Rating agencies just rewarded New Jersey for a habit, not a balance sheet. On June 30, Gov. Mikie Sherrill signed a $60.7 billion budget built around the state's sixth consecutive full pension payment, $7.3 billion this year. Moody's upgraded New Jersey to Aa3 in September and S&P moved it to A+ the month before that, the ninth and eighth ratings upgrades of Gov. Phil Murphy's tenure. What neither upgrade mentions is that New Jersey's pension system still ranks 48th of 50 states by the ratio of assets to what it owes, an estimated 55% funded, and the state's own actuaries don't project full funding until roughly 2050. A government can write this year's check and still be insolvent by any honest measure. Rating agencies have stopped distinguishing between the two, and the municipal bond market has followed them.
New Jersey, Illinois, and Chicago are now running three live versions of that gap at once, and none of it has moved a municipal bond spread the way the underlying numbers should.
Start with Illinois. Moody's lifted the state to A2 on October 23, its tenth ratings upgrade since Gov. J.B. Pritzker took office in 2019, citing seven consecutive balanced budgets and a growing reserve fund. In that same report, Moody's called Illinois "an outlier among states" for its pension exposure and noted it remains the only state Moody's rates in the single-A category for that reason. Five months later, Illinois sold $1.4 billion in new general obligation bonds. The offering documents, prepared by the state itself, disclosed a pension funded ratio of 47.4%. Investors bought the bonds anyway. The upgrade got the headline. The 47.4% sat in an appendix.
New Jersey runs the identical play with better manners. Full actuarial payments, six years running now, bought Trenton back-to-back upgrades from both major agencies. Moody's own report conceded the trade for what it is, calling the state's pension underfunding "a bigger challenge...than for the vast majority of states." Paying this year's bill on time isn't solvency. No rating action has yet found a way to say that on the same page as an upgrade.
Chicago shows the other half of the story: what happens once the cash discipline that earns these upgrades breaks down. S&P and Kroll downgraded the city's general obligation debt in January 2025. Then, in August, Gov. Pritzker signed a police and fire pension "sweetener" that added an estimated $11.1 billion in new liabilities to funds that were already the worst-funded in the country. Chicago's fire fund stood at 23.7% funded in its last actuarial valuation before the bill, its police fund at 24.6%, its municipal employee fund at 25.7%. Mayor Brandon Johnson then cut the city's voluntary "advance" pension payment nearly in half in the 2026 budget, to $120.2 million from a projected $259.6 million. Moody's moved Chicago's outlook to stable from positive weeks later, still affirming Baa3. S&P moved the other direction in November, holding its BBB rating but flagging a "one-in-three chance of a lower rating" within two years. Chicago's general obligation debt now sits at Baa3, BBB, and BBB-plus across the three major agencies, one or two notches above the line separating investment grade from junk.
Here's what the market hasn't priced in. Milliman's monthly index of the 100 largest public pension funds in the country put the aggregate funded ratio at 87.6% as of April 30. Illinois and New Jersey sit thirty to forty percentage points below that national line. Chicago's core pension funds sit more than sixty points below it. Rating upgrades are supposed to lower borrowing costs, and for Illinois and New Jersey they have. Chicago's cost of borrowing only started rising once the cash discipline visibly cracked, not while the underlying liability was quietly compounding beneath it.
Rating agencies aren't dishonest. They measure exactly what they say they measure: near-term ability and willingness to pay, judged by budget balance, reserve levels, and whether this year's actuarially required check cleared. That's a legitimate and narrow question, and it stops well short of asking whether the pension system will still be solvent when this year's newly hired thirty-year-old teacher retires. Municipal bond buyers who conflate the two are pricing a management story instead of a balance sheet.
Rating agencies aren't measuring what most bond buyers assume they're measuring, and the reason isn't competence. It's the compensation. The issuer pays for the rating; a structure the SEC has flagged as an inherent conflict since Dodd-Frank ordered a study of alternatives in 2010. Stress-test that model once and you get the answer: the Financial Crisis Inquiry Commission concluded in 2011 that the major agencies were "essential cogs in the wheel of financial destruction" that produced the mortgage-bond collapse, and the Justice Department later extracted a $1.375 billion settlement from S&P and a nine-figure settlement from Moody's over crisis-era ratings that turned out to bear no relationship to the bonds' actual risk. An agency paid by the issuer to rate the issuer's debt is a vendor with a repeat customer, not a neutral referee, and Illinois, New Jersey, and Chicago are all repeat customers.
This is the fable of the emperor's new clothes, run through a spreadsheet. The actuaries can see the number. The state's own bond counsel can see it printed in the offering documents. The rating committees can see it too, and say so, in the same reports that carry the upgrade. Nobody in the room wants to be the one who says the funded ratio out loud while the press conference is still going. Illinois gets its upgrades. New Jersey gets its praise for discipline. Chicago gets its downgrade warnings only after the discipline breaks. The market keeps trading all three off the letter grade instead of the number underneath it, and the gap between the two is where the next municipal bond investor's loss is already sitting, unpriced and unbooked.
