlight from the Pension Working Group acknowledges that Providence should receive state legislative and city voter authorization to issue a pension obligation bond sized to deposit $500 million into the ERS if advantageous borrowing conditions and terms are met."

The financial firm that designed the pension obligation bond strategy for the Elorza administration is also tied to one of the biggest controversies in modern Rhode Island history.

That same firm, Dallas-based Hilltop Holdings Inc. unit Hilltop Securities Inc. agreed to pay $16 million to “settle any and all claims in a litigation involving the Rhode Island Commerce Corp.” over the infamous failed video gaming company headed by former Boston Red Sox Pitcher Curt Schilling