Fixing California’s Public Pension System

State and local governments across the country are struggling with mounting public pension troubles, but California’s pension problems are worse than most. A couple of recent studies put the state’s unfunded pension liability at around a whopping $500 billion. A paper by University of Chicago business professor Robert Novy-Marx and Northwestern University finance professor Joshua D. Rauh estimates California’s unfunded liability at about $475 billion. Similarly, an April 2010 Stanford Institute for Economic Policy Research study calculated the state’s liabilities at approximately $535 billion. That translates to roughly $36,000 for each California household.

California, as well as numerous other state and local governments, will have to take significant steps to reform its public pension system. Here are some recommendations for reform from my new study on how California got into its current public pension mess and how to fix it:

  • Perform an evaluation of wages and benefits offered in the private sector and adjust all future state employee compensation so that it is in line with this standard. Repeat such an evaluation every five years.
  • Close the defined-benefit pension plans for state employees and enroll all new employees in defined-contribution plans for pensions and other post-employment benefits, such as retiree health care and dental benefits.
  • Adopt more conservative investment strategies and more conservative discount rate assumptions for current employees’ defined-benefit plans.
  • Begin pre-funding post-employment benefits liabilities for employees already in the current system, with the ultimate goal to achieve full funding.
  • Adopt an amendment to the state constitution requiring all future government employee benefit increases to be ratified by the state’s voters.
  • Adopt an amendment to the state constitution prohibiting retroactive benefit increases.
  • Eliminate “air-time” purchases to reduce pension spiking and discourage early retirement.
  • Require employees who have previously retired to forfeit their retirement checks while they are on the state’s payroll to avoid double-dipping, as over 5,000 former state employees are doing today.

See the full study here or the study summary here (.pdf files).

For a historical look at how a number of state and local governments got into their public pension problems, see my earlier pension study, The Gathering Pension Storm: How Government Pension Plans Are Breaking the Bank and Strategies for Reform (Full Study | Policy Summary).