How to Keep Pension Promises on the Road to Solvency

CA government pension systems encourage irresponsible behavior

The California State Teachers’ Retirement System is facing a $24 billion deficit. Los Angeles County’s pension shortfall is over $5 billion. Contra Costa and Orange counties and the city of San Diego are all facing unfunded liabilities of more than $1 billion each. Across the country and the state, the list of governments in the midst of pension woes is seemingly endless. The state’s pension share has soared from $160 million in 2000 to an estimated $2.6 billion this year. Contra Costa’s has grown from $70 million in 2001 to an estimated $177 million next year. The desire to provide retirement security for public employees has been transformed from a proud civic tradition to an anchor around taxpayers’ necks. How did we get here?

While the goal of stable retirement income is certainly honorable, the system used to achieve it for government employees is a minefield of flawed incentives that encourages irresponsible behavior.

Lawmakers are free to dole out unnecessary, excessive benefit giveaways to score political points and curry favor with unions because taxpayers will shoulder the financial burden many years down the road, when the elected official has likely moved on. Similarly, union bargaining teams are fighting for increased retirement benefits for their members, regardless of the costs taxpayers will pay for those extravagant promises.

This is not an attack on unions or elected officials. It is a matter of fundamental human behavior: When people are allowed to make decisions without consequences, they inevitably make poor decisions. The state’s traditional pension plans are particularly vulnerable to pandering and campaign promises that lead to foolish benefit increases. Perhaps the worst example of this occurred in 1999, when then-Gov. Gray Davis signed Senate Bill 400, ushering in huge benefit increases for many state employees. That one piece of legislation created an estimated $10 billion obligation over 20 years that the state, and taxpayers, clearly can’t afford.

The increases cemented California’s reputation for lavish pensions. In comparison to the retirement benefits that state employees in 15 other states receive, the nonpartisan Legislative Analyst’s Office found California offers the highest retirement benefits and is “comparatively generous.”

We need two key fundamental reforms to prevent these giveaways from happening again:

— First, state and local governments should follow the lead of the private sector and shift all new workers to a defined-contribution, 401(k)- style plan that we are all familiar with. Under the switch, employees and employers (the government) would both contribute to an individual investment account. Upon retirement, the size of each public employee’s pension would depend on the contributions made (including the employer match) and the personalized investment strategy the employee used. This way, the state could still offer attractive retirement plans, but lawmakers couldn’t make promises they can’t pay for.

— Second, because shifting new hires to a 401(k) retirement plan is only a part of the answer (it doesn’t prevent politicians and unions from racking up new debt through further, reckless retirement-benefit increases for existing employees), from here forward, all government employee pension benefit increases should require voter approval. The California Constitution says government officials must receive permission from taxpayers before borrowing large sums of money. Because pension commitments are ironclad, they effectively carry the same long-term legal obligations as general obligation debt and should be subject to the same requirements. San Francisco has such a requirement, and that’s one of the big reasons it is not on the pension debt list with Contra Costa County, which lacks the measure. Voter approval of pension benefits would also help keep benefits at reasonable levels in the eyes of the taxpayers, who, after all, are paying the employees’ salaries and will ultimately foot the bill for their retirement.

Until fundamental reform of the government pension system is achieved, our state and local governments will continue to rack up billions of dollars in pension debt that will crowd out investment in other quality-of-life priorities such as schools, roads and law enforcement. A 401(k) plan for new hires would still allow governments to attract bright workers, but it would force politicians to fund it now, not on the credit card. And asking voters to OK benefit increases would discourage political giveaways.

It is time to return retirement policy to the status of worthwhile civic investments, rather than a shopping spree of political handouts.

George Passantino is a senior fellow of government reform at Reason Foundation. He served as a director on Gov. Arnold Schwarzenegger’s California Performance Review.