Debt, Debt and More Debt
This is from a briefing by Douglas Elliot at Brookings on the scope of the state and local pension problem:
Deficits at state and local pension funds constitute a serious problem, with economic values of these deficits aggregating to approximately $3 trillion or more than 2 years worth of tax revenue. There are no easy answers either, unless very favorable stock markets intervene to save the day. However, the stock market would have to almost triple in a short period from today’s level to eliminate the current pension deficits as measured using risk-free discount rates.
HT to Megan McArdle.
It used to be that public employees were paid less than their private sector counterparts but could look to job security and few extra benefits to make up the difference. Now they are paid about 20% more than their private sector counterparts and can count on generous pension benefits that continue to pay most of their salary for decades after retiring at middle-age. For many, the amount of pay they will receive during retirement (and number of years they can expect retirement pay) will exceed the pay and tenure of the actual job itself. Public employee unions have effectively captured their employers and are a political force in their own right.
Trouble is, even small promises to pay in these pension plans grow exponentially, much like capital growth on the investment side. Add to that growth rising costs of providing promised services and you have a toxic taxpayer cocktail.
Pension plans, especially the defined benefit variety, are out of sight, out of mind for taxpayers. So when they ask for pay comparable to the private sector, they’re only asking for what’s “fair,” then pension promises that add up to only a few dollars today grow to the size of Jack’s beanstalk tomorrow. What’s worse, beneficiaries belong to groups that can turn out the vote. So politicians, assuming they’re savvy enough to understand the implications of pension funding, kick the financial can down the road and cave. After all, municipal and state budgets groaning under the financial weight of today’s pensions are the handiwork of politicians who made decisions at least two, sometimes three, decades ago. Where are they now?
One more reason to migrate toward defined contribution plans, rather than defined benefit plans.
Elliot notes that “many analysts believe that the reported figures are based on inappropriate measurement techniques which substantially understate the true size of the liabilities and therefore of the deficit.” For instance, state and local governments assume “risk-free” interest rates — as if their obligations were backed by the full faith & credit of the U.S. government (which they aren’t). The risk-adjusted rate would show that taxpayers may be on the hook for much more. In this NCPA study , Courtney Collins and Andrew Rettenmaier discuss this issue and calculate the funding shortfall of government pension (and retiree health) benefits.
And now for a natural analogy.
Tom thanks for the link! It made for a good laugh!
It’s so amazing that people don’t understand how pension liabilities can’t be funded given current retirement ages.
We are going to be grasshopper that spent all summer signing and gets to freeze and starve to death during winter.
Folks:
At least the state retirement plans have only 23.4% in government and corporate bonds.
Page 40 of a report entitled “Risk Management and Public Plan Retirement Systems,” published by the Society of Actuaries.
Go to:
http://www.actuary.org/pdf/pension/PPPTF_Final_Report_c.pdf.
This is in contrast to 100 percent of government bonds “funding” Social Security, Medicare, and the federal employees’ retirement plan.
I was surprised to learn recently of the federal employees’ plan design.
From a paper entitled “Definitions of Elements and Basic Recognition Criteria for Accrual-Basis Financial Statements,” published by the FASAB, the accounting advisor for the federal government:
Page 345 “Since many years will pass between the time when benefits are earned and when they are paid, the trust funds will accumulate substantial balances over time.
These balances are available to finance future benefit payments, BUT ONLY IN A BOOKKEEPING SENSE. THESE FUNDS ARE NOT SET UP TO BE PENSION FUNDS, LIKE THE FUNDS OF PRIVATE PENSION PLANS. When trust fund holdings are redeemed to authorize the payment of benefits, the Department of Treasury will have to finance the expenditure in the same way as any other federal expenditure (like battleships; therefore, the trust fund makes ot no easier to pay benefits than if there wasn’t a trust fund. It only makes payments more “convenient” in that an appropriation is not needed as long as there is a positive “Fund Balance with the Treasury” – my words).
http://www.fasab.gov/pdffiles/sffac5.pdf.
Don Levit
You’re welcome Virginia. 🙂
Don you’re being quite the Debbie Downer. Look on the bright side, at least you’re not a federal employee.