Kurt Brouwer September 11th, 2009
Good piece from MarketWatch on the mounting problems we are experiencing with pension plans, both private and public. Many corporate and public pension plans are underfunded and that means taxpayers are probably on the hook. Why you ask? C’mon. You and me and other taxpayers are the payer of last resort.
First, we find that faltering industrial companies have failed to adequately fund their pension plans and that leads to the Feds as the funder of last resort [emphasis added]:
Companies’ Pension Problems Could Hit Taxpayers (MarketWatch, September 3, 2009, Andrea Coombes)
When the agency that insures traditional pension plans is running a $33.5 billion deficit — the largest in its 35-year history — should you be worried? If you’re a worker or retiree counting on a traditional pension, the answer is probably not. But if you’re a taxpayer, start worrying.
Though it will likely take years, it’s all but inevitable that at some point the Pension Benefit Guaranty Corp., the agency responsible for guaranteeing pension benefits for some 44 million Americans, will need to either cut those benefits or raise a lot of cash, experts say.
Given that slashing payouts to older people is considered political suicide, the likely scenario is that the U.S. government will pony up funds to shore the agency’s finances.
Pensioners “don’t have to worry,” said Douglas Elliott, an author of numerous studies on the PBGC and a fellow at the Brookings Institution, a Washington-based public-policy think tank.
“The taxpayer has to worry.
This is the crux of the matter. When pension plans fail, taxpayers are the funders of last resort. The problem is that all kinds of pension plans — Social Security, state and local pensions, the Pension Benefit Guaranty Corporation — are all sinking into fiscal insolvency. And, then there is Medicare and Medicaid. What happens if they all go broke? MarketWatch continues:
… “There’s a point where the Social Security fund starts to run out of money if they don’t change anything. That’s a similar analogy to the PBGC,” said David Kudla, chief executive of Mainstay Capital Management LLC, an investment advisory firm that often works in the auto industry. “At some point, they either need to charge higher premiums or reduce benefits to current beneficiaries or have a capital infusion from the U.S. government,” he said. “The third [option] is probably the most likely.”
…If taxpayers do eventually bail out the PBGC, it could be a bitter pill for some of them. “You [pension recipients] would be getting a bailout from taxpayers who never had a defined-benefit plan,” Bovbjerg said. “If you have a 401(k), you don’t have guarantees like that,” she said…
In my opinion, it’s not a matter of if taxpayers bail out PBGC, but when taxpayers bail it out. Unfortunately, this issue of corporate pension failures is far from the full extent of the problem.
Next, as this opinion piece from the Wall Street Journal demonstrates, we find another huge problem, the underfunding of public pension plans:
Public Pensions Cook the Books (Wall Street Journal, July 6, 2009, Andrew C. Biggs)
Public employee pension plans are plagued by overgenerous benefits, chronic underfunding, and now trillion dollar stock-market losses. Based on their preferred accounting methods — which discount future liabilities based on high but uncertain returns projected for investments — these plans are underfunded nationally by around $310 billion.
The numbers are worse using market valuation methods (the methods private-sector plans must use), which discount benefit liabilities at lower interest rates to reflect the chance that the expected returns won’t be realized. Using that method, University of Chicago economists Robert Novy-Marx and Joshua Rauh calculate that, even prior to the market collapse, public pensions were actually short by nearly $2 trillion. That’s nearly $87,000 per plan participant. With employee benefits guaranteed by law and sometimes even by state constitutions, it’s likely these gargantuan shortfalls will have to be borne by unsuspecting taxpayers…
Public pension plans have been quietly accumulating huge long-term liabilities with very little public notice. But, a few factors have brought this issue to the public’s attention. First, the bankruptcy of Vallejo, CA and other cities, with pension liabilities a significant part of the bankruptcy filing. Second, the huge pension payouts being received by public employees.
Budget Busting Pension Plans
On a daily basis, we are seeing alarming news about the pension crisis in towns and cities across the state of California and the nation. What the heck is going on? In a nutshell, while you were out living your life, your local and state politicians were making pension promises that extend many years into the future. And, in many cases, the required funding simply is not in place. To make things worse, these promises were made to our firefighters, police and other employees of the government. These are the people who make everything in a given town work.
42 Years Driving for Dolly Madison Cakes
Columns such as these two below have been attacked by unions as an attack on public employees. I view it differently. I come from a union family. My father drove a Dolly Madison Cakes delivery truck for 42 years and he was a member of the Teamsters Union. My mother still receives a very modest monthly check from the Teamsters.
My view of this issue is that if a city or county makes a promise to its employees, it should keep it. But, if the city goes bankrupt, then of what value is the promise? Both sides — taxpayers and employees — should be on guard to make sure that promised benefits are reasonable and sustainable because if they are not, then everyone loses.
This is no longer a boring and arcane topic of interest only to local politicians, municipal employees, union officials and pension plan actuaries. We posted on this several months ago when pension obligations threatened the city of Vallejo, CA. Now we see that the city of Vallejo, California has broken a union contract after having to seek court approval for doing so (see CalPensions).
The $3 Billion Pension Miscalculation
The Sacramento Bee makes an important — and politically explosive — point in the following piece. About 10 years ago, the State of California got taken to the cleaners on employee pensions [emphasis added]:
Pension hike of a decade ago backfires (Sacramento Bee, June 22, 2009, Dan Walters)
A milestone on California’s meandering journey toward fiscal insolvency occurred exactly a decade ago when the Legislature enacted a massive increase in state employee pensions on the expedient assumption that it would cost taxpayers nothing.
Although the new pensions would generate almost countless billions of dollars in extra income for retirees in the years ahead, the CalPERS board, dominated by union representatives, told legislators that taxpayers wouldn’t have to bear the load because investment income, which was flowing into the pension trust fund from high-tech stocks, would continue indefinitely.
As it has done in so many ways, California took the good times for granted and assumed lavish investment returns would buoy public pension plans forever. Unfortunately, reality has hit home, not once, but twice. First, the tech bubble blew and now the real estate bubble and tumbling stocks have done the same.
“They (CalPERS) anticipate that the state’s contribution to CalPERS will remain below the 1998-99 fiscal year for at least the next decade,” said a final Senate analysis of the 1999 legislation that expanded state pensions, allowing Highway Patrol officers, prison guards and other “safety” workers in some cases to get more than 100 percent of their salaries.
…Within a few years, dot-com bubble had burst, CalPERS had suffered major losses and the state’s burden for pensions had pushed into the multibillion-dollar range, not counting the heavy impact on local governments that had cavalierly followed the state’s lead on boosting pension benefits (see Oakland ‘Mulls’ Bankruptcy).
The situation was ripe for a backlash, such as an initiative measure that would rein in public pensions, but union-controlled CalPERS lowered the political heat by offering employers a “smoothing” policy that would protect them against immediate jolts, spreading out the increases over a number of years.
By and by, the economy improved, albeit through an unsustainable explosion in real estate development, and the pension issue dropped from the political radar screen. But now we’re mired in the worst recession since the Great Depression, CalPERS’ investments have dropped by nearly a third and the state is paying more than $3 billion a year into the pension fund, nearly 10 times what it paid a decade ago when CalPERS made its bogus assertion to lawmakers…
I would say that’s a bit of a miss. California is being forced to pay $3 billion a year (10 times what it paid a decade ago and far more than estimated) and we are now hearing that another billion or so is needed. Eventually, a billion here and a billion adds up to real money.
This is an example of how little credibility we should give to legislative estimates of future pension costs. Either our legislators — in Washington or Sacramento or anywhere else — don’t know or they simply don’t want to know what a given pension will really cost. But, shame on us for believing their estimates.
This problem — plunging pensions — is one that will be plaguing us for many years.
Stay tuned for Plunging Pensions (Part Two) — next week.
See also:
New York City
New Jersey
Hidden Pension Fiasco
