Next Big Bailout: Public Pensions?
Along with the stock market, retirement savings, and taxpayers’ sanity, state and municipal government employee defined-benefit pension funds are reeling from the financial meltdown.
The current economic turmoil and stock market downturn have caused government employee pension funds to lose hundreds of billions of dollars. The crisis only reinforces the need for states to move their pension systems from the onerous defined-benefit obligation to a more mobile and sustainable defined-contribution model.
It’s a potentially catastrophic problem. According to the Center for Retirement Research at Boston College, as of December 16, 2008 public pensions in the United States were underfunded by nearly $1 trillion. Worst is Illinois, where the pension system has only 54 percent of the necessary funding and an unfunded liability of $54.4 billion.
Even before our current financial shakeup, more than 20 million state and local government employees’ pensions nationwide were in dire fiscal shape. For example, in June 2007 New Jersey’s unfunded liability was already $28 billion. Since then the number has soared to more than $52 billion, with roughly 45 percent of the obligation unfunded.
Defined-benefit (aka “traditional”) pension plans are falling apart because they’re inherently flawed in design by guaranteeing employees a predetermined benefit upon retirement. Public pension benefits are also much more lucrative than private-sector pensions and widely prone to “double dipping” abuse. And with vesting periods often being 10 years or more, government pension systems box many workers into a corner, forcing them to stay in jobs they don’t like in order to keep their benefits. The decades-long delay between promise and payout favors extravagant benefit commitments to government workers by politicians who will be out of office by the time the taxpayers are stuck footing the bill for them.
Due to these inherent flaws and a sliding economy, states are increasingly lagging behind the 80 percent funding threshold widely accepted as defining minimum adequacy. A 2008 Government Accountability Office study found, “58 percent of 65 large public pension plans were funded to that level in 2006, a decrease since 2000 when about 90 percent of plans were so funded.” By law these public pension obligations must eventually be fulfilled, leaving taxpayers to pay the bills down the line.
Without reform, these unfunded pension liabilities will continue to worsen as budget deficits grow and legislators delay pension fund payments in order to finance increasingly gluttonous current expenditures. With more baby boomers retiring and living longer, these public pensions are building up massive open-ended liabilities. Recent multibillion-dollar losses in government-run pensions prove politicians are no more qualified than pensioners themselves to manage these plans.
This is another case where government is lagging behind the private sector, which has switched more than 80 percent of its pensions to defined-contribution plans such as 401(k)s. Under defined-contribution systems, workers are free to transport their pension from job to job without a vesting period. While offering workers more pension portability and individual control, this also allows government to eliminate open-ended liabilities.
State and local governments are ultimately going to have to follow the private sector’s lead and switch their pension systems to a defined-contribution structure. It’s the only way to prevent an ever-increasing burden from future liabilities and help make budgeting more stable and predictable.
Without an overhaul of these unsustainable pension systems, American taxpayers will be forced once again to bail out governments for their foolish, shortsighted decisions.
John Nothdurft (firstname.lastname@example.org) is the budget and tax legislative specialist for The Heartland Institute.