Pension Woes May Deepen Financial Crisis For States
There's a looming U.S. financial problem that's big, is getting larger and could threaten the solvency of some states. From Connecticut to California, pension funds for teachers, firefighters and other public employees are severely underfunded.
"Generally, they're in an abominable state," says Joshua Rauh, an associate professor of finance at the Kellogg School of Management at Northwestern University.
A recent report from the Pew Center on the States put the tab for unfunded pension liabilities at $452 billion. But Rauh and others say pension funds are using unrealistic assumptions about investment returns, meaning the pension funding hole is likely much deeper.
"Our calculation is that it's more like $3 trillion underfunded," Rauh says.
And the kicker is that taxpayers are on the hook.
Stuck With The Bill
"People say, 'Well that's ridiculous. We're just not going to pay it. Let [the pension funds] go broke,' " says Robert Gentzel, policy director for the Pennsylvania State Employees' Retirement System. "That's not what would happen. The taxpayers are ultimately going to have to pay the bill."
That's because public employee pension funds are backed by the full faith and credit of the government. Over the past several decades, many states and local governments made pension promises that will be expensive to keep. Now, they're struggling to fund their obligations.
Take Cranston, R.I.
"Right now, the unfunded liability is $240 million," Cranston Mayor Allan Fung told NPR's Jim Zarroli. That's more than double the city's annual budget.
Fung added, "It's a big obligation, and it's basically a ticking time bomb for the city of Cranston that we are trying to get a handle on."
Underfunding Becomes Next Generation's Problem
The Pew report found state pension obligations nationwide were 84 percent funded. That doesn't sound so bad, but that figure does not include the full impact of the 2008-2009 market collapse, which hit pension funds hard.
Disappointing returns isn't the only funding challenge pension funds face. Many local and state governments haven't been putting enough money into the funds. When budgets are tight, shorting pension funds is a lot more politically palatable than raising taxes or having to make painful cuts.
"Underfunding is very easy because all you're doing is making this the next generation's problem," says Rick Dreyfuss of the free market-oriented Commonwealth Foundation in Harrisburg, Pa. "The next generation doesn't understand the magnitude of this, and they're too young to vote, so there's not a lot of political opposition to that."
Dreyfuss says there's a high political rate of return for increasing benefits, and there's basically no political upside to actually paying for those benefits.
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LIANE HANSEN, host:
This week, NPR is going to zero in on a big financial problem that's getting larger and could threaten the solvency of some states. Over the past several decades, many states made pension promises that will be very expensive to keep. So, from Connecticut to California, pension funds for teachers, firefighters and other public employees are severely underfunded.
Some experts put the overall shortfall more than $2 trillion and taxpayers are on the hook. Robert Gentzel is policy director for Pennsylvania employees' retirement system.
Mr. ROBERT GENTZEL (Policy Director, Pennsylvania Employees' Retirement System): This is very important for people to understand. These pension fund obligations are backed by the full faith and credit of the Commonwealth of Pennsylvania, which means ultimately they're backed by the taxpayers.
HANSEN: All this week on MORNING EDITION and ALL THINGS CONSIDERED you will hear about the pension promises various states have made. NPR reporter Tamara Keith has been looking into the issue and is in the studio with a preview. And first, Tamara, why are these pension plans so underfunded?
TAMARA KEITH: Well, there are bunch of reasons: the recession and the stock market crash took a big chunk out of these funds. In 2008 alone, state pension funds lost about 25 percent of their value. And then there are a number of other factors I'd put in the category of politics.
HANSEN: Politics?
KEITH: Yes. Because these are public pensions, decisions about how they're operated and funded are made by politicians. So, in the late '90s when the markets were booming, lawmakers all over the country sweetened retirement benefits. But then the investment returns tanked and state and local governments were going to have to put more money into their retirement systems to keep them fully funded, and that's not so easy.
When budgets are tight, shorting pension funds is a politically easy way to avoid raising taxes or having to make painful cuts. One pension expert I spoke with, Rick Dreyfuss at the free market Commonwealth Foundation put it this way...
Mr. RICK DREYFUSS (Commonwealth Foundation): They don't want to increase taxes but by not paying for this, the liability doesn't go away, it just gets larger.
HANSEN: So, what exactly does this mean for retirees and the rest of us?
KEITH: Well, retired public employees don't really have anything to worry about. These pension payments are incredibly well protected under the law. So, if a pension fund runs short on cash, it's the city and the state that are on the hook, and that means that in the future a whole lot of us who ourselves don't have pensions will be working longer or paying higher taxes or maybe even suffering reduced services to keep those pension checks coming.
And it's not unusual for public employees to be able to retire at 55 and keep getting something like 80 percent of their peak salary for the rest of their lives. And so you could say, oh, it's not fair for the rest of us to pay for this. You could also say, hey, these people devoted their lives to serving the public good, don't they deserve it?
HANSEN: Tell us more about what's going to be on the series.
KEITH: We visit Kansas and Nebraska. They're two states on opposite ends of the spectrum. Reporter David Shaper tells about Illinois, which has the unwelcome distinction of being the worst funded pension in the country. Jim Zarroli looks at risk. Some of these funds are taking incredible risks to try and get higher returns.
Richard Gonzales in California takes a look at something known as pension spiking, where employees boost the heck out of their income the last years on the job so that when they retire, they actually end up getting more than their annual salary normally was. And I went to Pennsylvania to take a closer look at some of those political dynamics that push pension bills on to future generations.
HANSEN: NPR's Tamara Keith. And you can hear all those stories and more all week on MORNING EDITION and ALL THINGS CONSIDERED. Tamara, thanks a lot.
KEITH: Thank you. Transcript provided by NPR, Copyright National Public Radio.
