More Evidence Emerges That Shows Pensions Not a State Level Crisis

We have pointed out numerous times that the current budget crisis is actually a revenue crisis caused by what some are now calling the Great Recession.  State spending is actually at its lower level in real dollars in decades.  Yet we retain around a $15 billion deficit, give or take for the latest adjustments.

In a general fund of roughly $85 billion dollars, the total payment that goes for pensions is only $3.7 billion.

We continue to believe that if reform does not occur, the victims will not be the state government but local governments like the City of Davis.  The reason for that is simple.  Five years ago the City of Davis paid out roughly 3% of its entire general fund budget to retirement in the form of pensions and retirement health care. 

Within the next five years that figure is likely to rise to 25%.  And with less revenue and slower growth, that means that the city is going to have to cut services drastically in order to pay its retirement obligations.  But few analysts seem to understand the distinction.

And so, while Gov. Jerry Brown is putting forth his reform, at the state level the issue of pensions has become a political issue, pitting liberal union supporters against conservatives who wish to punish, particularly, public employment unions.

Whenever a fight turns partisan, the truth is lost.  And so I have two fears. One is that the real problems faced by local governments at the local level with be swallowed up in the partisan fight.  Democrats will dig in to protect union interests while Republicans will seize this as an opportunity to punish unions.

The irony is that this is not just a union problem.  In fact, there are two huge abuses.  The first is the enhanced public safety benefits enjoyed by firefighters and law enforcement.  And the second is the non-union managers who are receiving six digit pensions, spiking and loading and otherwise gaming the system to their benefit.

Real analysis like George Skelton’s is rare. 

While Mr. Skelton does not look at the local level, he does acknowledge the potential for problems down the road. “Down the road, the current state pension system probably is not fiscally sustainable, as some studies have reported. It could burn a hole in the state vault — some time in the future. But not now or any time soon.”

The California Budget Project analysis shows even down the road a crisis is unlikely at the state level.  Their analysis finds that as the result of the economic downturn, CalPERS took huge hits and “Consequently, the Public Employees’ Retirement Fund (PERF) – the largest ‘defined benefit’ pension fund administered by CalPERS – now faces a substantial long-term funding shortfall. “

However, they argue that the sky is not falling.

“The PERF’s shortfall does not pose an immediate crisis. Even if nothing were done to address the shortfall, the PERF has enough funds on hand to pay pension benefits for anywhere from 25 to 53 more years, depending on the fund’s level of investment earnings over time, according to the Center for Retirement Research (CRR) at Boston College,” they write.

They continue, “Even if the PERF were closed to new employees and existing workers could no longer earn benefits in that fund, the PERF would be able to provide the benefits already promised for 15 to 18 more years.”

Moreover, “because a large share of the benefits promised to state workers won’t need to be paid for decades – many state workers are years away from retirement – California has time to address the shortfall.”

Under standards developed by the Governmental Accounting Standards Board, which establishes governmental accounting best practices, states could gradually rebuild their trust funds over as much as a 30-year period.

They also find that there have been significant strides made to address the long-term shortfall.

“Changes made largely through the collective bargaining process – a collaborative process involving workers and employers, which in our view is the most appropriate way to address public pension policies – increased state worker contributions to retirement and scaled back retirement benefits for new hires. Existing and new state workers now contribute between 8 and 11 percent of their monthly earnings to retirement – an increase of 2 to 5 percentage points,” they write.

“In addition, the retirement benefits for new hires were generally rolled back to levels in place more than a decade ago. And benefits for all new hires will now be based on workers’ highest annual pay averaged across three consecutive years rather than on the highest pay workers received in a single year – a change that will not only reduce workers’ pension benefits, but also reduce the likelihood that former state workers will go back to work for the state at the end of their careers for the sole purpose of ‘spiking’ their pensions,” they continue.

Furthermore, the CBP argues, “CalPERS is in better shape than some public retirement systems because California has avoided serious mistakes made by other state and local governments.”

Experts argue that “the best way to maintain the fiscal health of a pension fund  is to make regular contributions at the full required level.”

State and local governments that failed to do so were more likely to have pension fund shortfalls going into the downturn  and now face even greater shortfalls due to recent investment declines.

“After the recent financial crisis, most POBs [Pension Obligation Bonds] issued since 1992 are in the red,” according to a CRR report.

Writes the CBP, “The good news is that California never gambled with POBs (an attempt to do so during the Schwarzenegger Administration was blocked by the courts) and the state ‘has a long-term record of solidly funding its pension system,’ which means the PERF had a solid foundation before the stock market tanked.”

All of this is great and it is good to see support for the kinds of reforms we have been supporting for several years.  But none of this examines the crisis that exists at the level of local government.

One reform that we do not support is a transition to a “hybrid” retirement plan which would combine current defined benefit plans with a 401(k)-style individual investment plan or a defined contribution.

“We are going to propose pension reform,” Governor Brown said last week. “That’s more contentious, and I’m told there is going to be a lot of pension reform on next year’s ballot, anyway. So, one way or the other, I think we are going to get whatever pension reform we need.”

I agree with the Governor that pension reform is inevitable, but it would benefit the Democrats to take the lead on this and avoid what would be unnecessary draconian reforms when, as all evidence indicates, there is no crisis at the state level.

—David M. Greenwald reporting