Pension Reform Newsletter – April 2014

This newsletter highlights articles, research, opinion, and other information related to public pension problems and reform efforts across the nation.

Articles, Research & Spotlights

• Pew’s Latest Pension Report Shows Growing Pension Problem, but Understates Unfunded Liabilities
• Pension Protection and the Detroit Bankruptcy
• Mayor Emanuel’s Proposed Pension Reform Plan, Tax Hike for Chicago
• Blue Ribbon Panel on Public Pension Plan Funding
• California State Teachers’ Retirement System’s Unfunded Pension Liabilities
• Jack Dean – Pension Reform News Aggregator
• Retirement Security in America – A Tale of Two Contracts
• Not So Modest: Pension Benefits for Full-Career State Government Employees

Quotable Quotes on Pension Reform

Contact the Pension Reform Help Desk – Get assistance for your pension reform needs

 

Articles, Research & Spotlights

Pew’s Latest Pension Report Shows Growing Pension Problem, but Understates Unfunded Liabilities
By Truong Bui, Reason Foundation

In its latest annual update of state unfunded liabilities using new data for fiscal year 2012, the Pew Center found that state-run retirement systems had a $915 billion shortfall, a major increase from $757 billion in 2010 and $452 in 2008. Weak investment returns and the states’ failure to fund their annual required contributions are in large measure responsible for the growing gap.

According to the most recent data, in total, states’ governments paid just 77 percent of their required contributions in 2012, with only 15 states having consistently made at least 95 percent of the required payments from 2010 through 2012. When local governments’ liabilities were included, the gap was even bigger-over $1 trillion. But according to some analysis by Cory Eucalitto at State Budget Solutions , this is still an understatement, as Pew’s report relies on state-reported numbers, which are based on high assumed investment returns, typically between seven and eight percent.

A “risk-free” calculation using a lower and more reasonable discount rate results in a $4.1 trillion unfunded liability, four times higher than the figure calculated by Pew. Unrealistic asset return assumptions obscure significant risk faced by public pension funds, 85 percent of which are expected to go bankrupt in three decades when asset returns are revised to a more realistic level.

To read more about the Pew’s report, go here.

Follow up on State Budget Solution’s review of those numbers here.

Pension Protection and the Detroit Bankruptcy
By Alexander “Sasha” Volokh, Associate Professor of Law at Emory Law School

Sasha Volokh has a new article on Reason.org that explores how constitutional pension protections interact with bankruptcy law in the context of Detroit’s ongoing bankruptcy. Here’s an excerpt:

On March 13, 2013, after the release of several reports on Detroit’s finances, the governor of Michigan had announced, consistently with Michigan law, that a “financial emergency” existed in Detroit and appointed an “emergency manager” to run the city. The emergency manager met and negotiated with creditors, but ultimately recommended bankruptcy, which led to the governor’s decision to authorize the city to file for bankruptcy.

Many parties filed objections to the bankruptcy in federal bankruptcy court. On December 5, 2013, bankruptcy judge Steven Rhodes issued an opinion taking up about 95 pages of the Bankruptcy Reporter and discussing over a dozen separate state and federal legal theories, including federal constitutional objections to Chapter 9 on federalism grounds, federal constitutional objections to the use of bankruptcy courts (which are executive tribunals, as opposed to regular courts) on separation-of-powers grounds, a variety of state constitutional claims, and a variety of claims under Michigan law, including challenges to the authority of the emergency manager, as an unelected official, to file for bankruptcy.

Judge Rhodes rejected all the arguments and concluded that the city was eligible to file for Chapter 9 bankruptcy; this post will focus solely on the arguments related to public-employee pensions…

Read the rest of the article here. Volokh’s other legal analyses written for Reason Foundation are available here.

Mayor Emanuel’s Proposed Pension Reform Plan, Tax Hike for Chicago
By Lance Christensen, Reason Foundation

Mayor Rahm Emanuel’s recent tax plan has a five-year, $750 million property tax hike and a nearly 30 percent increase in employee contributions toward pension. The Chicago Sun-Times challenges much of the mayor’s proposal’s effectiveness, wondering if it is even constitutional. More scrutiny is sure to come, especially as union workers believe that this plan will impair their benefits.

Anticipating the proposal, the Illinois Policy Institute has released an alternative reform plan without tax hikes. According to the Institute, “We have worked with an actuary on a plan that gets politicians out of the retirement business and puts retirements in the control of workers.” Their plan “gives workers a hybrid retirement plan that allows them to benefit from market returns, but also provides them with the stability offered by fixed monthly, Social Security-like benefits. It’s a hybrid DB/DC plan from the employees’ standpoint, but a DC plan from the employers (budget) standpoint.”

Public employee unions are quick to attack defined contribution plans, claiming they are risky and unlikely to earn the returns of defined benefit plans. Yet, Ted Dabrowski, Vice President of Illinois Policy Institute, asserts, “Opponents of real pension reform may want to take a closer look at just how poorly politician-controlled pension funds are doing. They may finally realize it’s time to take that control away and put it where it truly belongs – with government workers.”

Read here where Dabrowski rebuts the argument that politicians make better investment decisions than government workers.

Chicago is only one of many major metropolitan municipalities that has come to the reality that they cannot fully fund obligations they have promised for years. The question is whether raising taxes will solve the problem if fundamental reforms are not enacted. The Illinois Policy Institute has much for the mayor to consider.

To see the Illinois Policy Institute’s full report, go here.

Blue Ribbon Panel on Public Pension Plan Funding
By Truong Bui, Reason Foundation

A new study, commissioned by the Society of Actuaries (SOA), provides a set of sound principles and recommendations that can help guide pension reform. Notable in the study are the three basic funding principles:

1. Adequacy – the authors recommend plan trustees and sponsors “fund 100 percent of the obligation for benefits using assumptions that are consistent with median expectations about future economic conditions.” Adequacy also means that “the sponsor should have the resilience and flexibility to respond to conditions significantly more or less favorable than expected.”
2. Maintenance of intergenerational equity – do not pass the bill to future generations.
3. Cost stability and predictability – avoid “allocating a significant portion of investments to higher-risk, more volatile assets.”

The study also details specific recommendations for the management of public pensions. Two points merit special attention:

• Discount rates – rate of return assumption should be based “primarily on the current risk-free rate plus explicit risk premia or on other similar forward-looking techniques”
• Smoothing – the study recommends that asset smoothing periods be limited to five years or less, and that direct rate smoothing methods be used to allow pension managers to better budget contributions.

To read the study, go here.

California State Teachers’ Retirement System’s Unfunded Pension Liabilities
By Truong Bui, Reason Foundation

Without corrective action, the California State Teachers’ Retirement System (CalSTRS) will deplete its assets in 31 years, according to its own report . The system is only 67 percent funded with the total unfunded liability at about $71 billion and is among the largest parts of the state’s long-term liabilities along with infrastructure debt. Worse, CalSTRS debts grow at an annual rate of 7.5 percent, faster than most other state liabilities. Weak investment returns in the early 2000s and the state’s decision to reduce contributions and increase certain benefits in the late 1990s contribute to the unfunded gap.

Full funding in 30 years or less is the most sustainable solution to the long-term funding problem. This requires an additional $4.5 to $5 billion annual contribution to the system, which, according to the Legislative Analyst’s Office (LAO), is roughly the same amount of the combined general fund spending on the University of California and the California State University in 2014-2015. Given that the aggregate contributions are already $5.7 billion per year, the required extra amount would represent a more than 80 percent increase to the current funding. The additional payments would be about 15.1 percent of teacher payroll annually, if implemented immediately on July 2014. However, such a stiff increase would strain budgets and strongly disrupt the spending plans of affected stakeholders.

A more feasible plan is to ramp up the contribution rates gradually until they reach the desired level. The trade-off is higher total cost in the long run. According to LAO, the majority of the needed funding probably will come from state and school districts, as reducing teachers’ benefits is not viable due to state law. The burden would mostly fall on taxpayers, who would pay more in taxes and get less from public services . Unless significant pension reforms are undertaken to rein in spending, the unfunded liability deficits will spiral out of control and wreck the state’s finance in a near future.

To read more about CalSTRS’s funding problem, go here and here.

Jack Dean – Pension Reform News Aggregator
By Lance Christensen, Reason Foundation

In July of 2004, Jack Dean began monitoring the public pension crisis by launching a news aggregation website called PensionTsunami.com. Nearly a decade and 33,000 headlines later, he is still tracking the issue on a daily basis. The site has become one of the best sources for information on what has been a growing problem nationwide for both state and local governments.

“The issue wasn’t even on my radar until that year,” says Dean, a resident of Fullerton, California. “What initially caught my attention was a vote of the Orange County Board of Supervisors that increased our county general employees’ pension multiplier from 1.67 percent to 2.7 percent — a whopping 62 percent boost in pension benefits. Even worse, the boost was retroactive and unfunded.” Knowing that Orange County was not the only jurisdiction which had engaged in pension chicanery, he began monitoring other municipalities and discovered that cities throughout California had been granting these benefit boosts, primarily to police and firefighters who were all considered to be heroes in the wake of the September 11 terrorist attack on the World Trade Center. For those public safety employees, what had been a 2 percent multiplier was bumped to 3 percent-a 50 percent increase-again retroactive and unfunded. “It seemed irresponsible and unsustainable to me,” said Dean. “It turned out I was right on both counts.” Orange County’s pension fund currently has a $5.7 billion unfunded liability.

In the past few years, Dean has increased his involvement in California’s pension reform movement. He currently serves as vice president of two statewide organizations-the California Foundation for Fiscal Responsibility and California Pension Reform. He is a frequent guest on radio talk shows and TV public affairs programs such as KNBC’s News Conference. In 2010, he served as moderator of a panel discussion for the US Chamber of Commerce in Washington, DC and was also interviewed on the pension crisis by Reason TV.

Those who are interested in receiving the latest pension crisis headlines in their inboxes each day can subscribe to the PensionTsunami email list here.

Retirement Security in America – A Tale of Two Contracts
By Lance Christensen, Reason Foundation

Ed Ring, executive director of the California Policy Center, dramatized the difference between the retirement plans of public employees and ordinary citizens. Ring frames the analogy as such:

Two people walked into a bank, somewhere in California. Both individuals needed to prepare financially for their retirement. Both of them earned about $80,000 per year.

To understand the disparities between the two individuals, read the rest of the story here.

Not So Modest: Pension Benefits for Full-Career State Government Employees
By Andrew G. Biggs, American Enterprise Institute

AEI has released a new study, “Not so modest: Pension benefits for full-career state government employees,” which shows that despite claims from public employee unions that pension benefits are “modest,” generous benefits can leave a retired public employee as one of the best-paid individuals in his/her state. The study presents data on a state-by-state basis, allowing readers to compare their own state to others. The study is available here.

The study also shows that, while full-career public employees often fare extremely well, short-term employees may leave government service with little or nothing set aside for retirement.

For a short write-up of the study see the Wall Street Journal here.

 

Quotable Quotes on Pension Reform

“Anyone in a position of local or chapter leadership who opines or promotes opposition to the Agreement is acting contrary to its terms and does not represent the position taken by [Rhode Island Public Employees Retiree Coalition] or its member organizations. Those who are opposed to the settlement are operating under emotions which are completely justified and understandable. However, they are neither rational nor legally sound.”
Roger Boudreau, President of the Rhode Island American Federation of Teachers’ retirees chapter and a member of the state retirement board

“Contract negotiations, much of it takes place in the respective caucuses between management and labor, and it’s a bit of Kabuki Theater. It’s very stylized, it’s very slow, it’s very boring, and it’s very time-consuming. It’s not going to be terribly edifying.”
Steve Segall of the Washington Federation of State Employees Local 443

“The Society [of Actuaries] needs to stop treating its members as some disease that the public has to be protected from.”
Paul Angelo, public pension plan actuary

“This is the crowning act of gimmickry to make the budget look balanced and to undermine the soundness of the pension system.”
Bart Mosley, Co-President at Trident Municipal Research in New York

 

Contact the Pension Reform Help Desk

Reason Foundation set up a Pension Reform Help Desk to provide information on Reason’s work on pension reform and resources for those wishing to pursue pension reform in their states, counties, and cities. Feel free to contact the Reason Pension Reform Help Desk by e-mail at pensionhelpdesk@reason.org.

Follow the discussion on pensions and other governmental reforms at Reason Foundation’s website or on Twitter @ReasonReform. As we continually strive to improve the publication, please feel free to send your questions, comments and suggestions to lance.christensen@reason.org.

Lance Christensen
Director, Reason Pension Reform Project
Editor