More stories are at calpensions.com
Although you may not find one in California, there is a place where officials get credit for handling public employee pensions, instead of a barrage of criticism about unaffordable debt.
It’s Wisconsin, a state with a tradition of good government and high taxes.
“I think Wisconsin is a pretty good example of how you do it right,” Wisconsin Gov. Jim Doyle told a Milken Institute conference in Los Angeles in April. “And I don’t take credit for this. This goes deep into our history.”
He said all of the state and local government pensions, except the city and county of Milwaukee, were consolidated in the 1970s. An unusual dividend feature allows retiree payments to be cut in hard times, 2.1 percent last year and 1.3 percent this year.
But Wisconsin also tries to keep the system fully funded. When the funding level fell to 82 percent after the stock market crash two years ago, said Doyle, the state added a contribution of about $200 million to bring the funding level back up to near 100 percent.
“So again I would love to take credit for this,” said Doyle. “But this is something that’s built into our culture for a long period of time. I will take credit for, even in these very dire times, we have never deferred payments. We pay them in.”
Some of the recent criticism of the Wisconsin system is that employees do not contribute to their pension costs. The system also may borrow to finance a costly move toward more stable bond-based investments, less affected by major market swings.
While Wisconsin was called a “national leader” and placed in the top rank in a Pew Center on the States study in February, the retirement system in neighboring Illinois was in the bottom rank with the lowest funding level, 54 percent.
It’s a different political culture. Two of the last six Illinois governors were convicted of crimes. A third, Rod Blagojevich, is on trial for using his power as governor to extort campaign contributions and other things, 24 counts.
For about the last 15 years, Illinois reportedly has skipped some annual contributions to the pension fund and issued a series of pension bonds to cover annual costs, including $10 billion in 2003. A $3.5 billion pension bond is proposed this year.
A recent New York Times story on Illinois‘ budget problem said: “Then there is the spectacularly mismanaged pension system, which is at least 50 percent underfunded and, analysts warn, could push Illinois into insolvency if the economy fails to pick up.”
Illinois legislators raised the retirement age and cut benefits earlier this year, said the Times story, and then claimed immediate savings even though the changes only apply to new hires.
“For the last few years, California stood more or less unchallenged as a symbol of the fiscal collapse of states during the recession,” said the Times story. “Now Illinois has shouldered to the fore.”
Illinois still has a slightly higher credit rating than California, the lowest of any state. A California proposal for a pension bond, originally $1 billion in 2004, was blocked by a legal challenge from conservative groups, who said a public vote was required.
But big payments for state worker retirement costs being delayed now could increase California’s retirement costs in the future. And meanwhile, the money is not invested to yield earnings.
This fiscal year the state is expected to pay $6.5 billion for retirement costs: California Public Employees Retirement System $3.9 billion, California State Teachers Retirement System $1.2 billion, and state worker retiree health $1.4 billion.
The $6.5 billion payment is a big bite, 5.7 percent of the governor’s proposed budget for general and special funds, $114.3 billion. Yet in rough terms, it’s only half of the amount needed to fully fund the state’s retirement obligations.
The CalPERS board, which can set the annual state payment, imposed a $600 million increase in the new fiscal year that began this month. But that only gets the main state worker fund to an estimated 76 percent of the 30-year obligation.
The payments needed to cover losses in the stock market crash are being phased in over three years. An estimate in December, when the increase this year was thought to be only $200 million, showed the state payment increasing $1.1 billion in the next two years.
The CalSTRS board, which needs legislation to set contribution rates, is seeking an increase amounting to 14 percent of payroll, about $3.8 billion, if the assumed rate of annual earnings on investments remains at the current 8 percent.
If as staff recommends the earnings rate is dropped to 7.5 percent, the contribution increase would be 20 percent of pay – nearly doubling the current contribution of school districts 8.25 percent of pay, teachers 8 percent, and the state 4.5 percent.
For retiree health care, the state owes $51.8 billion over the next 30 years, state Controller John Chiang estimated in February. The state has negotiated some labor contracts that begin to set aside small amounts of money for future retiree health care.
But the nonpartisan Legislative Analyst said last year, when the unfunded debt was estimated to be $48 billion, that the state should be setting aside $1.3 billion a year to properly fund retiree health care promised current state workers.
The UC Retirement System ended a two-decade contribution “holiday” this year. Neither employer nor employee paid into the system, while costs were covered by investment earnings.
A required employee contribution to a 401(k)-style individual investment plan, 2 percent of pay, was switched to the retirement system in April. UC says the state should be contributing $320 million a year to cover normal costs, but it’s getting nothing so far.
The remarkable contribution holiday enjoyed by the UC system shows how public pensions depend on investment earnings. CalPERS got about 75 percent of its revenue from earnings for a decade, before dropping to 63 percent after the crash.
The big losses (the CalPERS portfolio went from $260 billion in the fall of 2007, to $160 billion in March of last year, before rebounding to about $200 billion) probably helped spark a debate between two disciplines, actuaries and financial economists.
Stanford graduate students, following the economists, issued a study in April saying the three state pension funds have a “hidden shortfall” of $500 billion, not the $55 billion reported before the market crash.
The new CalPERS chief actuary, Alan Milligan, wrote in a Sacramento Bee article this week that academics and think tanks with “an ideological bent” are “exaggerating pension liabilities to scare the public and policymakers.”
The Stanford study assumed an earnings rate based on “risk-free” bonds, 4.1 percent, because pensions are risk-free, guaranteed by the state. Milligan said the CalPERS assumed earnings, 7.75 percent, follows time-tested actuarial rules and may be tweaked after a year-long public review.
A Northwestern University professor, Josh Rauh, who agrees with the Stanford study conclusion, made a dire forecast at a pension roundtable discussion held by Gov. Arnold Schwarzenegger earlier this month.
“I’ll just say that current assets are sufficient to pay for current benefits for CalPERS and CalSTRS only through 2026 and 2027, and that’s even assuming they make 8 percent returns,” Rauh said.
Without a contribution increase, CalSTRS agrees that its investment fund, now about $130 billion, will run out of money – but not until two decades later in 2045, according to its consulting actuary, Milliman.
“At that time, the state, as the plan sponsor, would be obligated to fund benefits on a pay-as-you-go basis, similar to the approach by which benefits were funded in the early years of CalSTRS,” said a CalSTRS staff report in February.
How big would the pay-as-you-go tab be 35 years from now?
“The state would be required to pay the current equivalent of about $9 billion each year to meet its obligation that could not be paid from available contributions,” said the staff report.
That would be about 11 percent of the $83.4 billion state general fund proposed by the governor for the current fiscal year.
Reporter Ed Mendel covered the Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune. More stories are at calpensions.com