Despite a recent commitment to focus on public pension issues, the city of Birmingham continues to suffer from years of chronic underfunding. In a span of eight years, annual contributions into the city’s Retirement & Relief Pension Plan dropped from 75 percent percent of the actuarily required amount to 46 percent in the latest 2017 valuation.
Every time Birmingham makes an annual payment into its pension system below 100 percent of what actuaries determine is needed to fully fund the plan, it adds to its increasingly burdensome pension liabilities. This worsening trend in annual contributions has become a significant factor in the city’s growing $378 million pension debt.
Credit rating agencies are starting to take note. Last month, Fitch Ratings downgraded Birmingham’s issuer default rating and general obligation bond ratings to A+ from AA-. The rating agency cited the city’s growing pension debt as the principal contributor to a “less robust fundamental financial profile for the city and will lead to materially weaker spending flexibility.” Fitch views weak pension funding as a form of deficit financing.
Birmingham’s recent credit downgrade may be the first of many as other credit rating agencies notice what’s happening. Based on the current situation, there’s a high probability that more credit rating agencies will follow suit. Moody’s used similar reasoning to downgrade Dallas’ credit rating on general obligation bonds. If officials fail to act, Birmingham’s fiscal issues will only compound. If more credit downgrades take place the city would likely begin to suffer from increased borrowing costs.
Municipalities have budget constraints and are very sensitive to long-term changes to the tax base. Likewise, as pension liabilities grow, more resources must be diverted away from core city functions in order to pay the pension debt. City services could have to be reduced as taxpayers’ money is shifted to pick up the increasing cost of pension system neglect. If it continues to worsen, Birmingham’s growing pension debt could put pressure on the city to reduce future funding for critical services such as education and public safety.
In the worst-case scenario, if Birmingham officials continue to ignore the Retirement & Relief Pension Plan, unfunded liabilities could ultimately drive the city into bankruptcy. The city of Prichard, Alabama declared bankruptcy twice (in 1999 and 2009) due to an inability to pay pensioners. Similar stories have played out from Rhode Island to California. Although municipal bankruptcy is rare, local governments nationwide are already paying a dire cost in reduced services for chronically underfunding their public pension systems.
Birmingham’s credit downgrade shouldn’t be taken lightly. The city needs to reform its pension system to ensure taxpayers and retired public servants are not hurt by underfunding and mismanagement. History has shown that minor credit downgrades are often precursors to much worse situations for local governments. Birmingham Mayor Randall Woodfin has correctly identified the city’s pension debt as a pressing issue. Now, it is time to act with meaningful and lasting reform. Warning signs abound, and every day that passes absent of change compounds Birmingham’s current pension problem.