States and cities are drowning in pension debts

States and cities are drowning in pension debts

One of the purest mysteries in public policy these days is that while there’s a clarion call from every class of political leadership to do something about sea-level trends, one sees only a bare occasional mention about the rising tide of red ink that impacts our future in ways most people will find to be a lot more threatening.

Paul Volcker, former chairman of the Federal Reserve Board, and former Commerce Secretary Pete Peterson – who together represent 179 years of combined experience – tried again this week to break through the public consciousness about the likely impact of adding another $1 trillion of public obligations to our load, as we have done every year since 2009. They point out that neither of the two candidates for the White House have offered plans that would help much, particularly if interest rates normalize. And so, it must once again be up to the states to show the way toward responsibility.

Ever ready to demonstrate interest in the sorts of pressing issues the presidential campaigns ignore, the American Legislative Exchange Council released a study last week finding that state public pensions have nearly $5.6 trillion in unfunded liabilities. The findings are based on a methodology that assumes a risk-free rate of return of 2.344 percent, rather than the simple, unweighted discount rate of 7.37 percent, which ALEC found to be the completely unrealistic average of the roughly 280 state plans they analyzed. According to ALEC, more than 70 percent of the cost of state pension benefits currently are financed out of investment earnings.

The $5.59 trillion in unfunded liabilities were $900 billion more than were found in the 2014 State Budget Solutions report. With an average funding level of 35 percent across the states, the price tag for unfunded pension liabilities is now $17,427 for every man, woman and child in the United States, according to the authors.

There will be substantial quibbling over the findings, because ALEC used a rate based on a hypothetical “15-year” Treasury bond, derived from an average of the coupons paid on the 10- and 20-year instruments between March 2015 and March 2016. The numbers are, nonetheless, staggering. The per-capita deficit listed for Ohio was the second largest in the country, behind only Alaska, which is suffering from low oil prices. There are $28,538 of public-pension obligations to state and local employees for every person who currently lives in Ohio.

There were several bipartisan reforms that became effective in 2013. These gradually increased contribution levels for Ohio’s teachers, firefighters and police; raised retirement ages for many state employees; re-engineered cost-of-living increases; and mitigated the effects of “spiking” and other common pension practices that have come to be regarded as abuses. Although described by the then-Senate president as “unpopular,” the bills all passed the Ohio Senate unanimously and garnered only a single “nay” vote in the House.

The deficit Ohio faces in funding its obligations to public employees represents the sum of current promises to them. Unlike some states, cities and counties, Ohio has the authority to change the amount of any public pension up until the first pension check is drawn; there is no right, constitutional or otherwise, to retirement health benefits at all. This is particularly important, as health care is expected to make up about 70 percent of the growth in entitlement programs over the next few years.

The concerns flagged by ALEC thus aren’t as much a danger to future Ohio taxpayers as they are to those in other states. We will pay less than promised on pensions and retirement health care if the state ultimately can’t afford those liabilities. We will not be obligated to reach further into our wallets to cover benefits to state workers.

We should avoid promising what we can’t deliver in the first place, and not end up fighting about promises on which many people have planned their lives.

Image by Andrey_Kuzmin

This work is licensed under a Creative Commons Attribution-NoDerivs 3.0 Unported License.

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R Street

The R Street Institute is a non-profit, non-partisan, public policy research organization (“think tank”). Our mission is to engage in policy research and outreach to promote free markets and limited, effective government. In addition to our D.C. headquarters, we have offices in Florida, Texas, Ohio, Colorado and California, covering the Southeast, Southwest, Midwest, Central and Western regions, respectively. We work extensively on both state and national policy, focusing on issues that other groups tend to neglect. Our specialty is in tackling issues that are complex, but don’t necessarily grab major headlines. These are the areas where we think we can have a real impact.