Last month, the territory of the Northern Mariana Islands became the first U.S. public pension fund to declare bankruptcy. Like many public pension plans across the country, the financial condition of the Northern Mariana's pension fund deteriorated significantly over the past five years. With $256 million of pension fund assets available to fund $1 billion of pension fund liabilities -- a "funded ratio" of just 25 percent -- the trustees of the Northern Mariana's pension fund have suggested that they may be able to pay out just 50 percent of the retirement benefits promised to public employees under the defined benefit pension plan.
There may be those who hope that because this tiny U.S. territory is way, way offshore -- situated as it is somewhere between Japan and Papua New Guinea -- events there cannot be a harbinger of things to come here on the mainland. But just two weeks later, much closer to home, Mayor Angel Taveras of Providence, R.I., approved a plan to sharply curtail pension benefits to current workers and retirees in an effort to keep that city out of bankruptcy. Faced with a pension fund that is 32 percent funded, Taveras' pension reforms ended cost of living increases for retiree benefits until the City pension system's funded ratio increases to 70 percent and capped the annual pension payable to any one individual at 150 percent of the median state household income.
Problems with public employee pension plans have been brewing for some time. These plans promise retirees a "defined benefit" that is generally calculated as a percentage of an employee's average compensation over the last few years on the job. The cost of the future benefits are supposed to be budgeted and funded each year by a combination of employer and employee contributions in an amount calculated by the system actuary to be sufficient to fund -- together with projected earnings rate on those contributions -- the future benefits earned in that year. That way, as long as these "normal costs" are budgeted and paid over to the pension trust fund each year, and the assumed earnings rate on the pension fund deposits are achieved, the pension system will be fully funded and future taxpayers will not be required to fund benefits earned by employees in prior years.
As recently as a decade ago, in the wake of the stock market boom of the late 1980s and 1990s, municipal pension plans were in good shape, with many boasting funded ratios in excess of 100 percent. But over the past decade, equity markets have not fared well and pension fund investment returns have fallen short of actuarial targets, averaging less than 6.00 percent over the course of the decade and 1.00 percent over the last year.
As 2010, according to a a study by Barclays, state pension funds on average were just over 60 percent funded, and underperformance relative to actuarial earnings targets has led to new "unfunded actuarial pension liabilities" that are now the responsibility of the sponsoring governments in the same manner as a communities general obligation bonds. The impact of pension problems at the local level has been dramatic, as pension system actuaries have required significant, long-term increases in pension contributions to fund theses new, unfunded pension liabilities.
For example, based on data from the California State Controller, in my city of Berkeley, the employer contribution rate for police -- the largest area of municipal spending -- has grown from 3.6 percent of salaries 10 years ago to 40.4 percent, usurping much needed funds from other purposes to meet these new pension costs. The same issue is affecting funding for government services across the County, according to data from the Stanford Institute for Economic Policy Research. The following graphic illustrates dramatic impact of the growing cost of these new pension liabilities, which will soon consume 10 percent of the entire County operating budget. This translates into a diversion of approximately $200 million that would otherwise be available for spending on public safety, public assistance, healthcare and other critical public programs.
This is not the way it was meant to be. Beginning around the 1840s -- in the wake of defaults by a number of states in the nascent United States -- new state constitutions were established across the country that placed severe restrictions on the ability of states to take on debts or other liabilities that would place a burden on subsequent generations. For example, the California constitution that provides that "The Legislature shall not, in any manner create any debt or debts, liability or liabilities" without a two-thirds vote of the legislature and subsequent approval by popular referendum. However, at the same time, that constitution and the federal constitution prohibit the impairment of contracts, which has been presumed to protect public employee pensions.
The moral dilemma presented by the pension issue is embodied in the apparent conflict between two first principles of governance: Limitations on the creation of debt and the sanctity of contracts. On the one hand, the constitutional framework established in the 1840s placed severe hurdles on the ability of elected officials of one generation to place burdens on future generations. On the other hand, sanctity of contract provisions of both state and federal constitutions provides both the moral and legal basis for non-impairment of vested pension rights.
As defined benefit pension plans have evolved -- by taking on greater investment risk as they increased benefit payouts -- the effect has been to shift 100 percent of that investment risk to the taxpayers. When pension fund investment returns fell short of the actuarial earnings target, new liabilities were created. Essentially, the labor agreements that embodied the pension commitments became a source of new public liabilities, bypassing what in many states are long-standing rules constraining the creation of new liabilities.
Moral indignation lies at the heart of the pension crisis. For their part, workers have for decades paid into their pension plans based upon contractual commitments. Pensioners reasonably believe that they are entitled to what the rules say they are entitled to, that they obtained their benefits openly and legally and properly, and that the benefits are owed to them as a matter of rights.
On the other side are communities that are being forced to cut essential services as the cost of unfunded pension liabilities -- liabilities that appeared as out of thin air -- grab an increasing share of current budgets. Public support for public pensions has been further eroded by stories about abuses of pension rules -- pension "spiking" schemes and double dipping -- that game the system to increase individual payouts.
Although early on the pension crisis seemed destined to play out as a one more Democrat vs. Republican spat, it has migrated beyond party boundaries. It was a Democrat mayor in Providence that approved new, draconian pension reforms, and a Democrat governor in California that is proposing pension reforms that so far have only received Republican endorsement. And last year, San Francisco's elected Public Defender Jeff Adachi -- an unabashed progressive -- ran for mayor specifically to confront the pension question and the huge diversion of funds from core social services that is undermining that city's social service infrastructure.
The pension issue is not going to go away. The financial impacts of pension deficits are going to be felt at the state and local level for years, and will continue to influence the political landscape as politicians are forced to confront that which is manifestly broken. And lying in the background will be the experience of the Northern Mariana Islands, a harbinger of things to come if communities and public workers fail to confront, and ultimately fix, the problem.
As a past President of a public employees union (California Association of Public Employees) and a past Trustee of the Los Angeles County Employees Retirement Association, I personally hold the following opinions.
At LACERA we used a split of about 15% of paycheck for the employee contribution, 15% of payroll for the county contribution, and 70 % of the needed funds for paying the retirement liabilities generated by the LACERA retirement system as overseen by the (ahem) Boards of Trustees.
LACERA used a return of about 8% (+/- 0.5%) but often earned over 20%. The county also REDUCED the benefits from the original Plan A established by the 1937 Act (California law) to the Plan D system. Plan E employees do not pay but get a much lower benefit and cannot retire without ten years and until they are much older. The employer cost is about the same for Plan D and Plan E.
A good plan like LACERA, could earn enough for a decent retirement for anyone who pays into it. This plan, perhaps even guaranteed by a governmental agency, would provides benefits based on contributions.
Funds invested by public pensions generally support America’s economic growth. It is not too late to solve these retirement problems in more beneficial ways for everyone.
At Your Service,
Brian C. Brooks
First, the politicians often didn't fund the pensions.....even in the good times.
Second and more deadly to funding pensions is what happens in the stock market.
We had an economic meltdown in 2008.
Wall Street nearly crashed due to their own selfish, greedy, and highly risky activity.
We know that in general, the big shots on Wall Street only suffered temporarily while they needed bailouts but in the long run they kept their jobs, their income, and their comfortable way of life.
****The Wall Street Warriors and Banksters did (do) just fine.
However, the stock market lost a lot of value and that means investors lost a lot of money.
Pension funds are invested at Wall Street AND any downturn means they lost (lose) money.
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Simply put, some politicians didn't properly fund their pension obligations kicking the can down the road......AND.......Wall Street malfeasance managed to destroy a lot of the value of the invested pension funds leaving them severely under-funded.
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Why does anybody think that the politicians, toadies of Wall Street (money), demonized civil sector workers and their "outrageously good" pensions?
Does anybody think they would let the Wall Streeters and banksters take the blame for what they did?
Nah, easier to blame ordinary civil sector workers for something they had nothing to do with.....the destruction of much of their pension funds.
Companies buy life insurance on workers because the money grows tax-free, and the benefit payout goes to the company tax-free.
Medicare's prescription drug benefit originally allowed companies to receive a subsidy of 28% of whatever was paid for each retiree (up to $1,330/year/retiree) - even if the retiree paid the entire amount. Many companies also stopped paying the benefit while collecting this subsidy. Regardless, accounting rules required booking the anticipated future subsidies as an asset, and when this practice was stopped (effective 2013) in ObamaCare, they booked large charges to reduce those assets - AT&T - $1 billion, Caterpillar - $240 million, Deere - $220 million, and Verizon - $970 million. Fox News, etc. then alleged these were 'new' costs, which of course they were not.
Bottom-Line: Politicians and CEOs claim entitlement spending in America is out of control and dragging down our economy. 'Retirement Heist' debunks that allegation; the near disappearance of defined benefit private-sector pension plans didn't HAVE to occur. Readers will be amazed at how important financial engineering of pension and health-care benefit funds are to corporate profits, and the gaming that goes on, at employee expense.
Terminating pension plans via other loopholes that involve setting up a replacement 401(k) has been used to help pay corporate creditors instead of full pensions. Think Enron, Occidental Petroleum, Wards, etc.
AT&T, A&P, Boeing, BofA, Cigna, Dana, IBM, Georgia-Pacific, Hershey, and many others have frozen benefits earned under existing plans, and replaced them with new, reduced plans going forward. Cigna was caught lying, telling employees that pensions were being 'enhanced' and not saving the firm any money - the case is still in court. IBM similarly tried to cover up the impact of its changes - dogged employees, however, proved their case and forced a partial reversal. Shultz also points out that most short-changed employees opting to take a lump-sum payout.
In 1998, over $1 billion of G.E.'s $13.8 billion in pretax profit came from pension plan manipulations (eg. changed assumptions about earnings, reducing pension and health care benefits). Executive pensions at G.E. total $6 billion, hidden in the pensions for regular workers (15% of the total). Utilities have been caught trying to justify rate increases by making unjustified assumptions about the rate of health care cost increases, etc
M&A activity, as well as spin-offs have enabled companies to convert surplus pension assets to cash. For example, G.E. sold an aerospace unit to Martin Marietta in 1993, along with its 30,000 employees and $1.2 billion in pension assets - about $531 million overfunded. By getting a better price because of the surplus it was able to pocket the $500 million. After doing this dozens of times, its $24 billion 1991 surplus became a shortage of $6 billion in early 2011 - despite a substantial interim market rise. DOD then sued because it had funded the G.E. workers' retirement funds and was supposed to get a refund if the unit closed (Martin Marietta subsequently closed it, and DOD labeled the transaction a 'sham'). Courts have ruled that even surplus employee contributions can be disposed of this way.
Transferring executive retirement benefit costs to employee pension funds via loopholes is another common technique. Intel saved $200 million doing this; Johnson Controls, Parker Hannifin, PMI Group, and others did so; again, some are now underfunded.
Bell Atlantic then used $3 billion to finance early-retirement benefits for 25,000 managers being let go, and Verizon (its eventual successor) continued the practice - the result, combined with a relatively small market decline, was the surplus fell from $24 billion in 2000 to $1.7 billion in early 2005. It then froze the pensions of its 50,000 management employees, withdrew another $5 billion, and by early 2011, when the market was higher than in 2000, the plan had a $3.4 billion deficit. Delphi, Delta, Ford, G.M., and United acted similarly; most then passed their underfunded plans off to the government's PBGC, which in turn further cut many of the employees' pensions per law.
Companies also tapped pension plans to pay retiree health benefits, previously covered on a pay-as-you-go basis. DePont was the first, folowed by Allegheny Technologies, Florida Power & Light, Prudential, U.S. Steel, and others. Again, two major firms - Allegheny Technologies and U.S. Steel, then dumped their diminished pension funds on the PBGC.
All public pension plans are deeply underfunded. All of these plans will go bankrupt. All the plans that can will be dumped into the PBGC so all taxpayers can pick up the tab. Many large corporate pension plans will follow the same route.
There is a simple solution.
Pension systems need to be eliminated, the pay that goes into a pension system needs to go to the person who worked for it so the individual can save the money as they see best for themselves.
we have a system that compells u to use wall st sharks
better we buy a laundromat etc.