Commentary

Update on State Unfunded Liabilities

Last year, State Budget Solutions produced widely read research revealing that state public pension plans were underfunded by $4.1 trillion, based on fair-market valuation. Reason Foundation commented on analysis here. State Budget Solutions has recently updated the study, finding that the unfunded figure has increased to $4.7 trillion, with the aggregate funded status having dropped to 36 percent from 39 percent in 2013. Part of the deterioration in funding is due to a decrease in the fair-market discount rate from 3.255 percent to 2.734 percent. Had the study applied last year’s discount rate to this year’s numbers, it would have still resulted in an increase of nearly $110 billion in unfunded liabilities.

Using the market-valued approach that relies on an almost risk-free discount rate, the study shows a more accurate picture of state pension debts. Most financial economists agree that the discount rate used to value pension liabilities should reflect the risk of these liabilities, not the expected returns of the invested assets. Because pension payments to state employees are guaranteed, the appropriate discount rate should be much lower than the 7 to 8 percent rate assumed by most state pension plans.

The study finds that California has the largest unfunded liability in total dollars at $754 billion, followed by Illinois at $331.6 billion and New York at $307.9 billion. In terms of funded ratio, the Illinois system is the most underfunded, with a funded ratio of 22 percent, followed by Connecticut at 23 percent and Kentucky at 24 percent. With regard to unfunded liability per capita, Alaska is the worst with $40,639 pension debt per capita, followed by Illinois and Ohio.

To read the research, go here.

Truong Bui is a policy analyst at Reason Foundation, where he works on the Pension Integrity Project.