Public Pensions Threaten Solvency of Local Government in California

My latest commentary on local California government pension problems, and how many local governments got into their current mess by following the state’s lead, is posted here. Below is an excerpt of the article.

California’s public pension system is broken. A decade of fiscally irresponsible behavior by state and local policymakers has left the state with a massive unfunded public pension liability. Unless government officials muster up the political courage to implement reforms that would make government pensions and retiree health-care benefits sustainable, the cost of government services will continue to be inflated and growing pension costs could threaten the very solvency of state and local governments.

[. . .]

Currently, the state owes an estimated $63 billion in unfunded pension benefits to government employees. Governor Schwarzenegger’s administration estimates that this figure could rise to as much as $300 billion if state pension funds continue to perform below their anticipated returns. Unfunded retiree health-care and dental benefits are estimated at an additional $118 billion.

The trouble has not been confined to the state level. Many local governments are being hit hard by the latest downturn in the economy—and, as a result, their pension fund investments are seeing lower returns than anticipated. When those investments return less than the rate assumed by the pension board, government employers have to contribute more to the pension fund to make up the difference. Underperforming returns may be smoothed out over a period of years, but the losses experienced over the past two years are so deep that governments across the state will need to significantly increase their contributions to pension funds at a time when their budgets are already strained.

[. . .]

Much of the pension trouble can be traced back to the late 1990s and early 2000s, when state and local governments decided to significantly increase pension benefits while contributing little to nothing to pension systems. Pension fund investments were experiencing unusually high returns due to the “dot-com” bubble. Assuming pension funds could depend on extravagant earnings indefinitely, CalPERS and labor union officials convinced lawmakers that the state could afford benefit increases. In 1999 the legislature passed SB 400, which increased state workers’ pensions by as much as 50% and made the benefit increases retroactive. This action quickly proved to be short-sighted when the dot-com bubble burst and pension investment returns plummeted.

CalPERS had encouraged local governments that participate in its plan to match the state’s benefit increases by offering to reduce their required contributions to the system in exchange for their adoption of the higher benefit levels. Thus, many local governments matched state benefit increases in the early 2000s. For example, Riverside County increased public-safety officials’ pension benefits by as much as 50%, allowing employees with 30 years of experience to retire as young as 50 years old with 90% of their working salaries.

[. . .]

Even governments that resisted large benefit increases have found themselves in trouble. Ventura County did not increase its benefit levels, yet its required pension contributions have more than tripled over a 10-year period. The county’s contributions, currently about $140 million, are expected to double again over the next five years.

This prompted a Ventura County Grand Jury report entitled, “Ventura County Pension: An Uncontrollable Cost,” which was released in June. The Grand Jury report included some recommendations that government officials in Ventura County and around the state should take to heart. They include:

  1. Locking away “excess earnings” realized during good investment years to balance out the bad years, instead of using them to pay greater benefits;
  2. Requiring voter approval of future government employee benefit increases, as San Francisco and, more recently, Orange County and the City of San Diego, do, and;
  3. Studying private-sector compensation and a switch from the current defined-benefit system to a more affordable and predictable 401(k)-style, defined-contribution retirement system, which the private sector has been doing for the last 30 years.

[. . .]

During the late 1990s and early 2000s, when government coffers were flush with tax revenues, it was easy to approve benefit increases that would not have to be paid for until many years later. Now that the bills are coming due, state and local officials, as well as taxpayers, are increasingly realizing that the more we spend to ensure the comfortable retirement of government employees, the less we have to spend on the programs and services citizens expect from their governments. We are finally reaching a day of fiscal reckoning. It will take some political courage to admit that current government pension and retiree health-care benefits are unsustainable—and even more to implement the significant reforms needed to restore fiscal responsibility—but this fortitude is necessary to get California state and local governments back on the right path.

Read the full column here.

Other resources:

” Reason public pension study: The Gathering Pension Storm: How Government Pension Plans Are Breaking the Bank and Strategies for Reform (Policy Summary | Full Study)

Fixing the state’s pension mess (published in the Orange County Register)

Is It Finally Time for Public Pension Reform in California?