The surprise news this week is that rate hikes from CalPERS next July for local pension plans, like the City of Davis’, is expected to be far lower than previously expected, with an increase of less than 1 percent for most local pension plans.According to a report from Ed Mendel, while the CalPERS investment fund dropped back in 2008-09, the fund which peaked at $260 billion in fall of 2007, bottomed out at $160 billion, was back at $222.5 billion early this week.
However, not only does that reflect a decline in real dollars, it also reflects a downward revision from the projected 7.75% annual increase.
“Most of the plans are experiencing an increase in rate for the 2012-13 year, although the increases are less than we projected in our prior report,” said actuary Nancy Campbell, as reported by Mr. Mendel.
“And I may say that overall, 80 percent of the local government plans had an increase in employer rates of 1 percent or less, some zero, some less than that,” Ms. Campbell said.
According to Mr. Mendel, actuaries recommended early this year that CalPERS lower the forecast to 7.5 percent, which would increase rates. The CalPERS board decided to leave the forecast unchanged.
That controversy may be revisited in March, when once again actuaries are scheduled to recommend a decrease in the 7.75 percent assumed rate of return, which critics continue to argue is too optimistic.
Furthermore, earlier this week another study by former Democratic assemblyman and Stanford professor Joe Nation argued that California’s retirement obligations to public employees can’t be tamed without curbing benefits for current workers and retirees.
Their study shows a $498 billion unfunded liability, that the authors claim is 17 percent higher than the $425 billion shortfall estimated in April 2010.
The study found, “Contribution rates, the share of payroll that state government sponsors of pension plans pay each year, are likely to double or perhaps triple, crowding out education and social services spending. At the state level, barring new revenues, pension spending is likely to rise from its current 5.7 percent share of General Fund spending to more than 17 percent.”
Not everyone agrees with these findings.
“When it comes to public pensions, maybe SIEPR [Stanford Institute for Economic Policy Research] should stand for ‘Stanford Institute to Eviscerate People’s Retirement,’ ” said Democratic Treasurer Bill Lockyer’s press secretary, Joe DeAnda. Mr. Lockyer resigned from the advisory panel in protest.
“The study is written from a perspective that is intended to exaggerate perceived costs and the instability of pension systems,” said Ann Boynton, Deputy Executive Officer of CalPERS Benefit Programs Policy and Planning.
She added: “The report’s findings were based on low discount rates to artificially magnify unfunded liabilities. It is important to remember that CalPERS invests in a highly diversified portfolio that includes stocks, real estate, and other assets that have historically earned significantly higher returns than the rates assumed in the study.”
The response argues, “Over the past 20 years through June 30, 2011, CalPERS has earned an average annual investment return of 8.4 percent in excess of the pension fund’s actuarial rate of return assumption of 7.75 percent needed to pay long-term benefits. The Fund has achieved this rate by investing in a diversified portfolio with an acceptable level of risk. This historical average includes steep losses experienced in 2008-09.”
“As of the most recent fiscal year end, the Fund earned a 21.7 rate of return and gained back $60.8 billion from the recent 2009 low of $181 billion. CalPERS assets currently stand at more than $224 billion,” CalPERS continues.
They add: “CalPERS has maintained good levels of funding and delivered promised benefits for 80 years. Currently we are near a 75 percent funded status, with an unfunded liability of $85-90 billion.”
However, the study actually addresses that last point.
“The June 2011 funded ratio, the measure of assets to liabilities, is only 74 percent for CalPERS, using a high rate of return on its investments. At a more realistic 6.2 percent rate of return, the CalPERS funded ratio falls to 58 percent,” the authors argue.
They conclude, “It is highly unlikely that California’s pension systems will invest their way out of their funding problems. CalPERS must earn an annual average rate of return of 12.5 percent for 16 years to ensure that its assets are sufficient to cover its liabilities.”
They add, “The magnitude of the problem is sufficiently large that prospective benefit reductions for current employees should be examined, despite legal hurdles.”
The report concludes that Governor Brown’s reform plan is a needed step in the right direction, more than doubling previous savings from reforms, but it appears likely to reduce the unfunded shortfall by a small amount. Additional reforms are required.
The obvious question is whether or not the fund can realistically expect to grow at the 7.75% that they have projected.
Some would argue that CalPERS is being too optimistic in assuming that 7.75% rate will continue, while others would point out that 6.2% cited by the Stanford study is probably too low.
One thing that is clear, cities like Davis may in the short term be helped by these types of radical rate-smoothing programs, but in a continuing sluggish economy, it is only a matter of time when these optimistic policies catch up with us.
—David M. Greenwald reporting
“radical rate smoothing programs”
Isn’t that an oxymoron?
[quote]DMG: “radical rate smoothing programs”
Mr. Toad: Isn’t that an oxymoron?[/quote]
LOL Good one!
What PERS is doing reminds me of Gov. Brown’s overly rosy projections of tax revenue that were never realized and have resulted in the pulling of triggers to make steep state budget cuts. Eventually the chickens come home to roost…
I disagree, at least Governor Brown included triggers that were directly implemented if the tax revenues fell short, there is no fall back position with PERS. They are simply trying to kick this past the next election and probably hoping to be able to kick it down the line 10 to 20 years.
The rubber band just keeps getting tighter and tighter until some day it’s going to burst and a true depression will begin.
[quote]I disagree, at least Governor Brown included triggers that were directly implemented if the tax revenues fell short, there is no fall back position with PERS. They are simply trying to kick this past the next election and probably hoping to be able to kick it down the line 10 to 20 years.[/quote]
Point well taken about PERS not having a fall back position! The similarity is that the chickens will eventually come home to roost; the elastic band will eventually break.
[b]”And I may say that overall, 80 percent of the local government plans had an increase in employer rates of 1 percent or less, some zero, some less than that,” Ms. Campbell said.[/b]
I believe Paul Navazio said that the City of Davis has been told that our rates will not increase at all come July 1, 2012; and that he expects come July 1, 2013 we will again have a 0% change in rates. Taken together, this is a net savings to Davis of about $1 million per year.
[i]”The obvious question is whether or not the fund can realistically expect to grow at the 7.75% that they have projected.”[/i]
That is the right question. I believe the answer is yes. I am very confident that if you have a long enough time horizon and your portfolio is mostly publicly traded equities (including a good mix of stock companies which are based outside the United States) it should be easy to achieve an annual growth rate of 7.75% or more.
The challenge with a pension portfolio is how to set responsible contribution rates over the long term, so that you don’t periodically drop your rates to zero when you are achieving super-normal returns, and then jack them way up when you make losses or don’t grow fast. That is the roller-coaster PERS has been on since the year 2000 or so.
But make no mistake: when you pay no income or capital gains taxes, achieving a nominal rate of return of 7.75% or greater is not unrealistic. In fact, the only way a fund would ever make less than that in the long run is to do what Stanford’s Joe Nation wants PERS to do–to overweight in bonds. I think Mr. Nation is wrong.
Note: Just because I think CalPERS will make good returns over the long haul–basing that on hundreds of years of studying stock market returns–does not mean I excuse the bad policies of Davis or Yolo County where they encourage early, expensive retirements with unaffordable pension plans.
“The rubber band just keeps getting tighter and tighter until some day it’s going to burst and a true depression will begin.”
Where have you been the last 4 years? I bet you don’t read Krugman. Just the other day he was saying we need to call this what it is, a depression.
“But make no mistake: when you pay no income or capital gains taxes, achieving a nominal rate of return of 7.75% or greater is not unrealistic. In fact, the only way a fund would ever make less than that in the long run is to do what Stanford’s Joe Nation wants PERS to do–to overweight in bonds. I think Mr. Nation is wrong. “
Glad to see you’re coming around Rifkin.
“Where have you been the last 4 years? I bet you don’t read Krugman. Just the other day he was saying we need to call this what it is, a depression.”
No depression yet my friend, you’ll know what a real one is when you see it.
[i]”Glad to see you’re coming around Rifkin.”[/i]
Toad, I’ve likely been reading about and writing about equity markets longer than you have been alive.
One thing to keep in mind about Krugman: he is a left-wing ideologue, even when he writes about the economy. He is way out of the mainstream among American economists.
The great majority of economists in the U.S. are more-less of the Chicago school, following the thinking of Milton Friedman*.
Under the Chicago school way of thinking, the best management of the economy from the national perspective is to properly manage the money supply in the economy. To do that when the economy is sluggish, you have to feed the major banks plenty of cheap cash (such as via the discount window) and allow the banks to either loan that money to borrowers or the banks will (as they have been doing) buy up federal debt (which indirectly puts money in circulation because it keeps interest rates low and supercedes investor money from flowing into federal debt).
Under the neo-Keyensian model, you feed cash into the economy through fiscal policy: that is, cutting taxes and increasing federal spending. Krugman seems wedded to the idea that the federal government can never spend enough on infrastructure or welfare projects, no matter how much the feds have borrowed already, no matter how far from balanced the budget is. A long list of Keynesian conservatives seem to subscribe to the “let’s just cut taxes” idea, popularlized in the Reagan years.
*The Chicago school, since Alan Greenspan started running the Federal Reserve, split in two in this respect: Greenspan believed in toying with interest rates in order to achieve “price stability.” If core inflation was rising, Greenspan would raise the rates he controlled. If inflation was falling, he would lower rates. Friedman thought that was a mistake. He favored just measuring M3 (money supply) and allowing a computer to adjust rates up or down, in order to keep a steadily growing measure of money. Friedman did not believe in focusing on prices.
[i]”To do that when the economy is sluggish, you have to feed the major banks plenty of cheap cash (such as via the discount window) …”[/i]
I should note that is not the only way to feed the economy cash. In fact, it is not the primary method. The Fed also will buy or sell its own store of treasury bonds. If the Fed buys bonds from private parties, that puts cash into the economy. If the Fed sells, that takes money out of the economy. The Fed normally does the latter when inflation starts running too hot.
The reason I focused on the discount window transactions above is because that has been in the news lately, where left-wing commentators and Krugman himself have been critical of how much those transactions have grown lately. The argument against the discount window lending is that it feeds huge amounts of essentially free money to banks, which then have been using it to buy treasury bonds which pay them a 3.35% interest rate. So the big banks are making a profit and not taking on any risk (by loaning out the money to normal borrowers). I can understand the political problems with that kind of practice. It is nothing new and I don’t believe the banks which are profitting by it are getting these deals because of any corruption on the side. I think the Fed is simply motivated by a desire to feed cash into the economy while price inflation is so low. I think stopping this practice would bring a small amount of political benefit but a great amount of economic harm. Left-wingers like Krugman disagree.
“Toad, I’ve likely been reading about and writing about equity markets longer than you have been alive.”
Rich: I don’t think you know how old Toad is? And I don’t think you are that old.
I’m 47. Toad was born yesterday, no?
“The argument against the discount window lending is that it feeds huge amounts of essentially free money to banks, which then have been using it to buy treasury bonds which pay them a 3.35% interest rate. So the big banks are making a profit and not taking on any risk (by loaning out the money to normal borrowers).”
The Fed, as the lender of last resort, has created a too big to fail carry trade. By allowing the banks to not mark their bad assets to market, then loaning them money at 0%, while the banks buy risk free bonds treasuries at 2%-4% with the money, the Fed is playing extend and pretend, a policy of helping the banks right their balance sheets over time. Otherwise the financial collapse of 2008 would have been so much worse destroying the financial system much more than we saw happen. The big problem is the money taken by the bankers themselves while they preach the austerity of moral hazard to everyone else not that the Fed saved the financial system from collapse.
So you remember when Nixon froze prices exacerbating the inflation caused by Johnson’s guns and butter policy when the price caps came off in the 70’s? Now that was inflation!
When that first Stanford hit piece on pensions came out under Arnold you were, as I recall, singing a different tune Rich so just because you can read and write doesn’t mean you are right. Anyway as I said at the time any manager who only returned T-bond rates would be fired. I’m just glad you are coming around on rate of return.
David, please no hints!
“basing that on hundreds of years of studying stock market returns–
Rich if you have really spent hundreds of years studying stock market returns, I guarantee that is longer than Toad has been alive.
But on a more serious note, what do you consider a ” long enough time line” ?
[i]”When that first Stanford hit piece on pensions came out under Arnold you were, as I recall, singing a different tune Rich …”[/i]
Not true.
[i]”But on a more serious note, what do you consider a ” long enough time line” ?”[/i]
30 years.
If you go back to say 1900 and measure the broad market major stock indices, you cannot find a 30 year period in which nominal returns (without capital gains taxes and without taxes* on re-invested dividends*) were not growing on average at least 7.75% per year.
*A fund like CalPERS pays no capital gains taxes and no income tax on dividends.
[i]”So you remember when Nixon froze prices exacerbating the inflation caused by Johnson’s guns and butter policy when the price caps came off in the 70’s? Now that was inflation!”[/i]
You have no understanding of why we had high inflation from 1973 to 1982. It had nothing to do with Mr. Nixon’s, Mr. Ford’s or Mr. Carter’s policies. The problem was that the Fed lost control of the money supply. It was in effect too much money chasing too few goods. Carter’s last man at the Fed, the giant Paul Volcker (6′ 9″) killed inflation by raising interest rates and reducing dramatically M3. By the middle of the first Reagan term, that ended runaway inflation for good and led to the terrible recession of 1982-83. After that, Greenspan came in and ever since the Fed has pursued a policy of “price stability,” meaning they will raise interest rates if core inflation prices get too high and lower them if the CPI is too low. The big criticism of this policy avenue is that while core inflation may be modest, we have at times since 1984 experienced asset inflation (as with the stock bubble of the late 1990s and the later real estate bubble).
[i]”When that first Stanford hit piece on pensions came out under Arnold you were, as I recall, singing a different tune Rich …” [/i]
[b]Not true. [/b]
For the record, I looked it up ([url]https://davisvanguard.org/index.php?option=com_content&view=article&id=3347:stanford-study-suggests-davis-pension-crisis-has-city-and-much-of-state-on-the-brink&catid=58:budgetfiscal&Itemid=79[/url]) and there is no contradiction between what I say now and what I said in April, 2010. In other words, I have not changed my tune. More likely that in his old age, Toad is tune deaf.
RIF in April, 2010: [i]”CalPERS uses 7.75% and that on the face of [b]it seems realistic.[/b] However, keep in mind that the CalPERS portfolio includes a lot of government and corporate bonds which pay a lot less than 8% per year and a lot of real estate, which (even if PERS had not gotten crushed in the current collapse) normally returns far less than stock investing.”[/i]
RIF in December, 2011: [i]”… when you pay no income or capital gains taxes, achieving a nominal rate of return of 7.75% or greater is [b]not unrealistic.[/b]”[/i]
TOAD: [i]”Glad to see you’re coming around Rifkin.”[/i]
I don’t expect that Toad will man up and apologize. Toad is an as$hole and a coward. He has called me a racist multiple times, a charge which is defamatory, false and chicken-shitted for him to make when hiding behind a false name. If Toad is older than I am, I won’t punch him in the nose out of respect for the elderly. But if he wants to meet in any dark alley, I’m ready to rumble.