MuniLand

Late to the public pension game

Pew Charitable Trusts has released an ominous report, The Fiscal Health of State Pension Plans: Funding Gap Continues to Grow.” The report finds that in 2012, U.S. public pensions lost ground in their funding ratios and ended the year weaker than they started. What is not clear is why, in March 2014, Pew is reporting 2012 data. Because of large stock market gains in 2013, pension funding gaps are now actually shrinking, not growing. Reuters writes about the Pew report:

Factoring in promises made by local governments to fund pension benefits for their employees, total pension debt climbed to over $1 trillion as of June 30, 2012, the end of the most recent budget year for which data is available.

‘Even though we’ve seen recent market gains and reforms, the funding gap has continued to grow for pensions,’ said David Draine, a senior researcher at the Pew Center on the States.

A month earlier, Reuters reported 2013 pension fund data from Wilshire that had pension funding levels improving:

Swelling investment returns improved funding for U.S. public pensions last year, but almost all retirement systems are still in weak shape and unable to cover their liabilities fully, according to a report released by Wilshire Consulting on Tuesday.

Pension tension and getting the job done

Video source: Pennsylvania Senate GOP

My colleague Felix Salmon recently dove into the subject of public pensions and the controversy about National Public Radio accepting funding from pension reform zealot John Arnold. It’s too bad that NPR and its affiliate WNYT were not more transparent about their connection to Arnold. There is a lack of understanding about the condition of public pension systems and how many are in dire financial condition. For example, Salmon wrote:

None of this will be easy: the whole reason why pension obligations started ballooning in the first place was that local governments didn’t have the money to hand out pay raises. So the unions will push back against these ideas: they like any system which makes it easier for them to accrue valuable benefits at negligible up-front cost to the government. But if you want to guarantee vocal opposition which is almost impossible to overcome, then your best way of doing that is to combine or replace these kind of reforms with an attempt to renege on governments’ existing pension obligations.

State and local governments from coast to coast are working to achieve a soft “renege” on existing pension obligations and retiree health benefits owed to 12.9 million active plan participants and 7.8 million retirees. Public unions almost everywhere are lobbying and litigating to preserve their pension benefits. In many cases it’s simply a matter of not having enough cash to pay these obligations at the contractual or legislated levels while also supporting government services. Peter Hayes, Managing Director at Blackrock, wrote:

Pension underfunding crosses party lines

There is no one-size-fits-all condition for state pensions. The condition of state pensions varies from nearly 100 percent-funded plans in Wisconsin, North Carolina, South Dakota, Washington and New York to less than 55 percent in Kentucky, Connecticut, Rhode Island and Illinois.

The reasons for the funding levels span economic and historical explanations, but do they also touch the political? Are states controlled by Republicans, who are known for fiscal conservatism, harboring better-funded pensions than Democrat-controlled states, which are willing to embrace a broader array of government services?

I mashed up data about legislative control of states with funding levels of pensions plans and how much of the “actuarially required contribution” (ARC) they had made in 2012 (data from Pew page 5):

A new local pension calculus

The team at The Center for State and Local Government Excellence has set a new standard in how local pension burdens should be reported in financial documents like CAFRs. The center’s new approach for measuring a municipality’s pension burden is to aggregate the direct cost of locally-administered pension plans (both city and taxpayers’ share of costs) and contributions to state teacher and non-teacher plans on behalf of dependent school districts. The aggregated cost is compared to a community’s revenues to understand how much must support pensions.

A lot of previous pension analysis looked at pension plans’ funding levels. This study looks at the cost to taxpayers to support the pension promises they have made.

CSLGE says that its approach “measures the direct cost on the city’s finances.” It’s a vital number, but it has not been used to report the full debt burden on taxpayers. For example, when a community has municipal, school, library and sewer debt, one can understand an individual taxpayer’s debt responsibility by adding these figures.

The debate over Rhode Island’s pensions

Former SEC attorney Ted Siedle (currently formerly Putnam Investments’ compliance director), has issued a new investigative report that blasts Rhode Island Treasurer Gina Raimondo about her lack of transparency over the state’s pension investments. The report was commissioned by the Rhode Island chapter of the American Federation of State, County and Municipal Employees (AFSCME).

Raimondo says that Siedle’s allegations are entirely driven by politics, but four Rhode Island public interest groups have nevertheless encouraged the treasurer to release the pension information. From Siedle’s report (page 5):

Recently, four open-government groups – Common Cause Rhode Island, the state’s chapter of the American Civil Liberties Union, the Rhode Island Press Association and the League of Women Voters of Rhode Island released a letter to the Treasurer voicing their concerns regarding the Treasurer’s strategy of withholding hedge fund records. These groups believe that since the financial reports are paid for with public funds and detail how the state is investing the public’s money, they should be made public in their entirety; further they found ‘troubling’ the Treasurer’s decision to allow the hedge funds to decide what information to release.

Emanuel should fix Chicago’s pensions now

According to Moody’s latest report on local government pensions, Chicago’s adjusted pension and debt burden (relative to its tax base) is the largest in the nation. The city is now putting about 8 percent of its revenues toward its pension funds. But the pensions are so underfunded that if the city made the full annual pension payment it would amount to 28 percent of revenues. The city has seriously neglected funding its pension plans.

The problem is complicated by the fact that Chicago must work through the Illinois General Assembly to enact changes to pension contributions and benefits. There is little discretion at the local level on these issues. Chicago Mayor Rahm Emanuel should go to Springfield and twist arms in the General Assembly before credit rating agencies whack the city with more downgrades. Instead, Emanuel intends to push the issue off for several years and do nothing. The Chicago Tribune reports:

Faced with the prospect of a major tax hike or severe service cuts just as he stands for re-election a year from now, Mayor Rahm Emanuel told the Tribune Wednesday that his formula for fixing the financially out-of-whack government worker pension system requires ‘reform, revenue and time.’

Public pension assets reach highest-ever level

The pension doomsayers, who claim that pensions are direly underfunded and losing ground, may be surprised to hear that public pension assets grew to their highest-ever level for the last fiscal year (ending June 30). Strong equity market returns helped propel the national median investment return to 12.4 percent. The whiff of panic about public pensions should be subsiding, except for the ongoing hot spots like Puerto Rico, Illinois and Chicago. Overall, the winds have calmed.

Reuters’ Lisa Lambert reported:

Asset values at U.S. public pension funds rose 8.4 percent in the latest fiscal year to the highest level in more than 40 years, but their costs also rose, the U.S. Census reported on Monday.

Most retirement systems ended fiscal 2013 on June 30. In the final quarter of that fiscal year the cash and securities holdings of the 100 largest public-employee pensions were $2.944 trillion, up 8.4 percent from a year earlier and the highest level since the Census began collecting pension data in 1968.

Detroit’s pension math

A lot of ink has been spilled over the assertions of Kevyn Orr, Detroit’s emergency manager, on the level of funding in Detroit’s pensions (Okay, I might be the leader of that pack). The issue has bearing on the benefits that Detroit’s retirees will receive, as well as how much cash-flow the city will have to service its bonds and other debts. The pension question is a major point in Detroit’s bankruptcy negotiations. Reuters described the situation like this:

Detroit’s largest unsecured creditors are its two pension funds, which have claims totaling nearly $3.5 billion in unfunded liabilities, according to a city estimate included in a bankruptcy filing. Pension funds and unions dispute the estimate, claiming Orr has overstated the underfunding.

Orr has said he based the city estimate on ‘more realistic assumptions’ than previously used. His figure is five times more than the $644 million gap the pension funds reported based on 2011 actuarial valuations.

The real history of public pensions in bankruptcy

There appears to be a frenzy of comments lately that public retirees receive excessive pensions in the current economy and that they need to be reduced. Many in the media have taken a brief look at Detroit and decided that costly pensions were the cause of the city’s bankruptcy. Nothing could be farther from the truth. Detroit pays a relatively modest median pension of $19,000 a year to general government retirees and $30,000 to police and fire retirees. Detroit’s pension system was funded at 82 percent in 2011 (and at 99 percent for its police and fire retirement system). That is higher than the national median of 74 percent. But public benefits make easy targets for critics. Let’s take a tour of pensions in bankruptcy through the years.

Attorneys Kenneth E. Noble and Kevin M. Baum describe Prichard, Alabama:

Prichard, Alabama, which experienced a population decline of approximately 50 percent over the past 50 years, filed for bankruptcy in 1999 after it was unable to pay approximately $3.9 million in delinquent bills. In addition to the unpaid bills, Prichard also admitted to not making payments to its employees’ pension funds and, even though the city had withheld taxes from employees’ paychecks, the city failed to submit such withholdings to the state and federal governments.

While in bankruptcy, the city successfully revised its budget so that it no longer operated at a deficit. However, Prichard was still unable to meet its pension obligations. In 2009, Prichard filed for bankruptcy for the second time in order to stay a pending suit brought by its pensioners after it failed to make pension payments for six months. In its chapter 9 petition, the city claimed that during the previous year it had operated a $600,000 deficit on its $10.7 million budget. Further, Prichard had failed to make a $16.5 million payment to its pension fund under its previous plan of adjustment.

How ratings agencies will approach pension liabilities

The New York Times recently ran a piece discussing how new pension valuation methods, put in place by the Government Accounting Standards Board, were far superior to the historical methods of valuing unfunded pension liabilities. They were even endorsed by some academic commentators. I have not heard of any state or local plan using these new methods to increase the funding of their pensions. Governments are not forced to use them, rather only to do the calculations and show the results on their balance sheets. Despite the revisions, governments will likely continue to use the averages of their historical rates of return on their pension investments to make decisions about the size of their annual contributions to their pension funds.

Here is the rationale that pension funds have used for decades, according to the Times:

Much of the theoretical argument for retaining current methods is based on the belief that states and cities, unlike companies, cannot go out of business. That means public pension systems have an infinite investment horizon and can pull out of down markets if given enough time.

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