Illinois Pension Contribution Plan 'Incredibly Dangerous'
As state and local governments face daunting pension shortfalls, some pension systems are taking controversial steps to stay solvent.
As lawmakers in Wisconsin attempt to cut benefits, Illinois officials are taking a different approach: borrowing. In an effort to put money behind a fraction of the promises it has made to workers, the state of Illinois hopes to issue $3.7 billion in bonds.
The plan has raised eyebrows, as experts believe Illinois would just be delaying its problems, the New York Times reports. Rather than reduce Illinois' debt, the move would essentially transfer a portion of it onto the state's balance sheet, potentially deepening the obligation when the bill comes due.
Illinois isn't alone in its pension challenge. In neighboring Wisconsin, governor Scott Walker is leading an effort to reduce future pension benefits for current employees, an unusual move. The proposal, which would also cripple public workers' bargaining rights, has been met with widespread protests.
Combined, states face an unfunded pension liability of about $3 trillion, according to a paper released last fall by finance professors Robert Novy-Marx and Joshua Rauh. As the total state pension obligation is about $5 trillion, according to the report, states' pension funds don't have the resources to back a large portion of promised benefits.
"They're going to continue along, unable to make very many changes, until we actually do have some crises on our hands," said Rauh, an author of the report. "It's a question in my mind of which of the cities and states will be the first ones to run up against that."
The Illinois pension system, which was only 46 percent funded, would run out of cash by 2018, according to the research, which uses June 2009 financial statements and calculates liabilities using the U.S. Treasury bond rate.
As Illinois governor Pat Quinn attempts to resolve his funding problem without touching benefits, he risks compromising the strength of the pension system, experts say. Under a new pension overhaul, the state paired benefit cuts to future workers with a reduction of its annual contribution to pensions, the NYT notes. While the former reform would reduce the size of the obligation years in the future, the latter takes money away from promises that are currently coming due.
The bond offering, experts fear, makes the problem worse.
"When I read this, quite frankly, it made me ill to my stomach, because that pension plan has been consistently abused now for at least the last 16 or 17 years," Brad M. Smith, president-elect of the Illinois-based Society of Actuaries, told the NYT. He added that the state's planned funding schedule is "incredibly dangerous."
Some governments already face a pension crisis. Prichard, Alabama, illegally stopped paying its retirees when the pension load became too much to bear. Vallejo, Calif., entered bankruptcy when it couldn't pay its labor bills. Under the city's new plan to leave bankruptcy, the pension obligation remains untouched, but workers' health care and wages would be slashed.
After the financial crisis decimated pension fund assets, many governments had to re-think their funding policies. In good times, lawmakers increased benefits for employees, and reduced the governments' own contributions to funds, betting that fat stock market returns would persist.
Even after the crash, many funds have not changed their high expectations for returns on their investments, an accounting decision that shrinks the stated size of the pension liability.