This panel discussion, held by the Urban Institute, talks about pension reform at the state and local level. What do they mean for retirement security? And is there a way to cut costs for government without jeopardizing retirement security?
Panelists include researchers from the Brookings Institution, the Center for Retirement Research and the Urban Institute.
Cover photo by Matthias Ripp via Flickr CC License
Rhode Island’s pension system, and the race for governor surrounding it, has been grabbing all the headlines of late. But it’s neighbor, Massachusetts, is probably just as deserving of the press.
Data from the Center for Retirement Research suggests that Massachusetts’ various retirement systems are among the most underfunded in the country. And, like Rhode Island, the state will soon vote for its new governor.
Craig Douglas, the managing editor of the Boston Business Journal, says Massachusetts’ candidates for governor would do well to take a page out of Gina Raimondo’s book. From his editorial in the Providence Journal:
It’s high time Massachusetts had a governor who actually acknowledged the state pension system for what it is: a ticking time bomb.
[…]
Whereas Raimondo fought to overhaul Rhode Island’s worst-offending pension plans, Massachusetts has been a serial can-kicker. In 2011, Gov. Deval Patrick, Senate President Therese Murray and House Speaker Robert DeLeo were quick to dole out the back slaps after amending the state pension system’s funding schedule and benefits for newly hired employees. The moves, they said, would lower the state’s annual pension payments by a cumulative $5 billion through 2040.
What they didn’t mention is that, by extending the system’s payoff period by 10 years, they were baking in an additional $26.4 billion in costs for the state, according to an analysis by The Pioneer Institute. Welcome to the Bluto Blutarsky School of Pension Math.
I asked Baker and Coakley to reflect on Raimondo’s approach and whether it jives with their own pension policies. Their responses? Egh.
The Coakley camp “applauds” Patrick’s efforts to address the state’s retiree obligations, and used all sorts of buzz words and nuance to make clear that she is no Gina the Reformer. When politicians couch pension reform with terms such as “we need to take a serious look” and “additional reforms for new workers,” you can bet they are peddling yesterday’s meatloaf as today’s sloppy Joe.
As for Baker, well, his response was at once promising and disappointing. While he hit all the right talking points — better funding ratios, smarter investment strategies, an end to kicking “the can down the road” — Baker’s blueprint to tackle those problems is both vague and short on specifics. He even suggested more local aid could help address the equally frightening pension crisis affecting Massachusetts towns and cities. Come on Charlie, you’re better than that.
Or maybe not. If candidates are unwilling to take a tough stance on the fiscal straits facing Massachusetts today, when will they?
Massachusetts’ pension systems were 61 percent funded in 2013, collectively.
Even smart people can disagree with each other. Who knew?
A great example of that sentiment is playing out right now, as a handful of nationally renowned retirement research groups have found each other at odds with the other’s conclusions about the retirement security of the next few waves of retirees.
Retirement savings (or a lack there-of) have been getting a lot of press lately. The Federal Reserve recently released data that suggested 20 percent of people aged 55-64 had zero money saved for retirement. All in all, 31 percent of people surveyed said they had no retirement savings at all.
Two other recent studies make similarly striking claims—a 2013 Pew Charitable Trusts study found that newer retirees would have far less income during retirement than their baby boomer predecessors. Likewise, a 2012 study by the Center for Retirement Research (CRR) found nearly half of households in their 50’s were “at risk” for a rocky retirement.
But the Employee Benefit Research Institute doesn’t think the situation is so dire. In fact, the EBRI has gone so far as to rebuff the findings of those latter two studies. From ThinkAdvisor:
EBRI recently challenged a pair of studies that concluded Gen Xers’ retirement prospects were in worse shape than boomers’ prospects, pointing out also that the oldest Gen Xers are only 49, with many earnings years left before they reach traditional retirement age.
EBRI charges that some studies used flawed assumptions or bad methodologies to reach their conclusion that investors born between 1965 and 1974 had a smaller likelihood of saving enough for retirement than older investors born between 1948 and 1964.
“Calculating retirement income adequacy is very complex, and it’s important to use reasonable assumptions and current data if you want credible results,” Jack VanDerhei, EBRI research director and author of the report, said in a statement.
More on the “flawed assumptions” used in the Pew and CRR studies:
EBRI took issue with a 2013 study by Pew Charitable Trusts that found the median replacement rate for Gen Xers who retire at 65 would be 32 percentage points lower than early boomers’ and nine points lower than later boomers’.
However, that finding “explicitly ignores future contributions,” EBRI argued. “EBRI’s analysis concludes that ignoring decades of potential future contributions (as the Pew study does) exaggerates the percentage of Gen X workers simulated to run short of money in retirement by roughly 10 to 12 percentage points among all but the lowest-income group,” according to the report.
An earlier study, conducted in 2012 by the Center for Retirement Research (CRR) at Boston College, found 44% of households in their 50s were “at risk,” compared with 55% of those in their 40s and 62% of those in their 30s.
In that report, CRR failed to consider the effect of automatic enrollment and escalation features, which were widely adopted following the Pension Protection Act of 2006. Gen X is the first generation to have a full working career in a defined contribution environment, EBRI noted.
EBRI says all its recent research points to very different conclusions than other studies: Generation Xers are facing approximately the same retirement prospects as the Boomers’.
EBRI concludes that 60 percent of Generation X won’t run out of money in retirement.
It’s a strategy that’s becoming increasingly common—municipalities, straddled with outstanding pension obligations, issue bonds to cover near-term funding shortfalls.
In a particularly risky iteration of the practice, cities and states will take the proceeds from selling the bonds and re-invest them into the market.
That’s exactly what Michigan is gearing up to do, according to Bloomberg:
The Detroit suburb of Macomb County plans a $270 million sale of municipal debt, its biggest ever, to finance retiree health-care costs, while Kalamazoo is considering a historic $100 million bond offer for similar expenses. Bloomfield Hills plans to borrow a record $17 million for pensions. The law allowing the practice expires Dec. 31.
U.S. states and cities are struggling with how to pay for promises to workers after the recession ravaged their finances. Yet few communities see debt as the answer — sales of revenue-backed pension bonds have tallied $356 million this year, data compiled by Bloomberg show. Interest rates close to five-decade lows are making it more attractive to pursue the risky strategy of investing borrowed funds in financial markets.
“We can’t afford to wait,” said Peter Provenzano, Macomb County finance director. “Timing the market is difficult. You could sit on the sidelines and miss out on an opportunity.”
It’s a risky strategy that’s been covered many times before, perhaps best by the Center for Retirement Research’s recent brief.
The gist: If a city is going to re-invest proceeds from issued debt, they better hope the market produces returns that exceed the cost of servicing the debt.
The problem is, most cities that turn to this practice are already in dire straits fiscally. If the bet doesn’t pay off, it leaves cities even worse off.
At least one Michigan city is shying away from the practice: Grand Rapids.
“The best way to have odds in your favor is to do this when stock prices are depressed,” Scott Buhrer, the city’s chief financial officer, told Bloomberg. “We’re in the latter stage of a bull market.”
Photo: “Kalamazoo” by User Mxobe on en.wikipedia – own-work. Licensed under Public domain via Wikimedia Commons
Pension reform has been the talk of Pennsylvania politics these last few months, and the reasons are equally political and practical: if retirement costs keep rising, the state’s fiscal handcuffs will keep tightening—and they are already uncomfortably snug. That leads eventually to budget-cutting maneuvers, many of which are sure to be politically unpalatable.
But a recent analysis from the actuaries for the state’s Public Employee Retirement Commission presents a policy tool to save the state money. The tool: pension obligation bonds (POBs), the controversial bonds that carry big risks and big rewards for the states that issue them.
The actuarial analysis stated that the state could save $24.5 billion over the next 30 years if they issued just $9 billion in POBs. The state’s PSERS system could reduce costs by $19.8 billion with POBs, according to the analysis.
More from the Pittsburg Post-Gazette:
The analysis does not account for the cost of the bonds, and the actuarial consulting firm, Cheiron, notes: “While the special funding provides a savings to the Systems, there is the potential for there to be a net cost to the Commonwealth.”
The governor’s budget office offered one analysis, from Public Financial Management, Inc., that projected borrowing $9 billion would require the state to pay $10.4 billion in interest over 30 years.
State and school district payments are scheduled to rise sharply in coming years, and policymakers face the prospect of searching for significant new revenues or exacerbating the estimated $50 billion unfunded liabilities of the retirement systems for state and public school workers.
Gov. Tom Corbett, who is touring the state to promote another pension plan, has said he does not support borrowing to pay down the state’s pension liabilities, and House Republican leadership has not embraced the approach.
But Senate Democrats back refinancing the pension debt with $9 billion in bonds, and Tom Wolf, the Democratic candidate for governor, says he would explore funding mechanisms like pension obligation bonds. Mr. Wolf’s campaign said he favors following the payment schedule set in 2010.
The risks of POBs are well-known, and not everyone is on board with even considering this policy option.
One man, who says he has worked in the bond market for 50 years, wrote into the Post-Gazette to express his displeasure with the proposal. From the letter:
Issuing bonds provides elected officials a way to pay back the banks, investment houses and attorneys for their ongoing contributions to their election campaigns. Instead of having the courage to take steps to solve the current problems they will attempt to borrow their way out of the problem. It’s analogous to amassing large debt on your credit card, borrowing at high rates to pay off the debt and then continuing to use the card for new debt.
Colin McNickle, the editorial page director at Trib Total Media, weighed in on the issue as well this week:
First off, such bonds currently are not legal in the commonwealth. The state Legislature would have to reverse course. But, second, pension obligation bonds have a horrible history of failure because of their questionable application.
Such bonds are taxable general obligation bonds sold to investors. Governments see it as a reasonable way to shore up underfunded pension plans now while off-loading the costs to the future. And if that sounds financially hinky, you’re right.
“While POBs may seem like a way to alleviate fiscal distress or reduce pension costs, they pose considerable risks,” wrote scholars at Boston College’s Center for Retirement Research in a 2010 white paper. “After the recent financial crisis, most POBs issued since 1992 are in the red.”
Just last February, a panel commissioned by the Society of Actuaries warned that public pensions should not be funded with risk or if it delays cash funding: “Plans are not funded in the broad budgetary sense when debt is issued by the plan sponsor to fund the plan.”
As the Center For Retirement Research has previously pointed out, POBs often get a bad rap because they are “issued by the wrong governments at the wrong time.” Meaning, the states that issue POBs are often in states of fiscal distress and aren’t in a position to take on the risk posed by the bonds—even if they’re in the perfect position to benefit if the bonds work out.
So the question remains: Is Pennsylvania the right state? And is the right time now?
The Center For Retirement Research has released a new brief on the state of Pension Obligation Bonds (POB) – the debt vehicle used by many state and local governments to cover their pension contributions. The report reveals that POB’s do provide the budget relief governments are looking for. But that relief doesn’t come with its downsides.
From the brief:
The brief’s key findings are:
- Some state and local governments issue Pension Obligation Bonds (POBs) to cover their required pension contributions.
- POBs offer budget relief and potential cost savings, but also carry significant risk.
- POBs had anegative average real return from 1992-2009, but show a small gain when the time period is extended to 2014.
- POBs could be a useful tool for fiscally sound governments or as part of a broader pension reform package for fiscally stressed governments.
- But results to date suggest that, instead, POBs tend to be issued by governments under financial pressure who have little control over the timing.
Read the whole report here:
http://crr.bc.edu/briefs/an-update-on-pension-obligation-bonds/
