These changes reflect the rating agency’s view that pension obligations are a significant source of credit pressure for governments and warrant a more conservative view of the potential size of the obligations.
Moody’s will make four principal adjustments to as-reported pension plan data:
- Multiple-employer cost-sharing plan liabilities will be allocated to specific government employers based on proportionate shares of total plan contributions;
- Accrued actuarial liabilities will be adjusted based on a high-grade long-term taxable bond index discount rate as of the date of valuation;
- Asset smoothing will be replaced with reported market or fair value as of the actuarial reporting date; and
- The resulting adjusted net pension liability (i.e. adjusted liabilities less assets) will be amortized over 20 years using a level-dollar method to create a measure of annual burden related to the net pension liability.
The rating agency’s new approach is outlined in the report “Adjustments to U.S. State and Local Government Reported Pension Data,” available on the company’s website, here. Concurrently, Moody’s has also released a revised “U.S. States Rating Methodology” and “General Obligation Bonds Issued by U.S. Local Governments,” which describe how it will apply the adjusted pension data to its ratings of those entities. The updated state methodology introduces a scorecard with explicit weights for various rating factors and sub-factors, including pensions, as a guide to approximate credit quality.
The adjustments are not a requirement or guideline for state or local governments to report or fund their pension obligations. Moody’s is introducing them solely for the purpose of evaluating pension risk in the context of its credit ratings.
As a result of this new approach, Moody’s has also placed the general obligation ratings of the cities of Chicago, Cincinnati, Minneapolis and Portland, as well as 25 other U.S. local governments and school districts, on review for possible downgrade. The entities whose ratings have been placed on review have large adjusted net pension liabilities relative to their rating category.