Pensions Aren't Bankrupting (Most) States

[Toro]

A close look at state and local pension plans across the nation, and a comparison of them to those in the private sector, reveals a more complicated story. However, the short answer is that there's simply no evidence that state pensions are the current burden to public finances that their critics claim.

Pension contributions from state and local employers aren't blowing up budgets. They amount to just 2.9 percent of state spending, on average, according to the National Association of State Retirement Administrators. The Center for Retirement Research at Boston College puts the figure a bit higher at 3.8 percent.

Though there's no direct comparison, state and local pension contributions approximate the burden shouldered by private companies. The nonpartisan Employee Benefit Research Institute estimates that retirement funding for private employers amounts to about 3.5 percent of employee compensation. ...

Boston College researchers project that if the assets in state and local pension plans were frozen tomorrow and there was no more growth in investment returns, there'd still be enough money in most state plans to pay benefits for years to come.

"On average, with the assets on hand today, plans are able to pay annual benefits at their current level for another 13 years. This assumes, pessimistically, that plans make no future pension contributions and there is no growth in assets," said Jean-Pierre Aubry, a researcher specializing in state and local pensions for the nonpartisan Center for Retirement Research at Boston College.

In 2006, when the economy was humming before the financial crisis began, the value of assets in state and local pension funds covered promised benefits for a period of just over 19 years.

At the bottom of Aubry's list is Kentucky, which would have enough assets to cover 4.7 years. Other states do much better: North Carolina local government pensions are funded to cover 19 years of promised benefits; Florida's state plan could cover 17 years; and California's plans about 15 years.

"On the whole, the pension system isn't bankrupting every state in the country," Aubry said.

States having the biggest problems with pension obligations tend to be struggling with overall fiscal woes — New Jersey and Illinois in particular. Many states are now wrestling with underfunding because they didn't contribute enough during boom years. ...

The most recent Public Fund Survey by the National Association of State Retirement Administrators showed that, on average, state and local pensions were 78.9 percent funded, with about $688 billion in unfunded promises to pensioners. Critics suggest that the real number is at least $1 trillion or higher, using less-optimistic market assumptions.

The unfunded liabilities would be a problem if all state and local retirees went into retirement at once, but they won't. Nor will state governments go out of business and hand underfunded pension plans over to a federal regulator, as happens in the private sector. State and local governments are ongoing enterprises.

The flow of employees into retirement matches up with population trends in states, with Northeastern states with declining populations, particularly Rhode Island, seeing more stress on their pension systems than Southern and Western states, where there's been vibrant population growth.

Why employee pensions aren't bankrupting states | McClatchy

Some states, counties and cities are in trouble, however.

 

[Wry Catcher]

A close look at state and local pension plans across the nation, and a comparison of them to those in the private sector, reveals a more complicated story. However, the short answer is that there's simply no evidence that state pensions are the current burden to public finances that their critics claim.

Pension contributions from state and local employers aren't blowing up budgets. They amount to just 2.9 percent of state spending, on average, according to the National Association of State Retirement Administrators. The Center for Retirement Research at Boston College puts the figure a bit higher at 3.8 percent.

Though there's no direct comparison, state and local pension contributions approximate the burden shouldered by private companies. The nonpartisan Employee Benefit Research Institute estimates that retirement funding for private employers amounts to about 3.5 percent of employee compensation. ...

Boston College researchers project that if the assets in state and local pension plans were frozen tomorrow and there was no more growth in investment returns, there'd still be enough money in most state plans to pay benefits for years to come.

"On average, with the assets on hand today, plans are able to pay annual benefits at their current level for another 13 years. This assumes, pessimistically, that plans make no future pension contributions and there is no growth in assets," said Jean-Pierre Aubry, a researcher specializing in state and local pensions for the nonpartisan Center for Retirement Research at Boston College.

In 2006, when the economy was humming before the financial crisis began, the value of assets in state and local pension funds covered promised benefits for a period of just over 19 years.

At the bottom of Aubry's list is Kentucky, which would have enough assets to cover 4.7 years. Other states do much better: North Carolina local government pensions are funded to cover 19 years of promised benefits; Florida's state plan could cover 17 years; and California's plans about 15 years.

"On the whole, the pension system isn't bankrupting every state in the country," Aubry said.

States having the biggest problems with pension obligations tend to be struggling with overall fiscal woes — New Jersey and Illinois in particular. Many states are now wrestling with underfunding because they didn't contribute enough during boom years. ...

The most recent Public Fund Survey by the National Association of State Retirement Administrators showed that, on average, state and local pensions were 78.9 percent funded, with about $688 billion in unfunded promises to pensioners. Critics suggest that the real number is at least $1 trillion or higher, using less-optimistic market assumptions.

The unfunded liabilities would be a problem if all state and local retirees went into retirement at once, but they won't. Nor will state governments go out of business and hand underfunded pension plans over to a federal regulator, as happens in the private sector. State and local governments are ongoing enterprises.

The flow of employees into retirement matches up with population trends in states, with Northeastern states with declining populations, particularly Rhode Island, seeing more stress on their pension systems than Southern and Western states, where there's been vibrant population growth.

Why employee pensions aren't bankrupting states | McClatchy

Some states, counties and cities are in trouble, however.

Facts won't mollify the envy and hate fueled tea party or dissuade the GOP from its agenda. American citizens employed in local, state or federal government and union members of all kind are their targets.

Wages must be capped and benefits curtailed even as the costs for fuel, medical care, food and credit continues to rise, and the profits of corporations and industry skyrocket to new heights. Why? Because the power elite in America would have us believe it is all the fault of greedy employees, the lazy underclass and the illegal immigrants.

Kid yourselves not, a class war exists in America today and while it has not yet met on the battlefield the offensive has begun in rhetoric filled with hate and fear; their goal, to divide working Americans and to take the focus off of those who rape and pillage and pollute.

Who are we being told to hate and fear?
People of color;
Gays and Lesbians;
Muslims;
Liberals and progressives;
The poor;
Immigrants;
Dissidents;
Labor unions;
Teachers;
Your neighbors and friends.

 

[PoliticalChic]

A close look at state and local pension plans across the nation, and a comparison of them to those in the private sector, reveals a more complicated story. However, the short answer is that there's simply no evidence that state pensions are the current burden to public finances that their critics claim.

Pension contributions from state and local employers aren't blowing up budgets. They amount to just 2.9 percent of state spending, on average, according to the National Association of State Retirement Administrators. The Center for Retirement Research at Boston College puts the figure a bit higher at 3.8 percent.

Though there's no direct comparison, state and local pension contributions approximate the burden shouldered by private companies. The nonpartisan Employee Benefit Research Institute estimates that retirement funding for private employers amounts to about 3.5 percent of employee compensation. ...

Boston College researchers project that if the assets in state and local pension plans were frozen tomorrow and there was no more growth in investment returns, there'd still be enough money in most state plans to pay benefits for years to come.

"On average, with the assets on hand today, plans are able to pay annual benefits at their current level for another 13 years. This assumes, pessimistically, that plans make no future pension contributions and there is no growth in assets," said Jean-Pierre Aubry, a researcher specializing in state and local pensions for the nonpartisan Center for Retirement Research at Boston College.

In 2006, when the economy was humming before the financial crisis began, the value of assets in state and local pension funds covered promised benefits for a period of just over 19 years.

At the bottom of Aubry's list is Kentucky, which would have enough assets to cover 4.7 years. Other states do much better: North Carolina local government pensions are funded to cover 19 years of promised benefits; Florida's state plan could cover 17 years; and California's plans about 15 years.

"On the whole, the pension system isn't bankrupting every state in the country," Aubry said.

States having the biggest problems with pension obligations tend to be struggling with overall fiscal woes — New Jersey and Illinois in particular. Many states are now wrestling with underfunding because they didn't contribute enough during boom years. ...

The most recent Public Fund Survey by the National Association of State Retirement Administrators showed that, on average, state and local pensions were 78.9 percent funded, with about $688 billion in unfunded promises to pensioners. Critics suggest that the real number is at least $1 trillion or higher, using less-optimistic market assumptions.

The unfunded liabilities would be a problem if all state and local retirees went into retirement at once, but they won't. Nor will state governments go out of business and hand underfunded pension plans over to a federal regulator, as happens in the private sector. State and local governments are ongoing enterprises.

The flow of employees into retirement matches up with population trends in states, with Northeastern states with declining populations, particularly Rhode Island, seeing more stress on their pension systems than Southern and Western states, where there's been vibrant population growth.

Why employee pensions aren't bankrupting states | McClatchy

Some states, counties and cities are in trouble, however.

"Some states, counties and cities are in trouble, however."
Is that what's called 'duck and cover'?

What's truly funny is how the left begins its trope, and the folks on the left buy it like it's on sale.

Who was it, Saint Michael Moore, who said, 'the country's not broke' to take the heat off the unions in Wisconsin, and sure enough, McClatchy tries to make it true....

"Levin describes the latest rambling of Michael Moore as the elementary school version of the Communist Manifesto. Moore says that there’s plenty of money in the US, that we aren’t going broke at all."http://www.therightscoop.com/mark-levin-rips-half-wit-michael-moore/

1. To get an idea of the characteristics of public fiscal calculations, take a look at state budgets. State, unlike federal, budgets, cannot run as deficits. “Virtually all states have balanced budget requirements, so they must take actions to close these deficits.” (State Budget Deficits for Fiscal Year 2004 are Huge and Growing, Revised 1/23/03) So, what to do?

Simple: conjecture a better world! Read McClatchy!

a. In 2008, states reported that their public-employee pensions were underfunded by a total of $438 billion. But independent estimates say the underfunding is closer to $3 trillion. Why? The states make up estimates of return at unbelievable levels: the median investment return factored in by state pensions is 8% a year! AEI - The Market Value of Public-Sector Pension Deficits

b. “The official state estimate in underfunded pension liabilities to New Jersey’s public workers stands at $46 billion. It is one of the highest liabilities in the nation, averaging $5,200 per capita. The estimate is based on an assumed rate of return on pension assets of 8.25 percent –“ National Taxpayers Union - Overvalued and Underfunded: New Jersey

c. Now, what happens if the state cannot pay the pensions? Taxpayers are legally obligated to make up any difference between what’s been promised and what can actually be paid. Pension Pulse: Pension Woes May Deepen Financial Crisis

Or...how about we float the idea that the state, and the nation, aren't in debt trouble...Yeah- that's the ticket: soak the rich....whoever they are.

Now, let's do a review of the numbers:

2. Let’s see all of the debt in one place!
a. National debt $13 trillion
b. State and Local debt $2.5 trillion
c. State and Local pensions (underfunded) $3 trillion
d. Social Security $7.7 trillion*
e. Medicare $ 38 trillion*
f. Total US debt $64.2 trillion
g. Total GDP of entire world $61.0 trillion
*covers commitments for 75 years
b., c. The Other National Debt - Kevin D. Williamson - National Review Online
d., e. The 81% Tax Increase - Forbes.com
f. 65 Trillion - U.S. Financial Obligations Exceed The Entire World's GDP
g. Silver: Declining supply, increasing demand - Precious Metals - Resource Investor

You guys are such pushovers.

 

[PoliticalChic]

A close look at state and local pension plans across the nation, and a comparison of them to those in the private sector, reveals a more complicated story. However, the short answer is that there's simply no evidence that state pensions are the current burden to public finances that their critics claim.

Pension contributions from state and local employers aren't blowing up budgets. They amount to just 2.9 percent of state spending, on average, according to the National Association of State Retirement Administrators. The Center for Retirement Research at Boston College puts the figure a bit higher at 3.8 percent.

Though there's no direct comparison, state and local pension contributions approximate the burden shouldered by private companies. The nonpartisan Employee Benefit Research Institute estimates that retirement funding for private employers amounts to about 3.5 percent of employee compensation. ...

Boston College researchers project that if the assets in state and local pension plans were frozen tomorrow and there was no more growth in investment returns, there'd still be enough money in most state plans to pay benefits for years to come.

"On average, with the assets on hand today, plans are able to pay annual benefits at their current level for another 13 years. This assumes, pessimistically, that plans make no future pension contributions and there is no growth in assets," said Jean-Pierre Aubry, a researcher specializing in state and local pensions for the nonpartisan Center for Retirement Research at Boston College.

In 2006, when the economy was humming before the financial crisis began, the value of assets in state and local pension funds covered promised benefits for a period of just over 19 years.

At the bottom of Aubry's list is Kentucky, which would have enough assets to cover 4.7 years. Other states do much better: North Carolina local government pensions are funded to cover 19 years of promised benefits; Florida's state plan could cover 17 years; and California's plans about 15 years.

"On the whole, the pension system isn't bankrupting every state in the country," Aubry said.

States having the biggest problems with pension obligations tend to be struggling with overall fiscal woes — New Jersey and Illinois in particular. Many states are now wrestling with underfunding because they didn't contribute enough during boom years. ...

The most recent Public Fund Survey by the National Association of State Retirement Administrators showed that, on average, state and local pensions were 78.9 percent funded, with about $688 billion in unfunded promises to pensioners. Critics suggest that the real number is at least $1 trillion or higher, using less-optimistic market assumptions.

The unfunded liabilities would be a problem if all state and local retirees went into retirement at once, but they won't. Nor will state governments go out of business and hand underfunded pension plans over to a federal regulator, as happens in the private sector. State and local governments are ongoing enterprises.

The flow of employees into retirement matches up with population trends in states, with Northeastern states with declining populations, particularly Rhode Island, seeing more stress on their pension systems than Southern and Western states, where there's been vibrant population growth.

Why employee pensions aren't bankrupting states | McClatchy

Some states, counties and cities are in trouble, however.

Facts won't mollify the envy and hate fueled tea party or dissuade the GOP from its agenda. American citizens employed in local, state or federal government and union members of all kind are their targets.

Wages must be capped and benefits curtailed even as the costs for fuel, medical care, food and credit continues to rise, and the profits of corporations and industry skyrocket to new heights. Why? Because the power elite in America would have us believe it is all the fault of greedy employees, the lazy underclass and the illegal immigrants.

Kid yourselves not, a class war exists in America today and while it has not yet met on the battlefield the offensive has begun in rhetoric filled with hate and fear; their goal, to divide working Americans and to take the focus off of those who rape and pillage and pollute.

Who are we being told to hate and fear?
People of color;
Gays and Lesbians;
Muslims;
Liberals and progressives;
The poor;
Immigrants;
Dissidents;
Labor unions;
Teachers;
Your neighbors and friends.

WryBoy...sometimes I expect you to think for yourself....but, obviously, not every time.

"there's simply no evidence that state pensions are the current burden to public finances"

Is this the hill you want to die on?

 

[Toro]

a. In 2008, states reported that their public-employee pensions were underfunded by a total of $438 billion. But independent estimates say the underfunding is closer to $3 trillion. Why? The states make up estimates of return at unbelievable levels: the median investment return factored in by state pensions is 8% a year! AEI - The Market Value of Public-Sector Pension Deficits

These "independent assessments" are done by economists who disagree with how the actuarial liability is calculated. The ideological right would like to have you believe that by referring to these economists as "independent," it implies that those calculating actuarial liabilities are somehow compromised. But this is false. In fact, the actuarial discount rate that pensions use to calculate the level of funding comes from both extensive study and experience, and is widely accepted in the actuarial profession. It is the economists making this argument, not the actuaries, who are out of the mainstream. It is the mainstream actuaries who have looked at over a century of data to calculate the discount rates who are in line with mainstream thought.

Here is one problem with the AEI economist's argument

Discounting liabilities at the plan's projected rate of return has intuitive appeal, but financial economists and the practice of financial markets object to using an interest rate derived from riskyinvestments to discount the value of a riskless liability. As University of Illinois finance professor Jeffrey R. Brown and Federal Reserve economist David W. Wilcox write, "Finance theory is unambiguous that the discount rate used to value future pension obligations should reflect the riskiness of the liabilities."

"Finance theory" once held that bonds should yield at a lower rate than stocks. Why? Because academics argued that bonds were less risky than stocks. Of course, this thinking has changed over time, both in academia and in practice, as investors came to realize that stocks had a growth component, and thus the yield on stocks should be lower since capital retained within the corporation was invested at a higher rate of growth. And since 1957, except for brief periods of extreme panic, the yield on stocks has been below the yield on bonds.

"Finance theory" has had spectacular failures as of late. Finance theory articulates that markets are efficient, and that the "right" price is the price in the market. This leads to a circular argument - the market price is the right price so the right price is the market price. This is best embodied in the Efficient Market Hypothesis, which states that all prices reflect known information. It was under this false premise that lead most economists to believe that home prices were fairly valued in 2006, even though many of us in the investment business thought the economists making this argument were nuts, relying on fundamentally flawed models and assumptions to support their arguments. We were right. The economists were wrong.

So according to "finance theory," because pension funds are guaranteed, they should be discounted at the guaranteed rate of return. This, like the EMH, is fundamentally flawed thinking.

First, the academic assumes that because the benefits are guaranteed and states cannot declare bankruptcy, they are riskless. This is false. It assumes that the only risk is bankruptcy. It is not. First, because states cannot declare bankruptcy now, does not mean they will not be able to in the future. It also assumes that geopolitical events do not affect the status of a state. What if a state breaks into two? What if a state leaves the union? What if Russia fires nuclear missiles at us? Sounds far-fetched? Sure. But so did 20 Arabs with box-cutters turning the world on its head on Sept 10, 2001.

More benignly, and again exposing the flaw in the economists' thinking, is the risk of inflation. An economist, premised on the EMH, would argue that inflation expectations embedded in market prices are correct. Inflation expectations in the market are now low. An economist would say that is an accurate forecast of future inflation. But what if it is not? Economists are notoriously bad at forecasting anything. That's not to pick on economists - we are all notoriously bad at forecasting anything - but the risk of inflation and volatility of future liabilities, i.e. adjustments for inflation-indexing, etc., are very real because future inflation is inherently unknowable.

There are practical problems with the economists' arguments. The biggest one is that it would to 1.) lead to dramatic over-funding of pension plans, and 2.) lead to higher taxes, both of which are inefficient.

The reason why actuaries use a higher discount rate is because asset returns are higher. The AEI economist notes in his paper that this effectively leads to a mismatch in the volatility of assets and liabilities. But this is only a problem if the pension fund has to be liquidated right now. In real life, that never happens. In real life, pension funds are long-lived institutions. The effects of long duration assets are enormous.

Let's take the AEI economist at his word. Let's take a look at two scenarios. First, we follow what the economist says and discount the liabilities at the risk-free rate, which is about 4%. Since by implication this requires investing in nothing but government bonds since we are matching "low-risk" assets with "low-risk" liabilities, our return will be 4%. If the pension fund is fully-funded and has $100 million in assets, in 50 years, the pension plan will be worth $610 million compounded at 4% per year.

Now, let's follow the advice of the actuary who recommends we discount liabilities at 8%. A plan that invests in assets to earn 8% a year will invest in stocks and bonds and other assets. Over long periods of time, stocks have earned 10% per year while a basket of corporate and government bonds have earned ~6% per year. So the 8% per year that government (and corporate) pension funds have earned is fairly accurate as a discount rate. After 50 years, $100 million invested at 8% will be worth $4.59 billion.

So let's review. Here are the values of the pension funds after 50 years following the advice of the economists and actuaries.

Scenario 1, listen to the AEI economist and invest at 4% - $610 million.
Scenario 2, listen to the actuaries and invest at 8% - $4.59 billion.

Now, which is better?

I don't know about you, but I'd take scenario 2. The employees will be richer and taxpayers will be taxed less.

Now, the economist will say "The $610 million is guaranteed, the $4.59 billion is not." True. Sort of. It won't be guaranteed if inflation jumps. The value of the government bonds will plummet. Scenario 2 will produce a higher real return than Scenario 1 in a higher inflation scenario, and will do a much better job at protecting the plan assets. The odds of having 750%, or $4 billion, more in scenario 2 is relatively high as long as the American economy grows at the rate it has for two centuries.

The AEI economist also appears to have made a flawed assessment of the probabilities of pension funds meeting their actuarial returns. He uses Monte Carlo analysis to calculate the probability of pension funds earning their actuarial return. Frankly, I have no idea what his methodologies are, but the fact that he calculates that a fully funded pension only has a 40% chance of meeting its obligations makes me think he is using flawed assumptions. There is a theory in finance that assumes the expected rate of return from stocks for any one individual is 0%, simply because the market is bigger than any one individual. Like sitting at a roulette table, the market will eventually take your money since your losses will outstrip your gains in any one time period. My guess this is in his assumptions. If fully-funded pension plans only have a 40% chance of meeting all their obligations, the economy is in serious trouble. In reality, if the economy grows at trend, the odds of a fully funded plan being able to meet all its obligations are extremely high.

Economic and finance theories have been found to be enormously flawed over the past decade. Following the advice of these economists on pension funds would be extremely damaging as it would unnecessarily cost pension plans - and taxpayers - enormous amounts of money.

 

[william the wie]

Toro, the cities and states that are in trouble are generally in trouble to the degree that they are reliable democratic strongholds that use public sector unions to maintain that power. The dots are very easy to connect on that one. Public sector unions exist to help the Democratic Party win elections period dot. Get the unions out of partisan politics and the problem goes away.

 

[Toro]

William

You might be right, I don't know. I've never done a political analysis of the states.

I don't want to leave the impression that all jurisdictions are fine. Some are in dire straights. Here in Florida, even though the state is in good shape, many cities and counties in the state are in trouble.

 

[Wry Catcher]

Why employee pensions aren't bankrupting states | McClatchy

Some states, counties and cities are in trouble, however.

Facts won't mollify the envy and hate fueled tea party or dissuade the GOP from its agenda. American citizens employed in local, state or federal government and union members of all kind are their targets.

Wages must be capped and benefits curtailed even as the costs for fuel, medical care, food and credit continues to rise, and the profits of corporations and industry skyrocket to new heights. Why? Because the power elite in America would have us believe it is all the fault of greedy employees, the lazy underclass and the illegal immigrants.

Kid yourselves not, a class war exists in America today and while it has not yet met on the battlefield the offensive has begun in rhetoric filled with hate and fear; their goal, to divide working Americans and to take the focus off of those who rape and pillage and pollute.

Who are we being told to hate and fear?
People of color;
Gays and Lesbians;
Muslims;
Liberals and progressives;
The poor;
Immigrants;
Dissidents;
Labor unions;
Teachers;
Your neighbors and friends.

WryBoy...sometimes I expect you to think for yourself....but, obviously, not every time.

"there's simply no evidence that state pensions are the current burden to public finances"

Is this the hill you want to die on?

I love it when you post something I did not write, it gives me added confidence that the point I did make is spot on.

In fact pensions are a burden to many state governments, but not the only reason state governments are in fiscal trouble. Public employees are a scapegoat, even as the unions that represent them have and continue to make concessions in collective barganing venues.

Crime in fact has become a greater burden in California. The law and order movement which superseded rehabilitation and treatement has flooded state prisons with inmates at great cost to the California taxpayer. Prisons are very expensive to build and to run; medical costs for prisoners alone cost taxpayer millions each year and incarcerating younger persons for relatively minor felonies (i.e. drug transportation or sales, auto theft) has created career criminals and gang problems beyond our control.

I honestly don't believe you understand the real problems facing our states, or their cause.

 

[chikenwing]

"there's simply no evidence that state pensions are the current burden to public finances"


So it must have been a big lie,year after year when the state,and local governments have been using the rising cost of pensions as one of the main causes for tax increases year after year.School taxes being at the top of the list for annual double digit increases.

How can it be both??

 

[PoliticalChic]

a. In 2008, states reported that their public-employee pensions were underfunded by a total of $438 billion. But independent estimates say the underfunding is closer to $3 trillion. Why? The states make up estimates of return at unbelievable levels: the median investment return factored in by state pensions is 8% a year! AEI - The Market Value of Public-Sector Pension Deficits

These "independent assessments" are done by economists who disagree with how the actuarial liability is calculated. The ideological right would like to have you believe that by referring to these economists as "independent," it implies that those calculating actuarial liabilities are somehow compromised. But this is false. In fact, the actuarial discount rate that pensions use to calculate the level of funding comes from both extensive study and experience, and is widely accepted in the actuarial profession. It is the economists who make this argument, not the actuaries, who are out of the mainstream. It is the mainstream actuaries who have looked at over a century of data to calculate the discount rates who are in line with mainstream thought. This is the problem with the economists' argument

Discounting liabilities at the plan's projected rate of return has intuitive appeal, but financial economists and the practice of financial markets object to using an interest rate derived from riskyinvestments to discount the value of a riskless liability. As University of Illinois finance professor Jeffrey R. Brown and Federal Reserve economist David W. Wilcox write, "Finance theory is unambiguous that the discount rate used to value future pension obligations should reflect the riskiness of the liabilities."

"Finance theory" once held that bonds should yield at a lower rate than stocks. Why? Because academics argued that bonds were less risky than stocks. Of course, this thinking has changed over time, both in academia and in practice, as investors came to realize that stocks had a growth component, and thus yield on stocks should be lower since capital retained was invested at a higher rate of growth. And since 1957, except for brief periods of extreme panic, the yield on stocks has been below the yield on bonds.

"Finance theory" has had spectacular failures as of late. Finance theory articulates that markets are efficient, and that the "right" price is the price in the market. This leads to a circular argument - the right price is the price in the market so the price in the market price. This is best embodied in the Efficient Market Hypothesis, which states that all prices reflect known information. It was under this false premise that lead most economists to believe that home prices were fairly valued in 2006, even though many of us in the investment business thought the economists making this argument were nuts, relying on fundamentally flawed models and assumptions to support their arguments. We were right. The economists were wrong.

So according to "finance theory", because pension funds are guaranteed, they should be discounted at the guaranteed rate of return. This, like the EMH, is fundamentally flawed thinking.

First, the academic assumes that because the benefits are guaranteed and states cannot declare bankruptcy, they are riskless. This is false. It assumes that the only risk is bankruptcy. It is not. First, because states cannot declare bankruptcy now, does not mean they will not be able to in the future. It also assumes that geopolitical events do not affect the status of a state. What if a state breaks into two? What if a state succeeds from the union? What if Russia fires nuclear missiles at us? Sounds far-fetched? Sure. But so did 20 Arabs with box-cutters turning the world on its head on Sept 10, 2001.

More benignly, and again exposing the flaw in the economists' thinking, is the risk of inflation. An economist, premised on the EMH, would argue that inflation expectations are embedded in market prices. Inflation expectations in the market are now low. An economist would say that is an accurate forecast of future inflation. But what if it is not? Economists are notoriously bad at forecasting anything. That's not to pick on economists - we are all notoriously bad at forecasting anything. But the risk of inflation and volatility of future liabilities, i.e. adjustments for inflation-indexing, etc., are very real because the future is inherently unknowable.

But there are practical problems with the economists' arguments. The biggest ones are that it would either 1.) lead to dramatic over-funding of pension plans, and 2.) lead to higher taxes, both of which are inefficient.

The reason why actuaries use a higher discount rate is because asset returns are higher. The AEI economist notes in his paper that this effectively leads to a mismatch in the volatility of assets and liabilities. But this is only a problem if the pension fund has to be liquidated right now. In real life, that never happens. In real life, pension funds are long-lived institutions with extremely long life spans. The effects of long duration assets are enormous.

Let's take the AEI economist at his word. Let's take a look at two scenarios. First, we follow what the economist says and discount the liabilities at the risk-free rate, which we can say is 4%. Since by implication this requires investing in nothing but government bonds, our return will be 4%. If the pension fund is fully-funded and has $100 million in assets, in 50 years, the pension plan will be worth $610 million earning 4% per year.

Now, let's follow the advice of the actuary who recommends we discount liabilities at 8%. A plan that invests in assets to earn 8% a year will invest in stocks and bonds and other assets. Over long periods of time, stocks have earned 10% per year while a basket of corporate and government bonds have earned ~6% per year. So the 8% per year that government (and corporate) pension funds have earned is fairly accurate. After 50 years, $100 million invested at 8% will be worth $4.59 billion.

So let's review. Here are the values of the pension funds after 50 years following the advice of the economists and actuaries.

Scenario 1, listen to the AEI economist and invest at 4% - $610 million.
Scenario 2, listen to the actuaries and invest at 8% - $4.59 billion.

Now, which is better?

I don't know about you, but I'd take scenario 2. The employees will be richer and taxpayers will be taxed less.

Now, the economist will say "The $610 million is more guaranteed, the $4.59 billion is not." True, sort of. It won't be guaranteed if inflation jumps. Scenario 2 will produce a higher real return than Scenario 1 in a higher inflation scenario, and will do a much better job at protecting the plan assets. However, the odds have having 750%, or $4 billion, more is relatively high as long as the American economy grows at about the same rate as it has for two centuries.

The AEI economist also appears to have made a flawed assessment of the probabilities of meeting pension funds meeting their actuarial returns. He uses Monte Carlo analysis to calculate the probability of pension funds earning their actuarial return. Frankly, I have no idea his methodologies, but the fact that he calculates that a fully funded pension only has a 40% chance of meeting its obligations makes me think he is using flawed assumptions. There is a theory in finance that assumed the expected rate of return from stocks for any one individual is 0%, simply because the market is bigger than any one individual, and like sitting at a roulette table, eventually, the market will take your money from you since your losses will outstrip your gains. My guess is his line of reasoning somewhere along these lines. If fully-funded pension plans have only a 40% chance of being able to meet all their obligations, the economy is in serious trouble. In reality, if the economy grows at trend, the odds of a fully funded plan being able to meet all its obligations are extremely high.

Economic theories have been found out to be enormously flawed over the past decade. Following the advice of these economists would be extremely damaging as it would unnecessarily cost pension plans - and taxpayers - enormous amounts of money.

Toro, I love it.
There are very few who can post as thoroughly and as calmly as you do re: the realm of economics.

Excellent exposition.

But, of course, you threw in the towel in the OP with modifiers such as 'most states....' and 'some states are in trouble...'

 

[PoliticalChic]

Facts won't mollify the envy and hate fueled tea party or dissuade the GOP from its agenda. American citizens employed in local, state or federal government and union members of all kind are their targets.

Wages must be capped and benefits curtailed even as the costs for fuel, medical care, food and credit continues to rise, and the profits of corporations and industry skyrocket to new heights. Why? Because the power elite in America would have us believe it is all the fault of greedy employees, the lazy underclass and the illegal immigrants.

Kid yourselves not, a class war exists in America today and while it has not yet met on the battlefield the offensive has begun in rhetoric filled with hate and fear; their goal, to divide working Americans and to take the focus off of those who rape and pillage and pollute.

Who are we being told to hate and fear?
People of color;
Gays and Lesbians;
Muslims;
Liberals and progressives;
The poor;
Immigrants;
Dissidents;
Labor unions;
Teachers;
Your neighbors and friends.

WryBoy...sometimes I expect you to think for yourself....but, obviously, not every time.

"there's simply no evidence that state pensions are the current burden to public finances"

Is this the hill you want to die on?

I love it when you post something I did not write, it gives me added confidence that the point I did make is spot on.

In fact pensions are a burden to many state governments, but not the only reason state governments are in fiscal trouble. Public employees are a scapegoat, even as the unions that represent them have and continue to make concessions in collective barganing venues.

Crime in fact has become a greater burden in California. The law and order movement which superseded rehabilitation and treatement has flooded state prisons with inmates at great cost to the California taxpayer. Prisons are very expensive to build and to run; medical costs for prisoners alone cost taxpayer millions each year and incarcerating younger persons for relatively minor felonies (i.e. drug transportation or sales, auto theft) has created career criminals and gang problems beyond our control.

I honestly don't believe you understand the real problems facing our states, or their cause.

You signed on to the premise with ""there's simply no evidence that state pensions are the current burden to public finances" with no hesitation, or disagreement.

But I have no trouble giving you another shot....

Care to reverse the position?

 

[Toro]

Toro, I love it.
There are very few who can post as thoroughly and as calmly as you do re: the realm of economics.

Excellent exposition.

But, of course, you threw in the towel in the OP with modifiers such as 'most states....' and 'some states are in trouble...'

Thanks. I appreciate it.

I have to throw in the qualifiers because not all jurisdictions are the same. I am in the center of this debate right now, and I find critics painting broad brushes regarding all pension plans. For some plans, there is no way out without dramatic changes. But many others are fine.

 

[Wry Catcher]

WryBoy...sometimes I expect you to think for yourself....but, obviously, not every time.

"there's simply no evidence that state pensions are the current burden to public finances"

Is this the hill you want to die on?

I love it when you post something I did not write, it gives me added confidence that the point I did make is spot on.

In fact pensions are a burden to many state governments, but not the only reason state governments are in fiscal trouble. Public employees are a scapegoat, even as the unions that represent them have and continue to make concessions in collective barganing venues.

Crime in fact has become a greater burden in California. The law and order movement which superseded rehabilitation and treatement has flooded state prisons with inmates at great cost to the California taxpayer. Prisons are very expensive to build and to run; medical costs for prisoners alone cost taxpayer millions each year and incarcerating younger persons for relatively minor felonies (i.e. drug transportation or sales, auto theft) has created career criminals and gang problems beyond our control.

I honestly don't believe you understand the real problems facing our states, or their cause.

You signed on to the premise with ""there's simply no evidence that state pensions are the current burden to public finances" with no hesitation, or disagreement.

But I have no trouble giving you another shot....

Care to reverse the position?

Again, you chose to misstate. I wrote:

"Facts won't mollify the envy and hate fueled tea party or dissuade the GOP from its agenda. American citizens employed in local, state or federal government and union members of all kind are their targets.

"Wages must be capped and benefits curtailed even as the costs for fuel, medical care, food and credit continues to rise, and the profits of corporations and industry skyrocket to new heights. Why? Because the power elite in America would have us believe it is all the fault of greedy employees, the lazy underclass and the illegal immigrants."

The GOP, the right cherry pick causes to fit your agenda and ideology.
Let me revise what you purport I meant with what I meant: there's simply no evidence that state pensions are the sole burden to public finances"

 

[Flopper]

Like most of the sky is falling projections, it's assumed nothing will change over the next 75 years. Taxes will remain low, economic growth will be near stagnant, birthrates will not continue to fall, recipients of benefits will not be asked to pay more for those benefits, and government will not change benefit formulas. I'd say these are pretty big assumptions.

 

[PoliticalChic]

Like most of the sky is falling projections, it's assumed nothing will change over the next 75 years. Taxes will remain low, economic growth will be near stagnant, birthrates will not continue to fall, recipients of benefits will not be asked to pay more for those benefits, and government will not change benefit formulas. I'd say these are pretty big assumptions.

Floppsy, this is today's winner in the category of unintentional humor:

"... it's assumed nothing will change over the next 75 years."

I love it!

The heck with that dang 'history' stuff... forget human nature!


Just remember, that stuff you're smokin' is still illegal...and, I guess, will be for the next 75 years!

 

[PoliticalChic]

I love it when you post something I did not write, it gives me added confidence that the point I did make is spot on.

In fact pensions are a burden to many state governments, but not the only reason state governments are in fiscal trouble. Public employees are a scapegoat, even as the unions that represent them have and continue to make concessions in collective barganing venues.

Crime in fact has become a greater burden in California. The law and order movement which superseded rehabilitation and treatement has flooded state prisons with inmates at great cost to the California taxpayer. Prisons are very expensive to build and to run; medical costs for prisoners alone cost taxpayer millions each year and incarcerating younger persons for relatively minor felonies (i.e. drug transportation or sales, auto theft) has created career criminals and gang problems beyond our control.

I honestly don't believe you understand the real problems facing our states, or their cause.

You signed on to the premise with ""there's simply no evidence that state pensions are the current burden to public finances" with no hesitation, or disagreement.

But I have no trouble giving you another shot....

Care to reverse the position?

Again, you chose to misstate. I wrote:

"Facts won't mollify the envy and hate fueled tea party or dissuade the GOP from its agenda. American citizens employed in local, state or federal government and union members of all kind are their targets.

"Wages must be capped and benefits curtailed even as the costs for fuel, medical care, food and credit continues to rise, and the profits of corporations and industry skyrocket to new heights. Why? Because the power elite in America would have us believe it is all the fault of greedy employees, the lazy underclass and the illegal immigrants."

The GOP, the right cherry pick causes to fit your agenda and ideology.
Let me revise what you purport I meant with what I meant: there's simply no evidence that state pensions are the sole burden to public finances"

Frankly, Wry, I must tell you that your post doesn't make much sense...Create all the straw men you like...

The point is that there is a socialist left that is in the process of protecting the labor unions by producing a miasma of gobbledy-gook that is counter to the information available.

It is always a mistake to accept McClatchy stuff at face value, and you should know better than to sign on to Michael Moore blather...

My argument is not with the unions, I have begun a couple of OP's defending same, but you overlook the larger picture when you jump on the bandwagon.

 

[Foxfyre]

Like most of the sky is falling projections, it's assumed nothing will change over the next 75 years. Taxes will remain low, economic growth will be near stagnant, birthrates will not continue to fall, recipients of benefits will not be asked to pay more for those benefits, and government will not change benefit formulas. I'd say these are pretty big assumptions.

Floppsy, this is today's winner in the category of unintentional humor:

"... it's assumed nothing will change over the next 75 years."

I love it!

The heck with that dang 'history' stuff... forget human nature!


Just remember, that stuff you're smokin' is still illegal...and, I guess, will be for the next 75 years!

One problem is that our government, and those who look to it as their safety net or salvation, generally isn't good to study history or factor in human nature when it writes budgets. And there is a huge incentive to do what can be accomplished here and now for here and now and ignore any unintended consequences on down the road where it won't affect those currently in office.

And THAT is why collective bargaining that can affect future administrations and taxpayers should not be allowed in the public sector. Those future administrations and the taxpayers who pay the bill have no place at the bargaining table now. They, however, are getting stuck with the bills that have come due via previous administrations, sometimes a decade or more before, and a big chunk of those bills are union contracts for wages and benefits that have pushed public sector compensation far above similar private sector compensation.

We have to have some legal means of addressing that problem.

 

[skeptic]

The pension bomb won't even explode for another 5 years.

Pensions themselves are not what is bankrupting most states and municipalities, today. But employee unions still prevent states from reducing labor costs to balance budgets. There is no reverse gear in managing state labor costs.

When times are good and money abundant costs rise like rockets. When times are bad and states are $20 billion in the hole labor costs rise like balloons. This is an unsustainable circumstance. States need the ability to quickly adjust spending to match revenues, and all long term contracts with labor handcuff them in that effort.

IMO each state should pass a constitutional amendment that prohibits states from engaging in any contracted obligations to labor that exceeds the current budget cycle. Pensions included. Let state employees form their own pension collectives, or hedge funds. Leave the state out of it.

 

[Quantum Windbag]

A close look at state and local pension plans across the nation, and a comparison of them to those in the private sector, reveals a more complicated story. However, the short answer is that there's simply no evidence that state pensions are the current burden to public finances that their critics claim.

Pension contributions from state and local employers aren't blowing up budgets. They amount to just 2.9 percent of state spending, on average, according to the National Association of State Retirement Administrators. The Center for Retirement Research at Boston College puts the figure a bit higher at 3.8 percent.

Though there's no direct comparison, state and local pension contributions approximate the burden shouldered by private companies. The nonpartisan Employee Benefit Research Institute estimates that retirement funding for private employers amounts to about 3.5 percent of employee compensation. ...

Boston College researchers project that if the assets in state and local pension plans were frozen tomorrow and there was no more growth in investment returns, there'd still be enough money in most state plans to pay benefits for years to come.

"On average, with the assets on hand today, plans are able to pay annual benefits at their current level for another 13 years. This assumes, pessimistically, that plans make no future pension contributions and there is no growth in assets," said Jean-Pierre Aubry, a researcher specializing in state and local pensions for the nonpartisan Center for Retirement Research at Boston College.

In 2006, when the economy was humming before the financial crisis began, the value of assets in state and local pension funds covered promised benefits for a period of just over 19 years.

At the bottom of Aubry's list is Kentucky, which would have enough assets to cover 4.7 years. Other states do much better: North Carolina local government pensions are funded to cover 19 years of promised benefits; Florida's state plan could cover 17 years; and California's plans about 15 years.

"On the whole, the pension system isn't bankrupting every state in the country," Aubry said.

States having the biggest problems with pension obligations tend to be struggling with overall fiscal woes — New Jersey and Illinois in particular. Many states are now wrestling with underfunding because they didn't contribute enough during boom years. ...

The most recent Public Fund Survey by the National Association of State Retirement Administrators showed that, on average, state and local pensions were 78.9 percent funded, with about $688 billion in unfunded promises to pensioners. Critics suggest that the real number is at least $1 trillion or higher, using less-optimistic market assumptions.

The unfunded liabilities would be a problem if all state and local retirees went into retirement at once, but they won't. Nor will state governments go out of business and hand underfunded pension plans over to a federal regulator, as happens in the private sector. State and local governments are ongoing enterprises.

The flow of employees into retirement matches up with population trends in states, with Northeastern states with declining populations, particularly Rhode Island, seeing more stress on their pension systems than Southern and Western states, where there's been vibrant population growth.

Why employee pensions aren't bankrupting states | McClatchy

Some states, counties and cities are in trouble, however.

You forgot a word in your thread title.

Yet.

Even the NYT is admitting there is a problem.

http://www.nytimes.com/2011/03/06/o...l=1&adxnnlx=1299542424-x0gDR21cePuNGvkC1yfsxA

 

[Sallow]

A close look at state and local pension plans across the nation, and a comparison of them to those in the private sector, reveals a more complicated story. However, the short answer is that there's simply no evidence that state pensions are the current burden to public finances that their critics claim.

Pension contributions from state and local employers aren't blowing up budgets. They amount to just 2.9 percent of state spending, on average, according to the National Association of State Retirement Administrators. The Center for Retirement Research at Boston College puts the figure a bit higher at 3.8 percent.

Though there's no direct comparison, state and local pension contributions approximate the burden shouldered by private companies. The nonpartisan Employee Benefit Research Institute estimates that retirement funding for private employers amounts to about 3.5 percent of employee compensation. ...

Boston College researchers project that if the assets in state and local pension plans were frozen tomorrow and there was no more growth in investment returns, there'd still be enough money in most state plans to pay benefits for years to come.

"On average, with the assets on hand today, plans are able to pay annual benefits at their current level for another 13 years. This assumes, pessimistically, that plans make no future pension contributions and there is no growth in assets," said Jean-Pierre Aubry, a researcher specializing in state and local pensions for the nonpartisan Center for Retirement Research at Boston College.

In 2006, when the economy was humming before the financial crisis began, the value of assets in state and local pension funds covered promised benefits for a period of just over 19 years.

At the bottom of Aubry's list is Kentucky, which would have enough assets to cover 4.7 years. Other states do much better: North Carolina local government pensions are funded to cover 19 years of promised benefits; Florida's state plan could cover 17 years; and California's plans about 15 years.

"On the whole, the pension system isn't bankrupting every state in the country," Aubry said.

States having the biggest problems with pension obligations tend to be struggling with overall fiscal woes — New Jersey and Illinois in particular. Many states are now wrestling with underfunding because they didn't contribute enough during boom years. ...

The most recent Public Fund Survey by the National Association of State Retirement Administrators showed that, on average, state and local pensions were 78.9 percent funded, with about $688 billion in unfunded promises to pensioners. Critics suggest that the real number is at least $1 trillion or higher, using less-optimistic market assumptions.

The unfunded liabilities would be a problem if all state and local retirees went into retirement at once, but they won't. Nor will state governments go out of business and hand underfunded pension plans over to a federal regulator, as happens in the private sector. State and local governments are ongoing enterprises.

The flow of employees into retirement matches up with population trends in states, with Northeastern states with declining populations, particularly Rhode Island, seeing more stress on their pension systems than Southern and Western states, where there's been vibrant population growth.

Why employee pensions aren't bankrupting states | McClatchy

Some states, counties and cities are in trouble, however.

Facts won't mollify the envy and hate fueled tea party or dissuade the GOP from its agenda. American citizens employed in local, state or federal government and union members of all kind are their targets.

Wages must be capped and benefits curtailed even as the costs for fuel, medical care, food and credit continues to rise, and the profits of corporations and industry skyrocket to new heights. Why? Because the power elite in America would have us believe it is all the fault of greedy employees, the lazy underclass and the illegal immigrants.

Kid yourselves not, a class war exists in America today and while it has not yet met on the battlefield the offensive has begun in rhetoric filled with hate and fear; their goal, to divide working Americans and to take the focus off of those who rape and pillage and pollute.

Who are we being told to hate and fear?
People of color;
Gays and Lesbians;
Muslims;
Liberals and progressives;
The poor;
Immigrants;
Dissidents;
Labor unions;
Teachers;
Your neighbors and friends.

What's at the bottom of all this?

Tax cuts and sweetheart deals for businesses.

Simple as that.